Your friend and client John comes to see you about a proposal put by his ageing father Hugh. John tells you that Hugh wants to give him a pretty decent commercial investment building because he is sick and tired of dealing with the tenants. The idea is that John will take over the work, and the ownership, but that Hugh will get a share of the rent.
That's fine by John but he isn't quite sure how to do it. He has a feeling that possibly he would have to pay tax on the rent but could not get a tax deduction on the payment to his father.
You think about it and suggest that instead of making it a straight gift, Hugh should sell the property to John for market value but secure the price by a mortgage back. The interest can be set by reference to the amount of the rent. Hugh can forgive the debt in his will. Because the debt is incurred to buy and generate income from the property any interest on the debt will be deductible under normal principles.
You talk about the security of all this and the risk of challenges to Hugh’s will if the mortgage debt is part of Hugh’s estate when he dies. Given the family circumstances everyone is relaxed that this is not a problem.
You discuss how stamp duty is based on the market value of the property and how mortgage duty is based on the amount secured. You mention your disappointment that the promised abolition of mortgage duty did not take place on 30 June this year. You tell John that because the property is valued at $1 million stamp duty on the transfer is $40,490 and on the mortgage $3,941.
You duly document the transaction and fix up the mortgage. Because it is a family type transaction you simply use the standard mortgage precedent that you have.
In the context of the transaction the sting is not huge but you have cost John an unnecessary $3,936.
The reason? Your standard precedent described the debt from John to Hugh as a loan. In reality the debt is not a loan. It is rather an unpaid purchase price.
The distinction is vital.
Under section 204 of the Duties Act duty is charged on instruments that fall within the definition of a "mortgage". Section 205 gives the basic definition of "mortgage" as being "a security by way of mortgage or charge over property wholly or partly in New South Wales at the liability date, or…"
Under section 210 the amount of duty chargeable on a mortgage is calculated by reference to the "amount secured". Under section 213 the "amount secured" is "the amount of any advances made under an agreement, understanding or arrangement for which the mortgage is security…" Under section 206 "advance" means either (a) a loan or (b) a bill facility.
An unpaid purchase price is neither a loan nor a bill facility and therefore nor an advance and therefore liable to duty beyond the nominal five dollars under section 210 (2) (a).
Author: Jim Main
This article is general information only and should not be relied on without obtaining further specific information.