Trust Strategies to Increase Borrowing Capacity

Trust Strategies to Increase Borrowing Capacity

Here are a few of examples of how using a discretionary trust can increase borrowing capacity.

Example 1
Trust is set up to own property. Property increases in value. But the director of the trustee has suffered a credit blemish and no lender will lend.

Solution – change directors!
Get legal advice first!

Example 2
Trust is set up to own property. Property increases in value. But the director of the trustee no longer is able service with just his income and the trusts rental income.

Solution – bring the spouse on as a guarantor. You could do this with properties in personal names as well.

Solution 2 – bring a friend on as a guarantor. The friend may need to be a beneficiary of the trust and/or a director of the trustee.

Get legal advice first!

Example 3
Trust is set up to own property. Property increases in value. The director of the trustee suffers a court judgment and no lender will lend to him. If this was a property in his own name he would be stuffed for 5 years but with a trust there is a simple solution:

Solution

Director causes spouse/friend to be appointed director and then resigns. The loan is then refinanced with the new director providing a personal guarantee.
Get legal advice first!

Example 4
A trust is set up to own property and loans are obtained with personal guarantees from person A who is the director of X Pty Ltd the trustee.

After a while person A sets up a new trust with a new company Z Pty Ltd as trustee and himself as director. Person A does not tell the new lender about the personal guarantees he has given to the lender for the first trust. Since the new company, Z Pty Ltd, is a separate legal entity to the first company X Pty Ltd, its debts need not be disclosed.

If the lender asks person A about any personal guarantees he has given he should disclose those guarantees. If the lender does not ask person A need not disclose. Thus the borrowing capacity could be increased by setting up new entities.

This method has been promoted by a certain property author and criticised by various brokers, including myself in the past because the new lender would know about the personal guarantees given by person A as there would be a record on A’s credit file. However as time passes these credit file hits become less of an issue and will disappear from the file after 5 years.
Get legal advice first!

Example 5
For a person with a credit blemish a Fixed Unit Trust could be set up to own property with person A owning the units of the trust and person B being the trustee.Person A would be the one with the blemish and once that disappears person A could become the trustee and the beneficial and legal interests would merge and the trust disolve – probably without CGT and stamp duty if set up correctly.
I did this years ago for a client with a loan involved and the lender did not check the trust deed very well and approved the loan on the basis of the income of person B only.

Example 6
Very similar to the above. Person A acts as trustee for person B. B has the credit blemish in this case and the bank will lend on the basis of A being the legal and beneficial owner of the property.

At a later date title could be transferred without stamp duty and CGT being triggered if set up correctly.

This is a bare trust arrangement.

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But before doing anything described above each person and the trustee should seek legal advice as there are various legal implications involved.

To be balanced, here are some ways a trust can hinder borrowing capacity.

Example 7
The property’s rent is less than the interest on the loan.

Lenders will not be able to use negative gearing addbacks because the trust has no other income and it does not pay tax. This will reduce serviceability slightly.

Example 8
The property has a taxable loss of $10,000 per annum.

This could potentially save the individual $5,000 per year in tax but would result in a $10k carried forward loss for the trust with no immediate tax benefits unless the trust had other income.

This has 2 effects
1. Less cash to pay down non-deductible debt
2. Less cash flow making it slower to build equity.

Trusts are complex legal arrangements so see your lawyer before attempting any of this on your own.