Tax issues in
Family Law
The Difference between
Hacking & Carving
by
Peter Szabo
Marshalls & Dent
Melbourne
03 96705000
Marshalls & Dent Lawyers
pszabo@mdlaw.com.au
Forced Estate Planning
• Assets must be apportioned between the
parties, often with unwanted taxation
consequences.
• Emotional issues a “wild card”
• By destroying an asset of one party, the total
pool of available assets to be split between
both parties is diminished.
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The Split - Hacking
Husband
Wife
Revenue
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The Split - Carving
Husband
Wife
Revenue
Advisers
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Investment Potential
over years
800
700
600
500
Husband
Wife
400
300
200
100
0
1st Year 2nd Year 3rd Year 4th Year 5th Year
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What are the Net Assets?
• The Form 17 Financial Statement
Take into account assets net of tax, contingent liabilities.
• Impact of tax changes - Ralph report, GST
• The Hidden Agenda - Tax evasion issues
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What are the Net Assets?
• The relevance of CGT In placing a value on an asset, is CGT taken into account?
Not necessarily!
• Income Tax Any tax incurred by either party is a relevant debt to be
taken into account. Similarly, any taxation refund is an
asset also to be taken into account.
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Superannuation
• Dividing up superannuation assets A financial resource which will become available to one
of the parties at some later stage. It must be taken into
account in some way.
• Changing approach to Superannuation.
The approach in many cases is to give one party more of
the assets and let the other party keep the superannuation
asset. But is that fair in the current economic climate?
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Superannuation
• A mathematical approach preferred.
A trend has been to take into account the years of
marriage against the total years in the fund, and adjust
for that proportion.
• Proposed changes to Family Law Act
Presumption will be that the contributions relevant to the
period of the marriage are to be apportioned equally - but
retained until retirement.
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Other Financial Resources
• Interests in trusts and companies These are often treated as the ultimate assets of the parties
by the Family Court - but not always. The facts of each
particular case is important.
• Valuing interests in trusts and companies
As long as one party is a beneficiary, the Family
Court can bring that entitlement into account. The
key issue is who controls the resource.
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Apportioning the Assets
Real Estate
• Stamp Duty
Transfers of otherwise dutiable assets are almost always
exempt from duty when transferred between spouses as a
result of a separation.
• Rollover relief Court orders or S87 Agreements only
Main residence exemption
• Minimising CGT on a sale
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Example 1 - CGT on Investment
Property
Capital gain on jointly Owned Inestment property
$100,000
Amount subject to CGT
$50,000 after Ralph = $25,000 each
Husband
Wife
Tax = $12,500 Tax = $12,500
at marginal rate of tax
say 50%
at marginal rate
say 50%
Both parties on same tax rate so pay the same tax
Total tax payable is $25,000
Net asset $75,000
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Example 2 - CGT - different tax rates
Profit on sale of Jointly Owned Investment property
$100,000
Amount subject to CGT
Each to equally share gain - $50,000 taxed after Ralph
Husband = $25,000
Tax = $12,500
Wife = $25,000
Tax = $7,000
at marginal rate of tax
say 50%
at marginal rates
average say 25%
Different Tax for one party - less tax payable
Total Tax Payable = $19,500
Net Asset = $80,500
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Example 3 - CGT transfer to spouse
Solely Owned Investment property
$100,000
Amount subject to CGT
Husband fully liable at top rate would pay $25,000
Husband = Nil
Tax = NIL
Wife = $50,000
Tax = $16,000
Transferred to Wife
Rollover applicable
at marginal rates
Asset transferred to Wife and THEN sold
Rollover relief, duty free transfer to wife
Total Tax Payable = $16,000
Net Asset = $84,000
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Example 4 - impact of Capital losses
Jointly Owned Investment property
$100,000
Amount subject to CGT
Each to equally share gain
Husband = $100,000
Tax = NIL
Wife = $Nil
Tax = Nil
Capital losses used
at marginal rate
Asset transferred to Husband with capital losses
Duty free transfer
Total Tax Payable = Nil
Net Asset = $100,000
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Capitalising delayed
payments
• Pay $100,000 in 12 months, with interest, at
what rate - 11.3% current rate.
