Trusts & Bad Structuring

[skater]

Many years ago, we purchased some cf+ properties via a Family Trust. All was going really well until we purchased 4 very negative geared properties through the same Trust. At the time, we knew this would be a drain on the cashflow, but we didn't anticipate by how much. Being in a Family Trust, of course means we can't negative gear against our income, & the losses stay quarantined in the Trust. We had a large buffer in place, so were unconcerned.

Of course, life happens, & times change. We went through a rather tough patch referred to in this post http://www.somersoft.com/forums/showthread.php?t=23497 & came out the other end a little shaken. We were able to hold onto everything, but most of our reserves were in the process dried up. Then this year our expenses for sport became much more than we had budgeted for, with 2 international competitions (4 family members competing at one & 3 at the other). To help finance this we sold one of the Trust properties (it was a dog) so was able to use the proceeds to go towards the rest of the expenses. In the meantime our expenses have increased from what they were several years ago as all the expenses from the Trust properties have been capitalised. I really don't want this drain on cashflow to continue.

So, I am sitting here, trying to figure out the best way to approach our dilema.

We could sell them to ourselves. This would incur Stamp Duty & CGT. The benefit of doing this is that we could neg gear against our income. The worst part of our current structure is the Land Tax. The Stamp Duty would come to around $25k. Currently our Land Tax comes to about half this amount & it would be soooo much easier to bear if it was to come from pre-tax $$. Of course if we were to put 2 in my name & 2 in Hubby's name, then this would lessen the Land Tax further.

We could just sell them. I don't want to do this though.

The only other option I can think of is to find something else to invest in that would balance it a little. Not sure on this one & not really any funds to do this with.

Of course we will seek advice, but was wondering what the Somersoft consensus on the matter would be.

Feel free to post any suggestions that may be of benefit.

[Melbear]

Is there any equity at all to draw on? I recently turned a lot of my equity into cashflow by investing in the sharemarket. Capital has taken a bit of a hit, but the income still keeps coming in which is what I need to pay the bills to fund my equity growth from my properties.

[skater]

Mel, there is one property that I could probably get a little equity from. However the problem with this is that:

1) There is not really that much equity to bring in much cashflow

2) I really don't want to have shares in the same Trust as properties

3) Have never invested in shares, so really don't know what to do with them.

[Melbear]

I'm getting around 24% (conservative) annual return on my $$. Even better, my parents gave me some money to get me out of a jam a while ago. Instead of doing that I've invested their money as well and am earning them 24% pa on it. Any more than that that I make I get to keep - and income wise I'm doing that. Capital wise, as I said, not so much. But that would only become an issue if the bank (or my folks) called in their loans. Not going to happen as the equity is still there (for the banks) and my parents wouldn't do that.

Best part is, i can get the income on a monthly basis. I use a really great broker, and have attended a few seminars, read a few books etc. I've found that the learning is mainly in the doing though.

As for having prop and shares separate, you could always have separate trusts.

[skater]

Does anyone else have any suggestions for me to look into. It would be much appreciated.

[PT_Bear]

You might want to consider using a Hybrid Trust. This may meet the original reasons for using a family trust, and in many cases it offers the ability to negatively gear as well.

[skater]

You might want to consider using a Hybrid Trust. This may meet the original reasons for using a family trust, and in many cases it offers the ability to negatively gear as well.

Yeah, but it is a little too late now. To do that would involve probably re-settling the Trust & then there is Stamps & CGT.

You know what they say. "A little knowledge is dangerous". You learn as you go & hopefully don't make the same mistakes twice. That doesn't stop you from making some really bad ones though.:eek:

[hiflo]

Just an idea.

Any way of redrafting the trust deed so that it becomes a hybrid trust or unit trust? There should be a provision in the deed that allows variation of trust deed.

[Puppeteer]

You might also like to ask your accountant about the possibility of transferring the property to yourselves without the taxes. If the property gets transferred to the same beneficial owners then you may be able to avoid taxes, well so my financial advisor tells me.

Apparently it is set up so that people can transfer properties into superannuation trusts. I'm looking at doing a similar things in a few years with my PPOR, when we upgrade. We are looking at selling the ppor to the trust to release so that the debt would be deductible. We were prepared to wear the stamp duty and capital gains, but our financial advisors told us that we may not need to pay them.

Might be worthwhile checking out.

