Tax stings lurk in all kinds of succession planning matters. The following scenarios illustrate the importance of lawyers and accountants working together in the best interests of their clients.
The country lawyer
Fred is a GP solicitor in a country town. He is very client conscious and tries to cultivate a personal relationship with his clients. When an email arrived from the accountant for Fred’s very good client, Joe, laying out a succession plan for Joe’s family, Fred – who had not been involved in the discussions – was more than a little put out. Fred called Joe to arrange a meeting to discuss. There were a couple of tweaks, but broadly speaking the accountant’s plan is what Joe wanted. Fred thought about calling the accountant to discuss the tweaks but decided, ‘naah – he didn’t talk to me about the plan so why should I talk to him?’ The plan included transferring the family farm from Joe’s family company to his son, George. Joe didn’t want payments, so the transfer was done for no consideration.
The sting
Under s 109C of Income Tax Assessment Act 1936 (‘ITAA 1936’), the market value of the farm will be included in George’s assessable income for the financial year of transfer. Under s 109D(4A) the market value could be converted to a loan, if done before the lodgement date for that year of income, which would ease the pain, but Joe switched accountants without telling the new accountant what happened.
The city accountant
Alice is a chartered accountant in a mid-sized city accounting firm. The firm has some very big clients who appreciate the work Alice and her team does. One of Alice’s clients, Tony, has a business structure which includes a family discretionary trust, the Tony Family Trust, that conducts the trading operations. It makes a lot of money so distribution of income at the end of every financial year is important. All Tony’s family pays a high rate of tax, so income distributions are normally made to a related family company to take advantage of the lower tax rate.
Changes within Tony’s family mean he needs to change the trustee of the family trust from one company to another fairly urgently. Tony is the sole director of each company. Alice prepared a resolution for Tony to sign as sole director/shareholder of the existing trustee company to appoint the second company as trustee in its place. Alice thought about suggesting that the change of trustee procedures should be checked with Tony’s solicitor but then thought, ‘naah – he will charge too much and take too long, and I don’t want Tony to think I don’t know what I’m doing’.
The sting
The trust deed requires any change of trustee to be done by a named appointor. Therefore, the change of trustee resolution was not successful, and the resolutions distributing income at the end of each financial year were not effective. The trust had been set up by Tony’s father and there were no default beneficiaries. The income is therefore not effectively distributed. The trustee under s 99A of ITAA 1936 is taxed at the top marginal rate of 45%. For any capital gain the general 50% discount is not available so that 100% of that gain will be taxed at 45%.
The suburban solicitor
Alex is a GP suburban solicitor who frequently prepares wills for his clients, some of which are quite complex. Xavier, amongst other things, owns all the shares in a family company that owns three properties. One property is designated for his son, Michael (value of around $5 million) , and the other properties, valued at around $1 million each, are designated for his children, Andrew and Sally. Alex is aware that stamp duty is payable on transferring properties out of the company so he suggests that in his will , Xavier should give the shares to Michael, subject to him making the company transfer the properties designated for Andrew and Sally as a gift. Because the shares would pass to Michael under the will, no stamp duty would have to be paid on the $5 million property. Alex thought about calling Xavier’s accountant to discuss but decided, ‘naah – making wills is lawyers’ business so why should I?’
The sting
Once again it comes down to s 109C of ITAA 1936. Should Xavier die anytime soon, both Andrew and Sally will certainly receive the properties, but with them, a bill for an extra $1 million added to their assessable income.
Snapshot
- Accountants and lawyers need each other.
- Lawyers should always liaise with accountants when dealing with companies.
- Accountants should always liaise with solicitors when dealing with trusts.