Ask Ban Tacs Question
I am 31yrs (female) and my brother is 28yrs we went into a joint venture and purchased a house in Melbourne for $780K in a discretionary trust in May 2020 and rented out straight away and the property is now valued at 920K, property is in a affluent area and zoned in one of the best Government schools.
We are currently refinancing to release equity of $90k to purchase another property and we also have a savings of $50k btw the 2 of us, my income is $130K and my brother’s is $75K, and I pay btw $40 -$45k in tax (incl bonus/commission) and my brother is paying around $20K
We are both out of pocket per week of $105 each ($5400 pa each) to maintain the current property.
We have spoken to our accountant and he said to purchase the next property in a Trust again and if the property is cashflow positive this can then be offset with the first trust (current property) however, I believe getting loans and refinancing in a trust is more restrictive then in personal names and I am afraid this may limit the amount of property we can purchase.
Our Gold is to build our portfolio now whilst we are happy to rent invest as long as we can and we have no PPR.
I have watched your videos on the pros and cons of properties in a trust and individual names and wanting to know moving forward in purchasing the 2nd property, it is advantage to purchase this in our individual names and take advantage of the tax benefits and purchase as a cashflow positive or negative or Neutral? we want to be able to borrow for the 3rd and 4th and more properties as soon as we can.
I am aware that the $90K equity will be tax deductible on purchasing the 2nd property and if we use our own savings there is no tax deduction, is this correct?
Our plans is to Hold the properties, we are treating this as a business partnership and we both have the same gold in mind.
Based on your expertise could you assist us with this, what would be the more favourable option for a better outcome do we purchase in a trust or individual names moving forward or is there another option ?
Answer
The important difference about holding a property in a trust is that you can never cover it with your main residence exemption. At the moment it sounds like you and your brother are wasting your main residence exemption. With the next property you may first want to consider maybe living in it before you rent it out so it can be covered by your main residence exemption for up to 6 years after you move out or until you decide to cover another property.
A trust does have its advantages especially for young people. A lot depends on the numbers ie whether it is making tax losses or not and you won’t know that until you find a property you are ready to buy. Each property should be individually evaluated on its own merits. I have attached a spreadsheet that will help you with that.
You say that the next property’s profits could be used to offset the losses on the current property. Do you have one in mind that will create a tax profit? Trusts can do this. You say that the property is costing you each $105 pw to hold. Is that just the principle portion of the repayments ie a cost that is not tax deductible. Is there any building depreciation? Was it built or improved after 16th Sept 1987? Anyway the attached spreadsheet will allow you to clarify the likely profit or loss of both properties and give you the opportunity to do some what if analysis such as what if interest rates go up.
If I was going to tell you what to buy you next property in, I would ask you first to have a go at filling in the attached and I would ask for the rental property schedule for the current property, so I can look at your true tax position. Have you done the trust’s 2021 tax return yet? It will also give us an idea of just how long any losses are likely to run. As the value of the property moves up you would expect to be able to increase your rent so it may become positive very soon.
I think already having this property in a trust is going to limit your lenders so another trust probably won’t make any difference. But your bank would be the best person to ask about this.
In short unless you can find a property that is positively for tax purposes and you consider that your existing property will remain negative for tax purposes for a long time then the ability to soak up existing losses is not enough reason on its own to use a trust. Put your current property’s post code in here https://sqmresearch.com.au/graph_vacancy.php have a look at the vacancy rate. If it is very low then you might find rents are about to move up. If the rent on your current property increased by $50 per week would it still be negative for tax purposes? Another what-if to put into the calculator attached.
The interest on the $90k equity loan will be tax deductible if the borrowed funds are being used to produce income. If you use your own funds there is no interest so no deduction. The banks are probably going to dictate terms here anyway.
CGT is not a worry if you are never going to sell but considering you young ages one of you at least may have to bail out because of other constraints so qualifying for the main residence exemption by buying in your personal names and living there properly for at least 3 months should be a serious consideration. A SMSF is the only other option but you are a bit young for that and it doesn’t allow you to exploit increases in your equity. So stick with trust verses own name but make sure you get advice, once you have the numbers, on which of these options suite you best. Ultimately it depends on the numbers for your next property and what the bank will let you do.
