Tax Issues in Family Law Property settlements: Distribution the Spoils - The difference between hacking and carving
Family lawyers involved in financial matters are really undertaking forced estate planning. As such, they and the financial experts also involved, need to come to grips with the full ramifications of their work in this regard. This paper is a summary of my contribution to Chapter 11 of the The Australian Master Financial Planning Guide - entitled 'Family Breakdown'. Published by CCH (Australia) Ltd, the book is updated annually, to keep up with constantly changing tax laws. This practical book covers the strategies that need to be understood by family lawyers when negotiating a family law property settlement or formulating orders to be made by the Family Court. Accountants and financial planners may also find this paper to be of assistance when creating a financial plan for their clients. With care, the inevitable financial loss to both parties can be kept to a minimum, and unwanted revenue expenses can be avoided. For example, transfers of real estate pursuant to Financial Agreements (which have replaced Section 86 and Section 87 Agreements as from 28 December 2000) do not attract CGT rollover relief. Failure to take this into account can have disastrous consequences for the client, with a corresponding negligence action against the professional adviser.
Distributing the Spoils - The Difference between Hacking and Carving
The Family Court gives consideration to the parties' respective contributions and to their special needs. An enforced distribution of assets may take place, with the resultant taxation consequences. It is very much up to the parties' legal and financial advisers to ensure that all of the possible consequences are taken into account. This is done either when negotiating a final resolution, or when making submissions to the Family Court regarding what orders it should make.
At this stage a good level of co-operation between the parties and their respective advisers is desirable.
It is not uncommon for a Family Court judge to indicate broadly the likely orders he/she will make after a contested hearing. The parties' legal practitioners are then invited to submit draft minutes of orders designed to give effect to that intention, and for the judge to then settle those orders. There have been instances of the Court requiring one party to co-operate in tax minimisation arrangements recommended by the other party's accountants. It is important to have such information available for consideration by the judge during a hearing. Unnecessary revenue consequences clearly should be avoided.The distribution should also provide for legal and other professional advisers' costs.
Careful attention to the method of dismantling existing structures will be appreciated by clients. The approach by the Family Court is to group all of the parties' respective assets (whether in corporate structures or otherwise) and categorise them as their assets or financial resources. When considering how to distribute and restructure the assets, the tax issues as they apply to the different entities must be carefully considered. The entities may have been established for estate and tax planning reasons, or to achieve limited liability. While the structures may have been effective in minimising tax during the accumulation phase, tax is likely to be payable when dismantling, restructuring or disposing of such assets.
It is impossible to cover all the issues given the enormous complexities involved with taxation. CGT alone is highly complex. Incessant amendments to taxation laws have forced financial advisers to constantly rethink strategies in tax planning, with family breakdown situations being no exception.
A number of situations are outlined below, with a view to prompting the family lawyer or financial adviser to seek appropriate help should the warning bells ring. There is a very real danger that should a party find out that his/her expected property settlement is substantially eroded by unforeseen tax, he/she will look to his/her professional advisers for compensation.
This paper is intended as a guide only to when further expert tax or accounting advice is needed. Every case is different, and different fact situations can impact substantially on what otherwise might be a straight forward case. It is trite to say that our tax laws are complex. As indicated, what follows is designed to prompt you to take care in what you are doing when you restructure your client's assets during a divorce.
This is the first article in the series of articles from Peter Szabo's publication "Tax Issues in Family Law Property settlement"
Other articles in the series
1. Tax Issues in Family Law Property settlements: Distributing the Spoils -The Difference between hacking and carving
2. Tax Issues in Family Law Property settlements: Real Estate and other Assets held by individuals
3. Tax Issues in Family Law Property settlements: Divorcing the Partnership
4. Tax Issues in Family Law Property settlements: Divorcing the Discretionary Trust
5. Tax Issues in Family Law Property settlements: Divorcing a Spouse from the Company
6. Tax Issues in Family Law Property settlements: Other Aspects
7. Tax Issues in Family Law Property settlements: Tax Considerations for Child Support
8. Tax Issues in Family Law Property settlements: Advance Planning