‘It’s a matter of trust’ by legendary musician Billy Joel is one of those classic songs from Australia’s best overall decade – the 1980’s.
Let’s talk about TRUST.
“Trust”: confidence that one has been told what is believed to be truthful… someone or something that is reliable.
“Trusts”: a business structure with a trustee which is legally responsible for acting on behalf of, and with the best interests of, specific nominated beneficiaries.
Using a trust structure to buy investment properties has become very topical in recent times.
One of Australia’s most decorated mortgage brokers, Peter Trethowan of Astute Wilston, explained to Propertyology that borrowers often get the idea of setting up a trust from platforms such as podcasts, YouTube and social media forums targeted at property investors.
Some banks and non-bank financial institutions, motivated by a niche opportunity to maximise shareholder profits, tailored a small suite of loan products which enable some borrowers to strategically manoeuvre around traditional credit assessment hurdles.
Such loan products are particularly appealing to ambitious property investors who have an aspiration to proactively use their equity in existing real estate assets towards accumulating a bigger nest egg that will eventually fund a better-quality retirement lifestyle.
“Despite having stable incomes and ample capacity to raise deposit monies, some borrowers do not meet the debt servicing parameters, particularly if they have a sizeable home loan balance and one or two investment property loans already to service,” said Peter Trethowan.
When assessing loan applications, banks are typically required to calculate borrowing capacity by making provision for the interest rates on all existing financial commitments being 3 percent higher than the current rate.
For more than a decade, Propertyology has openly expressed that generations of historical evidence are more than proof that a 2 percent buffer is conservative enough; 3 percent is nothing more than aspiration destroying.
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Some financial institutions assessed applications for investment property loans in a trust name without factoring in the existing financial obligations of the individual people behind the trust entity, typically the husband and wife who are ultimately responsible for the decision making on behalf of the trust.
I am concerned that a significant number of people have already acted on misguided information and invested via trust structures purely to circumvent traditional loan assessment barriers.
“House-of-Cards”: something with a higher-than-normal probability of collapse due to an initial oversight of important elements. A precarious structure or argument built on a shaky foundation.
It’s one thing for a bank to turn a blind eye to such information, but it’s highly likely that the fine print in the terms and conditions includes a signed acknowledgement from the borrower that the details of all financial obligations for all related parties have been disclosed in full.
Both CBA and Macquarie Bank, two of the biggest players in borrowings to trusts, announced late last year that they are no longer lending in that space.
Interesting!
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While trusts structures do provide advantages to some people in some situations, in a large majority of cases they will *not* be the best overall option.
Yes, securing funding is obviously important.
Choosing what name to buy assets in has various other important considerations.
They include:
- Loan interest rates: typically a premium is charged when the official borrower is anything other than private individuals,
- Personal tax considerations: annual cash flow shortfalls from investment assets owned in personal names can be offset against other personal income, whereas personal income offsetting is not permitted for assets owned by trusts and companies,
- Land tax considerations: typically higher annual fees are charged to trusts and corporations than individuals, and
- Capital gains tax: payable on gains produced by all income-producing assets, but typically higher taxes are payable if the asset was owned by anything other than private individuals.
I seriously question the skill and integrity of those pushing borrowings via trust structures.
“It’s a matter of trust.”
To quote some lyrics from the great tune by The Piano Man: ‘The closer you get to the fire, the more you get burned.’
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