There can be significant differences in the taxation consequences of certain family law related orders or settlements and deciding who keeps what.
Unique opportunities in the family law environment can enable a couple to lawfully restructure their business and investment affairs and wealth while avoiding, or minimising, the hefty taxation and stamp duty consequences. On the other hand, concluding a family law property settlement only to discover adverse and unintended tax consequences is never a desirable outcome.
This area of the law is very complex and each interested party needs to seek their own specialist 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 Financial Agreement under the Family Law Act.
This article examines the potential 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 applied with care, can allow spouses to maximise their property settlement outcomes.
There are two main applicable revenue taxes being Stamp Duty (state based) and Capital Gains Tax (being a Commonwealth tax):
Stamp Duty
The Family Law Act contains an exemption from stamp duty charges on transactions which adhere to an order of the Federal Circuit and Family Court of Australia or pursuant to certain financial agreements.
In some cases, if the terms of the Court order or agreement clearly provide for it, property can also be transferred from a spouse to a company (including the trustee of a trust), or vice versa.
Rulings as to stamp duty and taxation consequences of certain 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 over a period of many years prior to separation with significant unrealised capital gains. Anxiety can often surround the selling down of these assets to create cash sufficient to implement a property settlement, given the potential taxation liability which may 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 any otherwise consequential 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 capital gain is deferred until such time as the spouse receiving the asset themselves disposes of it at some future point. The receiving spouse is deemed to have acquired the asset at the initial time when the transferor acquired it, the extent of any capital 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 (and asset acquired before the implementation of Capital gains tax in September 1985) can be transferred to a spouse whilst 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 often associated with different types of assets is set out below:
Real estate
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 (being the principal place of residence) 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.
Investment properties
Families often own investment properties which are held in the name of one or both of the parties, or often 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 such a property will generally trigger a Capital Gains Tax liability. Capital Gains tax is essentially a tax on profit from disposal of an asset. This means that the difference between the cost of the property and the sale price (or 50% the difference if the property has been held for more than 12 months), will be added to the other income of the person selling and taxed at their applicable 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.
Family Trusts
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.
Shareholdings
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”.
Motor vehicles
Transfers of motor vehicles are generally not subject to Capital Gains Tax. Stamp duty exemptions apply in most States.
Businesses
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.
Conclusion
The tax implications (and opportunities) that can arise through divorce or breakdown of a de- facto relationship are substantial. For those who take advice from their specialist lawyers, tax advisors and accountants early in their property settlement, there is potential for some restructuring benefits. At the very least proper advice can help to minimise taxation consequences.
The law in this area is very complex and if you would like to know more call us on (08) 8344 6422 or email [email protected].