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Martin Ryland
© Ryland Taxation Services
Investing with Structures - The Basics
Basic ground rules
If you have a question, try to wait until the end.
I will not be offering personal advice tailored to your situation during the seminar.
This advice is very general in nature and does not cover all aspects of structuring. It is relevant as of 27-2-2007.
The Problem
Being sued - assets at risk Too much tax Restrictive Structures
Example John owns 10 rental properties in his
name. Non working spouse, 3 children. Each property returns $15,000 a year in
income after expenses. Tax Bill for John $50,100 Land Tax Bill $13,250 assuming
unimproved land value of 150k each.
Example – with trusts
John has 10 properties, each in its own trust.
John distributes $1,335 to each child tax free and splits the remaining income with his spouse
Tax bill $36,688 No Land Tax. Total Saving - $26,662.
Rules of structuring
Buy in the right entity from the beginning.
Asset protection is about doing stuff before you get sued.
Trusts are your friend.
IndividualPros Borrowing is easier Negative Gearing Lower accounting fees
Individual
Cons No asset protection No income distribution High income tax rates for individuals
compared with other structures Land tax problems
Example Mark owns a rental property
$10,000 taxable loss, extra $3,150 refund
Easy to refinance
Potential future problems
Why use Individual? You plan on living in your property. First Home Owners Grant No relatives You won’t earn a lot Don’t or can’t pay additional
accounting fees. You aren’t concerned with Asset
Protection.
What is a Company?Oof
Urk
The Meat
Mammoth Meat Pty LtdShareholder 1 - Oof
Shareholder 2 - Urk
Profits
Director
Corporate Takeover
Companies Legal entities – can operate on their own
Governed by ASIC - must pay $212 a year.
They pay a flat 30% tax rate from the first $1.
Example
Jane has $60,000 to buy property in.
It will be negatively geared.
Obtains a company and finances a loan through the bank.
What happens
CompaniesPros
Asset Protection - to some degree. 30% flat tax rate.
CompaniesCons
No negative gearing!Higher accounting fees. Profits trapped. Complexity
Final advice for companies
Buy shares in a discretionary trust
Trusts
Trustee – you look after the boat, it is in your legal name, but you do not ‘own’ it.
Settlor – The person giving you the boat. Will not benefit from the trust.
Beneficiaries – your children
Discretionary Trusts Also known as Family Trusts
Trustee has the discretion to distribute profit to anyone authorised by the deed to distribute to.
Like a bucket??
Rental income, shares, interest, trust distributions, etc after expenses
You Spouse
RelativesKids
Example Rental property – generates $15,000
a year. You have a non working spouse and 4
children. If you use a DT, $1,335 to each child,
rest to spouse. Tax Bill $549. If in own name, tax bill $4,725
(31.5%). At highest rate of personal tax, $6,975.
Discretionary TrustPros Asset protection – no one owns the
assets. Income splitting – remember the
bucket.
Discretionary Trusts
Cons No negative gearing
Losses are typically lost unless you make a FTE limiting beneficiaries.
Individual trustees can lose personal assets if trusts are not able to pay creditors
Lasts for 80 years. Higher accounting fees
Who can receive a trust distribution?
Answer – Read the deed.
Note If the trust runs a business, personal
services income rules may limit discretionary powers.
Trustee can be a company to provide protection to your personal assets.
Unit trusts Issues units like companies issue shares. Income cannot be distributed as you
wish – they must go to the unit holders.
Unit trustsPros Negative gearing (for unit holder) Allows contributions to super later
(with restrictions)Cons If unit holder goes bankrupt,
creditors control unit trust. Can’t distribute losses.
Example Mary has $60,000 and wants to invest in a
negatively geared property worth $300,000.
She borrows $240,000 and with the other $60,000 buys units in a unit trust.
The trust buys the property. The income earned by the trust goes to Mary.
Mary declares the income in her own name, and writes the interest incurred against the income from the trust.
Hybrid Discretionary Trusts
The problemDiscretionary Trusts don’t allow
negative gearing. Unit Trusts have no asset protection.A solution? HDTs can issue special income units
that you can borrow against .
Example John wants to buy a $400,000 house Buys in name of the Hybrid Discretionary
Trust and borrows $400,000 from the bank in his own name
John receives 400,000 special income units Trust runs property and must give John
100% of income John claims the interest in his own name,
and claims overall tax loss if the interest exceeds the income.
SIUs can be redeemed, and it has been said that they
Hybrid Discretionary Trusts
Pros Negative gearing Asset protection Once positively geared, redeem units and
distribute at your leisure!
