WHAT DO THE BUDGET TAX CHANGES MEAN FOR PROPERTY INVESTORS?

Wednesday, June 23, 2010

Now that the dust has settled on what was one of the most anticipated budget announcements in recent memory, now is time to reflect on the impact of the announced and proposed changes on property investors. In doing so I am going to focus on the specific impact of the tax changes and leave aside for the moment the wider macro effects of the impact of this budget on the economy. Broadly speaking there are five areas where the tax changes will impact on property investors. They are as follows:

The drop in personal marginal tax rates;
The removal of depreciation claims on buildings;
Proposed changes to the LAQC regime;
Raising GST to 15%;
Extra funding for audit activity at the IRD.

For advice on how the changes impact you contact us.

Depreciation vs Tax Cuts

Let’s take an example of a typical property investor that has taxable income from their job of $75,000 per annum and owns two rental properties that are currently worth circa $700,000 but were bought in 2002 and 2006 for $550,000. For the 2011/12 income year if depreciation was still able to be claimed on buildings they would have been expecting to make a circa $6,800 depreciation claim which would have a maximum tax benefit of circa $2,200. At the same time due to the cuts in personal tax rates there is an increase to their after tax income of circa $2,400. Following this, the investor is $200 better off in the 2011/12 year. It is also worth nothing that of course depreciation is usually claimed on a diminishing value basis so the amount that would have been claimed on the building moving forward would be reducing over time. Finally, there is also the fact that in many instances depreciation claims produce a timing benefit only in that it is then recovered on sale.

Following this, we see the removal of depreciation claims as being mitigated by the drop in income tax rates (of course there will be additional private GST costs).

LAQC Regime

The budget announcement also signalled that there will be changes from the 2011/12 year to the LAQC regime. At the moment the proposals are at issues paper stage only which means they are open for public submission until early July 2010. The philosophy behind the proposed changes are to align the tax treatment of qualifying companies and loss attributing qualifying companies with limited partnerships. This means that some of the same aspects that LAQCs have now will be retained in that tax losses will continue to be attributed to shareholders in proportion to their relative shareholding. However, it also means a number of changes to other aspects of the LAQC regime. It will mean that taxable profit is attributed to shareholders rather than taxed at company level and there is also a proposal to limit the amount of tax loss that can be claimed to the shareholders’ exposure in the investment.

If you have an LAQC that may become tax profitable, then contact us for advice.

At this point in time the rules are not finalised but we will be watching this closely and it may well be that many investors who currently have properties in an LAQC will need to consider whether this is the appropriate structure for them moving forward.

If you have an LAQC with property in it, contact us for advice on restructuring prior to the rules changing.

The fact that depreciation on buildings has been removed, which may lead to a decrease in the tax losses (or perhaps even some properties even becoming profitable), along with the proposed changes to the LAQC regime mean that a review of structures is necessary. If the changes continue to proceed as proposed affected investors would be best placed to restructure prior to 1 April 2011.

If you are selling property and want to know about the impact of depreciation recovery then contact us.

Likewise if you are buying property and want to know if the LAQC is still the right structure then contact us.

The rise in the GST Rate & Audit Activity

The rise in the GST rate will not have a discernible effect on residential property investors other than expenses that they currently incur that attract GST will increase without the ability for the GST to be reclaimed. There will be an impact on property traders and commercial property investors however.

If you are a property trader you need advice on transactions occurring around 1 October 2010 when the rate changes. Please contact us for advice.

It is also worth noting that extra funding is going to be provided to the IRD with one of the focuses being the property industry. As a result we encourage property investors to make sure that they are involving professionals in the preparation and filing of their tax returns and making sure that they are getting appropriate tax advice in relation to property transactions.

If you are concerned about tax treatment on past transactions or need advice on current ones, then contact us

Overview

Overall we think the budget was a largely positive one for property investors even in respect to the tax changes. Certainly leading into the budget there was talk of ring fencing of losses, which has not come to fruition and would have had a much more significant impact on the property investment sector. As it is the removal of depreciation claims on buildings from the 2011/12 year will definitely impact on property investors, but perhaps for property investors any impact of this will be matched by gains to the drop in personal tax rates.

Matthew Gilligan
Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz
or call +64 9 522 7955

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Update: Tax Report & Risk-Free Rate of Return

Sunday, January 24, 2010

Dear Reader,

The tax report seems to reveal a concern/realization by the group that any tax change causing a significant drop in values in property, will be politically unacceptable. This was a view that I formed and I generally disregarded this option as too radical when I read and recently commented on the report HERE

But it is the government's actions and decision that counts.

Risk Free Rate OF Return

Rents non assessable, costs non deductible
Pay tax on equity ( not debt)
Tax payable irrespective of market going up or down
Tax payable despite asset not being sold - you have to find the tax out of cash flow
Leveraged investors relying on tax refunds to survive / get to break even cash flow, will go broke.
Westpac's estimation that house prices will drop 34% if this option comes in, is in line with Sweden’s experience where they ring fenced tax losses and house prices fell 35% and mass insolvency enveloped the nation. The policy was reversed and the government thrown out at the next election. Sorry I don't know the year this happened. I am told that similar experiences have happened in Aussie with state taxes trailed targeting property.

Example Application Of RFRR Tax and Outcome

Here's an example scenario for little Joe Bloggs...

He has a rental property and earns $65k, has 2 kids and a spouse who works part time earning $15k. All household income is required to survive. The rental property is negative cashflow before tax refund $7,000, break-even cashflow post tax refund. The market value of the property is $400k, and the debt $350k. Currently Joe and his family get by - paying their living costs and mortgage payments (just). The market equilibrium assumes the tax refund and hundreds of thousands of Joe Bloggs' are doing this.

Enter this tax. Now Joe does not get a tax refund. He has to pay tax on 6% of $400k(mv)-$350k(debt)=$50k which is $3k times 33%, $1k tax. So previously he was getting $7k tax refund, now he pays $1k, he is $8k worse off.

The outcome is he has to sell in a market that is flooded with other Joes. He goes broke and is mortgagee sold. He stops spending and kicks off another recession with the thousands of other Joe Bloggs in the same predicament. They all vote labour for the rest of their lives and everyone blames National for the massive blunder. The next government throws out the unpopular tax, and the market reverts to where it was before...WHICH IS EXACTLY WHAT HAPPENED IN SWEDEN WHEN THEY RING FENCED LOSSES.

Banking would also be destabilised and credit would stall again.

So this tax would cause huge loss in property values, hardship, destabilize banking, reduce consumption (credit will tighten and consumption drop), and kick off another recession....

