22 Sep Business Unknowns – 5 Myths
By Peter Rule, Chartered Accountant, CPA, Specialist Superannuation Advisor and Auditor and holds a Masters of Commerce.
In practice we are presented with numerous suggestions from clients, prospective clients, lawyers, financial planners etc. Some suggestions have merit and are investigated more fully but there are always a few topics which are regularly discussed and through this article we are attempting to clarify some of the myths that are perpetuated by well meaning friends, family and colleagues.
Myth # 1: Contractors v Employees – Super & WorkCover?
Business seems to change track on this every 5 or so years. At the moment, contracting is the popular choice but what does this really mean. The legislation tends to take a principally labour approach. This means that if the service you provide is really you supplying your labour and you work predominantly with the same employer, you will generally be entitled to both super and WorkCover notwithstanding you are a contractor. Some employers will ask you to contract with them using a company or trust structure. Super and Workcover will not apply where a company or trust are used as your contracting entity. Another popular entity is a partnership between mum and dad. The most recent approach from WorkCover is that where an individual is a partner in a partnership, they are still caught. The reason for this is simply a partnership is not a separate legal entity and relies upon the legal status of the partner i.e. a company or individual whether or not those entities are acting as trustee for a trust.
Myth # 2: Can you transfer property without triggering stamp duty or capital gains tax?
It is possible to transfer property without triggering significant stamp duty or capital gains tax. The requirements will depend on where the property is located i.e. stamp duty is a State based tax and the rules are different in each State or Territory. The decision to transfer an asset will generally be made in the context of an asset protection review. The reasons given for having an “exposed” asset tend to be either, I didn’t know I had a problem; or my previous advice has been that the cost of transferring the property has been prohibitive. When looking at this strategy we will also look at the ongoing benefit or cost (including income and capital gains tax commitments over the future life of the asset) of transferring the asset to another entity. For example, if we are looking to transfer a commercial property into the name of a superannuation fund, this strategy may be effective as the members of the super fund are aged 60 or over and the property is positively geared. If the super fund is structured correctly, the ongoing rental income from the property is tax free to the fund and the members when drawn as an income stream. On sale, no capital gains tax would be applicable where the super fund is structured correctly.
Myth # 3: Can a super fund borrow money and from whom?
Legislation was amended to allow Super Fund’s to borrow money from 24 September 2007. This was one of the last acts of the Howard Government. The Rudd and Gillard Governments have been fine tuning the legislation ever since. The Cooper Review found that there was a place for borrowing in super funds and the Australian Taxation Office have issued rulings on what they believe is acceptable practice and further guidance on things such as what constitutes a single acquirable asset, can a loan be refinanced etc. Interestingly the law does not restrict who can act as a lender. That means that you can use your normal bank (so long as they have a product for super funds – not all banks do) or a related party of the super fund could provide the loan. In practice, we are seeing that the latest tinkering by the Federal Government has resulted in many clients obtaining a loan against assets outside of super and then onlending the money to the super fund. The reality is that the banks are becoming more difficult to deal with in this space and a related party loan on similar terms and conditions is an easier transaction to finance.
Myth # 4: Superannuation funds are wound up when a member dies?
A super fund is actually a type of trust. Usually trusts have a limited term of existence which we call the perpetuity period and this is 80 years. A super fund by law does not have a perpetuity period and like companies, the super fund continues until it is wound up. Therefore, when a member passes away, the trustees of the super fund are not compelled to payout the deceased members benefits where the deceased member has provided clear instructions. These instructions are similar to a Will and if completed correctly become part of the governing rules of the super fund. The benefit of this is of course if the replacement trustee who is appointed to replace the deceased member has ideas of distributing the funds in a certain way which is not in accordance with the deceased’s instructions, then that act is treated as a criminal offence under the Superannuation Industry (Supervision) Act. As the cases through various Courts have shown, it is important to have your documents well drafted to ensure your wishes are carried out.
Myth # 5: Capital Gains Tax (CGT) issues on sale of a home?
Most people seem to be aware that when you buy and sell an investment property for a profit, capital gains tax will most likely apply. The rules on this are relatively straight forward. However, when you sell your own home, there are many different scenarios that can trip you up. Following are a couple of scenarios that may seem similar but actually result in completely different capital gains tax calculations and results:
- I bought my own home on 1 July 2000 for $250,000. I lived in that property until 30 June 2009. I rented the property out from 1 July 2009 until sale on 30 June 2012 for $400,000. During that 3 year rental period I was travelling around Europe and did not purchase a separate home. Under the CGT provisions I will not need to include my capital gain as I am eligible under the 6 year exemption rules. I pay no tax on this CGT event.
- I bought my own home on 1 July 2000 for $250,000. I lived in that property until 30 June 2009. I rented the property out from 1 July 2009 until sale on 30 June 2012 for $400,000. I bought a new home on 1 July 2009. The market value of the original home was $350,000 on 1 July 2009. Under the CGT provisions I will need to calculate my capital gain as I am not eligible under the 6 year exemption rules but I am entitled to the market value uplift rule. Therefore my gross capital gain is $50,000 ($400,000 less $350,000). As I have held the property for longer than 12 months, I am entitled to the 50% general discount which means that I will pay tax on $25,000.
- I bought my own home on 1 July 2000 for $250,000. I rented this property until 30 June 2003. I lived in the property from 1 July 2003 until sale on 30 June 2012 for $400,000. CGT is applicable and the rules require me to pro-rata the period between exempt and not exempt. Therefore my gross capital gain is $37,500 or 25% of $150,000. As I have held the property for longer than 12 months, I am entitled to the 50% general discount which means that I will pay tax on $18,750.
Another relatively common example occurs and that is where you are living in the property but you have a tenant. This scenario will also reduce your CGT exemption and result in a capital gain. The calculations are a bit cumbersome and do not lend themselves to a quick example but suffice to say, keep good records as they will be your friends when time comes to complete a calculation and possibly have the joy of an ATO review/audit.
So in summary, there are many Tax and Accounting Myths and we have just touched on 5 of them. If you are considering a particular strategy, please seek advice before implementation as you may not have the whole story and how certain strategies may affect you now and down the track.
Details of author: Peter Rule is a Director of Complete Business Strategies Pty Limited (www.completebusiness.com.au) which operates as a registered tax agent and Chartered Accountants.