The government has recently released a Consultation Paper on proposed changes to the way shareholder loans are treated for tax purposes. The current rules which can deem such loans to be dividends unless treated in a certain way have been in place many years so represents a major shift in treatment should the proposals be passed into law.
Some of the key changes proposed to apply from 1 July 2019 are:
- All shareholder loans, both secured and unsecured to have a maximum term of 10 years.
- The concept of distributable surplus for companies to be removed.
- Loans owing to beneficiaries in Trusts will be treated in the same way as companies.
- The base interest rate applied to these loans will be higher.
- Minimum repayments will be replaced by milestones. E.g. 50% repaid by Year 4.
What impact will the changes have?
There will be four main areas of impact should the proposed changes go through as is:
- Loans secured by mortgage are currently permitted to have a 25 year term, under the changes these loans will have to be reissued under 10 year terms after 30 June 2021 which may have a significant impact on repayments required as well as require new loan agreements to be put in place.
- Old loans that were in existence prior to when the laws originally changed (1997 for companies and 2009 for trusts) have been allowed to sit unpaid with no consequences for tax purposes. Under the proposed changes, these loans will now have to be repaid over 10 years.
- Trusts which have slightly different rules around loans owed to corporate beneficiaries will also be included in the new rules which will potentially bring in new payment terms and schedules.
- Previously a deemed dividend would be limited to an amount equal to the approximate net asset position of a company otherwise known as a distributable surplus. Under the new rules this will no longer be the case and any loans that have been allowed to sit untouched as a result of these rules will also need to be repaid.
What will need to be done if the changes happen?
- At a minimum – loan agreements will need to be revised to comply with the proposed changes for new loans. Existing 7 year loans can remain in place until maturity but 25 year loans will need to be replaced with 10 year terms by 2021.
- For companies and trust with older loans that have been quarantined, these will likely become new additions to loans that need to be repaid which may in turn cause shareholders to have a much higher tax bill to satisfy the requirements. Review of how this impacts tax and cash-flows should be undertaken.
- Similarly where loan terms changes from 25 to 10 years, a review should be conducted as to how this will affect repayments and a shareholders taxable position.
Although the proposals are still in consultation, any changes of this size may have considerable impact so taking to the time to plan ahead will be a key to minimising the downsides of the proposed legislation.