I ignored it in my overview above as a clever idea that does not work in the real world. A cynic would observe that it makes the other options seem more palatable.

Also RFRR requires a lot of work for IRD, is subject to abuse (through manipulating valuations) and will stimulate heavy leveraging.

Example Of Potential Abuse Of the Tax

Example 1

1. Little Jonny owns a rental worth $300k with debt of $250k.

2. He pays RFRR tax on $300k-$250K=$50k times 6%*33%, $1k tax.

3. Little Jonny's friend has a similar house, similar suburb.

4. They sell each other their respective houses at $250k each, now 100% financed.

5. They achieve 100% financing by cross securing their respective investments to their homes, so they can borrow 100%. Valuers will now tend to view the market value of the houses as $250k, - cost.

5. Now Little Jonny has zero tax to pay, under RFRR, $250k(MV)-$250K(debt)=$0 equity times 6%*33%=$0 tax - ie no tax.

Is this tax avoidance? Probably, but the point is, the tax is open to abuse.

Example 2

1. Little Jonny owns a rental worth $300k with debt of $250k.

2. He pays RFRR tax on $300k-$250K=$50k times 6%*33%, $1k tax.

3. Little Jonny's friend has a similar house, similar suburb.

4. They sell each other their respective houses at $350k each, and loan each other $50k - now they are 100% financed and pay no equity tax.

There are a hundred permutations of ways to do this via Trusts etc. Is this tax avoidance? Probably - but the point is again, that the tax is open to abuse.

I give Key and the Nats more credit than to bring in something this radical, this dangerous. They are pro-business and clever people - no question about that.

They understand that undermining consumption by destabilising banking, kicking off another recession and causing mass insolvency, is political suicide and not in the public interest. There is a better way in the other options of getting there (to a level playing field and weaning Kiwis off property investment – if that is what the Government wants), and the change needs to be more gradual.

Summary

Gilligan Rowe & Associates are 100% opposed to Risk Free Rate OF Return. We see it as a clever idea that does not work in New Zealand at this time. We don't believe the government will bring it in - we give them credit for being rational.

Someone might like to email this to Mr English or Mr Key if they agree with our thoughts, or create their own version. My advice is to please be respectful and constructive in what you send them.

Use the following email addresses:

bill.english@national.org.nz

john.key@national.org.nz

Matthew Gilligan
Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz
or call +64 9 522 7955

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NZ Tax Reform Report: Our Response

Thursday, January 21, 2010

The Tax Working Group report was publicly released at a press conference yesterday, 20 January 2010. Please read our summary including our response of interest to property investors.

The full report can be read in full HERE.

The highlights of the report seem to be:

The Lowering personal tax & in favour of alignment of rat
An increase in gst
More support for land tax, than CGT or risk free rate of return
The denial of depreciation deductions on buildings - if empirical evidence shows they don't drop in value.
Empirical evidence will show denial of deduction will affect values, and therefore whether this should or will be done is questionable. As well as that, it is problematic to draw the line between residential and commercial assets, etc.

Ring Fencing of Losses

At a glance, there has not been much attention paid (if any) attention to the ring-fencing of losses, thank goodness. Our opinion is that the tone of report is not very prescriptive. It is full of pros and cons, if’s and but’s.

The potential of ring-fencing losses was our concern. That would have truly killed property values and affected the average investor as the Westpac commentary highlighted.

Wholesale denial of depreciation deductions for all property investors (or just residential) will affect liquidity of investors and cause mortgagee sales and huge hardship in the investing community.

It’s also not fair because people invest based on an assumed return ( that includes the depreciation tax rebate) and when this is taken away, the government are taking wealth away from the average investor.

After all, the value of the property is a function of the cash flow, and when you reduce the cash flow by denying the depreciation reduction, you reduce in turn the value of the investment.

Targeting of Existing Property Investors

Targeting existing property investors in this way (taking their wealth) is not fair, neither is it in the public interest in the writer’s view. I hope the government works this out and decides not to change the depreciation regime. Trailing it and hurting average mum and dad investors that make up the bulk of the investment base in residential property. These are ordinary (voting) public trying to get ahead.

Perhaps the government should consider the political popularity as it will certainly impact voting. This will not be an election winner for them; hundreds of thousands of investors will be affected.

Also consider the banks position. Many investors are geared (borrow) 80% of the property value. If property prices drop 10-20%, banks will be in breach of their banking covenants and be obliged to call up loans and mortgagee sell investors. This will destabilise the banking industry, - totally unacceptable one would think.

Consumer Spending

Reduced house prices and reduced disposable income from investors will also dampen consumption. Not good at time when the government is trying to re-activate consumption.

However, if the depreciation regime is grand-fathered (affecting new investors, leaving existing investors as they are with current rates until they sell existing property), the impact would be less of an issue.

This addresses the 'level the playing field' argument between property and shares (an argument I don’t agree with, that is driven by people with vested interests in shares like Brash (a shareholder in Huljich Wealth Management) and Weldon ( NZSE CEO).

These people have huge upside in attacking property, and personally I do not believe this issue has been addressed by the media.

Summary

In summary my primary concern surrounds the depreciation rate changes: if the rates are to be changed, or to be set to zero, grand-fathering the old rates would be the middle ground and more sensible in my view, to protect existing investors, the banks and the economy in general.

Would you like assistance with a review or understanding how your affairs may be impacted by any possible changes in legislation? If so, please contact us for an interview. We can work NZ-wide and globally by phone, email or Skype.

Matthew Gilligan
Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz
or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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Are You A DINK?: Case Study

Thursday, November 12, 2009

If you are a DINK household (double income no kids) then the ideas in this article could help you grow your wealth and protect your future.

The Smiths

Mr and Mrs Smith are a professional couple. Mr Smith is a doctor and Mrs Smith a lawyer. The Smiths are your classic DINK pair. Between them they earn circa $250,000 taxable income per annum. They own their home which has a market value of $750,000 in joint names and debt in relation to this is $200,000. The Smiths are now looking at property as a way of investing in their future and growing their current equity. Two issues emerge out of this. First, what sort of property should the Smiths be looking to buy and second how would they structure it.

What Property to Buy?

Based on the Smiths’ income earning potential and assuming that they have many years of this income earning potential to come, they could choose to focus on properties that have high capital growth and moderate to high yield. As an example they might find a $500,000 property that rents for $625 per week.

This represents a 6.5% gross yield. A 6.5% gross yield is a moderate yield only, but the property has high capital growth potential. Based on a short-term interest rate of 6%, the gross rent will cover interest but after other expenses are taken into account such as rates, insurance etc the property runs at a $5,000 cash loss.

