Mary Holm: Helping the kids into a home – probing the tax issues

OPINION:

Helping the kids #1

Q: I am a tax specialist and read your article on helping the kids into a home with interest. Often the parents want to have the house in their name to protect against commercial risk and relationship risk. However, this creates a tax issue when the home is finally transferred to the children when they have saved up enough KiwiSaver.

This can be solved with a bare trust. The parents legally purchase the property but hold it on bare trust for the children. The Income Tax Act 2007 treats the children as owning the property from the start, so when the property is legally transferred to them there is no transfer from a tax perspective and no bright-line issue.

Another issue is if the parents borrow and lend the money to their trust. The trust buys the home for the children and the children pay the trust enough to cover the mortgage.

The trust then pays the parents interest on their loan, and the parents pay this to the bank. With the new interest deductibility rules, the trust will from October have no interest deduction, exposing it to tax on the deemed profit. Better for the parents to ask the children to pay a lump sum to the trust. This can be used to repay the parents, who can then pay the interest on their mortgage.

The children then only pay the other expenses as rent to the trust, so that the trust has income and expenses that are equal, leaving it in a tax-neutral position. (The lump sum may be considered income to the trust anyhow, but my view is that it should be on capital account.) IRD are targeting mums and dads with land deals because they are sitting ducks. Not so easy getting at the Googles and Amazons of the world in their tax havens.

The above is not intended as advice, but only as general observations and should not be relied on.

Hopefully this can save someone from a bright-line headache.

A: Thanks for this. Your qualifications suggest you know what you are talking about. However, Inland Revenue is not rushing to endorse it.

Says a spokesperson, “Inland Revenue will not comment on the specific scenario but warns that any arrangement for the purpose of avoiding tax may be considered tax avoidance, and this carries penalties of up to 100 per cent of the original tax that should have been paid.

“We highly recommend seeking professional advice before entering into any arrangement.”

Helping the kids #2

Q: I was a chartered accountant in industry for 40 years but trained in a public practice office.

On last week’s letter about making an interest-free loan to your children so they can buy a home, my understanding is that this type of loan must contain a clause allowing interest to be paid on demand. It is called a “marshalling” clause. The agreement must be in writing, and legal advice is essential to prevent the possibility of interest being imputed to the lender.

A: Thanks, and sigh! It seems every idea on helping children into their first home is complicated. I’ve got one more letter on this topic to run next week.

Q: Noting your support for low-fee KiwiSaver funds, which I agree with, I am delighted to see that the Government is changing KiwiSaver rules from December 1, 2021 to allow all KiwiSaver members to elect into the new low-fee default balanced funds.

I believe this change will apply downward pressure to managed fund fees generally. I also think that this option may be particularly valuable for over-65s, who will be able to join these new low-fee default balanced KiwiSaver funds, while still being able to withdraw money when needed. Do you agree?

A: Yes. The recently announced changes to KiwiSaver default funds open up opportunities for many more people than just the 381,000 current default fund members — those who join, typically when they enter the workforce, and don’t select their own KiwiSaver fund.

Arguably the changes will help everyone in KiwiSaver.

There’s actually nothing new about anyone being free to move into a default fund. But until this December, default funds are among the lowest-risk conservative funds. So they are not suitable for anyone except really risk-averse people or those who plan to spend their KiwiSaver money within the next year or so.

Conservative funds have almost no volatility — ups and downs — but their long-term average returns are the lowest. However, from December default funds will be middle-risk balanced funds. These have middle-range long-term returns and volatility, and are suitable for people who:

• Expect to spend the money — on a first home or in retirement — within about five to 10years.

• Expect to spend it more than 10years from now, but dislike higher-risk growth or aggressive funds — despite their higher average long-term returns — because they can’t cope with the higher volatility.

A special feature of the new balanced default funds is that they will charge low fees and no fixed member fees — which is particularly good for members with low balances.

The two new default providers, Simplicity and Smartshares (which runs the SuperLife KiwiSaver scheme) will charge the lowest fees, with Smartshares at 0.2 per cent and Simplicity at 0.3 per cent.

The four schemes continuing as default providers will all charge lower fees from December. They are: BNZ 0.35 per cent; Booster 0.35 per cent; BT (Westpac) 0.4 per cent; and Kiwi Wealth (connected to Kiwibank) 0.37 per cent.

The Government calculates that a default member joining KiwiSaver at 18, earning $50,000 a year, could have $143,000 more at retirement because of the lower fees and higher returns.

But won’t lower fees bring lower performance? No. If you graph the returns from balanced KiwiSaver funds — as the Financial Markets Authority (FMA) has done — it shows you don’t get a higher return if you pay higher fees. The returns on low-fee funds are in the same range as the returns on the high-fee funds.

Comments Rob Everett, chief executive of theFMA: “We are conscious that it’s not all about fees, and that no-one wants a shift to ‘low-fee low-service’ models right across the sector.

“But having low-cost options in the default funds is a good step.”

