Tax Tip 18: Strategy to Increase deductions on Divorce

Strategy to Increase deductions on Divorce


Following on from yesterday (See Here), when ownership or property is changed when divorcing or de facto breakup there are tax issues relating to the deductibility of interest.


Bruno and Borat, from yesterday’s example, may be able to transfer the property at full market value as a normal transfer instead of doing a transfer based on a relationship break down.


Where one spouse is buying the share of the other spouse the interest on the loan used to acquire that share may be deductible. This wouldn’t be seen as borrowing to make a property settlement but borrowing to buy an income producing asset.


In some states there will be stamp duty exemptions - but stamp duty will apply in most states. This is the major obstacle, but taking a long term view it may be more beneficial to pay stamp duty now (which could be borrowed) and to obtain ongoing extra tax deductions for the next 30 years or more.


It will also be better for the purchaser with CGT as the transfer will be a CGT event and the spouse getting out of the property will wear the CGT. But when it is a transfer relating to the breakdown of a marriage CGT won’t be trigger and the spouse buying the share of the property will inherit the tax debt of the one selling.


The major problem, though, would be getting both parties to agree.

As always seek taxation and legal advice.

 

How does this approach affect the divorce? Ie do you still need to get consent orders?

 

That is up to the parties - who should seek advice from a family law lawyer.

 

Sure everyone's circumstances are different and they should seek advice, but im asking legally, do you need orders for a divorce to go through.

Reason I ask is because in the other thread, RPI made the comment "...lots can't be bothered and end up paying the stamp duty (not to mention that the don't have a permanent resolution).''

What does 'not having a permanent solution' mean - does this mean that you need consent orders anyway?

 

I don't practice in family law but a divorce is a separate legal application to a property settlement and it doesn't necessarily follow that a property settlement will be needed.

 

If you don't get property orders, then it essentially leaves the door open for a claim further down the track.

Like Terry mentioned, "divorce" is a separate legal issue from property orders made by the family court.

 

Thanks, makes sense.

 

@Terry_w @thatbum

Is it possible to write a "normal transfer" as described above into a property settlement financial agreement (iaw sect 90C of the family law act) to achieve stated deductability of interested on borrowed funds?

Or does this need to be agreed outside of the BFA?

 

In theory you should be able to get orders (and maybe a BFA) that at least look to operate like that but I can see potential issues with whether it would actually have that tax effect.

It's probably something only a specialist tax lawyer opinion can answer reliably.

 

any recommendations on a lawyer than would have the appropriate experience and knowledge to provide this specific advice? From my experience family law specialist lawyers are pretty clueless about income tax and just want to refer you to your accountant - which might be fine if you just want simple advice on calculating income tax or CGT impacts etc, but of no help in correctly drafting a property settlement agreement to address taxation structuring.

 

If you are wanting to know if the interest would be deductible going forward, I don't think it will be if the transfer is done pursuant to a family law relationship breakdown transfer. You should seek some tax advice on whether you should apply for a private ruling perhaps.

 

You need consent orders to clearly show you are completely severing the financial ties to avoid any future claims on the wealth created, up until that point you are at the mercy of the other side and their lawyers, who benefit from dragging something out for years that can take a few hours to resolve, in reality.

 

ok so best to either a) deal with the transfer outside the financial agreement - or b) word the financial agreement such that it doesnt specify a transfer between the parties of said asset as part of the division of assets, and hence BFA settlement cash figure would exclude any exchange or transfer of the asset. If doing this I would think that the financial agreement should seperately require the parties to enter into a seperate sale agreement or full transfer at market value with price and terms, etc - maybe under a 'sale of real property' section. Or maybe a seperate sale contract or full market transfer forms could be signed at the same time as the BFA (sort of like a stapled security....). I am not a lawyer but certainly interested in opinons on these approaches

 

I can see three options
1. conduct a transfer/sale at full market value as a normal transfer/sale prior to entering into the a financial agreement.
2. make the financial agreement effective date on completion of sale/transfer of the property and reflect assets and liabilites in the BFA post completion of sale/transfer.
3. exclude the value of the properties in the financial agreement cash settlement amount and include clauses that require the parties to enter into a seperate sale agreement or full transfer at market value with specified price and terms.

 

Property settlements should NOT include expected or past rental properties at all. The CGT rules that apply to such events override any deduction matters and pose a concern even where refinance occurs. The major trade off is CGT and stamp duty are then involved . It is better IF POSSIBLE to make dutiable off market transfers at market value and refinancing prior to a property settlement OR in conjunction with one that isnt a part of the settlement basis. Its definately a matter for legal advice. Many solicitors would have issues with acting to assist this for both parties

 

what is the goal?

 

I'm a family lawyer and my opinion is that if you're doing a financial separation, the focus should be trying to do that properly and efficiently.

And not risking or compromising on that process by doing something a bit sketchy to eek out some small bit of tax efficiency. Which is what it's starting to sound like from some of the ideas you're bringing up.

 

Good question. Years ago a client and ex were divorcing and the settlement was stubborn. She wanted a specific property and that was it. Nothing else. He was happy to give it to her (reluctant) but the catch was she was under 60 and it was her home. Sounds simple to fix ? Court agreed to the property split but didnt for a moment consider her impact on receipt. Parties to legal cases should get that themself.

It was held in a super fund so it was a spouse super split asset. A rollover. She could have the property BUT its a breach if she lived in it. Made no sense so we needed it signed off at the point of the rollover as a spouse marital split etc . Two years later the ato does a audit and verified her taking the property in the fund. They had no issues with it until she apparently lived in it and transferred in to her own name aftre age 60. We told the ATO she had told us she wanted to do that adn she signed off on it. Duty, tax issues and all dramas to her fund. She argued we should have advised her. She wasnt even a client. We had a letter from her signed off that should should have obtained legal and financial advice relating the the family court decision and she signed it. We were just doing the rollover and removing her from the old fund etc. The sign-off was witnessed by several staff AND we asked that a soliictor also sign off ...They did. Apparently they were a conveyancer soliictor and didnt knw anything about super funds.. Our PI insurers legal advisers rejected her claim of negligence promtly. Maybe she could sue the solicitor who cahsed the asset in the family court and considefed NO OTHER settlement? ATO wanted a copy of the signed declaratation as it was proof of her intentions to breach super law.

The property was worth $3.5m in 2000 (Byron) so I hate to think of the penalties and duty etc. The ex heard later she had to pay almost half the property in taxes....Had to sell it. We then explained what we knew. He never smiled so much in his life.

 

Thanks, I agree.

 

Only take on the income producing asset if a significant portion of the value of the asset can be supported with deductable debt - otherwise leave with the other party or sell. Hence trying to find out if it can be done properly and efficiently. It wouldn't be a 'small' bit of tax efficiency.