martin ryland © ryland taxation services investing with structures - the basics

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.