[davea]

You might also like to ask your accountant about the possibility of transferring the property to yourselves without the taxes. If the property gets transferred to the same beneficial owners then you may be able to avoid taxes, well so my financial advisor tells me.

Apparently it is set up so that people can transfer properties into superannuation trusts. I'm looking at doing a similar things in a few years with my PPOR, when we upgrade. We are looking at selling the ppor to the trust to release so that the debt would be deductible. We were prepared to wear the stamp duty and capital gains, but our financial advisors told us that we may not need to pay them.

Might be worthwhile checking out.


CGT wouldnt have to be paid as its a PPOR.....

However stamp duty id imagine would be paid. Maybe different in other states from NSW..

You could use a mirror trust, to get the negative properties out and make the family trust +ive again. This way you could strem the income in a bit more tax affective way. Julia wrote an article in last months API about it

[skater]

Shame I don't get API anymore. Got sick of there being nothing worth reading. I don't suppose anyone has a link to it?

[Melbear]

Julia's website is bantacs.com.au plus she posts on here. I've contacted her twice now, with different questions and she's been way more than helfpul!

[bort]

I'm getting around 24% (conservative) annual return on my $$.

ummm 24% is not going to be a 'conservative' long term return in the share market

i'd be very careful about taking the sharemarket route as a solution to cash flow problems!

[Puppeteer]

CGT wouldnt have to be paid as its a PPOR.....



Normally not, but in my case there will be some payable, as I've rented it out in the past. Long story, but unless I can transfer it as my FA suggests, then I will have a small CG liability.

[Melbear]

ummm 24% is not going to be a 'conservative' long term return in the share market

i'd be very careful about taking the sharemarket route as a solution to cash flow problems!

I didn't say that my 24 % was a conservative route for short or long term. What I DID say was that my 24% is a conservative return for me at the moment - my point being I'm getting more than 24%.

Have you actually got some options for skater other than saying that shares won't do it?

[Ebbie]

Mel, there is one property that I could probably get a little equity from. However the problem with this is that:

1) There is not really that much equity to bring in much cashflow

2) I really don't want to have shares in the same Trust as properties

3) Have never invested in shares, so really don't know what to do with them.
Maybe you could invest what equity you have into an Income Fund using a separate family trust. Then the positive income from the second trust is distributed to the IP family trust to offset the negative cashflow.

[skater]

Ebbie, the problem with this is that I would then lose any franking credits.

[bort]

I didn't say that my 24 % was a conservative route for short or long term. What I DID say was that my 24% is a conservative return for me at the moment - my point being I'm getting more than 24%.

Have you actually got some options for skater other than saying that shares won't do it?

I was trying to point out that your option is particularly risky, particularly when in a borderline situation.

I did misinterpret your use of 'conservative' meaning that your past return is actually higher. I thought you meant that you conservatively (or even remotely) think that you will continue to receive that type of return.

I dont know enough about moving assets in and out of trusts to offer an effective option on doing this, although I was under the impression that you will get bitten by stamp duty. If i were in that position i would be creating a decent cash flow spreadsheet, and then run the various options (probably mainly between selling to yourself or selling outright) through it before making a decision. Whilst i'd consider the stock market option, if i was that close to the margin, with little equity, i'd discount that option pretty quickly.

[Mry]

I dont know enough about moving assets in and out of trusts to offer an effective option on doing this, although I was under the impression that you will get bitten by stamp duty.

Have you spoken to your accountant about trust cloning? CGT free on transfer and their could be stamp duty and land tax savings depending on your state. Speak to your accountant and/or lawyer.

[skater]

Have you spoken to your accountant about trust cloning? CGT free on transfer and their could be stamp duty and land tax savings depending on your state. Speak to your accountant and/or lawyer.

Hi Mry

Yes I have spoken to my accountant & he seems to think that I am stuck with what I have. I will note, however, that he is an old family friend & I know that his knowledge is not as good as some of the forum accountants. This is why I need to seek further advice & thought I would start here & see if the combined Somersoft knowledge would get me started on things to look into.

How can there be Stamp Duty savings? I was under the impression that as soon as you transfer anything you are up for CGT & Stamp Duty. The land tax is a pain also as, being a Family Trust, it is classified as a special Trust & SD is payable from the first $$. I know we can reduce this slightly if in our own names by having 2 in my name & 2 in Hubby's. The properties involved are all in NSW.

