Q & A – Centrelink treatment of loans to a family trust

Find out what your peers are asking – based on real-life questions submitted to TechConnect.

Contributor - Janet Manzanero-Caruana, Senior Technical Services Manager

Q: My clients are a couple who are age pension age and own their home. They loaned $2.2 million to a family trust of which they are appointors and trustees. The family trust invested the money however $1.8 million of the investments failed and are irrecoverable. The clients wish to retain the trust and carry forward the capital loss. The investments are now worth $400,000 and it is unlikely that the loan will be paid in full.

The clients have minimal other assets except the loan to the trust and wish to apply for the Centrelink age pension.

How will the loan be treated for the Centrelink assets test? Will deprivation rules apply if the clients forgive part of the loan?

A: The clients are attributable stakeholders of the family trust as they are the source of the trust’s assets and control the trust. The net value of the family trust’s assets (after deducting liabilities) and any trust income are attributed to the clients. The net value of trust assets is nil ($400,000 market value of investment less $2,200,000 loan).

Under the age pension means test the amount loaned to the family trust ($2.2M) is assessable under the asset test and deemed for the income test test. The loan amount exceeds the cut-off asset threshold for couple homeowners, currently $901,500, therefore the clients are ineligible to receive the age pension. 

In most cases where there is no possibility of the loan being fully paid clients can simply wind up the trust after repaying part of the loan with remaining investments ($400,000). As the client cannot collect the remaining loan balance and it will have to be written off.

However, the clients do not wish to wind up the trust because the trustees intend use the trust’s carry forward losses ($1,800,000) in future income years. Where there is no possibility of full repayment the clients can forgive the amount that cannot be repaid and the trust can write off that portion of the loan. 

Generally forgiving a loan to someone falls under deprivation rules. However where the forgiven loan is to a trust where the clients are 100% attributable stakeholders deprivation rules do not apply.

Explanation:

Assessment of discretionary trust

The age pension assets test includes loans to and interests in controlled discretionary trust. A client is an attributable stakeholder of a trust where: 

  • The trust is a designated private trust
  • The client can ‘hire or fire’ the trustee, exercise control over trustee decisions in any manner or change the trust deed or
  • The client is the source of the discretionary trust’s assets.

Trust assets and income are assessed to the client depending on their level of control of the trust (attribution percentage). In this case the couple control the trust as they are appointors and trustees. They are the sole source of trust assets. Their attribution percentage is 100%.

Attributed trust income

Attributed trust income is generally assessed as ordinary income of the attributable stakeholders during the attribution period (usually 12 months, but it can be shorter). Income is usually based on last year’s tax return unless there is a material change. Any trust income is assessable to the clients.

Attributed trust assets

The value of trust assets, such as shares and managed investments, is determined by its current market value less any allowable liabilities. The market value of the trust’s investments is valued at $400,000 while the trust’s outstanding liability is $2,200,000.  This results the trust assets having a net asset value of ‘nil’ for the age pension assets test.

Assessment of loan to discretionary trust

Money loaned by the clients is assessed for the age pension asset test and deemed for the income test. 

Failed loan

Where a loan cannot be repaid a person, if eligible, can apply to have the value of the loan disregarded under hardship provisions and the loan exempt from deeming. In this scenario the clients are not eligible for hardship provisions and the exemption from deeming is not allowed as the failed loan was caused by failed investments.

Will forgiving the loan be subject to deprivation rules?

Deprivation provisions generally apply where a person ‘destroys, disposes or diminishes’ the value of assets or income without receiving adequate financial consideration in exchange for the asset or income. Forgiving a loan generally falls under deprivation rules.

However, where a person donates an asset to a private trust on or after 1 January 2002 and the person is a 100% attributable stakeholder the person is attributed the assets of the discretionary trust. The asset will NOT be a deprived asset of the person. 

The clients are 100% attributable stakeholders. Where they forgive the loan to their trust partly or fully, they are giving money to their trust. Deprivation provisions will not generally apply as the clients cannot ‘gift’ to themselves. 

The clients can reduce their assessable assets and income significantly to pass the means tests by forgiving the loan. If the clients meet the other eligibility criteria they can receive the age pension.

 

More information

If you have any questions, or would like more information, please contact the IOOF TechConnect team on 1300 650 414.

Disclaimer
The information in this section of the website is intended for financial advisers only and is not to be distributed to clients. It has been prepared on behalf of Australian Executor Trustees Limited ABN 84 007 869 794 AFSL 240023, IOOF Investment Management Limited ABN 53 006 695 021 AFSL 230524, IOOF Investment Services Ltd ABN 80 007 350 405, AFSL 230703 and IOOF Ltd ABN 21 087 649 625 AFSL 230522 based on information that is believed to be accurate and reliable at the time of publication.