Legal Tip 38: Spousal and Related Party Loans

Spousal and Related Party Loans


Where property is being purchased it is important to consider where the deposit money will come from. This is important where there are different legal entities involved - spouses, siblings, companies or trusts etc.


Movement of money from one person to another has far reaching legal and taxation consequences and there are many costly legal cases which could have been completely avoided if proper documentation had been prepared.


An example of what can go wrong - Steiner v Strang [2015] NSWCA 203

https://jade.barnet.com.au/Jade.html#!sy=400596


A mother paid for a unit in the name of the son lending him $881,000. There was an unsigned loan agreement and a signed acknowledgement of loan agreement. The sons argument that the loan was forgiven upon the death of the other. The executors of the estate argued that the evidence showed the debt was still owing. Multiple court cases later and the issue is not resolved yet.


Other examples involve one spouse becoming bankrupt. It is very hard to argue that you owe your spouse a large sum of money when you are bankrupt if there is no written loan agreements in place. People tend not to believe these sorts of stories.


Wherever there is movement of money from one person to another legal advice should be sought (from a lawyer!) and the parties should determine whether the money will be a gift or a loan by going through all the consequences and then proper documentation prepared.


There are also various tax saving and asset protection strategies to consider.


Incidentally the majority of the people that I seen with established trusts have not even considered whether the money transferred to the trust to buy a property is a gift or a loan. They have no idea there is even an issue with this.

 

Terry what is the answer please?

 

Depends on the question!

but there are heaps of issues. Imagine if a beneficiary went bankrupt and that beneficiary had transferred money to the trust - it would be a loan to be clawed back as a loan if there is no documentation.

imagine if the beneficiary died and there was a transfer of money. There would be a costly fight possibly.

And the tax side. If X had transferred money to the trust and the trust was claiming the interest, but there was no loan agreement the ATO could deny the deduction of interest to the trust.

 

Land tax is too costly now. Time to buy in a trust. As losses are trapped within the trust - so search for +ve geared property. Found a 150k house with 9% yield. How does it work from here - both legally and financially?

1. If we put up 100% cash covering all purchase costs and no loan is drawn up. Is this considered a gift and we would be required to pay gifting tax? A gift does not have to be repaid.

2. If we lend the cash and have a documented loan - no tax. But if we charge trust interest then we will pay income tax on the interest. A loan needs to be repaid - by when?

3. If we put up deposit and costs and the trust borrows the 80% - same as 1&2 in regards to the $ put up?

Secondary to protection issues. Are trusts mainly useful for assets that make a profit after interest and accountants fees - because you can distribute the income to lower income tax earners. So would it make sense to chip in the 150k in an interest free loan and the 10k pa income is distributed to kids tax free? Or is the limiting factor - that one could use make more $ outside of a trust using leverage and the 150k as deposit on a CG property?
Can you buy an IP in trust, lend the trust the money, rent out your PPOR 6 year rule while you in turn rent the trust property - as opposed to just renting someone elses IP. - Sorry off tangent question.

 

1. No gifting taxes in Australia. Whether it is a gift or a loan will depend on the circumstances.

2. Interest received is income and taxable to the recipient. A loan doesn't necessarily need to be repaid. It will depend on the terms of the agreement. A loan may be at no interest for example.

3. yep

4. Kids pay tax at 66% over $416 if they are under 18. It may only make sense to make an interest free loan if you are no borrowing - ie you have cash and you have paid off the main residence loan. otherwise you will be losing interest.

Trusts are useful for holding wealth to benefit a group of beneficiaries.

5. Yes it could be possible to rent a trust property - need to check the deed and consider tax aspects.

 

Hi Terry,

Is the legal loan documentation a requirement of the ATO if claiming interest proportion of a correctly structured loan? Or is this for personal cover?

 

There are a number of reasons why lending money should only be done under written contratct
a) any control of a company or trust is only temporary.
b) it avoids disputes later about whether a loan or a gift
c) it outlines the terms of the agreement in a form that can be used as evidence
d) ATO have indicated to one of my clients that without a written agreement that 2 strangers would enter into none of the interest could be deductible to either party.