What about the later years?

I remember I had a mate who had a wife that wasn't working. He was on the top rate and wanted to buy a property in Perth – i told him to use a discretionary trust, but he wanted to save tax.

About 2 years passed and he sold the property for about $200,000 more than he paid. Wife was still on nil income and he had $100,000 capital gain assessed at the top rate.

It would be good to get a good general idea via a spreadsheet, but some things will be hard to measure, such as:
– the asset protection aspects
– the tax savings (future is unpredictable. now no kids but in future you may have 2 kids who could take $6,000 pa from the trust tax free).
– Its a bit complicated with land tax as different states have different rules
– trusts can negative gear – if they have losses from property this can be offset by other trust income. It just can't offset personal income

JacM. No real protection against tenants suing as they will sue the owner of the property = the trustee who will be indemnified out of the trust assets. But if you have different trusts then these other assets should be safe. The main thing about asset protection and trusts is that if you were to personally go bankrupt, assets held in trust are not available to creditors, s116 Bankruptcy Act

My understanding is that Div7A only applies to companies and that it was recently amended so that it applied to corporate trustees. Not sure if it applies to individuals.

If you have a company as trustee than it probably applies. Even if you were to buy more units you would need to get the money to do so, so it would be either a loan or a distribution from the trust. If it is a loan then you will need a loan agreement and if it is an unsecured loan then the max term is 7 years (can probably just enter a new loan then). Maybe you could use the units as security and increase the term to 30 years.

If you keep making money then the tax problem will keep getting bigger. Maybe a bucket company is needed

Doesn't sound correct to me.

If you borrow in your name and lend to a trust, you will not be able to claim the interest.

If you are referring to the hybrid trust method, then you would be buying the property in the name of the trustee and you the individual personally borrowing to buy income producing units in the trust. To be able to claim the interest on this then you will need to be able to show you have a good chance of receiving an income on your investment. Therefore the trustee should have no discretion in deciding whether to distribute to the unit holder or not. But if the trust is set up this way, most of the benefits are lost.

Another problem is the loan as the others have mentioned. The company will own the property, so you getting a loan using the property as security won't be easy.

As for the ATO, I don't see them as having a problem with hybrid trusts if they are set up commercially.

And there has been a court case involving hybrids – with the tax payer winning. The taxpayer had a fixed entitlement to income of the trust, but not capital gains and the trustee was able to change income to capital to enable some tax savings (seems ATO stuffed up a bit here).
see Forrest v Commissioner of Taxation [2010] FCAFC 6
http://www.austlii.edu.au/au/cases/cth/FCAFC/2010/6.rtf

Oh, ok, sorry about that then it wouldn't be that much of a problem. Mixing business and business results in the same overall tax deductions if you get the portions wrong.

There will be two tax issues (at least):

1) By using redraw you are mixing one loan – business and personal. When you claim interest it must be apportioned, which is relatively straight forward. But if you are making loan repayments you cannot chose to repay the personal debt first. Both must be repaid in proportion to the loan.

eg. $98,000 loan with $2,000 redrawn. = 2% investment, 98% personal
You then repay $1,000 into the loan. 2% of this must come off the investment portion, 98% off the personal.

This is not ideal as you would want to pay down personal before investment, to increase tax deductions.

It also complicates things if you were to redraw again – it will be difficult to measure the interest attributable to each portion. easy the first time, but it will get increasingly hard to work out.

So best to get a separate loan set up (I am assuming your $2k eg is just an eg and you will be borrowing more, otherwise it is probably not worth claiming).

2). The second issue to getting the money out. If you borrow from the loan and park into the savings account then you will lose the connection between borrowing and investing and the interest will probably no longer be deductible, especially if there is other money in the account. This is because you are borrowing to invest in a savings account with a lower interest rate. Once it is in the account it is no longer borrowed funds.

hi Jordan

Interesting story – but if you personally inspected the property do you think you would have picked that up?

Pre-approvals are essentially meaningless.

I remember when I was a broker, it was possible to produce a homeside pre-approval from a serviceability assessment without it even being seen by the lender – don't know if this is still the case.

I would be surprised that a lender is willing to lend you when you yourself are unsure if you can service. Usually the lenders are much more conservative than the borrowers.

It will be pretty hard to get a loan without income these days. It may still be possible with the private type lenders though -rates around 10% +.

If you have redraw, it may not be good from a tax point of view to use without establishing a separate account, but they may be a way to proceed on with your project.

Hi jfx

You don't mention income, this is what serviceability is based on. You will find that if you can keep future LVRs under 80% and stay with the banks, then this will avoid LMI looking at the deal and they generally have tougher criteria than the banks, so this will make it easier. LMI companies also have maximum exposure levels per client (not sure what they are these days) and this will also hurt you – and going to a different bank may not help if they use the same LMI company.

In summary:
– Keep future LVRs to less than 80%
– increase income
– increase rent
– decrease bad debt such as credit card limits, personal loans, car loans etc
– decrease the number of kids you have, and
– make you spouse earn more
– try different lenders via a broker.

And this should help increase serviceability