• Pay $111,300 in 12 months time capitalised, no tax consequences to payee
• Haggle over the capitalised amount eg - pay $107,000 in 12 months as a capital
payment. Both parties better off
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Cost Base of acquired
property may include
family law costs
• Property valuations - 100%
• Accounting fees - possibly 100%
• Proportion of total Family Law costs relevant to
property proceedings
• These may be taken in proportion to the total
assets kept - eg if CGT asset is 50% of asset pool,
50% of above costs is included in costs base
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Divorcing the Partnership
• Apportioning the income stream.
Is there any flexibility? One person controls that stream,
the other gets “maintenance” . Who pays what tax?
• Capital assets and trading stock
Watch rollover relief as elections are possible.
• Indemnities with partnerships - Need to
cover any contingencies, particularly tax.
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Divorcing the Discretionary Trust
Specific Tax issues involve:
• Loss Trust Legislation
• Election to become a Family Trust needed for
Franking credits, trust losses
• Test individual important - where possible
choose one of the children to retain distribution
potential to spouses
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Divorcing the Discretionary Trust
• The income stream - Distributions post separation
may be tax effective even after divorce.
• Dealing with the assets of the trust
Real Estate duty free, rollover relief for CGT
• Loan accounts - Watch debt forgiveness issues. Are
they loans or beneficial entitlements?
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Divorcing the Discretionary Trust
Disengaging control involves :
•
•
•
•
Resignation as appointor/guardian
transferring shares in trustee company
resignation as director of trustee company
exclusion from being a beneficiary
Where there are losses - watch continuity of control if no
family trust election
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Consequences of
Poor Family Trust election
• No opportunity to effect spousal maintenance
payments tax effectively out of the trust.
• No opportunity to pass control of the trust to
spouse as part of a settlement
• Value of trust asset as tax planning vehicle
diminished
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Divorcing Spouse from Company
• The income stream - make tax effective
adjustments where possible.
• Transfers of assets from the company
Real estate usually subject to stamp duty
• CGT rollover relief available sometimes - but
is the transfer a deemed dividend?
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Divorcing the Company
• Companies with losses - Continuity of
ownership test relevant to carry forward losses
• Debt forgiveness/deemed dividend issues
Dealing with loan accounts needs particular attention to
avoid unwanted revenue issues. FBT issues can arise if the
spouse is an empoyee.
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Divorcing the Company
Disengaging a spouse may involve:
• Resignation as director
• Transferring shares
• retiring as an employee
Retiring spouse needs tax indemnities
• remaining spouse should be aware of tax liabilities
being covered
• GST - vendor pays but is this right?
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Other Aspects to Consider
• Impact on third parties - Change in shareholding
may “freshen up” assets for CGT purposes. FBT, loss of
cost base and inability to use deductions and other losses.
• Accounting issues - timing of disengagement may
necessitate account keeping changes. Try to coordinate
these to financial years.
• Tax issues with spousal maintenance.
Consider trust distributions, but watch “Family trust”
election. Termination packages for employee spouse.
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Retaining Carried
forward Losses in a
Company
The problem is not to fail the continuity of
ownership test - otherwise harder tests to
pass to satisfy ATAO
• Solution 1 - retain shareholding
• Solution 2 - delay transfer of shareholding
until losses used
• Solution 3 - Issue more shares and leave
exiting spouse with a share
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Advance Planning
Tax planning structures need
flexibility
• Awareness of consequences of family breakdown
will alert the financial adviser or estate planner
to some preventative measures.
• eg - if company involves husband and wife, issue
more than 2 shares if you MUST have both
spouses involved
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Advance Planning
Other strategies
• Carefully consider the choice of
controllers of the trading entity
• Consider alternatives to giving external
parties equity and control
• Prepare shareholders’ and other business
agreements in anticipation of disputes
• Consider pre-nuptial agreements
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Financial Agreements
• CGT Time bomb - no rollover
for transfers of property
relief
• Bankruptcy protection may be available
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Tax issues in
Family Law
The Difference between
Hacking & Carving
by
Peter Szabo
Marshalls & Dent
Melbourne
03 96705000
Marshalls & Dent Lawyers
pszabo@mdlaw.com.au