This means the property costs $100 a week to fund. However, we haven’t taken into account depreciation or tax refunds yet. If we work on the basis that there would be depreciation deductions available in respect of this property of circa $9,000 per annum, there would be a total tax loss of $14,000. As the Smiths paid a lot of tax in the 38% tax bracket, they will get 38% of this $14,000 tax loss back leading to a tax refund of $5,300.

What the above has illustrated is that the Smiths have been able to secure a high capital growth potential property at no ongoing cost to them as the cash loss is covered by their tax refunds once depreciation deductions are taken into account.

How to Structure

In terms of the structure, the Smiths would establish an LAQC to own the property. Assuming they earn relatively comparable incomes and expect that situation to continue in the future, they will each own 50% of the shares in the LAQC. In order to enhance their asset protection they would establish a Family Trust and move their home into the Family Trust. To help minimise exposure of their home to bank debt they would seek to utilise two banks when borrowing to buy the property. That is, they would secure $100,000 of new debt against the home, which would then provide a deposit so that a second bank would provide the other $400,000 required secured against the new rental property.

In summary, the Smiths with their high disposable income are able to get ahead by buying a property with good capital growth prospects and enough of a gross yield so that it is cashflow neutral.

In other words, they buy capital gain in the property for free.

Let GRA help you with your property investment and structures. Go ahead and request a free interview now.

Matthew Gilligan

Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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Rental Losses and Family Assistance

Thursday, October 29, 2009

A common question that I get asked is – what impact do rental losses have on my entitlements to Family Assistance? Before I answer that lets just go back a step and talk about Family Assistance...

First, the technical name is now Working for Family Tax Credits (WFTC). They are entitlements that families with children may qualify for depending on the number of children you have, the household income and the hours each week you work. As a rough guide a family with three children can qualify for payments under this scheme with household earning of up to $105,000.

As your entitlement to WFTC is dependent on your level of income the question then is – can you take into account rental losses in calculating your income for WFTC purposes?

The answer to this is not as straight forward as you might think. If the rentals are owned in an LAQC then the answer is no, the losses are not taken into account. This means even though your attributed loss from the LAQC will reduce your taxable income and the income tax that you pay thereon, it will be disregarded when assessing your income and eligibility for WFTC purposes.

Now whilst that may or may not surprise you I am sure that this will. If you own a rental property personally the losses are taken into account for WFTC purposes. This means if you have a loss-making rental property owned in personal names you will qualify for more WFTC support than you would if you owned the same rental via an LAQC.

Now to further confuse things, if you have a business and the business produces a tax loss, that loss is also ignored for tax purposes. What this means is that if the IRD regard the rental activity that you conduct personally as a business then the losses are ignored, just as the LAQC losses are.

This begs the question as to what qualifies as a business. It seems clear to us that one rental property does not qualify as a business and therefore you are safe to assume that the losses from one rental property can be offset against your income for WFTC purposes. If you own two or more rental properties personally then it may be that the investment activity constitutes a business and the losses are ignored. Each case needs to be treated on its own merits.

As we have been pondering this here we have been trying to work out the policy rationale behind the rules. It can not be that the government did not want depreciation deductions in respect of rental properties influencing WFTC payments as if that were the case the law should not allow a single rental property owned personally to be taken into account for those purposes. It seems on the face of it to suggest a policy whereby investment and business activities are discouraged. However, even this does not explain why tax losses from an LAQC and businesses are excluded and rental losses from a single rental property are not is puzzling.

It is also worth noting that the exclusion of the LAQC losses for WFTC purposes contrasts with assessments in relation to child support, which do include LAQC losses. Obviously the policy issues are somewhat different, but the contrasting treatment is worth noting.

Given the law is what it is, this begs the question as to whether you are better off owning rental properties personally or in an LAQC. If you do qualify for Family Assistance there may well be benefit in owning the property personally but you need to weigh up the impact that this will have in terms of additional WFTC support versus potential downside of owning personally as opposed to an LAQC in terms of loss of ability to stream the tax losses through the higher income earner, ability to pay shareholder salaries and potentially the ability to structure debt in an advantageous manner.

It may well be that the flexibilities and rewards of LAQC ownership outweigh the marginal increases in WFTC but again each case should be judged on its own merits.

If you have any queries or concerns regarding to the interrelationship between WFTC and rental losses please contact us at GRA.

Matthew Gilligan
Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

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New Tainting Rules By Matthew Gilligan

Thursday, October 15, 2009

The long awaited new associated persons rules have finally passed into law. On 6 October 2009 the legislation received Royal Assent. The new rules apply to land acquired on or after 6 October and in certain instances to improvements made to buildings after that date. More on that later, but to begin let’s briefly revisit what these rules are about.

In the context of land transactions, up until now, it has been possible to arrange your affairs so that if you wanted to carry out property dealing / development or building activity you could separate this from your investment properties and prevent the former from tainting the latter. The IRD have long seen this as a weakness in the legislation and a loophole and for the last couple of years have been pushing for reforms to be enacted. The end result is that there is a new series of associated persons tests that are extremely comprehensive.

They include new tests that associate two Trusts, new wider tests to associate two companies and companies to shareholders and a tripartite test whereby two parties can be deemed to be associated, even though not directly associated to each other, but where they have a common party to which they are both associated. Where a property is tainted, a gain that otherwise would not be subject to income tax, is subject to income tax if sale occurs within 10 years of acquisition (or in some instances within 10 years of completion of improvements).

The new association rules are so comprehensive that if you are engaged in the business of property dealing or development and you wish to acquire an investment property post 6 October 2009 it is highly likely that the property will be tainted. In fact the rules are designed to be so comprehensive that it is likely that the IRD would view any attempt to structure around them as tax avoidance. That being the case, if you currently run property dealing and development activity via a Trading Trust for example, it might be tempting to wind up the Trust and trade via a different structure, but in our view this might be “throwing the baby out with the bath water”. That is, while a Trading Trust might not necessarily prevent association anymore, it does not follow that it is automatically the wrong structure. There are other beneficial aspects of using Trading Trusts such as flexibility in distributing income and good asset protection.

Another aspect of tainting that taxpayers need to bear in mind is that the association to the property dealer or developer has to exist on the day that the investment property (that you do not wish to be tainted) is acquired. Taxpayers who cease their property dealing and development activity no longer have a tainting issue and can then acquire rental property free of tainting risk. This means if you have entities that have been involved in these types of business in the past, you should consider winding them up to cease any tainting risk.

