Legal Tip 363: Asset Protection Strategy when Lending Money

When lending money to third parties you have to think ahead on what can go wrong and the implications of this. You will be surprised how many borrowers borrow money and then have no further thoughts about not giving it back. They will claim to have no money to repay you yet be going to the snow fields on skiing trips or Greece on holidays.

So you have to anticipate litigation. It is a possibility.

When there is litigation there is also a chance you will lose. If you lose you would have 2 issues.

A) you would be up for the other side’s legal fees as well as your own, and

B) you would have a judgement on your credit file potentially

Interposing a trustee in between yourself as a lender and the borrow will help on both of these fronts – to a degree. A court case will often result in the other party requesting a security deposit where they are suing a company with no assets.

There is an additional issue in that if you don’t get the funds back, as is often the case, you have to worry about the ability to claim a capital loss. The individual could still claim the loss though where they have lend the trust the money on commercial terms and it is unable to repay them.

The added benefit of all of this is that any income will fall to the trust with the trustee having the discretion on who to pass that income onto.


Example


Homer’s mate Barney is doing a development through a company Barney Pty Ltd. Barney can’t get finance because he doesn’t have a job, but he knows Homer has $500,000 in his offset account.


Homer agrees to participate by lending Barney Pty Ltd the money to do the development. Homer sets up HomerLo Pty Ltd as trustee for the Homer trust. Homer lenders Homerlo Pty Ltd $500,000 at a 2% interest rate, payable at the end of 2 years. Homerlo Pty Ltd, as trustee, lenders Barney Pty Ltd $500,000 and takes a registered mortgage as security for its loan. The interest rate is 10%.


The build goes to plan, but the Barney Pty Ltd is slow in repaying the money. Barney meanwhile is driving around town in a new car and not returning Homer’s calls. Homer decides to ‘sue the *******’. The court case is between HomerLo Pty Ltd and Barney Pty Ltd


Homerlo Pty Ltd loses, on a technicality, and is liable for $200,000 to Barney Pty Ltd.


Homer realises he is not getting his money back and appoints liquidators to Homerlo Pty Ltd and walks away.


Homer’s credit file is clean, except for the director of a company that went into liquidation part. He has no judgements against himself.


He still loses the $500,000 but not the $200,000 extra as he is not liable.


Homer is able to claim a capital loss of $500,000 – which he can roll forward to future years until he has a capital gain to offset.

 

"takes a registered mortgage as security for its loan"
What does that mean?

 

When a bank lends you money they take a mortgage over property. You can do the same thing

 

By 'you' i mean what ever entity the lender is.

 

Terry, what are some precautions that can be taken (if any) to avoid this situation occuring
By precautions i mean from a legal/contractual standpoint

 

which situation?

If getting your money back, all you can do is
a) assess the liklihood of the lender being able to repay
b) see what other assets they have
c) enter into a loan contract that incorporates security for the loan
d) take a legal mortgage for your debt, ideally before anyone else