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Taxation Implications:

Taxation Implications of Policy Ownership

Income Tax

Capital Gains Tax

 

CGT Exemptions:

CGT Exemptions for Insurance

2015 Amendments

Death Benefits

Non-Death Benefits

Terminal Illness

 

Methods of Policy Ownership:

Ownership Implications

Cross Ownership

Self Ownership

Trust Ownership

Super Buy/Sell

 

Buy/Sell Cover:

Implications for Buy/Sell Cover

Cross Ownership

Self Ownership

Related Party Vendors

Deemed Dividends

Risks If No Agreement

Trust Ownership

Super Buy/Sell

Origins of Self-Ownership

 

Debt Reduction Cover:

Implications for Debt Reduction Cover

Cross Ownership

Self Ownership

Trust Ownership

Bank Ownership

 

Third Party Payments:

Implications for Promises to Distribute Insurance Proceeds to Third Parties

 

Commercial Debt Forgiveness:

Commercial Debt Forgiveness

Cross Ownership

Self Ownership

Trust Ownership

 

Super Fund Ownership:

Super Fund Ownership

Tax Disadvantages

Cost Disadvantages

Other Disadvantages

Geared Premium Funding

 

Aggregation onto One Policy:

Methods of Aggregation

 

 

 

 

 

 

 

 

 

Bank Ownership of Debt Reduction Cover

 

A common variation of the Cross-Ownership of Debt Reduction Cover is Bank Ownership.

Under this variation, the Bank is the Policy Owner.

 

ATO View

The ATO has not provided any guidance with respect to how it will treat the Bank Ownership of Insurance Policies.

Because section 118-300 of the Tax Act emphasises the original beneficial ownership of the Policy, it is arguable that the tax treatment of the Insurance Proceeds will depend on how the Bank acquired its interest in the Policy.

 

Alternative Situations

There are two alternative situations:

  • the Bank applies for the Cover; and

  • the Policy is assigned to the Bank by way of security.

 

Bank Applies for Cover

If the Bank applies for the Cover, then it is arguable that it will be the "original beneficial owner" of the Policy for the purposes of section 118-300.

It would be entitled to an exemption in the case of the payment of a Death Benefit.

Unfortunately, it would not be entitled to an exemption in the case of a Non-Death Benefit, because the Life Insured is not the Policy Owner.

As a result, the net Insurance Proceeds after the CGT liability would be less than the intended amount of debt reduction in the case of a Non-Death Benefit.

The fact that the Bank is the original beneficial owner of the Policy can have an adverse implication if the debt is repaid and the Policy is assigned to the Business or the Life Insured.

Theoretically, because the Bank has applied for the Cover itself, it would be entitled to terminate the Policy upon the repayment of the Loan.

This might not be in the interests of the Life Insured, particularly if they had become uninsurable and had no other Personal Cover.

If the Policy is assigned to the Business or the Life Insured, it is arguable that the assignee has given consideration for the acquisition of the Policy as a result of repaying the debt.

Thus, there is a risk that any subsequent Death Benefit would be subject to CGT.

This risk could be minimised by the cancellation and re-issue of the Policy.

Alternative Interpretation

The above analysis derives from the original beneficial ownership of the Policy by the Bank.

An alternative interpretation is that the Act will treat the Business or the Life Insured as the original beneficial owner of the Policy, even if they never applied for the Policy.

If this interpretation is correct, the tax treatment of the Insurance Proceeds will depend on who is deemed to have provided the security or assigned the Policy to the Bank, even though they have never applied for the Policy or actually assigned it.

These issues are discussed in the following analysis which applies where the Policy is assigned to the Bank.

 

Assignment of Policy to Bank by way of Security

The situation can be different if the original Owner of the Policy assigns the Policy to the Bank by way of security.

Under this structure, the original Policy Owner remains the beneficial owner of the Policy.

The Bank's interest is limited to a security interest.

Under section 104-10 of the Tax Act, the assignment of the Policy to the Bank by way of security does not constitute a disposal for CGT purposes.

Under section 106-60 of the Tax Act, the disposal of the Policy by the Bank upon the occurrence of a claim is deemed to be a disposal of the Policy by the person who provided the security.

The tax treatment of the claim will therefore depend on who provided the security or assigned the Policy to the Bank.

Policy is Assigned to Bank by Business

If the Business is the assignor, then it will be the original beneficial owner for the purposes of section 118-300.

It would be entitled to an exemption in the case of the payment of a Death Benefit.

Unfortunately, it would not be entitled to an exemption in the case of a Non-Death Benefit, because the Life Insured is not the beneficial owner of the Policy.

As a result, the net Insurance Proceeds after the CGT liability would be less than the intended amount of debt reduction in the case of a Non-Death Benefit.

Cover is Assigned to Bank by Life Insured

If the Life Insured is the assignor, then it will be the original beneficial owner for the purposes of section 118-300.

It would be entitled to an exemption in the case of the payment of a Death Benefit.

It would also be entitled to an exemption in the case of a Non-Death Benefit, because the Life Insured is the beneficial owner of the Policy.

As a result, the Insurance Proceeds would be adequate to fund the intended amount of debt reduction in the case of a Non-Death Benefit.

Redemption of Policy Upon Repayment of Debt

When a Debtor repays its Debt to the Bank or Creditor, the security provider is entitled to a return or re-assignment of any security it has provided.

This entitlement is called an "equity of redemption" or a "right of redemption".

Under section 104-10 of the Tax Act, the re-assignment of the Policy to the security provider by the Bank does not constitute a disposal for CGT purposes.

The assignee would not be deemed to have acquired the Policy or to have given any consideration for the acquisition.

 

Summary

The tax treatment of the Insurance Proceeds depends on the identity of the security provider or assignor.

It is recommended that the original beneficial owner and assignor of the Policy be the Life Insured, not the Business.

If the Bank applies for a Policy:

  • it would be difficult to identify whether the Business or the Life Insured was the original beneficial owner of the Policy; and

  • there would be a doubt about the tax treatment of the Insurance Proceeds.

It is therefore recommended that this practice not be adopted.

Insurance Trust Solution

The problems of Bank Ownership can be avoided by the use of a Business Insurance Trust Agreement (i.e., Trust Ownership).

 

Copyright: Ian Gray Solicitor

 

 

Adviser Tip

Trust ownership is an indirect form of self-ownership.

The Life Insured is the "beneficial owner" for legal and tax purposes under the roof of the Trust.

See more Adviser Tips

 

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