Distributing losses from a fixed unit trust

[hello1234]

Hi All,

A friend owns properties in a fixed unit trust (in which she owns 100% of the units). The home loans are in her personal name for purchasing the units in the trust but secured/guaranteed by the trust and the properties.

In this scenario, is it possible to negatively gear the losses (from the trust) against the individual? How does ATO see this?

Thank you!

 

[jrc]

in the scenario you describe if your friend has purchased the units in the trust using borowings that are guaranteed by the trust and a mortgage over properties held by the trust, then the interest payable on the loans is not a payment by the trust and instead of generating losses the trust is likely to be producing income which should be distributed to the unitholder. zthe unit holder would then have a situation where the income from the trust less the interest paid by the unit holder on the borrowings to purchase the units would be able to claim a loss if the interest paid exceeds the income

 

[Terry_w]

JRC has it.

There is no distribution of losses. It works because the person is borrowing to buy income producing units. For the person to be able to claim 100% of the interest the trust deed must be drafted in such a way that they unit holder must get 100% of the income and any CG without the trustee having any discretion to vary this. ATO is fine.

Also benefits in NSW with land tax as the unit holders are considered owners of the land in proportion to their unit holdings and they can get the land tax free threshold - subject to strict wording in the deed.

 

[Paul@PFI]

Of course some people stuff it all up and instead of the unitholder borrowing to buy units the trustee borrows. Thus the trust may have no net trust income to distribute for a while. Then there is a quarantined loss in the trust. This issue can also arise when the "refinancing principle" operates if some planning isnt considered.

The accounting question I always seem to get asked if the unitholder borrows is how do I get my share of income to make loan repayments? Easy. Each month the trust distributes to the unitholders progressively (not at the year end). So $3K of rent comes in and say $2600 is paid to Debbie (the sole unitholder). Debbie makes the $2600 paymnet to Westpac. At end of the year the trust can sort out what is still due to Debbie. Tip : The balance die can be convertered to additional units in some cases rather than writing a cheque.

 

[Terry_w]

I've actually seen clients with this structure correctly set up from the start but they have since refinanced the loan and because the bank wouldn't do it with the loan in the person's name they have just refinanced the loan into the name of the trustee.

 

[hello1234]

I've actually seen clients with this structure correctly set up from the start but they have since refinanced the loan and because the bank wouldn't do it with the loan in the person's name they have just refinanced the loan into the name of the trustee.

Terry, so if that occurred, then the clients' trust losses are quarantined then? Or is there a way around it? (e.g. perhaps somehow lending/borrowing money between the individual and trust entities?)

 

[Terry_w]

Terry, so if that occurred, then the clients' trust losses are quarantined then? Or is there a way around it? (e.g. perhaps somehow lending/borrowing money between the individual and trust entities?)

I didn't advise on this issue so am not sure of the tax angle, but it would be messy. You own units and have borrowed to buy them, but this loan is then paid off by the trust itself - units still held by the individual who has no loan. Trust won't be able to claim the interest as the borrowings were used to pay out the individual's debt. Individual may therefore have a loan from the trust - any loan agreements in place?? This sort of thing!

 

[hello1234]

I didn't advise on this issue so am not sure of the tax angle, but it would be messy. You own units and have borrowed to buy them, but this loan is then paid off by the trust itself - units still held by the individual who has no loan. Trust won't be able to claim the interest as the borrowings were used to pay out the individual's debt. Individual may therefore have a loan from the trust - any loan agreements in place?? This sort of thing!

Haha messy! Thanks for the insight Terry

 

[hello1234]

Just wondering, in the case that she can pass on the losses to her individual name, how does tax work if the fixed unit trust sells a property (held over a year) and makes a capital gain of say $100k?

Does the trust incur CGT of 50% x 30% x $100k = $15k?

If so, does it get taxed again at the individual level if the remaining capital of $85k is distributed to her?

 

[Terry_w]

The loss cannot be passed on. It just appears that way because she has borrowed to buy the units.

If she stil owns the units then there is no CGT event for her, but the trust have have a CGT event. This gain would then be passed on to the unit holders in proportion to their unit holdings.

 

[Paul@PFI]

*** Review of original question*****

What losses ??? The Trust doesnt claim the interest deductions !! The trust likely has distributable (positive) income . 100% to the unitholder. That income is reported at Label 13 (Trust income) of a ITR.

The unitholder claims the interest deductions if the loan is in her name. Her unitholding is negative geared not the IP. The deduction is claimed at Item 13.

This is different say if the trustee of the UT borrows. Sure that is negative and losses accumulate.

 

[Paul@PFI]

QUOTE=hello1234;1133920]Just wondering, in the case that she can pass on the losses to her individual name, how does tax work if the fixed unit trust sells a property (held over a year) and makes a capital gain of say $100k?

Does the trust incur CGT of 50% x 30% x $100k = $15k?

If so, does it get taxed again at the individual level if the remaining capital of $85k is distributed to her?[/QUOTE]

Hmmm. She doesnt pass on losses to her name ? I suspect she has a taxable distrubution that gets reduced to a neg gearing position in her personal return.

A unit trust that sells property would generate a taxable capital gain if it sells real property for a profit. That profit is part of the trust income. If the property has been owned for more than 1 year the cap gain is a discounted cap gain and that flows through retaining its charecter as a cap gain. ie : She gets $10K and only $5k is taxed. The trust tax return contains a distribution worksheet that splits total trust income on a proportionate basis. With 1 unitholder 100% flows to Mdm X. If a company owned the units the discount is lost. The tax position of the unitholder is paramount not just that of the trust.

If the trust has Prior year c/fwd losses these reduce the distributable cap gain first (before discount).

The net taxable cap gain flows through to Mdm X. If she has personal PY c/fwd cap losses these reduce her taxable gain too. (Before the discount is considered !!). The net effect is Mdm X pays tax at her marginal tax rate on the net capital gain after any discount and on the net trust distribution.

There is also a potential CGT issue with the trust units. However in practice Mdm X will redeem her units (Cost $1??) to obtain the cap gain that way. There is no double counting and no double tax (some accountants get it wrong)...The cost base of the trust units recognises the value of an unrealised gain immediately prior to sale. ie units are worth $2....At the time of sale that converts some trust value to aincome entitlement. ie $1 is income...$1 is capital and of the income half isnt taxed. Thus in theory no CGT on trust units but depends how the redemption or ending of trust occurs. (something often overlooked by even some accountants).

Your friend should have a person who knows what they doing review her position.

 

[hello1234]

I've actually seen clients with this structure correctly set up from the start but they have since refinanced the loan and because the bank wouldn't do it with the loan in the person's name they have just refinanced the loan into the name of the trustee.

Hi Terry, besides refinancing the entire loan, what is the simplest workaround to get the relevant deductions back in the clients' personal name? (i.e. putting a loan agreement between the trust & person?)

 

[Terry_w]

It is tricky. A borrows from CBA to buy units in B. B takes a loan from ANZ to refinance property and pays out B's loan. If A had a loan agreement with B, A may still be ok to claim the interest because A still has a loan outstanding for the units. Without a loan agreement in place from the beginning it would seem that A no longer has a loan for the units so no deduction and B has a loan, but this wasn't for the purchase of the property so no interest deductible there either. Messy