Forum Replies Created
Jeff,
Thanks for that. Sometimes it is easy to forget that we have other forumites from NZ. My comments purely relate to Australia and the tax regime here so thanks for providing some valuable insight into the NZ environment. I plead total ignorance on NZ tax law so it is always good to be learning something new.
If you are conducting a “business” then a trust will still be eligible for any or all of the small business CGT concessions ie. the active asset exemption, small business rollover provisions and retirement exemptions. However certain tests in all cases must be applied to obtain these concessions (even for companies) and if the assets are held in a discretionary trust then it is essential to ensure that you have a CGT complying trust and ensure that you discuss matters with your accountant well before seeking to avail yourself of any of these exemptions. There are a whole myriad of rules and ways of structuring things that need to carefully considered. Pros and cons of any approach taken. This is quite a complex area of tax law and certainly not something that I could fully cover in an internet forum.
Another advantage of trusts is when you get into the area of cloned trusts and how they can be used to avoiding triggering CGT and if the deed is carefully drafted also avoid stamp duty on transfer of the asset. Again a highly complex area of tax law and something you should discuss with your accountant.
Ibuy
You can still achieve the benefits of the difference between the company tax rates and individual tax rates by transferring the income to a company as beneficiary but without the disadvantage of the loss of the CGT discount. In fact your logic is flawed because the longer you hold the asset the greater your capital gain will be and the larger the loss of the CGT discount. Remember one day you will want to realise this asset and someone in a trust will pay 50% less CGT than if you held it in a company.
Transfer of shares will bring in the general value shifting (GVS) provisions and this could trigger CGT (even though you havent sold the property). Nasty. A carefully worded trust deed will include a whole range of beneficiaries so it will generally not be necessary to add an additional shareholder and the disadvantages of doing so. Imagine having to pay CGT on an asset you havent even sold. This can occur when you issue new shares. The market value substitution rules come into play. So no it is not a simple case of a share transfer.
Who is going to want to buy shares in a company that holds an investment asset such as a property. Not anyone who doesnt want to take on the company’s liabilities. Did you realise that most listed property vehicles are trusts. I can think of a few that are trust Westfield Property Trust, General Property Trust…cant recall any companies.
Trusts can easily be structured for limited liability. In fact with a corporate trustee a number of limited liability strategies can be put into place.
Steve,
I must confess I havent read the April newsletter so my comments may in fact be rather ignorant. Anyway I’ll give some of my thoughts on the topic in general.
Firstly I am always perplexed as to why an individual wants to hold accumulating assets in a company. Although the income earned will only be taxed at a rate of 30% the real problem lies when you realise an asset. Companies are not eligible for the 50% CGT Discount and this can have a dramatic impact on the actual profitability of an investment if held for more than 12 months.
The other problem with companies is the lack of flexibility with respect to distributions. Sure you can make your children, wife and parents shareholders but what happens when you have another baby. Do you issue new shares to the baby and then have to consider the general value shifting provisions and potential capital gains tax on issuing of the shares.
However as discussed many times on the forum there are soo many benefits associated with trusts. Flexibility of both distributions of both capital and income, ability to apply the refinancing principle and possibily convert non deductible debt to deductible debt (noone has been able to show me how you can do this with a company), improved asset protection (although with recent case law and potential changes to the bankruptcy laws structuring even this correctly is something that seriously needs to be analysed).
There certainly are some drawbacks to trusts but there are avenues for addressing these drawbacks.
Anyway these are my thoughts. For those that ultimately want to take advantage of the corporate tax rate I don’t see why you cant setup a shelf company as a beneficiary and then distribute any income to that company to take advantage of the corporate tax rate but ensure that the capital gains are retained in the trust where they can be distributed to an individual and they get the benefit of the 50% CGT Discount. Hey to me its the best of both worlds.
Look forward to hearing from others.
B,
There are some excellent accountants in Sydney. Nick from Strategic Wealth Management and Ed Chan from Chan & Naylor are, from what I hear, very good.
Just make sure that when you say you want “someone able to call for advice and get an answer” that you are willing to pay for that advice.
In my practice I will only provide written advice to clients but will charge for ALL advice. For those who want freebies I always say to clients that you get what you pay for. Providing you have that understanding then either Nick or Ed would serve you well.
Section 8-5 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction from assessable income where an amount is an allowable deduction under another provision of the Act.
Section 12-5 of the ITAA 1997 contains a list of provisions about specific types of deductions. Contained in this list is Division 36 of the ITAA 1997 with regard to tax losses from earlier income years.
A tax loss is calculated under section 36-10 of the ITAA 1997. Section 36-15 of the ITAA 1997 allows a tax loss for a loss year to be deducted in a later income year in the manner provided therein. If there is no net income and the taxpayer’s total income exceeds their total deductions (other than the tax loss) the tax loss is deducted from that excess.
