Gift and loan back arrangements

Estate Planning and Administration

Gift and loan back arrangements

The Queensland Supreme Court’s recent decision of Re Permewan No. 2 [2022] QSC 114 has questioned the effectiveness of gift and loan back arrangements as an estate planning strategy.

Gift and loan back arrangements typically involve a series of transactions whereby an entity gifts an amount of money almost equal to their net equity to a Trust which, in turn, loans the amount of the gift back to the originating entity and takes security for the loan amount. The effect is that the net equity is moved from the originating entity to the Trust, without exposure to capital gains tax or transfer duty.It is a popular asset protection strategy.

In this case, the deceased (Prue) had 3 adult children (Scott, Marla and Donna). Prue died in September 2019.

In November 2017 Prue had made a Will by which:

(a). Scott was appointed executor and trustee;

(b). Shares in her company were bequeathed to Scott;

(c). The rest of the estate was bequeathed to her Family Trust, which Scott controlled. He was the director of the trustee company.

The estate was valued at around $3m.

At the same time as she signed her Will, Prue executed documents to record a number of transactions that purported to constitute a gift and loan back arrangement:

-Prue gifted $3m to her Family Trust by way of promissory note;

-Prue then ‘borrowed’ $3m from the Family Trust;

-Prue and the Family Trust signed a loan agreement stating that Prue would, when called upon by the Trust, repay the $3m and provide security for the loan in the form of a mortgage over her residence and security interest over her shares.

Prue subsequently instructed her solicitor to date the documents April 2018.

Prue did not have $3m cash to pay to the Trust if the promissory note was called upon. In that event, Prue would have had to liquidate her assets and after realisation costs there would likely be a shortfall. Likewise, the Trust did not have $3m in cash to loan to Prue.

Evidence was given by Prue’s lawyer that the purpose of the transactions was to ensure that there was so little, if anything, left in the estate on or after Prue’s death that any family provision application by Donna and Marla would have no prospect of success.

Throughout the proceedings, Scott and the trustee company conceded that the transactions were unenforceable, as there was no evidence that the promissory note had actually been delivered by the Trust to Prue. Absent delivery, the promissory note remained inchoate and incomplete.

The court commented that even without the concession of Scott and the trustee company, it would have found that the transactions were invalid and unenforceable at law for reasons including that they were contrary to public policy and constituted a sham.

The court found that this was not a case of Prue having divested herself of all her assets before she died. Prue had no intention of disposing of her property during her lifetime. The documents which recorded the transactions were executed contemporaneously with Prue’s Will and the transactions were only ever intended to take effect upon her death.

Whilst a testator is free to divest themselves of property by a transaction inter vivos, the transactions Prue entered into were illusory only and fell within the meaning of a ‘sham’ i.e. “something that it intended to be mistaken for something else or that it not really what it purports to be. It is a spurious imitation, a counterfeit, a disguise or a false front. It is not genuine or true, but something made in imitation of something else or made to appear to be something it is not. It is something which is false or deceptive”.[1]

The public policy concerning family provision applications is based on the making of provision for the maintenance of members of a family who are found to be in need of such maintenance when the family tie is broken by death. The court commented that enforcement of the transactions in this case would defeat or circumvent that public policy.

The general rule is that costs follow the event unless the Court orders otherwise. This means that the unsuccessful party will be required to pay the costs of the successful party. This rule also applies to probate litigation. It is wrong to approach the question of costs by starting with a general proposition that the costs of all parties should be paid out of the estate, or that they should be paid out of the estate unless it is demonstrated that an unsuccessful party’s conduct was shown to be unreasonable.

Indemnity costs may be warranted where there is evidence of particular misconduct that causes loss of time to the court and to other parties, or willful disregard of known facts or clearly established law of the making of allegations which ought never to have been made or the undue prolongation of a case by groundless contentions.

Scott and the trustee company were ordered to pay indemnity costs. This case is a reminder to:

-Ensure paperwork for gift and loan back arrangements is in order;

-Ensure cash is actually exchanged as part of the transactions;

-Review any prior transactions and seek legal advice as to the validity of those transactions.

[1] Raftland Pty Ltd v Commissioner of Taxation (2006) 227 ALR 598

Are you looking for advice on Estate Planning? Look no further. MBA Lawyers can help. Call us today on 07 5651 2000.




Read article