HYBRID TRUST . What cant a trust do when redeeming units?

G

ggumpshots

I posted previously about 2 weeks ago but unfortunately I still don’t have an exact answer. Can someone oblige?

Is this example flawed?
Part A
Assume A.......... I borrow Bank funds $200,000 with which to purchase units in HDT
Assume B.......... I am already in the top tax bracket.
Assume..... The writer is aware of all the benefits flowing from a HDT. I would rather not get this thread side tracked


1..... If I buy units costing $200,000 from a Hybrid trust this allows me certain interest tax deductions far superior to my non-working wife who could have borrowed from the Bank. She generates no income.


2..... 15 years later I sell the units back to the Trust at the same purchase price ie $200,000.

3..... My wife then buys the units at the same purchase price i.e. $200,000
The IP has risen significantly in value and the IP in the HDT is then sold the next day.

4..... Upon distribution of the capital gain, Her taxes are much lower than compared to mine would be for CGT,
if
I had owned the units and been given the capital gains.

Is this example flawed or OK?

Is there a minimum holding time as there is with property or shares that these units must be held to avoid any taxes?

Part B
IF I SELL THE UNITS BACK TO THE HDT DOES THIS TRIGGER A CAPITAL GAINS EVENT. IS THERE ANYTHING WRONG WITH BUYING AND SELLING AT THE SAME PRICE given the time span? Can I sell back for any figure I so choose? ie more or less?

Thanks in advance For your opinion
 
Hi

The trust can redeem the units from you at the same price ($1) that you paid to buy them. The trust does not have a CG from thsi transaction.

However, you do have a CGT event based on the market value of each unit at the time compared to the cost. So, if the asets are now worth $300k then each unit is worth $1.50 and so you ahve 50c CGT per share. Of course, you can reduce this by the 50% general discount for holding the units in excess of 1 year.

Dale
 
Hi Dale,

DaleGG said:
However, you do have a CGT event based on the market value of each unit at the time compared to the cost. So, if the asets are now worth $300k then each unit is worth $1.50
Click to expand...
Is that the correct way to value the units though?

These are special income units (at least I'm assuming so) which only provide entitlement to the income from the attributable capital in the trust - which excludes capital gains. Therefore, it seems to me that the capital growth of the asset is irrelevant.

In other words, even if the asset is now worth $300K, the units only provide entitlement to the income from $200K, the same as they did when they were issued. So surely the growth should have no effect on the value of the units?

I would have thought that the units would only be worth more in theory if the income from that $200K was higher than it originally was (ie. rental returns had increased).

Cheers,
GP
 
GreatPig said:
Therefore, it seems to me that the capital growth of the asset is irrelevant.
Click to expand...
What about the growth in potential income that can be received as represented by the growth of the capital in the HDT?

By the way, why bother with the wife buying the special income units? There's no point in doing so since the trustee is then free to give her the capital gain since all the units have been redeemed and it is just a basic DT.

There is no minimum holding time. It is simply what the structure of the trust is when income is earned. If $1000 in rent is received while the SIUs are issued, that person gets $1,000 added to the income they receive from the trust. If $1,000 in rent is received when the SIUs are redeemed, the $1,000 can be distributed at the trustee's discretion.

Part B
I believe the trust deed says the units are redeemed $1 for $1. That's the accounting treatment. For tax purposes, it is as Dale says. The value of the units is NPV so get a finance mathematician to work that out. It is quite a difficult thing to value those SIUs. How do you value an income stream in perpetuity? And what if the trustee does something else with the assets in the HDT? I mean, if you went and bought a negatively geared property in the HDT with the loan in the HDT's name, the income from the trust will drop but on the flip side doesn't that mean that when the loan is paid off that the income will be greater? Does it increase or decrease the value of the units? What if the trustee sold the IP and put it into a savings account of 2% pa? Do we value the units at actual income or the potential income from other income producing activities?

It might be worth just leaving the CG out altogether and letting the ATO auditor work all this out if they decide to take action.
 
Hi

There does seem to be quite some confusion about this issue and I understand that Chris Batten and Chris Balalovski, legal counsel, from Macquarie Group Services will be putting together some "fact sheets" and information resources very soon to provide more guidance and clarification.

However, this is how I believe it is done based on my understanding of the HDT and after discussions with Chris Balalovski.

I am happy to be corrected though!!

Dale

GreatPig said:
Hi Dale,


Is that the correct way to value the units though?

