Debt restructuring with Unit Trust

Hi All,

I am interested in getting some opinion/input on the following scenario. This is a 'strategy' that I am trying to get my head around.

Current situation:

Person moves from one PPoR into a new PPoR. Keeps the old house as an investment property, and rents it out. Property still negatively geared. Finance LVR 100% for new PPoR.

The issue:

LVR on old PPoR (now investment) is only about 60%, and LVR on new PPoR is 100% (i.e. fully financed by new mortgage), and as such non deductible debt is higher than it would ideally be (and deductible debt in turn less than ideal situation).

Potential solution:

Establish a Unit Trust with client as the Trustee and Sole unit holder. Trust to then purchase 2/3 share of the Investment Property at market cost of $200,000 (Assume value of home at $300K). Outcome would be property ownership of ‘Tenants in Common’ 1/3 to customer, 2/3 to Unit Trust.

Update required to client's Will to allow for distribution of unit entitlement in Unit Trust.

Client use proceeds of $200K (equity released) from investment property to pay off the non-deductible new PPoR debt.

Trust to carry forward losses (property negatively geared) to offset future Capital Gain on sale, which would also be eligible for 50% concession personally on distribution from trust to client.

Additional issue: Trust will need additional funding to meet negative gearing losses. Would client simply loan this money to trust to be repaid on sale?

N.B. Only 2/3 ownership of PPR suggested to reduce Stamp Duty costs, as 2/3 of property value is all that is required to clear client mortgage against prop.

Benefits:

$200,000 of non-deductible debt removed. This equates to interest savings of $15,000 pa (assume 7.5% rate).

Reduced CGT Liability on eventual sale due to accrual of losses in trust. Losses held personally would be available as deductions in relevant income tax year only, with diminishing value due to other tax reduction strategies being applied.

Costs to consider:

Stamp Duty payable on transfer to Unit Trust.

Accounting and advice fees initially and ongoing.


Views/thoughts/opinions are most welcome! That's why we are here

Has anyone heard of this strategy being used before? Can anyone direct me to some good reading on the matter. I find this type of scenario very interesting!

Thanks, Lloyd.

 

Hi Lloyd

Some points:
- ATO could possibly apply Part IVA and disallow the deduction if done with dominant purpose of tax savings.
- Lack of asset protection as units would be available to creditors. Could use a discretionary trust instead. But little asset protection in the early years because of the clawback provisions of Bankruptcy Act.
- Rent would need to me market rates which would increase over time and be offset by the losses.

More positive points!:
- client could negatively gear by borrowing to buy units in the unit trust.
- Units could be transferred without stamp duty in many instances (NSW)
- Units could be transferred to a smsf later without stamp duty and then income from the property could be tax free possibly. CGT would be payable on the unit transfer but the sale of the property could be CGT free later on when SMSF sells.
- Units could be transferred over several tax years to reduce CGT.
- If the unit trust is a fixed trust the land tax free threshold may be available to the trust (NSW).

Another option if for one spouse to buy out the other's share in the property. Stamp duty exemptions may be available for this in some states. (Divorce is another strategy - transfer stamp duty and CGT free AND get rid of a nagging spouse at the same time!)

 

Thanks Terry,

I understand your point re anti avoidance, and would interested in getting an accountants opinion on this (forgive me if you are an accountant!). It was suggested to me by a colleague that using a unit trust keeps things nice and clean, whereas a hybrid structure would likely raise interest from the ATO.

Lack of asset protection for individual trustee considered, but I happen to know that this person is not in a role where they could likely be sued (works in a call centre). I see the corporate trustee in this situation as an unecessary cost and complication (personal opinion only!) and would of course be interested in your/others input on this.

Yes rent would be at market rates. Property eventually become positively geared but this would (as I understand) be offset be losses held in the trust?

Interesting point re: borrow to purchase units in the trust. Hadn't considered that. Also very interesting re: SMSF unit transfer. Would this not be caught under the related party net? If it is possible, I like the idea of issuing several units all to be owned by client to transfer over the years to save tax.

In the event a trust is already established, is it possible to issue new units?

Thanks TerryW (and others). I know I have alot of questions, but all very interesting stuff!

Lloyd.

 

Lloyd

You might be interested in this:
TR 2002/18 Income tax: home loan unit trust arrangement
TR 2002/18 - Income tax: home loan unit trust arrangement (As at 24 July 2002)

A corporate trustee does not cost that much extra but add much more flexibility as well as asset protection.

Say he wants control to be passed on to children or others, you just pass on control of the company by changing the director and shareholders. If it was held by individual trustee then title deeds would need to be changed which is a huge hassle.

Also if the trustee is sued for whatever reason the trustee is indemnified out of the trust assets, usually, but if there is a shortfall then they can be personally liable.

Units can be added to a trust already established. If the trust doesn't hold any assets then I don't think there would be any tax consequences.

Not sure about the related party issue with transferring units to a smsf.

 

Thanks Terry. Will have a read through that ruling. Cheers