Tax strategies explained

Prowealth Accounting was setup to help our clients with the business of property investment, keeping abreast of all tax-related matters including; land tax, negative/positive gearing, capital gains tax, and suggestions on how to structure property for asset protection and tax purposes. Day in and day out we live and breathe tax and investment property law and can give you practical real world examples, suggestions and advice.

Just like you claim the wear and tear on a car purchased for income producing purposes, you can also claim the depreciation of your investment property against your taxable income. The following example has been provided as an approximate guide, using the diminishing value method of depreciation. To ensure our clients are getting the maximum claimable return for their property and to lower their financial contribution, we have engaged the services of quantity surveyors recognised by the Australian Taxation Office to prepare accurate Depreciation Schedules which we provide for all purchases.

Example Property:
A two bedroom unit purchased for $400,000
Income:

Rented for $385 per week
Total income of approximately $20,000 per year

Expenses:
Interest only loan (7%) $28,000 per year
Rates and management expenses $4,000 per year
Total expenses of $32,000 per year

Scenario 1 – No depreciation claim:
Pre tax cash flow
Taxation loss $12,000 = $230 per week
Post tax cash flow (top tax rate of 45%)
Tax refund $5,400
Net cash outlay $6,600 = $126 per week

Scenario 2 – With depreciation claim:
Pre tax cash flow
Tax depreciation $12,000
Cash flow position -$12,000
Total deduction $24,000
Post tax cash flow (top tax rate of 45%)
Tax refund $10,800
Net cash outlay $1,200 = $23 per week

This demonstrates the after tax effect of applying property depreciation. The property investor in this situation has a bottom line benefit of $5,400 per annum. This benefit is the difference between the $6,600 cost before depreciation is applied, and the $1,200 cost once depreciation is applied. This profile emphasises the benefit of depreciation. The property investor has made this saving from the same property that had moments ago cost $6,600 for the same period.

Asset Protection

Protecting your wealth now and in the future
Taxation, retirement, litigation and family succession are factors that apply to every person. The accumulation of assets for enjoyment, income or retirement is fruitless if the assets are lost as a result of litigation or, upon sale or death, part of the assets are eroded away by taxes.
Many investors and families often overlook the protection of assets. Even families with modest assets need to devote some energy to managing their assets properly. All too often the main effort seems to be minimising income tax and /or maximising current or potential social security entitlements. The main goal should really be to maximise the family’s wealth, to protect its assets and to provide financial security for members of the family. A number of crucial factors need to be considered when reviewing what type of structure (such as individual, partnership, company or trust) should be used when buying the property. Factors to consider would include:
• Who should have the right to receive income, both now and in the future?
• Who should have the right to receive capital, both now and in the future?
• Should the asset be protected against possible future creditors?
• Are there family concerns as to who should own the asset or receive income from it in the future?
• Are there statutory requirements governing which structure should own the investment?
Prowealth Accounting can provide you with independent advice, giving you piece of mind today, tomorrow and forever.

Structures

How you structure your investment will have a significant impact on your potential returns and future growth. Many people rush out and buy a property then ask their accountant about how they should structure the purchase - this is most often too late. Prowealth has vast experience in the multitude of options for structuring your purchase to suit your circumstances. Effective structuring can allow you to own nothing yet control everything, but you must setup your structure correctly BEFORE you invest. For example:
- The difference between buying in your own name, joint names, a company or a trust.
- The seven different types of Trust structures all with different benefits and how to use them.
- Why you should rarely buy an investment in your own name.
- How you can effectively protect your assets from creditors, taxes and lawsuits.
- How you can pass on your wealth to your children and have it protected.
- How use can use the right structure to protect business assets.
- How a Self Managed Super Fund may be of assistance to you.

Every situation is different. Prowealth consultants are trained to provide you an overview of the different options that may be available to you. Below is a brief summary of the different types of structures some of which is taken from the book 'How to legally Reduce you Tax' by Ed Chan and Tony Melvin of Chan and Naylor accountants.

Purchasing as Joint Tenants (Equal shares)

This is the most common form of property ownership and is generally a husband and wife each having a 50% ownership. The disadvantage is that tax deductions are limited to the percentage of the ownership you actually own. As a simple example, if there are $10,000 in deductions for a property, the husband and wife can only claim $5000 each, which, if the husband was the only income earner, limits his ability to claim maximum deductions.

Purchasing as Tenants in Common (in unequal shares)

To get around the above problem, many people have been advised to put the majority percentage ownership into the name of the highest income earner, for example 99% Husband, 1% Wife. The long term problem is that as the property becomes positively geared or is sold many years down the track, the income or profit is allocated as per the ownership % and could result (in this case) in the husband paying more income tax or increased capital gains tax.

Company Structures

A company is a completely separate legal entity, which is treated differently to an individual. A company is subject to different tax laws. One of the main differences is the tax rate. A company pays tax at 30% (2008) whether it earns $1 dollar or a million dollars, which could be of benefit to an individual paying the highest marginal rate of 46.5% (2008).

Trust Structures

A trust is basically an agreement or promise. The basic function of a trust is to separate ownership from control. There are many different types of trusts. Saying 'Should I buy my property in a trust" is a lot like saying "should I buy a new car". There are many types of cars they have different features, benefits and costs. Trusts are much the same, which trust to use will vary on your individual circumstance. Nobody owns a Trust, it is controlled. Trusts generally comprise of one or more Trustees and Beneficiaries. Here are the most common:

Discretionary Trust
- A Discretionary Trust allows the Trustee to decide who get what. The Trustee has full discretion to distribute both income and capital to whomever it decides and can vary it from year to year.

Unit Trust
- A Unit Trust is split into units, like a company is split into shares. Profits and income are distributed via the units to the individual. Unit Trusts are more commonly used for property investors and investors with Self Managed Super Funds.

Hybrid Trust
- A Hybrid trust is a cross between a Discretionary and Unit Trust. This type of structure is very appealing as it included the benefits of both and thus is extremely useful for business and investing.

Bare Trust
- Also know as a Declaration of Trust, a Bare Trust is a useful structure when ownership privacy is a concern. With a Bare Trust, the trustee must follow the direction of the beneficiary. Unlike other trusts, a Bare Trust is not required to do anything with the asset, the Trustee just holds the asset for the beneficiary.

Family Trust
- A family trust is almost the same as a Discretionary Trust with the exception that beneficiaries are restricted to family members.

Testamentary Trust
- Is a Trust set-up based on the direction of a Will (of the deceased) and is similar to a Discretionary Trust.

Conclusion

Every circumstance is different and we recommend you consult an appropriate licensed advisor before committing to any structure.

Note: it is an offence under the tax act to do something simply to avoid paying tax. Therefore, you must have a valid reason for using any structure other than just the tax aspect.