You are entitled to carry forward the loss generated from your rental property to be deducted at a later date against future income.
A deduction under section 8-5 of the ITAA 1997 for a tax loss carried forward from earlier income year(s) will be allowable in the manner provided in section 36-15 of the ITAA 1997.
I remember someone told me once that the simpler something appears the more complex it becomes when you truly analyse it.
I think they will end up cleaning up the Tax Act but will it make it any easier for someone other than your average PAYG tax payer. I truly dont think so.
I envisage that we will eventually move to a system similar to the UK where you have a certain amount that you can automatically claim as a deduction without substanstiation (i.e. if you earn $40K your deduction might be $1K) or alternatively if you have a basic return then you may not even need to lodge but if you want to claim more than the reasonable amount you must be able to substantiate this.
Call me a cynic but Ill believe it when I see it. They tried to simplify the Tax Act in 1997 and they abandoned the project.
Apap,
Yes you will have to find the net loss of $5k (if you are on the top tax bracket the ATO will be funding about $2.5K so you will need to find another $2.5K) that is why it is called negative gearing.
Im at a loss as to what you mean by the $5K in depreciation remaining in the trust. It doesnt remain in the trust at all. It is used to reduce your rental income in the trust and ultimately arrive with a net profit figure that has to be distributed to the special income unit holders.
Apap,
If you have a loan in your own name to purchase the units in the HDT then the situation will be as follows:
HUT
Rental Income: $20K
Expenses: $5K
Depreciation on Units on Depreciation Schedule: $5KNet Income $ 10K
Net Income distributed to HDT. You own all the special income units in the HDT so the $10K income will be distributed to you.
Your position will then be
HDT Income for Special Income Units $10K
Interest in Loan to acquire units ($15k)Net Loss $5K
This can be claimed against your other income and is how you negative gear through a trust.
Sal,
It is not only skating on thin ice but it is illegal (i.e. in breach of the SIS Act).
If the superfund then purchased units from your parents it would have breached the ‘acquisition of assets from a member rule’ SIS Act s 66(1) and (3). Not only can the ATO make the fund non-complying (yes you do lose half the assets of the fund) but the trustees can also be sentenced to a six month prison term.
Similarly income earnt by the SMSF may be special income subject to 47% tax rate ITAA 36 s 273.
This transaction can’t be done. It is a breach of the in-house assets test.
A few things you and your accountant will need to ascertain. Firstly you will need to determine whether the renovations result in the supply of “new residential premises”. If they do result in a taxable supply of “new residential premises” – note that this will be based on the facts at hand – then you may possibly be liable for GST.
However subsection 40-65(1) of the GST Act provides that a sale of real property is input taxed, but only to the extent that the property is residential premises to be used predominantly for residential accommodation.
According to subsection 40-65(2) of the GST Act however, the sale is not input taxed to the extent that the residential premises are:
– commercial residential premises, or
– new residential premises other than those used for residential accommodation before 2 December 1998.
That is why you need to sit with your account and determine whether the renovations result in “new residential premises” or not.
Scott,
you must be reading my mind. I was just about to post that the new PAYG Withholding Variation is now covered by Section 15-15 of the Taxation Administration Act.
Rich,
You can certainly establish an accounting practice through a trust structure but you should be aware of the various PSI rules and ensure that you comply.
With respect to the deductibility of costs for establish a business structure per S40-880, ITAA 1997, certain captial expenditure is deductible over five years if they were incurred in the establishment of a business structure.
Professional advice regarding the appropriate structure for operating a business will qualify as part of the establishment costs to be written off over five years. Also refer to ATO ID 2003/151 and 152.
I agree that a trust can be established by an individual through the internet but then you do not get any associated advice. For example if you were to go along and establish a trust through LawCentral will you have established a hybrid trust ? The answer is no because LawCentral only offer discretionary trusts online for $275. It does not offer hybrid trusts online and they are $440. No direspect to TerryW (I think he is great at providing advice) but if you went along to lawcentral and setup your discretionary trust and then wanted to neagtive gear through the trust then i’m sorry it won’t be possible.
Now you will pay an accountant up to $1,000 for a hybrid trust setup and then the next question is well what does the accountant do for the extra money.
Firstly you will be told that you can claim the setup costs over 5 years. I see that none of the posts have actually given correct advice and if on the top bracket you have just lost $500 in tax savings. (Always said that free advice is uaually worth what u pay for it – in this case it would have cost you $500)
Secondly they will have provided some basic advice as to whether the structure is appropriate and hopefully provided a checklist of activities that you will need to undertake (or the accountant will undertake) once the trust has been established e.g. establishing a bank account, registering for an ABN, GST, PAYG etc.
