More on HDTs

Hi Julia,
I am not sure I understand the points you were raising in your last post.
You were saing "I'm not too sure that adds up when you consider the huge tax savings of negative gearing"
Did you mean that using HDT, I can not negative gear ? From what I understand I thought I could providing the SIUs should have a capital growth component and will be redeemed at market value ?

So far It seems if I could sal sacrifice all expenses then it would a better choice, but very likely I can't (I will enquire but won't hold my breath) so I am trying to work out the next best solution.

The number if HDT is like this :
loan 1.8M ===> each of us has 900K SIUs isued i.e 50/50
rental income :105K
operation expenses: 20K
interest:145K
-ve 60K ie loss 30K each
salary me 80K , husb 110K
hence with the loss of 30K each taxable income will be reduced to : me 50K, husb 80K.
Isn't it the same effect with salary sacrificing ?
I understand the down side comparing to sal sacrifice is:

• no asset protection while the IP is still -ve geared
• I have to pay capital gain tax when the SIUs are redeemed later on at market value. I plan to mittigate this by redeem over 2 or 3 years and arrange for us to have no income during those 2 years so the overall tax implication is minimised.

 

Salsa,

What I am trying to say is that in a HDT, if you can negative gear you still have to include in your income all the net rent. With the salary sacrifice arrangement as I described to you you get to effectively claim all the expenses but you only have to declare 2% of the rent income in your own return the rest can be distributed to others. This makes the negative gear affect in your own return many times larger than in a HDT. And I am suggesting that over the years this extra refund would compensate for the land tax and stamp duty. So even if your HDT passed with the ATO so you can negative gear through it and it did save you the stamp duty and land tax it may not overall be the better outcome because you won't save as much on these as you will in tax refunds through salary sacrifice. But yes you are correct if you can't salary sacrifice it is all academic. Just showing how much it is worthwhile putting pressure on your employer. There are huge tax savings at stake, it is not that if the HDT passes you are in the same position. So even if you think your HDT will pass it is still worth pushing the issue with your employer

 

Chris Batten has sent me an email in response to some of the posts on this Thread. He sent it to me on Thurs but i have been quite busy with tax deadlines looming this week.

Anyway, here is his reply

Nick
You can post this as being from me.
"Ok Give me a HDT "benefit" according to your particular circumstances and I will give you as good a benefit or better by ATO approved methods. Lets see who is ill-informed."

The response
A husband and wife wish to acquire a rental property for $500,000 with a $350,000 loan. They acquire the property in a hybrid discretionary trust and the trustee issues 350,000 units to mum and dad jointly. The dads employer pays the interest. Following the repayment of the loan the trustee may borrow to redeem mum and dads units and the interest on that loan is deductible regardless of what mum and dad do with the money (i.e. interest on funds borrowed by BT Property Trust or Westpac Property Trust to redeem your units is deductible.) Mum and Dad use the funds from the redemption of their units to acquire a holiday home or to do renovations on their home. This redemption would be at market value. You can't achieve this if it is acquired 1% dad, 1% mum and 98% discretionary trust. The second loan is obviously not deductible (refer Smith v FC of T and Roberts v FC of T and TR 95/25). The refinancing principal only works with an equity position as in a hybrid discretionary trust or unit trust. Obviously you have to be careful with a unit trust as section 104-50 of the ITAA97 would apply. If you had purchased my book in 2004 you would be familiar with this strategy.

NOTE: The reason I used mum and dad jointly is that the ATO indicated at the NTLG FBT sub-committee meeting on 16 November 2006 in relation to situations where the employee held less than 50% of the asset that "the general anti avoidance provisions may have to be considered in particular cases." The ATO went on to say "its review of these type of arrangements was on going and they may consider requesting the Government to amend the law if the risk to Government revenue was high". I can't say whether the ATO meant the anti-avoidance provisions contained in the ITAA36 or the FBTAA86. Section 67 of the later act is titled "Arrangements to avoid or reduce fringe benefits tax". Neither of the private rulings address or even talk about the anti-avoidance provisions.

Obviously the problem with the 1%,1% and 98% advice given is that the consequences on the revenue would be so dramatic it wouldn't be very difficult to convince a Labor Government to amend the law. If you are then left with those entitlements to income and capital without the FBT fiction then you are in a lot worse position. The better advice would be to do it as in the response above so that if the Government change the FBT provisions you are still OK as mum and dad are equally entitled to the income and hence the interest on the loan would still be deductible. There is some other issues regarding the arrangement, however, in fairness to Julia I am not going to spoil Julia's thunder as I assume they are covered in her book.

