03 Nov Buying in the correct entity (Listener Question) – Ed Chan
Ed Chan from Chan & Naylor returns to answer a question from Carol about what entity she should use to buy a property.
Kevin: Joining us, once again, to answer another one of your questions, Ed Chan from Chan & Naylor.
Hi, Ed. Nice to have you on the show again.
Ed: Good day, Kevin. It’s nice to be here.
Kevin: We have to answer a question this time from Victoria, from Carol. I’ll read it in just a moment, but just a reminder: we love to get your questions. Any questions about anything – whether it’s tax, finance, buying a property, what you should be buying, what you should be considering – our experts are always ready to answer your calls.
I want to mention, too, that we can’t always answer every question in our shows, so if we can’t answer it in a show, we’ll certainly get your question directly anyway. Quite often, if one person has a question in, I find many other people have similar questions, so we try and cover as much territory as we can.
Okay, let’s get to Carol’s question. What things should I consider when I decide which entity to use to buy my next investment property? That’s a great question, Carol, and Ed, I’m sure you’d agree.
Ed: Yes. Where do I start?
Ed: Carol, the biggest challenge for an accountant, I guess, is that one of your clients comes to see you on a Monday and says, “Guess what, Ed? I bought a property on the weekend.” My initial response, after the shock is “Whose name did you buy it in?” Then, of course, there’s a whole lot of things that happen after that, whether it’s trying to fix things.
But the biggest problem is that once you’ve put your name or a name on the contract, it’s very difficult to change. The vendor may not agree to change it, and it creates a whole lot of problems.
The best thing for anyone when they’re considering buying a property is to see your advisor, your accountant, before you buy the property not after you’ve bought it. I was just going to make that fact up front.
Then there are so many things to consider. The first thing is do you have an asset protection problem? If you’re a person in a high-risk occupation, like a doctor, you generally shouldn’t have any assets in your name. Or if you run a business and you’re a director in that company, then directors generally get sued, so you shouldn’t have the property in your name. And other situations when it’s held in your name could open you up to some sort of litigation. If you had four or five properties in your name, then if a tenant sued you, then they have exposure to all of your other properties, as well.
That’s the first consideration – asset protection – and you really need to sit down with someone to consider that. The second big item is tax. When you buy a property, there are all sorts of different taxes involved. I’ll just quickly go through some of them.
There’s income tax. There’s capital gains tax. There’s land tax. There’s stamp duty on purchasing a property or transferring a property. And, of course, if you’re buying a new property, there’s GST to consider, as well.
Let’s just start off at the top, and I’ll go through each of them very quickly so that you can see how complicated it is. It’s not simply just buying a property. If you’re buying a home, you can just buy the home in your name, but when it’s an investment property, you have to consider these things.
Let’s take income tax right at the top. If you go down to your local accountant, he’d look at your income and your income tax, and if it’s a husband and wife, if one person is earning more income than the other, then generally, if the property is negatively geared, your accountant would advise you to buy in the name of the person who is paying the highest tax.
The reason for that is that you’ll get a larger refund when you do your tax return than if you put it in the person’s name who is on the lower tax, because you only get back the tax that you pay. That makes sense.
The problem with that strategy is that a lot of properties start off as being negatively geared. Negative gearing is when your outgoings are more than our income, and you can then claim the shortfall as a tax deduction against your income and it get you a refund. But a lot of the properties after about seven or eight years become positively geared.
When it becomes positively geared, the net rental is then taxed in the person’s name who is paying the highest tax. Of course, then that becomes a problem, because you have a spouse who is paying a lot less tax and you have this property in your name that you end up paying a lot of tax on.
You might say, “Okay, I’ll move it to my spouse who is on the lower tax bracket,” but then when you do that, you incur capital gains tax and a stamp duty to move it across. It’s very important that we structure it correctly upfront so that you don’t fall into these particular problems.
If you then went back to the accountant and he said, “Just buy another property,” you might have several your name and then you end up with a land tax problem, because land tax is calculated based on the aggregation of all of your land together. It’s not property by property, but they pool the whole lot together, so then you end up with a land tax problem.
You can see that you really need to structure it correctly for your particular circumstances, and unless someone sits down who is experienced in this space and looks through your circumstances to best determine how you should structure it, then it’s best not to just put your name on the contract because that’s the first thing that came up in your mind.
Kevin: That’s right, because right at the start, too, you said how difficult it is to change after the event. Another cautionary note is that quite often, it can be deemed as a double transaction if you do try to change the name of the purchaser after the contract has been done.
Lots of reasons why you’d want to consult an expert. Our advice is that you should consult Chan & Naylor. They’re our supporters. We have a featured channel on our website, a lot more information about them under the direct link there to get you through to Ed and the team.
Ed Chan is my guest from Chan & Naylor. Ed, thanks again for your time and your very valuable insight. Thank you, mate.
Ed: Thanks for having me, Kevin, and thanks, Carol, for your great question.