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  1. #1
    Join Date
    May 2013
    Location
    Auckland
    Posts
    177

    Default Does your LTC owe you funds?

    This is an interesting issue I see quite often with clients. In many cases, clients who own an LTC will have a sizeable shareholder's current account in their LTC. Your "shareholder's current account" is the total sum of funds you have lent into the company over time, less what you have taken out.

    In many cases, this can be in the hundreds of thousands of dollars for some clients as they may have advanced funds into the LTC for deposits on properties and then advanced funds in year after year to top up cash losses the LTC was making (especially back when interest rates were higher).

    Having a shareholder's current account presents excellent tax planning opportunities. This is because the LTC is eligible for tax deductions on interest if it borrows funds to repay some or all of your shareholder's current accounts.

    Take this hypothetical example (which is very, very common with clients, especially those with advisors who are not proactive):

    Mum and Dad have 1 home in their family trust, and one rental in an LTC.

    Home currently has MV of $1m, debt of $200k.

    Rental in LTC has MV of $600k, debt of $400k.

    Both properties are held by the same bank which has cross-security over both properties.

    The LTC owes Mum and Dad $200k for a deposit they paid into the LTC personally, and for personally topping up the cash losses over a number of years (this is quite high given the facts above but is just an example).

    You can instruct the bank to transfer the $200k debt currently in the Family Trust into the LTC. Obviously the bank retains cross security over both properties but on paper you are reducing the debt in the Family Trust by $200k and increasing the debt in the LTC by 200k. In conjunction with this you or your adviser should put together a simple letter to the LTC by you as the shareholders of the LTC, demanding some or all of the funds back, as the case may be.

    At a long term average interest rate of 7.5%, this gives you extra interest deductions per year of $15,000, which equates to an in the hand cash benefit to Mum and Dad of $5,000 at a 33% tax rate, or $100 per week. At current interest rates of 5.5% this equates to annual cash benefit of $3,600 or $70 a week.

    This is very straightforward tax planning and many PT'ers are no doubt already aware of this. However it is amazing how many advisors miss this simple tax planning opportunity. Note that it obviously only is useful if you have private, non deductible debt able to restructure. It can also be useful if you have made a decision to borrow funds for private purposes, say for house renovations. Interest on borrowings to do this would normally not be tax deductible as it is private. However, by calling up your shareholder's current account to fund the private works, you can make the borrowings tax deductible by shifting them into the LTC.

    Note that the IRD has considered the above arrangement to be legitimate in a release put out shortly after the LTC regime was introduced.

    As always though every case depends on the facts and you should seek advice from your professional advisors before entering into any restructuring.
    Last edited by Harvey Specter; 20-07-2013 at 04:25 PM. Reason: added content
    Tax and trust lawyer

  2. #2
    Join Date
    Dec 2011
    Posts
    364

    Default

    Nice posting. Thanks.
    We have a sizeable shareholder's current account, and good to have confirmed the IRD are happy with transferring debt.

  3. #3
    Join Date
    May 2013
    Location
    Auckland
    Posts
    177

    Default

    That's good - if you have private debt then you have potential tax planning opportunities then.

    Just make sure the paperwork is in place
    Tax and trust lawyer

  4. #4

    Default

    Hi Harvey,

    Thanks for your interesting post.

    Just so I am clear, if I:

    - contribute funds to my LTC for it to pay its mortgage payments; and

    - I document those contributions as loans from me to my LTC (presumably interest free repayable on demand?);

    then you think a bank would effectively "lend" to my LTC to pay off the loan for my contributions, by transferring part of my personal mortgage into the LTC (so basically I agree with my LTC that the LTC would pay off the loan I made by taking a part-assignment of my mortgage debt)? The interest on that portion of personal mortgage debt would then become deductible?

    If you could point me in the direction of the IRD example/guidance that would be most helpful.

    Any views on how this would to IRD? Concerned about the cosmetics of this come IR10 time. I see the LTC's debt to the bank increasing by the mortgage payment amount each year, leading to negativity equity...
    Last edited by Highly_Leveraged; 22-07-2013 at 08:18 PM. Reason: IR10

  5. #5
    Join Date
    May 2013
    Location
    Auckland
    Posts
    177

    Default

    Quote Originally Posted by Highly_Leveraged View Post
    Hi Harvey,

    Thanks for your interesting post.

