Tax Tip 367: Borrowing and Onlending Money to yourself as Trustee and Tax

Discussion in 'Accounting & Tax' started by Terry_w, 10th Aug, 2021.

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  1. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    Tax Tip 367: Borrowing and Onlending Money to yourself as Trustee and Tax


    At law a person cannot contract with themselves. This is the case even where you are acting in different capacities because you cannot sue yourself. For example, Homer could not enter into a contract with Homer as trustee. Because he would be both borrow and lender – keep in mind that a trust is not a separate legal entity like a company is.

    But the laws of equity might still enforce such an agreement that fails at law (equity is a branch of law)

    This can cause issues when lending to a trust of which you are a trustee, especially if you want to borrow and ‘onlend’ it to the ‘trust’

    Example

    Homer has a main residence property which he borrowed to acquire. He is debt recycling and wanting to incorporate the Simpson family trust into the strategy as outlined in my tip at

    Incorporating a Trust into a Strategy Recycling Debt Incorporating a Trust into a Strategy Recycling Debt

    The trouble is Homer is the trustee so he will be both lender and borrower if he onlends to the trust. Does he even need to enter into a contract because he is the borrower with the Bank so the loan is in his name and if he just uses those funds as trustee should the trust be able to claim the interest?

    Although the trust is not a separate legal entity to Homer it is a separate entity for tax purposes.


    This is a question I asked the ATO in a private ruling application.

    Is a written agreement necessary where a person borrows from a bank and then onlends to themselves as trustee?

    The ATO said Yes.

    So make sure you enter into a written arm’s length agreement where you are borrowing yourself and then the trust is using those funds, even if you are the trustee and the agreement won’t be effective at law.

    See PBR Authorisation Number: 1051839319124

    Note that the only person that can rely on a private ruling is an applicant, so just use this as a guide.

    To be in the safe side it is best to enter into a written contract, even with yourself, where the funds will be used by yourself as trustee. I can’t see any downside to this except the legal fees perhaps.
     
    Baker likes this.
  2. Paul@PAS

    Paul@PAS Tax, Accounting + SMSF + All things Property Tax Business Plus Member

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    Not just the contract but also how the loan is maintained and accounted for. The trustee should account for the interest it incurs from the lender and there should be repayments on arms length terms and the trust accounting should include the trust liability. If the lender and borrower cant agree on what is owed at any point in time then what sort of agreement was made ?

    Take care for statute barred loans and loans which arent not continually "maintained" . Concerns include compounded loans where there is no evident repayment until XX years later. Then deferral may have tainted the loan already. Loans can be a feature of many tax schemes and are often given close consideration by the ATO and nobody should assume they are deductible just because of use of the borrowed funds for a deductible purpose. The ATO are more likley to accept a loan is a loan when the parties agree on the terms and its accounted for and being paid consistent with an agreement.

    Verbal loans also gets some consideration and it creates problems. The ATO views are not conclusive but this ruling helps to explain in the specific context of Div 7A comany loans. These are required to be in writing...but sometimes arent fully compliant. The ATO views on what can be non-compliant assists. It also indicates that rectification of verbal loans to written terms is accepted.

    https://www.ato.gov.au/law/view/pdf/pbr/td2008-008.pdf
     
  3. ChrisP73

    ChrisP73 Well-Known Member

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    That's an interesting one Terry. Is that PBR public yet? I searched and couldn't find it.
     
  4. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    it should be up as it came out in June. It took 6 months to get this one.
     
  5. Maverick83

    Maverick83 New Member

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    What about the interest for tax deductibility ? Could Homer claim the interest in his tax return if he is on-lending to trust at rate lower than what he is borrowing it at from the bank (in anticipation of a capital gain in the long-run)

    Tia for all the research and sharing.
     
  6. Paul@PAS

    Paul@PAS Tax, Accounting + SMSF + All things Property Tax Business Plus Member

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    If Fred borows from a bank and onlends to the trustee his tax return should include

    1. Interest received from the trust and
    2. How interest incurred from bank
    The net effect may be $0

    The rate onlend should be the same OR HIGHER. It should not be lower. If this occurs the ATO may have issues. I favour onlending at the same rate. It avoids the obvious need to maintain a record / statemnet of what is actually owed. If its a onlending at same rate the bank loan may be the accounting.

    Borrowings by a trust to hold non-income producing shares etc is NOT deductible in any event. It may be non-deductible and add to the CGT costbase of those shares which may reduce the future gain. Interest is only deductible where the borrowed funds are used to produce assessable income, not capital gains.
     
  7. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    he could claim up to the amount he receives from the trust but not over
     
  8. Paul@PAS

    Paul@PAS Tax, Accounting + SMSF + All things Property Tax Business Plus Member

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    Not if its in anticipation of a trust capital gain in the long-run and the trust doenst produce income using the borrowed money.
     
  9. Terry_w

    Terry_w Lawyer, Tax Adviser and Mortgage broker in Sydney Business Member

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    If he borrowed at 6% and onlent to the trustee at 2% then he should be able to claim the interest up to 2% but could not make a loss. Whether the trust could claim the interest will depend on what it does with the borrowed money, but it would need an expectation of income.