We also note that you have to be engaged in a business of property dealing and development. There may be instances where somebody has conducted one or two property trade transactions but is not necessarily engaged in a business such that they would have a tainting risk.

Finally, you should also recognise that even under the new comprehensive association rules, the 10 year test still applies. This means in a worst case scenario where a property is acquired and tainted as a result of association to a property dealer or developer you can still break the tax impact of tainting by holding the property for 10 years. As a technical point you should note that if you are in the business of erecting buildings then tainting only applies if you make improvements to the rental property, but then applies to sale within 10 years of completing the improvements.

The moral of the story is if you are acquiring property or just concerned about the impact of these new rules on you, you should seek advice. Please contact the writer at mg@gra.co.nz or 09 522 7955 to discuss.

Matthew Gilligan
Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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Capital Gains Tax on its Way?

Tuesday, October 13, 2009

Dear Reader,

A Victoria University Tax Working Group is currently considering the future direction of the New Zealand tax system. The Group is made up of various governmental, academic and industry professionals and is expected to produce a report which will be influential on the government’s future direction in terms of tax policy later this year.

At its most recent meeting the Tax Working Group considered how the tax take might be increased and in particular looked at three options being:

Capital gains tax;
Land tax;
A risk free return method of taxation applying to investment properties.

In short the Tax Working Group confirmed that a broadening of the tax base is critical in the long term to accommodate the government’s stated direction in terms of lowering personal (and Trust) tax rates. In doing so a sustainable, long term tax base is required and to this end it seems that property is an obvious target.

Capital Gains Tax

In terms of a capital gains tax the Group fielded submissions on a new capital gains tax applying to gains in relation to property. At this discussion stage various permutations of the rule were floated, including whether the tax should apply only on sale or perhaps on an accrual basis (ie based on unrealised gains) and also whether there should be exclusions, such as for private residences.

Treasury submissions noted that a capital gains tax such as this could nearly offset the cost of dropping the personal and trust tax rates to match the company rate of 30%. They also argued that a capital gains tax would improve efficiency of the tax system by more comprehensively taxing economic income.

Interestingly, submissions by the IRD argued that the advantages of capital gains tax would not outweigh its disadvantages. Principally the IRD were concerned about the difficulty of applying a capital gains tax regime that would provide exemptions for private residences. Comments from the Tax Working Group suggested that they were not overly enthusiastic about this as an option and wanted to explore other options.

Notwithstanding this they have asked for further work on the economic efficiency of taxing capital gains.

Land Tax

Next the Group looked at land at a so-called land tax, The rationale here is that land (most probably excluding improvements) is subject to an annual tax perhaps, say, 0.1% of the value. It perhaps might be fair to say that there were some perceived advantages of this measure as compared to capital gains tax in that it is likely to be easier to implement and administer.

Having said that, there was concern that the impact that such a tax might have on the value of land and this area was noted for further research.

Risk Free Rate of Return

Finally, the Group looked at a risk free return method of tax on rental properties. The Group commented that there is a “glaring hole” in the current tax system in relation to the rental property sector and a tax measure such as this was seen as a potential solution to this problem. Under the risk free return method, a risk free rate of return would be applied to the net equity in the property and included in taxable income.

Rent from land and other expenses relating to the investment would not be taxed nor deductible. For example, if you had a $400,000 rental property and $300,000 debt you would pay tax based on the risk free rate of return on the $100,000 equity. This would be irrespective of your cash profit or loss position.

The Group was concerned that such a tax might lead to rents being increased which would have a negative impact on lower income earners and they are also concerned about taxation arising when there was not cash income to match it. It was also noted that any tax that focused solely on rental properties might disproportionately divert investment into owner-occupied housing.

Other tax measures that got a mention included:

Estate or inheritance taxes were mentioned but ruled out;
Ring fencing of rental losses was also raised but it was noted that previous ring fencing regimes have not been successful;
Depreciation rules in relation to buildings were also queried. To this end there was discussion about whether depreciation should be disallowed in terms of residential property.

Conclusion

In summary, it seems likely that the Tax Working Group will make suggestions to government that have an impact on property investors. We see it as perhaps unlikely that a capital gains tax will be implemented. The potential land tax or risk free rate of return methods are potential alternatives. We would not be surprised to see the depreciation rules come under heavy focus but whether this will raise enough additional revenue is questionable.

Until next time,

Matthew Gilligan
Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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THE TAXATION OF LAND TRANSACTIONS: WARNING!

Wednesday, August 12, 2009

Warning To Solicitors, Accountants and Trustees/Trust Advisors...

BEWARE THE APPOINTOR IN NEW ASSOCIATED PERSONS RULES

(11 August 2009)

While the Finance and Expenditure Select Committee managed to weed out much of the over-reach of the new associated persons definition there still appears to be a glaring problem in relation to the Trust to Appointor test in section YB 11.

In the Official’s Report to the Finance and Expenditure Committee on submissions on the bill, the Committee was made aware of the potential for s YB 11, when coupled with the tripartite test, to lead to otherwise unrelated Trusts being associated when professional advisors are nominated as Appointors. This valid concern was raised by Tomlinson Paull and whilst accepted by the Committee, not enough has been done to prevent the undesirable outcome of otherwise unrelated entities from being associated to each other.

As background, this is about association rules between dealers in land, developers or builders and other entities in the business of buying and holding property that are ‘related’ by the associated persons rules. The concern is that if associated, an entity buying property to hold will be taxable on capital gains on properties sold within ten years of acquisition, if at time of acquisition the buy to hold entity was associated to a dealer, developer or builder.

The rules are changing and are much wider than they were, introducing the prospect of:-

Tainting professionals ( and their private assets) if they act as appointors or hold an equivalent power; and
Tainting other client’s assets inadvertently through such association. This raises the potential for negligence, and the prospect of uncertainty in enforcement.

Tainting Detail

Section YB 11 in the new Taxation Remedial bill associates Trustees of a Trust with the person or people who hold the power to appoint and remove Trustees. In short, a Trust is associated with its Appointors. The tripartite test at s YB 14 associates two parties where there is a common associate of both provided that the common associate is not associated to the two parties under the same rule.

For this reason, if a professional holds the Power of Appointorship in respect of a Trust (being Trust “A”) and then holds the Power of Appointorship in a second Trust (Trust “B”), there will not be association between the two Trusts under the tripartite provision as the common associate (being the advisor) is associated to both Trust A and B under the same test.

