Taxing times ahead for family law settlements
By Belinda Spong, Senior Associate, MST Lawyers
Since 2004, the Family Court has had the power to order either a private company or a party to matrimonial proceedings to cause a private company to pay money or transfer property to a party to the matrimonial proceedings. This will remain unchanged.
According to Division 7A of the Income Tax Assessment Act 1936 (“ITAA”) distributions made by private companies to shareholders and associates are usually benefits which should be assessed as income, usually by way of “deemed dividend”.
Until mid November 2013, separating parties were usually treated differently by the Australian Taxation Office (“ATO”). Historically, the tax effect of Family Court Orders requiring a company to transfer property or pay benefits to a party has usually been minimal. The ATO has previously held in a number of private rulings that “deemed dividend” rules contained in the ITAA, will not generally apply where companies distribute cash or property to associates pursuant to a Family Court Order as part of a matrimonial settlement.
In real terms, parties receiving a payment or transfer of property as shareholders from related private companies usually have not been assessed to pay tax on those transactions due to the transaction being part of a family law settlement.
On 13 November 2013 the ATO issued draft tax ruling 2013/D6 which in effect reverses this previously held position.
The effect of the 13 November 2013 draft ruling is in cases where a payment of money or transfer of property to a matrimonial party who is a shareholder, from realised or unrealised profits of the company:
- the private company is deemed to have bestowed benefits on the shareholder by transferring property or paying funds to the shareholder; and
- the shareholder will likely be assessed by the ATO to have been paid a deemed dividend, notwithstanding the payment or transfer is made as a direct result of a Family Court Order.
An often encountered example is the company which is the entity established to run the family business. Usually married parties are shareholders and directors of the family company. Upon marriage breakdown, it may be agreed that one party retain the business, and cause the company to transfer a car, or make a cash payment to the exiting party. Historically these transactions have not been assessed as a dividend to the exiting party. Moving forward these transactions would appear likely taxable as deemed dividends.
The draft ruling is open for public comment until 8 January 2014.
It is expected to become final after that date.
After the draft ruling becomes final, parties and their legal representatives will need to work proactively with their tax advisors to discover tax effective solutions to their matrimonial property settlements before entering into final property settlements. Consideration will need to be given to all potential tax events, including the triggering of a capital gains tax event and/or the need to pay stamp duty on transfers of assets.