I would add that the new default funds had to offer not just low fees, but also good member services. I recommend that everyone in a balanced fund moves to a low-fee default fund after December 1.

What’s more, everyone else in KiwiSaver should move to low-fee funds at their risk level. You can get info on fees from the KiwiSaver Fund Finder on sorted.org.nz. In a low-fee fund, you should end up with much more at retirement.

Here’s hoping the new emphasis on lower fees will lead to fee cuts throughout KiwiSaver. Too many providers have cut costs per member as they have grown, but have not passed on the benefit in lower fees.

Who chooses?

Q: The Government recently announced its new default KiwiSaver Scheme providers.
Could we please know how they got selected? Who selected them? How often do these schemes get reviewed?

Does it mean that the default providers have better schemes than others?

My KiwiSaver is with one of the default providers who lost out. What is going to happen to my KiwiSaver on November 30? Should I move to one of the default providers ASAP?

A: There’s no rush. But switching provider would probably be a good move.

As I said above, low fees and good services — including guidance in selecting the right risk level and contribution rate — were important factors in choosing the new default providers. They also had to exclude investments in fossil fuel production and illegal weapons in their default funds.

The Ministry of Business, Innovation and Employment (MBIE) ran the selection process, using an independent panel of experts. They do this every seven years.

The current default providers who were not re-appointed are AMP, ANZ, ASB, Fisher Funds and Mercer. ANZ and ASB are the two biggest KiwiSaver providers, so there will be many people like you, in a default fund that will lose that status at the end of November.

There’s nothing inherently wrong with these providers. But the fact that they weren’t reappointed suggests they are not the best in town.

People in their default funds will be moved to new default providers at the end of November. But if you want to stay put, ask your current provider to keep you in one of their non-default funds. Or you can switch to any other provider at any time by just asking them to move you.

Default members should note that after December 1 you will see your balance move up and down more. As long as you don’t plan to withdraw the money within about five years, it will be great if you can learn to cope with this volatility to get the higher returns. But some may want to reduce their volatility.

I’m sure the new default providers will help their members with this transition.

Improving NZ Super

Q: A correspondent last week correctly identified that, “While NZ Superannuation is a stand-out world leader of gender equality, KiwiSaver is designed for a male model of paid work.”

I would add that KiwiSaver also introduces further inequity, as those who fail or who cannot afford to contribute $1042 each year miss out on the Government contribution of $521.

How about we simply scrap KiwiSaver and redirect the Government contribution to enhancing the gender- and poverty-beating world leading NZ Superannuation?

A: Now there’s a revolutionary idea, and it has some appeal. But I struggle to see a government killing off KiwiSaver.

Perhaps we could settle for steps to get those on the lowest incomes into the scheme and contributing.

I would love to see contributions of 1 per cent of pay permitted. For someone on the minimum $20 an hour wage, working 40 hours a week, 1 per cent would be $8 a week.

Pretty much everyone could manage that, including perhaps beneficiaries.

And once someone is in the scheme, hopefully they will later see better days and increase their contributions. If not, at least they will retire with something.

A message for Scrooge

Q: The multimillionaire gentleman in last week’s column complained about his cheap beer choices, being a ‘Scrooge’ with dining out expenses, and reminded us of an old saying his mother would quote, “Look after the pennies and the pounds will look after themselves”.

Too true. However, a new-age saying goes, “If you don’t spend it, your kids will!”.

To anybody who supports the RSA, please continue to do so. Every day the RSA movement helps current and former service personnel and their families get the support they need.

I’m sure our millionaire friend’s life has been impacted indirectly in some way by the atrocities of war. On your next RSA visit, please buy two desserts!

A: Fair enough.

Other correspondents said they were like the multimillionaire, with one man saying he had to “properly empty the toothpaste tube!” But that’s not the same as not buying the best beer. It’s just reluctance to waste. Nothing wrong with that.

Another asks, “Can you recommend the beer I would love that might break the cycle of frugality?” No, but I suggest you work your way through all the craft beers out there, and have a great time finding out.

Still penny-pinching

Q: (From last week’s multimillionaire) My wife read your column on Saturday, pointed it out to me and said, “Golly there are other people out there just like you!” I came clean. She thought it was great. That night we drank a bottle of bubbly the family gave her for Mother’s Day. No cost to me.

A: How did you deserve such a nice wife? Now please, the next shout is yours, okay?

– Mary Holm, ONZM, is a freelance journalist, a seminar presenter and a bestselling author on personal finance. She is a director of Financial Services Complaints Ltd (FSCL) and a former director of the Financial Markets Authority. Her opinions do not reflect the position of any organisation in which she holds office. Mary’s advice is of a general nature, and she is not responsible for any loss that any reader may suffer from following it. Send questions to [email protected] Letters should not exceed 200 words. We won’t publish your name. Please provide a (preferably daytime) phone number. Unfortunately, Mary cannot answer all questions, correspond directly with readers, or give financial advice.

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