These are special income units (at least I'm assuming so) which only provide entitlement to the income from the attributable capital in the trust - which excludes capital gains. Therefore, it seems to me that the capital growth of the asset is irrelevant.

In other words, even if the asset is now worth $300K, the units only provide entitlement to the income from $200K, the same as they did when they were issued. So surely the growth should have no effect on the value of the units?

I would have thought that the units would only be worth more in theory if the income from that $200K was higher than it originally was (ie. rental returns had increased).

Cheers,
GP
Click to expand...
 
Mry said:
What about the growth in potential income that can be received as represented by the growth of the capital in the HDT?
Click to expand...
But the units don't entitle the holder to the income from the growth of the capital (at least mine don't), so income should only increase if the percentage return increases (ie. the same amount of capital is returning a higher income).

Anyway, that seems logical to me, but then what's logic got to do with tax... :rolleyes:

Cheers,
GP
 
DaleGG said:
I understand that Chris Batten and Chris Balalovski, legal counsel, from Macquarie Group Services will be putting together some "fact sheets" and information resources very soon to provide more guidance and clarification.
Click to expand...
Be interested to see their recommendations. I hope this information will be readily available.

Cheers,
GP
 
Hi Gang,

Like others I will certainly be glad when this is clarified. Unless I'm not understanding things correctly is it being suggested that a CGT event is triggered upon redemption of the Income units even if the property is not being sold by the trust:confused: :confused: :confused: I'm hoping this is not the case as I can't recall it ever being suggested in the past that this is the way it would work. I was always led to believe that because it is "Income" units on issue that they could be redeemed without resulting in CGT liability.

Cheers - Gordon
 
austini said:
I was always led to believe that because it is "Income" units on issue that they could be redeemed without resulting in CGT liability.
Click to expand...
Me too. I was told there would only be a CGT liability on income units if they were redeeemed for a higher price. I'm hoping there is no CGT if you purchase at $1 and redeem for $1.

This is the only time I want DaleGG to be wrong! :D
 
GreatPig said:
But the units don't entitle the holder to the income from the growth of the capital (at least mine don't), so income should only increase if the percentage return increases (ie. the same amount of capital is returning a higher income).
Click to expand...
There are three perspectives when dealing with HDTs, the legal perspective, the tax perspective for the individual and the tax perspective for the trust.

While that may be the correct legal perspective, the ATO will likely reduce your interest deduction claim in your own name since you are not getting all the income. I prefer to play it safe.
 
Hi

The last month has seen me question a lot of what I "thought" I knew about how a HDT worked. We have had to deal with the tax office asking questions and challenging our thoughts and this, in turn, has meant that we have gone back to basics to "relearn" how the HDT works and what we do in ALL scenarios.

Why? To ensure that we keep you and us out of trouble and keep the tax office happy witht he structure.

For what it is worth, I am aware that Chris Batten, Chris Balalovski and others have spent quite some time and effort ensuring that we get this right.

So, whilst it is frustrating for you and it is frustrating and potentially embarrassing for us; we would prefer to ensure that we get it right.

As soon as I have some more concrete answers, I will post again.

Dale
 
Hi

I thought that these brief musings might help explain my thoughts a little more and hopefully allay some fears.....



Redeeming Units in HDT


When the trust redeems SIU’s it does so at either:

• The original price paid for the units; or
• The market value of those units

Either way, the trust does not trigger a Capital Gains Tax event in the process of redeeming the units.

Assuming the units are redeemed at cost, the individual has disposed of an asset (the units) and so a CGT event has occurred. As the individual is dealing with a related entity (the HDT) the CGT rules suggest that the units are disposed of at the market value of those units.

So, how is the market value determined?

To me, this will be the same way that we value units in a simple Unit Trust and we do this by using the formula:

Tangible assets – liabilities/the number of units on issue.

So, if the balance sheet of a HDT looks like:

Assets:

Cash at bank 2,000
Managed Fund 18,000
Property at current value 380,000

Total Assets 400,000

Liabilities:

Unsecured Loans 50,000

Net Assets $350,000

SIU’s Issued 175,000

So, on the formula above the units are notionally worth $2 each. ($350k/$175k)

But, as a planning tool, if the HDT borrows $225,000 from the ABC bank to redeem the units from the unit holder and repay the existing unsecured loan the formula would now be VERY different. At that point the balance sheet would look like:

Total Assets 400,000
Liabilities 225,000
Net Assets $175,000

And so the formula would automatically value the special income units at $1 each. ($175k/$175k)

Doing it this way should satisfy the Commissioner of Taxation as the unit holder has declared a CGT event in their ITR even though the actual value of the units are only $1 each using commercially accepted valuation techniques for unit trusts.