[Mry]

Yes I have spoken to my accountant & he seems to think that I am stuck with what I have. I will note, however, that he is an old family friend & I know that his knowledge is not as good as some of the forum accountants. This is why I need to seek further advice & thought I would start here & see if the combined Somersoft knowledge would get me started on things to look into.
You are purposefully crippling your structure and tax position if this is the case. I won't be providing you with specific solutions tailored to your goals here because that is not my job, that's your accountant's job and if you can't get your help from there, you are stuck between a rock and a hard place. You may have even gotten yourself into this situation because of this.

Trust cloning does not give rise to a capital gain (TR 2006/4).
I can only refer to the Queensland position, and in Queensland there is no stamp duty on transfer (last I spoke to McCullough Robertson). There can be land tax savings but according to my last chat with someone if a transaction is entered into to save land tax, there is an anti avoidance provision (similar to Part IVA for tax). You won't find anyone trumpeting land tax savings on cloning because of that. I know in one situation a person had a fair bit of property in a super fund and was getting hit up for land tax so they cloned the super fund into two super funds with separate property and that saved him some land tax.

You would need to get advice relating to the NSW position. I know that land tax in trusts for NSW sucks, which would make me (a) not buy NSW property (b) in a trust. Property in other states would be worth considering if only to reduce costs in running the trust but that's water under the bridge for you now.

btw - you could stream income from the income trust to your advantage. Eg you could distribute the capital gains to loss trusts and then distribute the income with franking credits into your own name. If you arranged it carefully, you could distribute the income into a loss trust and as long as the trust had at least $1 of income to distribute after that, you could distribute the profit including franking credits to yourself.

[skater]

Thanks Mry

I know that some of my problem lies with the fact that I cannot seem to break from my current accountant. I have known that we have outgrown him for some time, but like everything else that you should not do, you should not mix business with friendship as I really don't want to hurt his feelings by pulling out.

He has many clients with SMSF's & property in their own names. He also has many clients with large share portfolio's, but I believe we are the only ones with IP's in a Trust. He does get publications sent to him regularly with updates on what can/can't be done & is willing to learn.

I am more than happy to find out information, then give it to him for him to consider. Is there someone you could recommend, that would be happy to do an advisory only role.

[Mry]

I am more than happy to find out information, then give it to him for him to consider. Is there someone you could recommend, that would be happy to do an advisory only role.
Other forumites would probably be better suited to give you the recommendations you are after. But if I were you, these are the steps I would take -

1 - Toss out your old investment plans and come up with a new one. It could look like the old one but there's nothing like a fresh approach to get the motivation you need.
2 - Discuss it with an investment guru or friend so your investment plan is grounded and considers other options to accomplish your goals.
3 - Find out how your current investments fit into your plan and consider the costs of letting them stay there, transferring or selling outright. This is where an accountant is useful as you need numbers crunched, structuring advice and tax savings.
4 - Talk to a loan broker about getting the funds to accomplish your plans.
5 - Do it.

It is quite reasonable to consider selling some of your investments and putting the money into something new if it gives you a springboard for getting better growth and cash flow instead of being a chain around your neck. If you left things as they were, you might find yourself in a few years with the same problems, only worse (and thinking of what you should have done earlier). I think your situation would be better if you developed a plan and then measured where you are against that plan vs trying to decide what to do when you don't know what you want.

Whatever your solution is going to require to make things better, from the looks of things you will be selling or transferring which means stamp duty and/or capital gains.

I could be speaking to the converted, but I like to be specific in replies to questions.

[Bargain Hunter]

I am more than happy to find out information, then give it to him for him to consider. Is there someone you could recommend, that would be happy to do an advisory only role.

Note: We are looking for a professional who we can sit down with us and discuss the options open available. If we need to move on from our accountant we will.

Regards

Andrew

[Melbear]

btw - you could stream income from the income trust to your advantage. Eg you could distribute the capital gains to loss trusts and then distribute the income with franking credits into your own name. If you arranged it carefully, you could distribute the income into a loss trust and as long as the trust had at least $1 of income to distribute after that, you could distribute the profit including franking credits to yourself.

Hi Mry

Is there a specific 'beast' that constitutes a 'loss trust'?

To be more specific re a situation I have. I have a discretionary trust that has a capital gain. I have a unit trust that has substantial losses that are income based only - ie very negatively geared property, with losses quarantined as the borrowings have all been done in the trusts name. Can I distribute the capital gain from the discretionary trust to the unit trust?:confused:

[Welcome]

My (very unqualified :p ) opinion is that you can, provided the trust deed allows it.