The Select Committee held this limitation out as being the reason why there would not be unintended Trust to Trust association. Whilst it is true this will prevent an advisor who holds this power in respect of multiple Trusts from creating inadvertent association between the Trusts, the door is still left wide open for there to be association on a far wider scale than surely could have been intended.

To explain further, consider the situation where an advisor accepts a role as Appointor in relation to a Trust that is going to buy an investment property. The Appointor is related to the Trust under s YB 11. The same Appointor might also own shares in a development company, perhaps be Settlor of a second Trust (otherwise unrelated to the first) that is involved in property development or might even be deemed to hold shares in a company involved in development under s YB 3.

What this demonstrates is that there is a raft of other provisions that might associate otherwise unrelated Trusts or companies to the Appointor then leading to association between these other entities and the first Trust under s YB 14. This is obviously not a problem that is fixed by the exclusion of not being able to apply the same rule twice in s YB 14.

Negligence Prospect

Of course reading this you might say that the advisor in that instance would be negligent in accepting the role of Appointor given that they should be aware that they are associated to a development company, and you may be right. What taxes could arise from this on other client’s assets as a result of this oversight?

Thirty percent of capital gains in the next ten years, on assets acquired during the period of association would be an approximation of the answer. However, there might be situations that arise where the advisor has less control over the matter.

Whilst uncommon it is not completely unheard of for an advisor to be a “back up” Appointor in respect of a Trust when the original Appointors die. Or what if a client decides to start trading / developing / building property in their Trust that you are appointor in and does not tell you ? Or what if IRD deem such activity to have existed ?

Summary

It seems clear to us that this is a flaw in the associated persons provisions that was quite rightly raised before the Select Committee but their proposed solution does not work.

The moral of the story clearly is to be careful whom you nominate as an Appointor in respect of your Trusts both now and in the future. It can lead to unwanted consequences.

A brief background on the new associated persons rule changes (if you are interested) is here.

Remember these blog articles address the general public and are therefore simplified in the blog for the intended reader.

If you would like help with understanding how this affects you, or have a question, we are here to help. You can Request a Free Interview or use our Ask the Experts service.

Until next time,

Matthew Gilligan
Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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Is it A Good Time To Buy Investment Property?.. PLUS Associated Persons Update

Thursday, July 30, 2009

Many clients have been asking me if I think this is a better time to be investing in NZ. I think the answer is yes, but you need to be careful.

The Good news:

Immigration is on the rise - annualising at close to 20,000 people, nearly double our 10 year average (which is closer to 11,000 average annual 'net' migration inflows into NZ). This means real demand for housing in NZ is picking up all around us as we speak. Great for rents, great for mopping up surplus housing stock and land.
Building consent applications are at at rock bottom, - meaning supply of housing stock is slowing.
There are bargains around - lots of distressed vendors and mortgagee sales.
Short term interest rates are low, albeit the long term rates are up. Rents never get closer to covering interest and outgoings than they do at present.
NZ is weathering the global recession 'better than most countries', with many feeling better than they did 6 months ago and a bit of business confidence returning. Perhaps one of the reasons is because one of our largest trading partners, Aussie, is doing so well. Perhaps another reason is our banking system is less sophisticated, so we have less subprime/derivative exposure fallout and corresponding stability in banking. Or perhaps its America printing cash, flooding liquidity into the global banking system. And perhaps, its the influence of the government underwriting interbank lending and deposits, which has kick started things. A lot has been done in the last 9 months globally, and business is recovering.

The Bad News:

The government have last week announced immigration policy is to be tightened, slightly. ( Boo.)
Everyone is asking how America and Europe can print all of this money, and not cause an inflation bomb in the next couple of years ? I am certainly concerned about that.
Exporters are not getting a traditional 'recessionary' low exchange rate, which should prevail and produce much needed exporter relief. Why is our exchange rate staying so high at USD $63-65c, killing our exporters margins ? Because NZ is doing better than our trading partners - this is a global recession. The upshot is employment and recovery prospects are muted.
We must seriously ask ourselves, is America delaying the inevitable paying interest and debts with printed money ? Or will they 'inflate their way through debt', with super high inflation undermining the value of debt over time ? Is this their strategy, - inflate asset values and erode the value of debt ? I don't know the answer, but it is an interesting question.
Of course with high inflation will come high interest rates. Lock up your interest rates long at the first sign of inflation emerging globally.

Economists Comments Intrigue Me

What intrigues me is the economists view of things in the middle of quagmire. Statements like, " housing is down 12% and we think it has a bit further to go, perhaps another 5%" said one prominent bank economist 5 months ago. So his conclusion was don't buy, - where I formed exactly the opposite conclusion from the same information. I felt a falling market full of fear = great time to buy.

Economists assume you are going to achieve the average. So if the market is down 12%, you will buy at 12% off the 2007 peak, and lose 5%....right ? Well I guess that's right if you go about things in an average orderly way.

Buy At A Discount - Cliche But True

My clients know this is bargain season, - soon to be followed by recovery season ( whether it's a year, or 6 years, who cares. We are long term investors, right ?) So we know that if things are down 12%, we would be buying 10-20% below that...which means about 20-30% off the 2007 price. So then we are well below both the historic peak price of 2007, and well below current market value. Which makes us safe, if things go down that extra 5%.

Cashflow Is Always Key

If we buy properties with good cashflow ( there are plenty around at present that at the very least are positive cashflow post tax (refund), and some even positive cashflow pre-tax (refund)), - then the recovery period is free capital growth. You do not have to fund the property, - so the recovery to former peak value ( however long it takes ) is free growth. Then in the next boom, - we get real growth again beyond the former peak.

Be Careful Though

The auction houses are full of new home buyers and investors drunk on low interest rates and recently relaxed lending criteria....you need to buy at large discounts, or you will not get growth for a very long time. That means you need to investigate the peak value in 2007, then take 30% off. That may mean that 99% of the deals don't work. But when you finally get one, - well its worth the effort.

GRA clients are bringing in great deals all the time at present...so get back in the market and start bargain hunting.

My advice is get off the beaten track and stay out of the overly populated auction houses. Look for things that are outside the square, like leaky houses for renovation, properties to land bank ( if you have the cashflow to support there are some great buys), coastal property, and distressed development property. Knock on the door of finance companies and developers....they like dealing direct with no agent.

Associated Persons: Update!

The much talked about new Association Rules are back before Parliament and unfortunately for those in the business of dealing in or developing property or erecting buildings, the Bill has not been substantially changed. The new expanded definition of association has largely survived the Select Committee process and the new rules are likely to come into force in August, potentially from early August.