Cons Negative gearing aspect in a cloud Unit Redemption in a cloud Value of SIUs for bankruptcy proceedings High Accounting fees.
Other trust adviceThree types of trusts can transfer
income to children at adult rates 1. Child maintenance trusts2. Estate proceeds trusts 3. Testamentary trusts
Need to sign now and want a trust to own the property? Add ‘ATF’ after the name of the potential trustee.
Super Funds
Imagine a way of investing in property that was completely tax free
You can arrange for contributions to them to be tax deductible
$50,000 for the next financial year all ages, $100,000 if you are 50 and over after the 1st of July 2007 up to 30th June 2012.
Super FundsPros 15% tax on profits and contributions No tax on super pensions or payouts after
1 July 2007 if you meet the criteria Cons Can’t borrow. No borrowing at all Can’t live in Can’t use as security Assets locked away until retirement. Can’t personally benefit from assets. Accounting fees.
Joint ventures
Joint ventures are not a structure “highly defined partnerships that
don’t lodge tax returns “ Long contractual agreements
Joint Ventures
Pros Allows super funds to get involved in
projects requiring borrowed funds Stamp duty savings
Redistributing profits among entitiesCons High fees for contracts and accounting
Disagreements are rarely prepared for
Must be very careful on the paperwork, eg insurance
Advice for JVs Great for when you don’t have the funds to
go ahead with a project For short quick stuff, like a development
But the final word on JV is ensure a lot of preparation and time is spent making sure everyone understands their responsibilities and risks and makes firm commitments to the project. Many people have been burned on JVs due to a breakdown between the parties involved.
Discretionary trust and companies
Trustee - Company
Trust
Creditors
‘Bucket’ Company$
Unit trust and hybrid discretionary trusts
Unit Trust
(owns the property)
Hybrid Discretionary Trust /Discretionary Trust
(owns the units)
Units owned by
Income
Unit trust and hybrid discretionary trusts
Pros Negative gearing (with HDT, not with DT) Asset Protection Distributing Income Contribute property to super later
Cons Higher accounting fees
Unit trust and hybrid discretionary trusts
Note Each trust must have different
trustees, or they are treated as one trust.
If you feel uncomfortable with HDTs, use a DT instead, but you will lose the ability to negatively gear the asset.
Transferring assets around
2 costs to consider Capital Gains and Stamp Duty
Capital gains – When you transfer properties, the Market Substitution Rule applies. (If discount available, worst case scenario 23.25% of gain)
Stamp duty – Property is transferred for Market value.
Stamp duty - Queensland
Value of property Stamp duty payable
$200,000 $5,600$300,000 $8,975$400,000 $12,475$500,000 $15,975$600,000 $19,975$700,000 $23,975
Example Jane started as a doctor and is
worried about getting sued. She is moving to another city to earn more income and wants to rent out her home. It is worth $500,000 and she paid $300,00 for it. There is no debt on the property.
Solution – Transfer to a Discretionary Trust.
Costs? No CGT as it is her home on transfer, $15,975 in Stamp Duty.
Bankruptcy Clawback rules.
Any asset transfer made after the date of bankruptcy can be voided by the trustee in bankruptcy.
Any asset transfer for less than market transfer can be ‘clawed back’ if made in the last four years (five if you can prove you were ‘solvent’ at the time of the transfer)
Land tax - Queensland
Individuals Trusts, Companies, etc
300,000 $0 $1,500500,000 $500 $2,250750,000 $2,250 $9,5001,250,000 $9,500 $16,5002,000,000 $20,750 $30,000
Too much land tax? – Consider trust cloning
How do you get structures?
Accountant Lawyer Online Ask a Friend
That problem I had? Step 1 – Transfer my home into my
spouse’s name – Stamp duty free if done for ‘love and affection’.
Step 2 – Transfer business from Corporate Entity to Discretionary Trust.
Step 3 Discretionary TrustProperty purchased – 100% Gearedwith fully tax deductible debt.Must pay $7,225 in stamp duty.
Property sold – Capital Gains after discount and active asset reduction (Average 10% tax on gain)Me
Office
Use loan proceeds to pay outdebt on home (non-deductible)and previous debt for office(deductible).
Property negative geared?
Problem – Discretionary Investment Trust is negatively geared. Losses lost?
Answer -
Me
Business Trust
Investment Trust
Losses offset byTrust income
Others
Result?
Only asset is shares in a $2 company.All debt fully deductible.My tax return only shows trust income.
Note – Part 4A (the anti avoidance provision) applies to any transaction, so speak to your accountant first.
In closing 1. Always buy your investments in
the right entity from the start. 2. Asset protection is about doing
stuff before you get sued. 3. Trusts are your friend.