Value Adding at EOFY Tax Talks

Thursday May 12, 2022

So, EOFY again and probably time to meet with clients and go over the taxation management plan. As the late Kerry Packer famously said, “If anybody in this country doesn’t minimise their tax, they want their head read”. Sometimes though, an over emphasis on tax management strategies may expose a related business entity, or even a company director, to risk. From our side of the fence, we believe that tax management needs to also consider the management of risk and asset protection.

Helping your client manage and mitigate these risks can be the key to having a client for life. The right financial, asset protection and personal risk management advice can make a huge difference and make sure you have a fee-paying client well into the future, even in troubled economic times.

So, what sort of issues are we talking about here? How can tax management strategies expose a director to personal risk? What can be the implications for related business entities?

Division 7A Loans are not risk free

The first issue to consider is Division 7A loans. Management of Division 7A loans is crucial. While they can be great for tax management there are risks. So, how does it all work? The director gets money as a loan, so it is not taxable income. It is a loan though and it will need to be repaid at some point. Division 7A loans can be a great tool, as long as you have a plan on how they are going to be paid back. The biggest issue here is, if anything happens to that company and it ends up in liquidation, the director will be called on to repay any loan they may owe.

Tips for discussing Division 7A loans with your clients:

  • Make sure the client knows whether they owe the company a Division 7A loan or not, and if so, how much they owe.
  • Discuss the Division 7A loan repayment plan with the client.
  • Ask the client to consider the implications if they had to pay the loan back straight away. Would the family home be at risk?
Review the business structure

The EOFY is also a good time to sit down and review the client’s business structure. This is particularly relevant for business groups that comprise a number of different companies, such as separate businesses or asset holding entities. When going over tax management it is a good idea to spend a little time with the client to review the financial relationship between different entities. It is not uncommon for trading entities to pay for assets that are held by other companies, such as asset holding entities. Often different companies within a business group end up owing each other money.

It is important to remember that if anything happens to a company, such as a trading entity, any loans that are owed to it by any party will become payable in a liquidation scenario. This could have a massive impact on a business group and could ultimately lead to the loss of critical business assets. Further, if the trading entity goes into liquidation and is in possession of assets owned by another company, unless the owner has registered a valid security interest on the Personal Property Securities Register (PPSR), these assets may be claimed by the liquidator.

Tips for reviewing business structures:

  • Review and explain the debtor-creditor relationships within a business group to the client.
  • If using an asset holding entity, make sure the assets are in the name of the right company. Directors often buy assets without discussing it with their accountants and can end up with assets in the name of the trading entity.
  • Consider whether the client may need a plan to extinguish any debtor-creditor relationships, such as through charging for equipment hire or for the provision of other services.
  • Check to ensure any related parties have registered a valid security interest on the PPSR where appropriate. If you do not know the answer, seek specialist advice.
Related party loans to the company and security interests

It is not uncommon for companies to borrow money from the director, other family members or related entities. Unfortunately, it is uncommon for these lenders to take security for their loans. Banks and other lenders certainly do, and there is no reason a related party cannot do the same.

When reviewing the financial statements, you should spend a little time and look at who has lent the company money. Is there a written loan agreement? Have they registered a security interest? Has a rate of interest been documented? Having a validly registered security interest can greatly increase the lenders’ chance of getting repaid if something goes wrong unexpectedly. Some directors and related parties act like banks by lending money to the company, but then don’t take the protections and safeguards that banks do. Registering a security interest can be a great insurance policy against something unexpected.

Tips for discussing related party loans:

  • Complete a thorough review of the Balance Sheet and identify all lending relationships.
  • Ask if the loan agreement has been documented, and all terms and conditions considered. If the agreement has not been documented, do this now to reflect the intention of the parties at the time the loan was granted.
  • Register a security interest on the PPSR where appropriate. If you are not sure what to do about PPSR and security interests, seek specialist advice.

Business owners/ directors face a host of personal risks arising from their businesses. Helping your clients get the right advice and manage these risks can be what makes you a trusted advisor as well as their taxation professional.

In summary, below are some common-sense steps you can help directors take now to manage their personal risks in the future and add value to your relationship with your client.

Key take homes
  • Review Division 7A loans. Great for taxation management but you need to have a plan on how the loan will be repaid. If anything happens to the company the director may be called on to repay any loan they owe company.
  • Review related party debtor-creditor relationships. If anyone, such as a family member or related business entity, owes the company money and it has problems they will also be called on to repay their loan.
  • If a client’s family member or related party is owed money, registering a security on the PPSR can increase the priority for payment in an insolvency situation and obtain a much better result for the lender.
  • Discuss the ownership of major family assets, such as the family home. A director exposed to risk can sell their equity in assets to a third party for fair market value.

In many cases loans can be settled for a fair, commercial amount. Arrangements can be made now to address Division 7A loans, even if time is needed. Business and personal assets can be sold to a third party, such as a life partner or related entity, as long as fair consideration is paid. All these steps can help reduce and manage risk and help your client build a more robust and sustainable business for the future – hopefully making them a client for life.

Should you have clients or associates that you know are struggling with financial issues or need assistance in reviewing their business affairs in preparation for what’s around the corner, our team of Strategists would be pleased to discuss options that are available on how to best design and implement insolvency strategies. Contact us now on p. 1300 765 080 | ua.mo1721814610c.arj1721814610d@ofn1721814610i1721814610

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