We are currently working through the rules so if you are looking to buy a rental property in August please contact us for advice if you are concerned about potential tainting.

Holes In The Legislation Revealing Opportunity To Break Tainting

Contrary to previous media releases we have made about the new associated persons rules, we have found the latest rules released (which are expected to be implemented) do provide some opportunity to crack tainting. Talk to us if you are interested in how to break the new associated persons rules. There are some limited situations where this might be possible.

Important Note for Builders

If you are in the business of erecting buildings this is the one activity that could lead to tainting of existing properties. To explain, if you are a dealer or developer only (ie. not involved in the business of erecting buildings) any rental property that you own now and that was not tainted under the existing rules will not be affected by the new rules. Further purchases could be, but your existing rentals will not be.

On the other hand, if you are in the business of erecting buildings, existing rental properties that you have could be tainted if you carry out improvements on those properties. If you are in the business of erecting buildings and are looking at making improvements to a rental property then contact us immediately as you need to know the implications of this.

Changing Use on Existing Stock

The other major impact that the change in Association Rules has is for those of you who have property bought for dealing and development purposes where you are considering a change of use. If you have a property bought for dealing and development purposes and you are considering holding it (ie. making a complete change of use in respect of that property) you need to contact us urgently and consider restructuring the ownership of that property in the next two weeks before the new rules come into play.

Summary

In summary, the new Association Rules are coming in and as feared they are wide reaching and going to make it very difficult for those engaged in a business of dealing in or developing property or erecting buildings to prevent future rentals from being tainted. More immediately than that though, if you have property owned by your dealing and development entity that you now wish to hold long term you may need to take action within the next two weeks to restructure the ownership of that property before the rules change. If you are in the business of erecting buildings you also have to be extra careful if making improvements to existing rental properties.

If you want tax advice in relation to these issues please request an interview, contact the writer Matthew Gilligan (mg@gra.co.nz) or Anthony Lipscombe (anthonyl@gra.co.nz) or call 09 522 7955.

Thank you,

Matthew Gilligan
Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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Supreme Court Awards Spouse 40 percent Of Inherited Property

Wednesday, July 22, 2009

In case you missed it over the weekend, the NZ Herald article on a woman being awarded a share of her husband's 'inherited property' that pre-existed the relationship rewrote some relationship property rules.

What Happened?

The supreme court held that a woman whom helped maintain an inherited farm property (that pre-existed the marriage) was entitled to 40% of the growth on the property that occurred during the relationship.

Why?

Because she contributed to the maintenance of the house by performing domestic chores and by earning income.

Why is this a change ?

It was generally accepted before this case that inherited property that pre-existed a marriage is separate relationship property and not subject to 50/50 split on divorce.

Comment;

Personally I think the case is fair, - she did contribute to the relationship so why should it not be shared property, given she contributed to the properties upkeep? The plaintiff's counsel noted the farm would have likely been forced to be sold, but for her income being used to support bank payments.

If you wish to avoid this happening, - put your property in a Trust and ask your spouse to sign a relationship property agreement. The latter ( relationship property agreement or S21 agreement) makes it very clear that the property is not intended to be joint relationship property. Such agreement is much easier than an expensive fight later on, and perhaps easier to put in place earlier than later.

The Trust is a great thing to do before the relationship commences, but is weakened as a defence to a claim if setup during the marriage and the property is transferred during the relationship. If you wish to do this during the marriage, the S21 agreement is essential to stop spouses 'tracing' their potential relationship property interest into the Trust.

Thank you,

Matthew Gilligan
Director

Learn More about Matthew
Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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Associated Persons: Update

Friday, July 17, 2009

The much talked about new Association Rules are back before Parliament and unfortunately for those in the business of dealing in or developing property or erecting buildings, the Bill has not been substantially changed.

The new expanded definition of association has largely survived the Select Committee process and the new rules are likely to come into force in August, potentially from early August.

We are currently working through the rules so if you are looking to buy a rental property in August please contact us for advice if you are concerned about potential tainting.

Important Note for Builders

If you are in the business of erecting buildings this is the one activity that could lead to tainting of existing properties. To explain, if you are a dealer or developer only (ie. not involved in the business of erecting buildings) any rental property that you own now and that was not tainted under the existing rules will not be affected by the new rules. Further purchases could be, but your existing rentals will not be.

On the other hand, if you are in the business of erecting buildings, existing rental properties that you have could be tainted if you carry out improvements on those properties. If you are in the business of erecting buildings and are looking at making improvements to a rental property then contact us immediately as you need to know the implications of this.

Changing Use on Existing Stock

The other major impact that the change in Association Rules has is for those of you who have property bought for dealing and development purposes where you are considering a change of use. If you have a property bought for dealing and development purposes and you are considering holding it (ie. making a complete change of use in respect of that property) you need to contact us urgently. You should consider restructuring the ownership of that property in the next two weeks before the new rules come into play.

Summary

In summary, the new Association Rules are coming in and as feared they are wide reaching and going to make it very difficult for those engaged in a business of dealing in or developing property or erecting buildings to prevent future rentals from being tainted.

More immediately than that though, if you have property owned by your dealing and development entity that you now wish to hold long term you may need to take action within the next two weeks to restructure the ownership of that property before the rules change. If you are in the business of erecting buildings you also have to be extra careful if making improvements to existing rental properties.

If you want tax advice in relation to these issues please contact Anthony at GRA on 09 522 7955 or at anthonyl@gra.co.nz.

Thank you.

Matthew Gilligan

Director

Learn More about Matthew

Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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Dangers of Bargain Mortgagee Deals

Tuesday, June 23, 2009

A recent article by the NBR concerning the wilful trashing of the former family home of bankrupt Merlot Homes director Stuart Herron, which recently sold at mortgagee auction, raises some interesting issues.

To summarise the story, in the four weeks between the auction hammer falling and the moving-in date by the new owners, the house was torn to shreds.

It seems the loss was not only limited to the removal of chattels (shower heads, carpets and stove hob for example), but also malicious and wilful damage including the poisoning of trees and other damage.

Who caused the damage? Who knows, it seems there could be a number of culprits from creditors to the Herron’s themselves – but that’s speculation - despite calls for the Police to get involved.

The new owners are now faced with the expense (both financial and emotional) of fixing the property.

Get Real & ‘Caveat Emptor’

So what does this mean for house-hunters looking for a bargain?

Each week there are pages of mortgagee auctions in the major newspapers and it's naïve to imagine that the former owners are going to walk away ‘quietly’. It’s well-know in the real estate industry and there stories around of how disgruntled debtors have done damage ranging from leaving rubbish to trashing the place.

