The new rules?
Hi all, like others I really appreciated the hours that have gone in to writing these posts.
I’m guessing a high % of people with HDTs are much like me and only just grasp the concepts. Below I’ve tried to create a layman’s summary of the new rules, as I understand them from reading through the entire post (including attachments). Please tell me whether I’m right or wrong.
First – I’m in a reasonably typical situation (maybe?). Mum and Dad investor, both salary earners, building negatively geared property in a HDT structure, looking for ways to tax plan effectively and divert more income to mum, or more deductions to Dad. As mum is now working part time – meaning more time with kids, but income has dropped.
1. We borrowed money to buy Special Income Units in the trust 50% mum, 50% dad. Lets say it was $50k each to buy a $100k investment property. As long as I a) get my trust amended, and b) continue to distribute income 50/50 to mum and dad, then the interest is still deductible in our individual names.
2. Regardless of the fact that the property is now worth $220k, income must be split in proportion to the unit holdings. Ie 50/50. We can no longer, stream any income to Mum.
3. If we sell the property then trust makes $120k capital gain. This can be streamed to Mum, providing the right paperwork is in place – ie. resolution/minutes and trust amendments (although I have a 2005 MSG HDT so I don’t need the trust deed amended).
4. If instead of selling the property, the trust borrows money (I know technically the trustee borrows money on behalf of the trust, but if don’t keep it simple, I’ll lose my thoughts..) to redeem the units…
5. The units must be redeemed at market value (ie. Property is worth $220k so the units we purchased at $100k are now worth $220k)
6. The interest on the loan the trust has taken out, remains deductible in the trust; regardless of what Mum and Dad do with the money – eg pay off the initial $100k loan and go on a holiday with whatever money is left after…
7. Capital gains tax is payable on the $120k gain, in the hands of Mum and Dad
8. Borrowing money in the trust to redeem units, effectively moves the loan out of mum and dads names and puts more deductions in the trust, reducing the income that is distributed.
9. Now that all the units in the trust have been redeemed, the trust converts to a Discretionary Trust and can allocate income however in determines.
10. We could do a “half step” toward this and only redeem mum’s units, with the result that mum no longer owns units and all the income is distributed to Dad (now the only unit holder). With the proceeds of the redemption, we pay out the loan in Mum’s name reducing her deductions.
11. If, however, the property is still negatively geared, then now the trust is making a loss. This loss cannot be distributed to beneficiaries (we lose the benefit of the tax deductions until such time as the property becomes positively geared and the trust can deduct prior year losses, before distributing the income), so I’d need to be mindful of this when the trust borrows money to redeem units.
12. One question on market value – If in the above example, Mum and Dad did nothing now but bought a 2nd property. So $50k each in units 4 years ago, property 1 worth $220k, mum and dad buy another $50k each of units (with borrowed money in their own name) and the trust buys another property for $100k in the HDT structure. One year later the property is worth $110k.
13. Is the 2nd lot of units we bought a year ago worth a lot less than the first lot of units we bought 4 years ago? If we want to minimise capital gains, can we just redeem the units that we purchased most recently?
14. If point 13 is correct, I guess we lose the benefit of ever being able to turn equity in to cash for those particular units (as opposed to waiting 5 years until the 2nd lot of units were also increased in value from continued growth in both the first and second properties)
I’m hoping this will benefit a lot of people like me, who are not tax professionals, but really want to understand some of the typical scenarios and concepts.
Anyone care to go through and give me a tick or a cross on each of the 14 points?