Does this help?

Have fun

Dale
 
DaleGG said:
But, as a planning tool, if the HDT borrows $225,000 from the ABC bank to redeem the units from the unit holder and repay the existing unsecured loan the formula would now be VERY different. At that point the balance sheet would look like:

Total Assets 400,000
Liabilities 225,000
Net Assets $175,000

And so the formula would automatically value the special income units at $1 each. ($175k/$175k)


Dale
Click to expand...

except wouldnt your total assets would also go up by the amount of cash you now have on hand ($175,000 being your borrowed amount of $225,000 less the $50k loan pay out...). Would your net assets still be $350,000 before you pay out the units?
 
I would disagree that the valuation of units is assets - liabilities. There are many ways to value a business and this suggests that liquidation value is the most appropriate method. The economic theorists and business valuers tend to prefer the economic value method (similar to the capitalisation of future maintainable earnings method).

Basically in this model the value would be based on future income streams (rental revenue less expenses - excluding interest) over a relevant time period (10 years would be appropriate for long term residential property) and using an appropriate weighted average cost of capital determining the net present value of the income stream. This would then be compared to the value of the income stream when the original units were purchased to determine the amount of the capital gain and/or loss on redemption of the units.

I really disagree with the net assets for business valuations and in the US (where these cases have gone to court) unless the business is deemed not to be a going concern (hard to argue a residential property would not be a going concern) then liquidation value is not an appropriate method for valuation.
 
Hi Mike

Thank you for your thoughts. It appears that I have posted in haste and need to rethink my rastionale.

Thank you for correcting me.

Embarrassed, but wiser....

Dale
 
Bump...

DaleGG said:
Hi

I thought that these brief musings might help explain my thoughts a little more and hopefully allay some fears.....



Redeeming Units in HDT


When the trust redeems SIU’s it does so at either:

• The original price paid for the units; or
• The market value of those units

Either way, the trust does not trigger a Capital Gains Tax event in the process of redeeming the units.

Assuming the units are redeemed at cost, the individual has disposed of an asset (the units) and so a CGT event has occurred. As the individual is dealing with a related entity (the HDT) the CGT rules suggest that the units are disposed of at the market value of those units.

So, how is the market value determined?

To me, this will be the same way that we value units in a simple Unit Trust and we do this by using the formula:

Tangible assets – liabilities/the number of units on issue.

So, if the balance sheet of a HDT looks like:

Assets:

Cash at bank 2,000
Managed Fund 18,000
Property at current value 380,000

Total Assets 400,000

Liabilities:

Unsecured Loans 50,000

Net Assets $350,000

SIU’s Issued 175,000

So, on the formula above the units are notionally worth $2 each. ($350k/$175k)

But, as a planning tool, if the HDT borrows $225,000 from the ABC bank to redeem the units from the unit holder and repay the existing unsecured loan the formula would now be VERY different. At that point the balance sheet would look like:

Total Assets 400,000
Liabilities 225,000
Net Assets $175,000

And so the formula would automatically value the special income units at $1 each. ($175k/$175k)

Doing it this way should satisfy the Commissioner of Taxation as the unit holder has declared a CGT event in their ITR even though the actual value of the units are only $1 each using commercially accepted valuation techniques for unit trusts.

Does this help?

Have fun

Dale
Click to expand...
Hi,

While I've been on the case of the HDT's, been reading up some old threads.

This above seems like a neat accounting trick. I really don't know anything about 'commercially accepted valuation techniques'. But, wouldn't the ATO see through this or something similar to it - the SIU holder is still getting the short straw here aren't they due to a low valuation of the SIU's?

Hi

There does seem to be quite some confusion about this issue and I understand that Chris Batten and Chris Balalovski, legal counsel, from Macquarie Group Services will be putting together some "fact sheets" and information resources very soon to provide more guidance and clarification.

However, this is how I believe it is done based on my understanding of the HDT and after discussions with Chris Balalovski.

I am happy to be corrected though!!

Dale
Click to expand...
Heard any updates from the Chris's??????

GSJ
 
Last edited:
Hi

That is, without a doubt, one of the dumbest posts that I ahve made on this forum. Clearly, I should have thought before typing.

I would delete it from the forum if I knew how as it is embarrassing and worthless to discussions.

I am sorry for wasting the forum's time and energy.

Dale
 
You're forgiven - don't be so hard on yourself!

There were plenty of good posts before and after that...

GSJ
 
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