And as a bargain-hunter looking to buy one of these properties, you too need to get real and be aware that it just might happen to you. It’s a risk that exists which is why you must build in a factor because you know that there’s a potential for this.

Remember, buying a house at mortgagee sale is like buying a car ‘as is – where is’. The normal rules don’t apply. All the usual warranties are taken out of the normal Sale & Purchase contract, so the vendor (the mortgagee) doesn't warrant that the place will have any chattels in it, or even be in a good state or even vacant when you settle.

The reason properties sell at mortgagee sales for typically 30% less than their open market value is that you are NOT buying the chattels and fixtures.

So as the purchaser, you buy knowing all of this in advance and take your chances in fact when you buy a house at mortgagee sale.

In the absence of any contract with the owners and with the Bank documents SPECIFICALLY EXCLUDING CHATTELS AND FIXTURES, any purchaser must be sure of what they are buying.

It is accepted law that chattels are furniture, drapes, dishwasher, microwave and any non hard wired appliances. Fixtures are chattels that have been attached to the property. For example this would include the kitchen the bathroom fittings all light fittings, TV aerials and any hard wired appliances.

At a stretch it could even be argued that doors, handrails and anything in the garden is a fixture. The Vendor clearly states that it is not passing title to any of these items.

The purchaser has contracted to buy the property with none of those items included in the purchase price. This is the legal reality.

Minimising the Risk

Arranging to settle with vacant possession on or as close to the auction day as possible will help to minimise risk as well as factoring the risk potential damage into the price you are prepared to pay.

Matthew Gilligan
Director

Learn More about Matthew

Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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Managing Liabilities: Risk & Your Spouse In Business

Sunday, May 17, 2009

As a structuring advisor to investors and business people, one very common mistake with many business and property structures is a spouse being offered as a guarantor to the banks, landlords or creditors of a business.

Their personal guarantee is often not required to get a deal done, yet it is provided because the advisors around you do not stand up for you and say 'hey, don't let your spouse sign that - you don't need too'. The result is that if total business or investment failure occurs, both spouses are fully liable instead of just one.

Of course the creditor, banker or landlord requesting your spouses guarantee will insist it is necessary 100%, because it is in their interest.

But it is contrary to your interests.

My advice is NEVER give your spouses guarantee in business or property dealings if you can avoid it. I have developed over 80 million dollars in property, and guaranteed numerous business and banking obligations, purchased multiple investment properties, - and my wife has never signed a personal guarantee on the loans.

Why ? To shelter her from the obligations.

How did I avoid her being liable? By saying no to the banks and creditors when they asked. Did it hamstring her legal or matrimonial rights to recover the property if we divorced? No, - she still gets the assets because she jointly controls the Trusts and various entities borrowing. So this is not about stripping power off your spouse and potentially wealth, it is purely about minimising risk to your household.

Examples of this include:-

Borrowing money from the bank to purchase an investment property or even your home. If one spouse is a homemaker, has no income or their income is not required to meet debt servicing criteria of the bank, - then why allow the bank to take their guarantee? The only use of the guarantee will be to apply more pressure to your family if you have a problem, and both spouses go bankrupt instead of one ( which could be viewed as malicious in this light).

One point to note here is that you may need to use a mortgage broker to manage the negotiation with the bank, - and the broker will have to work a bit harder to achieve this. If you deal with a bank direct, they will likely tell you 'no spouse guarantee is impossible in your circumstances'. It may be true if your borrowing position is not strong, but how do you know unless you have a lot of banking and commercial experience?

The answer is use a broker who has the experience, and who is willing to try hard for you. I have found many brokers lazy, or unsophisticated - they are just not equipped for these sorts of discussions with bankers or do not value asset protection concepts. Remember they get paid on commission, and asking for tough things from the bank means more work and time for the broker, with no more money. For this reason it may be appropriate to pay your broker to deal with the complexities, if your affairs are complex. Otherwise they may put you in the 'too hard' basket. If you need a good broker, email me mg@gra.co.nz . We have contacts all over the country, and for the record we do not get commission from these relationships. We just want our clients better protected.
Dealing with landlords over commercial leases and guarantees: always try to divide leases out into separate 'tenancy companies' and make one spouse a director of this company, Your opening position should be no personal guarantee, and if 'no personal guarantee' is a deal breaker with the landlord, - then only the director/one spouse gives a guarantee. Try not to give an unlimited guarantee, - limit it to say 6 months rent, or a fixed sum as a cap.

For example my rent is around $260,000 per annum for our premises, on a 3+3. If I guarantee it for an unlimited amount, that is a $780,000 personal obligation. Firstly, I limited the guarantee to 6 months rent ( $120,000) and secondly made sure that the shareholders (a Trust) and my spouse did not guarantee the loan. This turns a potentially disastrous obligation into a manageable commercial obligation.
Dealing with creditors over personal guarantees: creditors in business will generally ask for a personal guarantee. Refuse to give it if you can get away with it, and most of the time you can. Where you have to give one, just as with a landlord 'limit the guarantee'. Only this week I was arranging some advertising with Fairfax, and they asked me for two GRA directors personal guarantees over the obligations of our supply relationship with them for advertising. I was so annoyed, I told the salesman I did not wish to advertise with Fairfax if a personal guarantee was required. I told him clearly his company's view was that my company was unreliable in character, if they were not willing to deal with the company without the director's guarantee.

He got the message - I really cared more about the guarantees than the advertising and they would not get our money unless they backed away from the guarantees. He rang later to advise the guarantees would not be necessary. To my knowledge, GRA directors have not guaranteed a single supplier obligation (apart from the limited guarantee to the landlord). So it can be done, but I do acknowledge that some suppliers just won't deal with you without providing a personal guarantee.

Summary

Keep your spouse out of the liability chain if you can. Personal guarantees and spouses should not mix.

If you are dealing with a landlord or creditor in business and have to provide a guarantee, try not to give a guarantee at all, or limit the guarantee to a fixed sum Eg: 6 months rent.

If your spouse has no income, you should be able to avoid their guarantee being given to the bank. Consider using a mortgage broker to achieve this. Generally the banks (if dealing direct) will be very hard to manage on this point, especially in this recessionary environment.

I hope you have found this information helpful. If you require assistance with any financial matters, please fell free to request an interview. We are here to help.

Have a good month!

Matthew Gilligan
Director

Learn More about Matthew

Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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Hawkins Clause & Protecting Your Home.

