Statute barred** loans and structuring advice

Last week’s post touched on statute barred loans from a Division 7A perspective.

The issues in relation to statute barred loans are often highly relevant in the context of estate planning and asset protection exercises.

In particular, amounts that have often built up over many years can in theory become unrecoverable automatically six years after they were initially made.

In a practical sense, so long as all parties to the arrangement are aware of the automatic forgiveness, steps can normally be taken to ensure that there are no unintended consequences triggered.

For example:

1. If the existence of the loan is acknowledged at any point, this automatically restarts the 6-year period.
2. Acknowledgement can be achieved simply by making even a nominal repayment of the loan or charging of interest.
3. There is also the likelihood that if the parties to the loan have signed the financial statements where the loan is evidenced, this will be sufficient to create the requisite acknowledgement.
4. Care must however be taken in relation to the previous point, for example, if there is a loan between a trust and a beneficiary, and that beneficiary is also a director of the corporate trustee of the trust, then there would appear to be a valid argument that notification has been given.
5. In contrast, if the loan is between the trust and a beneficiary, who is not otherwise in any way involved in the trust, then proving that they were aware of the loan and acknowledged its existence may be impossible.

As usual, please contact me if you would like access to any of the content mentioned in this post.

** for the trainspotters, the title today is riffed from the David Bowie song ‘It’s no Game (Part 2)’. View hear (sic):

Division 7A and (un)forgiven** debts

Where a debt owed by a taxpayer to a company is forgiven, this will generally trigger the operation of Division 7A. This means that the amount will be included in the assessable income for the debtor as a dividend in the year the forgiveness occurs.

Importantly, as the amount will be neither a payment nor a loan, it is not possible to rely on the more standard approach to comply with Division 7A of repaying the balance with the requisite amount of statutory interest.

One way in which a debt can be forgiven is pursuant to the rules that cause debts to become statute barred.

In most states, a debt that is not secured will become automatically unrecoverable after six years, unless steps are taken to acknowledge the existence of the loan.

The Tax Office in practice statement LA 2006/2 confirmed that it did not intend to apply the provisions of Division 7A to loans that became statute barred where the loans were originally made prior to the commencement of Division 7A.

While in the context of Division 7A (given that it was introduced in 1997), there should not be many situations where the issue remains relevant, for loans otherwise not caught by Division 7A, the automatic forgiveness caused by the provisions of the statutes of limitations in each state are often highly relevant.

** for the trainspotters, the title today is riffed from the Metallica song ‘The unforgiven’. View hear (sic):