Julia I have responded to your "Ok Give me a HDT "benefit" according to your particular circumstances and I will give you as good a benefit or better by ATO approved methods. Lets see who is ill-informed' I eagerly await your response. By the way may I suggest you lose the "Lets see who is ill-informed" as it makes you appear cranky and eager to push only a certain methodology to which you may receive a financial benefit. We are advisors and not product pushers. I agree with the salary sacrifice arrangement, which has been around since 1993 and especially since the Interpretive Decision ID 2005/219. May I recommend that your advice to clients or people on forums take into consideration the ATO's comments in NTLG meetings and public announcements. A lot of these loans are for long periods and having to pay stamp duty to re-organise the ownership would end up being very costly for the mum and dad should the ATO convince the Government to change the law, which is exactly what they will do if a lot of rulings with these sort of percentages start arriving."
Regards
Chris

 

Salsa,
I have had some recent discussions with the ATO in relation to HDT's. I doubt very much that you will be able to get a ruling from them at this stage. My understanding is that they are formulating an official opinion and this will be released very soon. This will probably be in the form of a Practice Statement addressing the different types of HDTs and contain some working examples. At least once this has been released we will all now exactly where we stand.
In my opinion, not much will change for my clients that have an MGS deed. Interest would remain tax deductible with the proviso that capital gains from that underlying asset passes through to the unit holder when the units are redeemed. This would make it similar in operation to a unit trust.

One of the advantages of having a HDT ( that has not yet been addressed) is that you can also use it as a DT at the same time. Ie Margin loan, shares etc can be held in the same trust. The rental income would be streamed to the unit holder whilst the share income etc would be discretionary. We track the IPs with job nos in our system so this is not a problem. This allieviates the need to establish a 2nd trust, for a while anyway.
All good fun !
Nickm

 

OK thanks Julia I now understand what you were trying to say.

To Nick or Chris:

Re Chris Batten s example:
A husband and wife wish to acquire a rental property for $500,000 with a $350,000 loan. They acquire the property in a hybrid discretionary trust and the trustee issues 350,000 units to mum and dad jointly. The dads employer pays the interest. Following the repayment of the loan the trustee may borrow to redeem mum and dads units and the interest on that loan is deductible regardless of what mum and dad do with the money (i.e. interest on funds borrowed by BT Property Trust or Westpac Property Trust to redeem your units is deductible.) Mum and Dad use the funds from the redemption of their units to acquire a holiday home or to do renovations on their home. This redemption would be at market value. You can't achieve this if it is acquired 1% dad, 1% mum and 98% discretionary trust. The second loan is obviously not deductible (refer Smith v FC of T and Roberts v FC of T and TR 95/25). The refinancing principal only works with an equity position as in a hybrid discretionary trust or unit trust. Obviously you have to be careful with a unit trust as section 104-50 of the ITAA97 would apply.

Can I ask :
1./What does The dads employer pays the interest mean ? I thought both mum & dad should pay the interest as they are SIUs owners (and -ve gear vs their income)?
2./Does the Trustee need to be also mum & dad or a company trustee where mum & dad are directors ? because the trustee would need to have an income somehow for -ve gearing to work, or is the -ve gearing is against the HDT 's income which is the IP rental income ?
3./Mum & dads would still have to pay cagital gain tax as units are redeemed at maeket value ?


About the disadvantage of having to double pay the CGT, I have borrowed an axample from MRY from SS forum below (hope MRY does not mind) , would you agree to MRY view of how CGT are applied ?

If I buy a house for $400,000 in a HDT, redeem it when it becomes positively geared at $750,000 and then sell it at $1mill, the unitholder pays tax on a capital gain of $175,000 (750-400/2) and later the beneficiaries of the HDT have to pay tax on a gain of $300,000 ($1mill-400,000). So on a gain of $600,000 net, you have to pay tax on $475,000. A person who owned the property in their own name would pay tax on $300,000.

Its easier to buy in your own name and sell it to a DT later. That would reset the cost base in the DT to $750,000 (stamp duty in QLD though would be an extra $26,225 at transfer time) but save you paying tax on $175,000. Plus - 100% chance to negative gear and the refinancing principle still works.(MRY) Chan & Naylor - PIT trust - Page 2 - Somersoft Property Investment Forums

Thank you