Tuesday, May 12, 2009

As accountants we are often asked, what can we do to manage our exposure of our affairs to banks, as we increase our business or property borrowing?

There are lots of things you can do to reduce the effectiveness of bank securities and protect yourself from the banks. Ultimately the goal is to stop them taking everything, - just allow a bank to take the investments (and equity in them) that you allot them security over.

Gearing Rules Of Banks

You will need to work within their gearing rules to achieve what is discussed below - so as background generally banks will be happy if you have a 20% deposit on residential property, or 33% deposit for large or commercial investors. Of course you need cashflow to support the credit application, and interest cover of 2.5 to 3 is also required in NZ, rule of thumb. ( Interest cover is rent+ income / interest expense).

Strategies include to beat bank securities (stop them getting everything if you are insolvent):-

1 Use a 'Split loan structure'

Use two banks: Bank 1 lends to the LAQC, secured by the rental, and personal guarantee(PG); the other bank ( bank 2) provides the deposit secured by the family Trust asset. As soon as you can, revalue the rental and refinance with bank 2 to remove bank 1. You end up 100% financed with no Trust guarantee.

2 Put your home in a Trust

Obviously put your home in a Family Trust and complete a gifting programme. Don't give bank 2 a security over the Trust. They will ask, say no. If you do not put your home in a Trust, your personal guarantee exposes the home to bank 2.

3 Use a 'Hawkins Clause'

While you are conducting a gifting programme, if you go bankrupt you will have the ungifted loan called upon to be repaid from the Trust by bank 2. The process is bank 2 calls your PG ( because your company has failed and lost money leaving the bank unsatisfied, etc); the bank demands you pay - you don't and they apply to the court to bankrupt you; the official assignee examines your assets and finds the ungifted loan balance - and will call upon trustees to pay it out in full.

So to defeat a claim against an ungifted loan to your Trust, put a Hawkins clause and debt entrenchment clause in your deed of acknowledgment of debt. The former makes says the OA cannot call the loan, if you are bankrupted ( effectively) and the latter says if the loan is called ( say the clause is struck out at court of appeal, as our clause has high court support in case law), then you leave the remaining loan balance subject to a call notice of 8 years, slowing down the OA for that time.

Watch the video below for an explanation of the Hawkins Clause.

4 Use the GRA one one one rule, being

* One company ( LAQC ) ( or Trust or whatever you are investing in)

* One bank

* One million dollars worth of debt

By doing this you quarantine all of the banks from each other; if one entity ends up in trouble with a bank, you do not lose all of your property at once - because the banks are ring fenced off from each other in separate companies. This gives you a timing advantage if you end up in a scrape with say bank one, because you can be moving the assets in company 2/3/4 etc and they will have no control over the assets.

It is all about what I call 'getting positional advantage' on a bank. IE Getting to a position where they do not have your entire life stitched up, so they can destroy your family and life savings if something goes wrong.

Strategy 5 No Spouse Guarantee

Don't give a banker your wife's or husbands guarantee. Only one of you should be a director and guarantor. Negotiate HARD to avoid both spouses giving guarantees.

We have more information on property structures and family trusts on this website as well as our family trust blog a www.familytrusts.co.nz.

Summary

In summary, you make it really hard for the banks, and they tend to give up. Do nothing and allow them to cross secure everything - you will lose the lot.

Try to ring fence them and manage them with a good broker, - you will be in a much stronger position if you have problems, and you should be able to defend your family home and contents of your Trust.

We have for years told people to do the above, and their brokers, and lawyers have said we are over complicating it, just allow cross securing. Well that is and was crap advice, and many clients are in trouble because they were led into short cuts by their lawyers or brokers.

Split loans take a bit of time to set up, and a bit more energy on your broker's part, - but they are really really effective in a recession. Problem is, in a recession, they are really really hard to put in place ! ( for weaker borrowers.)

Last point: you need a broker to do this - the banks will not want you to do it. Its not illegal, but no bank will help you defeat their interests with split loan structures - they will discourage it and say don't do it. Of course - that is best for them.

I hope this information has been useful. For a free review of your financial affairs including how to best structure your assets, please request a call now. We're here to help.

Til next time,

Matthew Gilligan CA
Director

Learn More about Matthew

Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

P.S. Did you like this article? Go ahead and sign up to our free newsletter and receive tips, updates and useful information to help you protect your assets and grow your net worth. GRA are accountants who provide expert accountant advice both in NZ and offshore.

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Property Partnership Options - Which Trading Vehicle ?

Thursday, May 07, 2009

Partnership really means two or more people or entities coming together in a common undertaking or enterprise.

You can trade your partnership through various trading vehicles including companies/LAQC's, joint ventures, general partnership, special partnerships, limited partnerships, or Trusts. Each trading vehicle should have an agreement created between the partners to the investment defining their rights and obligations. In a company for example, this is done in the shareholders agreement. In a partnership, the partnership agreement. In a joint venture, the joint venture agreement etc.

Which Trading Vehicle ?

Choosing the right structure is a combination of assessing many factors and choosing the vehicle that delivers maximum benefits for your particular circumstances. While a more detailed discussion on these issues are explored elsewhere on this site, a brief review of things to consider would include the following (looking at partnerships from a property investor's context):-

1. Asset protection implications (including limited liability vs unlimited liability for actions of the partnership, and liability for the banking obligations of the partnership by the partners) LAQC's for example require shareholders that are electing into the LAQC regime to personally guarantee the IRD for income tax.

This can be managed for small shareholders, but is one asset protection consideration in the mix. Another thing to review, - is your proposed structure creating wealth outside of a trust, and if so is it possible to both have your losses accessible and contain capital gains inside your Trust for asset protection and avoiding future gifting problems ?

2. Flexibility of ownership; (Ccan you change partners without triggering depreciation recovered ? 'Yes' for an LAQC, 'No' for most partnership circumstances.

3. Flow through of tax losses: will the trading vehicle let you access the losses?

4. Flow through of capital gains: will the trading vehicle allow easy access to capital gains at the end of the investment, or do you have to liquidate (for example a company will require liquidation unless it is a qualifying company to access capital gains tax exempt in NZ).

5. Cross border tax considerations: for those investing off shore or cross boarder, have you thought through the complex tax issues that arise? Like capital gains tax, non resident withholding tax, the implication of the New Zealand Accrual rules and foreign exchange movements, and double tax on dividend income.

Generally there is a simple and effective structure for most circumstances. Contact me if you require assistance with any matter above.

Matthew Gilligan
Director

Learn More about Matthew

Contact Matthew at mg@gra.co.nz or call +64 9 522 7955

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