Although you may also lose any CGT exemptions if eligible for it?

[Melbear]

Hi Mry

Is there a specific 'beast' that constitutes a 'loss trust'?

To be more specific re a situation I have. I have a discretionary trust that has a capital gain. I have a unit trust that has substantial losses that are income based only - ie very negatively geared property, with losses quarantined as the borrowings have all been done in the trusts name. Can I distribute the capital gain from the discretionary trust to the unit trust?:confused:

To be completely clear (in my own mind:eek:). If I distribute the capital gains to the unit trust, which has a healthy negative income, does that wipe out any tax payable? Am happy enough to lose CGT exemption if necessary, as the gains are only about $20-$40K, and the losses are in the 6 figures, and piling up at around $50K per year.

[Ebbie]

If you arranged it carefully, you could distribute the income into a loss trust and as long as the trust had at least $1 of income to distribute after that, you could distribute the profit including franking credits to yourself.
Hi Mry, so it is possible to distribute 100% of all franking credits to a single individual beneficiary even if that beneficiary only receives a (small) part of the income attributed to the franking credits?

I thought this was the case but after searching the forum there seems to be a bit of confusion on this subject. If I've interpreted correctly, Pat's reply in a different thread would disagree with this view:

I think the best thing to do would be have Trust 1 distribute $1 of income plus all the franking credits to a beneficiary, so they get the tax advantage of the credits.

Then transfer the balance of the income to Trust 2. (Provided a family trust election and interposed entity election have been made, so trust loss provisions don't stop you from offseting the income with the prior year losses).

Your accountant will know what to do though, really depends on the specific circumstances.

Hi,

No amount of discretion in your trust deed or goodwill from the ATO will allow you to stream the franking credits out to an individual while most of the net income of the trust is distributed to Trust 2. Unfortunately the Y-Man is correct the distribution to Trust 2 will result in franking credits being lost.

:confused:

[Mry]

Distributing from one trust to another requires that you check -

1 - The authority of the deed to make the transfer (thanks Welcome)
2 - The passing of the loss tests or setting up Family Trust Elections.
3 - Any PSI or PSB views that limit the distribution of profits.
4 - Vesting limitations to ensure the rule against perpetuities is complied with.

I can only answer that after I have read a deed, run through the loss test and asked other relevant questions.

Ebbie, I think you misread me. A trust cannot distribute out franking credits to one person and income to another. That would be wrong. What it can do is distribute types of income out of the trust to other people.

For example, lets say we have a trust that has interest income, capital gains and franked dividends. You have as potential beneficiaries a high income earner with capital losses, a non resident individual and a low income earner. To minimise tax, you would distribute the capital gains to the person with capital losses, the franked dividends to the low income earner and the interest to the non resident who would pay tax on the interest at the withholding rate (10%) and then they would declare it wherever they were a resident.

As you can see you can distribute the types of income around, but you can't split the credits away from the franked dividends.

What I was suggesting was different. For example, if you had a profit trust that made $100 in franked dividends with a $30 franking credit, and a loss trust that lost $50, you could distribute that profit of $100 over to the loss trust, leaving it with a $50 profit and $30 in franking credits to distribute. That is ok. However, if the loss trust had $101 in losses, the franking credits would be lost.

A real world example of this would be managed funds. One of my funds returned to me $1,900 in NPP income and $900 in imputation credits (roughly). Now the franked dividend that would have been paid out to that fund would have been $2,100, grossed up to $3,000 within a trust, which meant that the managed fund would have lost $1,100 in either management fees or investment losses (probably management fees). The fund however can still pass on the franking credits even though the income is not proportionate to the franking credits.

[Ebbie]

Hi Mry, thanks for the example. I see what you are saying.
As you can see you can distribute the types of income around, but you can't split the credits away from the franked dividends.

I understand this and wasn't suggesting you could distribute franking credits to one person and income to another. I just wasn't sure if it had to be proportionate between both beneficiaries.

Taking your example, if you distribute half of your $100 franked dividend to an individual and the other $50 franked dividend to a trust, I take it each beneficiary would also receive 50% of the $30 franking credit ($15 each).

You couldn't give them both half of the franked dividend but split the franking credit say 25/75% or 0/100% as I was hoping, and thought I had read somewhere before. It has to stay in the same proportion.

Thanks, Ebbie.