It’s Friday morning and you settle into work for the day hoping to catch up on some matters as Friday’s are usually pretty quiet.
As soon as you’ve settled into your first matter, the phone buzzes. One of your old friends from university, Max, who is now practising family law, is on the line. “Bugger,” you think, “there goes my quiet day!”.
“Amelia!” he exclaims as you answer his call “I need your help with a rural conveyance today – can you spare a few hours?”. “Of course”, you say, never one to turn work away “just send me an email with the details”.
An email arrives in your in-box shortly after.
His client, Thomas, is about to separate from his wife Rose. Thomas owns all the shares in a company which owns a farm in the Southern Highlands, with a recent market valuation of $10m.
The company has been put into liquidation and the plan is for the farm to be sold to Thomas’s son, Henry for $10m. The company will lend the $10m to Henry and the company will assign the debt to Thomas.
They are doing this for 2 reasons. One is to stop Rose getting her ‘hands on the farm’ as she ‘won’t go near it if Henry owns it’ and the other is to qualify for the s 274 exemption from duty.
You order the required searches, draft the contract and have it signed and exchanged the following week.
Max is impressed with the speed of your work and offers to take you out for dinner to show his appreciation. You shudder at the thought and quickly decline the invitation as memories of your last dinner with Max come flooding back, creep……..
Max tells you he will settle the matter and calls a week later to confirm it is all done and dusted.
You receive a call from Max some months later. “Well,” Max says gruffly as you take his call, “we have a mammoth problem with tax on that transaction you did a few months back, which I really didn’t expect given you supposedly work with a bunch of tax specialists!”.
“Whatever do you mean Max?” you say “you didn’t ask us to advise on tax, just do the conveyance!”. Max responds in fury “I ASSUMED I WOULD BE WARNED ABOUT ANY TAX ISSUES GIVEN YOU ARE A BLOODY LAW FIRM THAT SPECIALISES IN TAX!! I’LL SEND YOU AN EMAIL WITH THE PROBLEM – WORK OUT HOW TO BLOODY FIX IT OR MY BLOODY CLIENT WILL BLOODY SUE YOUR BLOODY PANTS OFF!!”.
An email arrives from Max soon after saying that Henry has been told he has to pay tax on the $10m debt because under Division 7A, section 109F of the ITAA 1936 the company is taken to have paid a dividend to Henry because the debt has been forgiven pursuant to a ‘debt parking’ arrangement.
You mark the email as important and urgent and forward it to one of the senior specialist tax lawyers in your firm and rush into her office.
As you arrive you see she is in the middle of reading the email and, as she finishes, she buries her head in both hands ‘this is a nightmare’ she says, ‘the email is right, Henry will have to pay tax on $10m’.
She then attempts to explain the ‘debt parking’ provisions to you.
A ‘debt parking’ arrangement is entered into, when:
- a private company assigns the debt to an associate (Thomas) of the debtor (Henry), and
- it is reasonable to expect that the associate (Thomas) will not require the debtor (Henry) to repay the debt.
Henry and Thomas are son and father and, therefore, are associates as defined by subsection 318 (1) of the ITAA 1936.
Given the nature of the transaction, she says, it would be reasonable to conclude that Thomas will not require Henry to repay the debt.
Therefore when the debt was assigned from the company to Thomas it will, most likely be “forgiven” for the purposes of section 109F and a dividend of the amount of the debt, being $10m, will be deemed to be paid to Henry.
On realising the enormity of the problem, you burst into tears.
The senior partner looks at you rather unsympathetically and harshly says, ‘you know full well you’re supposed to run this type of thing past us, I could have structured the whole thing so there wasn’t a problem, stop crying and get out of my office.
This article is general information only and should not be relied on without obtaining further specific information.