The ATO has released a draft ruling that has the potential to reduce the amount that high-wealth individuals receive from property settlement by nearly half.
For high-wealth families it is not uncommon for them to hold their assets in private companies and trusts for tax reasons and for asset protection. Usually when assets are removed from these structures and they pass to the individuals they are taxed, however, the ATO has allowed an exemption on this tax if the removal of the assets is in order to pay a spouse as part of a family law settlement – until now.
This new draft ruling from the ATO removes this exemption and results in the person who is receiving assets ‘outside’ being taxed on the receipt of those assets as if they were income. The ATO explains that this is more in line with its original intention that the exemption only apply to commercial arrangements.
The ATO says that the new ruling will not come into effect until the first half of next year and that it will be retrospective (i.e. payments made before the ruling was announced will be taxable at the end of this financial year). However, the ATO has said that for any payment made pursuant to orders before the ruling the Commissioner will not actively pursue in compliance checks. The ATO also said that if they are asked their view in the process of deciding a settlement they will advise that the settlement should be determined in accordance with the new ruling – i.e. on the basis that any payments do attract tax.
So now the important part, how can Farrar Gesini Dunn help to minimise the effect of these taxes?
To protect yourself from miscalculation by the Courts is essential to have a lawyer that understands the tax implications inside and out. This enables the lawyer to present your situation to the Court in a way that illustrates to the Court the precise implications that tax will have on your settlement.
The next necessity in avoiding this confusion is to have a lawyer that can work well with and understand your accountant. No one knows your financial situation better than your accountant and when building the picture of your financial situation to the court it is essential to have a lawyer who speaks the same language as your accountant in order to turn your situation into a simple image that the Court can understand.
When it comes to complex tax issues there is a better way than litigation to deal with it. That better way is called Collaborative Law.
One of the main benefits of collaborative law is that it lets us come to very creative solutions for family law settlements. This means that we can construct your settlement around the client’s particular needs. In the case of high wealth families this means that we can design settlements in order to minimise the tax payable under the new ruling. In designing these solutions collaborative law is able to look to advice from accountants, financial planners and other professionals to design the best, most economical fit for you.
We spoke to James Watt from Beames and Associates Accounting and Financial Services about what effect the proposed changes might have:
“Obviously this proposed change to the tax law is a major one, particularly when significant matrimonial assets have been built up in a corporate structure. Assuming the draft ruling becomes law, it will mean that it is vital in all family law matters to acknowledge and accurately estimate some potentially serious income tax liabilities to ensure a fair asset split and to avoid where possible erosion of the matrimonial asset pool.
Generally, through the collaborate model of family law, an independent financial expert is involved who will be able to identify some of the inherent tax implications of certain asset transfers. This expert may be able to come up with some creative solutions to avoid deeded dividends being paid, for example perhaps the sale of shares in a private business, or a share buy-back strategy may be more tax advantageous than a transfer of company property that would result in tax both at the company level (if an asset has appreciated) and then again in the hands of the recipient (as a deemed dividend).
Whether the issues are handled as effectively by the Family Court under a litigation scenario will remain to be seen, however anecdotally the Family Court tends to steer away from some of the more creative solutions that can be agreed upon via collaboration.
If the law does change, I would highly recommend having an expert involved to review any proposed transfer of properties, particularly involving a company. If the taxation issues are identified and understood, there may be some scope to structure a settlement in a way that maximises the assets that each party walk away with post-divorce”.
Beames and Associates
Ph: +61 2 6282 9500
By Sarah Keenan