    Just so I am clear, if I:

    - contribute funds to my LTC for it to pay its mortgage payments; and

    - I document those contributions as loans from me to my LTC (presumably interest free repayable on demand?);

    then you think a bank would effectively "lend" to my LTC to pay off the loan for my contributions, by transferring part of my personal mortgage into the LTC (so basically I agree with my LTC that the LTC would pay off the loan I made by taking a part-assignment of my mortgage debt)? The interest on that portion of personal mortgage debt would then become deductible?

    If you could point me in the direction of the IRD example/guidance that would be most helpful.

    Any views on how this would to IRD? Concerned about the cosmetics of this come IR10 time. I see the LTC's debt to the bank increasing by the mortgage payment amount each year, leading to negativity equity...
    Yes, that's correct. Note no documentation is required when putting your personal funds into the LTC, as this will be picked up by your accountant and will show in the LTC's financial statement's at year's end.

    The bank has no issues as they still have the same security but you are just changing who the borrower is on some of the debt. There might be a few re-documentation fees but these shouldn't be substantial (and obviously paid for many times over by the extra tax deductions).

    The IRD publication I refer to is here:

    http://www.ird.govt.nz/technical-tax...companies.html
    Last edited by Harvey Specter; 22-07-2013 at 08:26 PM. Reason: added content
    Tax and trust lawyer

  6. #6
    Join Date
    Dec 2011
    Posts
    364

    Default

    Quote Originally Posted by Harvey Specter View Post

    The bank has no issues as they still have the same security but you are just changing who the borrower is on some of the debt. There might be a few re-documentation fees but these shouldn't be substantial (and obviously paid for many times over by the extra tax deductions).
    Except that the shareholder/owner doesn't charge interest - not sure our bank would be too happy taking on more lending to us

  7. #7

    Default

    Thanks Harvey.

    Still concerned the additional LTC debt would push my LTC into negative equity. Any thoughts on this approach from an IRD/tax avoidance viewpoint when already close to 100% geared?

    Thanks again.

  8. #8
    Join Date
    May 2013
    Location
    Auckland
    Posts
    177

    Default

    Quote Originally Posted by Eugene View Post
    Except that the shareholder/owner doesn't charge interest - not sure our bank would be too happy taking on more lending to us
    Correct, but in this case you will only be restructuring in the above manner to replace non deductible bank debt outside your LTC with deductible bank debt in the LTC.

    I am not saying just borrow extra money to get some kind of tax deduction (obviously increasing your overall borrowing is bad commercially as you pay more interest and only get a third back as a tax deduction). I am saying replace non-deductible bank debt in one place with deductible bank debt in another, if your personal circumstances are such that this is possible. Obviously the above restructuring is only advantageous if you have private non-deductible debt.

    If all your debt is deductible then you are in an optimum tax position and this restructuring will be a) not possible and b) of no further benefit to you.

    Quote Originally Posted by Highly_Leveraged View Post
    Thanks Harvey.

    Still concerned the additional LTC debt would push my LTC into negative equity. Any thoughts on this approach from an IRD/tax avoidance viewpoint when already close to 100% geared?

    Thanks again.
    No issue with this. You are no commercially worse off, as you still have the same amount of debt overall. However you will be ahead on cashflow as you will be receiving more tax deductions, which equals tax refunds.

    Again, the bank should have no issue as you are not increasing your overall debt across your structures. Rather, you are just changing the name on the borrower on some of your debt.

    So for example, say you have a $50,000 shareholder's current account and $50,000 debt held personally which is non-deductible (say the remnants of your personal mortgage). You simply ask the bank to re-document the $50,000 so the LTC is named as the borrower.

    I hope this makes sense.
    Last edited by Harvey Specter; 22-07-2013 at 09:44 PM. Reason: added content
    Tax and trust lawyer

  9. #9
    Join Date
    May 2008
    Posts
    2,257

    Default

    Perfect sense.
    This is one of the benefits of a negatively geared property.

  10. #10
    Join Date
    Dec 2011
    Posts
    364

    Default

    Yeah makes good sense. Thanks.


 

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