There are significant differences in the tax consequences of certain family law related actions, particularly when negotiating property settlement outcomes – the cutting of the cake!
Unique opportunities in the family law environment can enable a couple to lawfully restructure wealth while avoiding, or minimising, the hefty tax and revenue consequences. Conversely, concluding a family law property settlement only to discover adverse and unintended tax consequences is the last thing anyone wants.
Naturally, this area is very complex and each person needs to seek their own advice to ascertain their own tax implications from an experienced family law expert.
Different ways a couple can reach a property settlement
Separated couples do have choices when it comes to resolving the division of their property. There are a number of ways in which a separating couple can adjust their property interests, most commonly these include:
- Implementing transfers amongst themselves;
- By a Court Order (either by consent or after a Defended Hearing);
- By way of a Financial Agreement under the Family Law Act.
This article examines the tax consequences for the different types of assets that are often held. We highlight some beneficial restructuring opportunities that are unique to family law property settlements and, if used with care, can allow spouses to maximise their property settlement outcomes.
There are two main revenue taxes; Stamp Duty and Capital Gains Tax:
The Family Law Act contains an exemption from duty payments on transactions which adhere to a Family Court Order or certain financial agreements.
In some cases, if the terms of the order or agreement clearly provide for it, property can also be transferred from a spouse to a company (trustee of a trust), or vice versa.
Rulings as to transactions under Family Law Act Orders and specified financial agreements are usually available from State-based Stamp Duties Authorities as they can be subject to discretionary decisions.
Capital Gains Tax (CGT)
In lengthy marriages, it is not uncommon for the property pool to comprise investments acquired many years prior with significant unrealised capital gains. Fear can surround the selling down of these assets to create cash sufficient to implement a property settlement, given the tax liability which will be triggered on the disposal and which will immediately erode the asset pool.
However, if orders are made or a financial agreement reached in accordance with the Family Law Act, the triggering of such CGT liability is automatically deferred as roll-over relief under the matrimonial exemptions of the Income Tax Assessment Act 1997.
This means that the title to the asset passes from one party to the other on the basis that the unrealised gain is deferred until the spouse receiving the asset disposes of it at some future point. The receiving spouse is deemed to have acquired the asset when the transferor did, the extent of any gain being calculated based on the transferor’s cost base at the time of the transfer to the receiving spouse, plus incidental costs.
Roll-over relief also ensures that a pre-CGT asset can be transferred to a spouse while preserving its pre-CGT status.
This relief can potentially be used to address ‘sleeping giant’ tax issues by moving an asset from one spouse to the other (so as to access concessional rates of tax or capital losses available to one spouse but not the other) before a disposal occurs, so that the optimum tax outcome can be achieved in respect of any capital gains.
A short summary of tax consequences for different types of assets is set out below:
The most common form of real estate is the matrimonial home which is often held in the joint names of the separating couple. Generally, a settlement which involves the transfer of the matrimonial home from one person to the other will not be affected by Capital Gains Tax. This is because the Capital Gains Tax legislation contains a main residence exemption.
Families often have investment properties which are held in the name of one or both of the parties, or in the name of a corporate entity as Trustee for a Family Discretionary Trust.
If the property was acquired after 20 September 1985, a transfer of the property will generally trigger a Capital Gains Tax liability. This means that the difference between the cost of the property and the sale price (or half the difference if the property has been held for more than 12 months), will be added to the income of the person selling and taxed at the marginal income tax rate.
An investment property owned by one spouse can be transferred to another spouse by way of property settlement, with a stamp duty exemption.
Where a Trustee of a Family Trust holds real estate this can, in some instances, be transferred to a spouse beneficiary through a Court Order or Financial Agreement. This may attract a ‘rollover relief’ which will postpone the payment of Capital Gains Tax.
Transfers of shares between spouses and de facto couples are generally subject to Capital Gains Tax unless the transfers are by way of a Court Order or a Financial Agreement which then enables it to attract “rollover relief”.
Transfers of motor vehicles are generally not subject to Capital Gains Tax.
A transfer of a business or a company structure operating a business or the closure or sale of a business, may have significant taxation consequences.
Specialist advice must be provided in order to ensure that any settlement is undertaken in the most tax effective manner.
As you can imagine, the tax implications that can arise through divorce are almost boundless. For those who take advice from their specialist lawyers and accountants early in their property settlement, there is potential for some restructuring benefits.
Having a legal expert thinking creatively in terms of options and taking into account the nature and characteristics of the property pool, there is potential to move assets into a position where there are reduced revenue consequences and with deferred and potentially minimised tax consequences.