A few months before the end of each financial year, the media is filled with a plethora of investment propositions that offer huge tax benefits for those involved. The schemes offered vary from a range of agricultural schemes, film production opportunities, large machinery leasing deals, building projects and a myriad of other ideas.
Generally the promoters have received opinions from various legal eagles supporting the project and indicating that it is legal and that the probability of you receiving the stated tax benefits is high. They may even have a letter from the tax department with a ruling about the tax aspects of the project. Accountants’ figures are given which provide profit projections and potential investment returns.
Lavish colour brochures and slick presentations are usually used to promote these projects to high-income earners and business owners with large tax bills.
The focus of these types of schemes is always on the potential tax savings and the investment returns are a secondary consideration. The most exciting projects are usually the ones which provide large tax benefits up front and large investment returns in the future. The problem is however, that many of these projects fall over before the investors receive their promised windfalls.
An added complication is that these types of projects are considered to be targets by the taxation authorities. Worse still, the ATO has recently withdrawn tax rulings which were previously given and which gave investors the confidence to become involved in these projects initially. They have argued that the rulings were not specifically given to individual taxpayers and that therefore individual investors could not rely on the rulings given to the promoters of the scheme.
Putting aside the issue of whether the ATO has acted correctly from a legal and/or moral perspective as this is yet to be tested, I suggest that investors need to become far more astute in doing their due diligence before getting involved in tax-driven strategies.
Quite apart from anything else, there is the practical issue of what happens if your claim for a deduction is disallowed after you have already received a large tax refund from the ATO. Most people are delighted to receive their refund and spend it as quickly as possible.
As quite a few people in Western Australia have recently found out, when the tax office disallows your deductions, they not only want the tax avoided back, but they also apply penalties and interest on unpaid amounts. The onus is on you the taxpayer to prove that your claim for a deduction is valid and until you have done that to the ATO’s satisfaction, they want the money. The risk for you is that the ATO can issue you with an amended assessment up to seven years after you were first assessed.
What this means from a practical point of view is that when you receive an amended assessment, you need to pay the money first and fight the ATO second. Once they have your money, there is no longer any urgency for them to deal with your claim as quickly as possible. In fact, they often win the battle by drawing it out over an extended period of time until you are financially exhausted and can no longer fight them.
The ATO has no hesitation in bankrupting you if you do not pay the amount assessed, even if you are still fighting them in court. The really cruel aspect to all of this is that you could possibly win your fight with the ATO and receive the refund that you originally claimed, but still become bankrupt before you taste victory. The other difficulty for you is that lawyers are less likely to want to take your case on, or continue with your case if you are bankrupt since there is a large risk of them not being paid.
Many people whose claims have been denied and who have spent their sizeable tax refunds, find that they have to sell their homes and other possessions just to avoid being bankrupted by the ATO as a result of an amended assessment.
Now let’s turn to the validity of the investment itself. Many of these ventures are in highly speculative areas where there is little certainty of a return. We have seen this with films, deer farms, ostriches, emus, macadamia nuts, vineyards, tea trees, retirement villages and many other types of projects.
While tax effective vehicles provide a means of attracting capital that may not otherwise be invested in a project, you still need to do your due diligence to make sure that you are likely to see a return on your money. Make sure that you understand the business you are investing in. Take a good look at the management team and their previous track record in this industry.
Dig deep. Don’t just go by the pictures and brief descriptions in the glossy brochures. They are only going to tell you about their successes. What about their failures? Why did they have some failures? How much do they stand to make as a result of you investing your money? What about other companies that are in the same industry? How are they performing? How long have they been involved? What sort of returns are their investors receiving? Would you swap places with them?
Ask yourself, if there were no tax benefit associated with this project, would I invest in it? If not, why not? If yes, why?
Ask yourself if you understand the industry and what you know about it. Verify what the demand is for the particular commodity produced or supplied. How sound is the business plan? How will your investment perform if the earnings projections are not achieved? Will you be asked to contribute more funds before you see a return on your investment?
One of the structures I heard about recently, involved each of the investors apparently running an education service which they then contracted back to the promoter to operate on their behalf. The investors included miners, truck drivers, business owners, farmers, fishermen and a variety of occupations. Blind Freddy could see that most of these people probably had no idea how to operate such a business and that this was purely a scheme to avoid tax. It’s not surprising that the tax department disallowed their claims and issued amended assessments. When interviewed, some of these people claimed that they thought they were running a legitimate business and that they had no idea they could be called upon to repay the tax avoided. I find this rather hard to believe and I’m sure you’ll agree, the tax department is less sympathetic and imaginative than you and I.
Please remember that if a tax inspector has to use their imagination to understand or believe your story, your chances are very slim that you’re in safe territory.
Here’s a little example:
"How have you managed to buy such a luxurious villa while your income is so low?" asked the tax auditor.
"Well," the taxpayer answered, "while fishing last summer I caught a large golden fish. When I took it off the hook, the fish opened his mouth and said, 'I am a magical fish. Throw me back into the sea and I'll give you the most luxurious villa you have ever seen'. I threw the fish back into the sea, and got the villa."
"How can you prove such an unbelievable story?" asked the tax investigator.
"Well, you can see the villa, can't you?"
About Hans Jakobi
Hans Jakobi is an educator, author and investor. He is the author of six best-selling books including,
How To Be Rich & Happy On Your Income which is available at:
www.supersecrets.com and the presenter of the Super Secrets® to Wealth do-it-yourself real estate home study course. Join Hans Jakobi’s FREE Super Secrets® Online Newsletter
© 2002 Hans Jakobi. All rights reserved worldwide
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