The accountant will then provide some advice regarding trust losses and the four rules that must be met if making trust losses and a family trust election has not been made. Whether a family trust or interposed entity election should be made and the implications of such. Information will be provided regarding franking credits and the impact of not making a FTE.
So although someone can go online and establish a trust themselves sometimes the client has purchased something that does not meet there needs. I have had clients purchase an online discretionary trust and then wondered why they could not issue special income units. Unfortunately they then incur the costs of a new trust PLUS my fees. A very expensive exercise.
Anyway for those who aren’t accountants and want to establish things yourself all i can say is lotsa luck.
The subdivision of land which was purchased prior to 20 September 1985, even if the subdivision occurs on or after 20 September 1985, will not change the pre-CGT status of the land, which is confirmed in Taxation Determination TD 7. That is, the subdivided land will maintain it’s pre-CGT status, due to the fact that no CGT event has happened and, therefore, no CGT liabilities will arise. This will be so, provided that the cost of the subdivision does not exceed the capital improvement threshold under ss.108-70(2) and (3) ITAA 1997 and also 5% of the proceeds of any CGT event that happens in relation to the property. For example, if a new dwelling is constructed after subdivision, and the subdivided land and that dwelling are sold, if these conditions are met, then the pre-CGT status remains with the land, but the new building is treated as a separate asset, which will be subject to CGT on its disposal.
Pursuant to s.102-20 ITAA 1997, however, CGT liabilities may arise in respect of the subdivision of land which was purchased on or after 20 September 1985, but only if a CGT event happens. The mere subdivision of the family home, the obtaining of two separate titles or the activity of building on the new block does not trigger any CGT event. The subsequent disposal of either or both properties, however, will be a CGT event and, unless pre-CGT status exists, then the only exemption from CGT which may be claimed in these circumstances is in respect of a main residence under s.118-110 ITAA 1997.
Another two negatives the HDT will pay land tax and if the property is located in NSW will be subject to the vendor duty.
Taxation Ruling TR 2002/18 talks about home loan unit trust arrangements and so the ATO would probably attack you there. There are a few lawyers around that advocate that provided the arrangement following the Janmor case then you can structure it so that your home loan will be tax deductible however you will also be liable for CGT on sale (no main residence exemption), land tax and vendor duty so the short term benefits may not outweigh the long term benefits from holding your main residence in your wife’s name.
With respect to a company owning and then providing it as a fringe benefit unless market rent is paid it will be considered to be a housing fringe benefit and the company will be liable for FBT.
jcls,
You ask some very good questions but there are a lot of things to consider. I would suggest you seek the advice of an accountant with intimate knowledge of hybrid trusts and how they are used for investing purposes.
Terry, as usual, has explained the financing aspects very well.
Note that an accountant will also need to discuss with you the impact of any losses (even in a HDT) and the family trust election, the new Taxation Ruling which comes into effect from March 2005 regarding trust refinancing and deductibility of interest and implications if you don’t distribute all income to the special income unit holder.
Trusts are wonderful investment vehicles but it really is important to discuss all these issues with a competent accountant.
jcls
Unfortunately you have financed the property purchase through the hybrid trust. Not quite sure whether you sought professional advice before undertaking the transaction but in this case the losses are trapped in the trust. You will need to seek professional advice about the ability to carry forward the losses.
Sorry I don’t have good news. It’s soo important to get things right at the beginning.
jcls,
Maybe you don’t quite understand how the hybrid trust structure works but that’s ok because neither do most accountants. Anyway it works as follows:
1. You go to the bank and borrow say $500K
2. You then use the $500K to purchase special income units in the HDT.
3. The HDT uses the funds to purchase a property.At the end of the year lets say the following happens :
The HDT earns $20K in income from renting the property and expenses of say another $10K (note that INTEREST is not included because the interest is for purchasing the units by YOU.) SO you will have a net effect of $10K income.
This then gets distributed to you as the, lets assume, sole unit holder and so you have income of $10K. Then the $30K interest you are paying on the bank loan gets deducted from your $10K trust distribution to give you a net deduction of $20K. Remember you are claiming the interest deduction for purchasing income producing units. The hybrid trust is not claiming an interest deduction.
Does that make sense. This is the basics only and I would suggest you see an accountant.
Now if the income from the property is $20K and your expenses from running the property (excluding interest) are more than the rent then yes you can’t transfer anything because there is no income. On the converse however I would be looking at the actual property because such a property could be a highly poor investment (assuming you don’t have extremely high depreciation deductions which send it into negative territory) and maybe something you should divest of in such a situation (NOTE I am not recommending this at all – see your accountant).
jcls79,
Has the hybrid trust issued you with special income units ? Did you use the money from the purchase of these units to fund the property purchase ?
