FS Private Wealth journal vol09 is02

The Journal of Family Office Investment

Volume 09 Issue 02

RISKY

BUSINESS Mike Chisholm

Single family office talent India Avenue Investment Management

Philanthropy outlook JBWere

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Contents

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

1

COVER STORY

RISKY BUSINESS Mike Chisholm Crestone Wealth Management

14 VANTAGE

POINT

20

Conventional wisdom says health comes before wealth but the COVID-19 lockdowns have posed the question if wealth comes before health in Australia. Benjamin Ong writes.

HIGHLIGHTS Opinion High-net-worth divorces

12

IN THIS ISSUE AMERICAN RETAIL SPENDING SURGES IN MAY

21

Retail sales in the United States started to look up in May, surging 17.7% following April’s sharp 14.7% fall, as the Federal Reserve switched to ultra-accommodative monetary and fiscal policy.

FLASH SERVICES PUSH UP AUSTRALIAN PMI

21

Australian house prices showed their largest March quarter increase since 2017, which was the beginning of a housing boom, according to Real Estate Institute Australia. Separate research says investors are still keen despite the pandemic.

FS Private Wealth

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21

Preliminary estimates show the Commonwealth Bank Composite Purchasing Managers Index (PMI) hoisting back to a reading of 52.6 points in June from the final estimates of 28.1 in May and 21.7 in April.

PROPERTY PRICES HOLD UP, INVESTORS STILL KEEN

Whitepaper Philanthropy in COVID-19

Whitepaper Outlook for M&A

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Contents

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

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A LESSON IN PRIVILEGE Christopher Page, managing director, Financial Standard This quarter starts on a sombre note, as COVID-19 threatens human life and fortunes of nations across the globe. It is also a timely reminder of the relative privilege of our tiny slices of the universe.

Published by a Rainmaker Information company.

A: Level 7, 55 Clarence Street, Sydney, NSW, 2000, Australia T: +61 2 8234 7500 F: +61 2 8234 7599 W: www.financialstandard.com.au Associate Editor

06

Samantha Sherry samantha.sherry@financialstandard.com.au Graphic Designer Jessica Beaver jessica.beaver@financialstandard.com.au Technical Services Roger Marshman roger.marshman@rainmaker.com.au Advertising Stephanie Antonis stephanie.antonis@financialstandard.com.au Director of Media and Publishing Michelle Baltazar michelle.baltazar@financialstandard.com.au Managing Director Christopher Page christopher.page@financialstandard.com.au

FS Private Wealth

The Journal of Family Office Investment ISSN 2200-4971

News

OIL CRASH AND AUSTRALIAN INVESTORS HANDBAGS A BETTER INVESTMENT THAN WHISKY FAMILY OFFICES KEEN ON PRIVATE ASSETS

Kanika Sood kanika.sood@financialstandard.com.au Production Manager

Welcome note

07

News

WHAT’S NEXT FOR INCOME-FOCUSSED FUNDS THE STRATEGY THAT WORKED IN COVID TOP PICKS FOR A YEAR OF DIVIDEND SQUEEZE

08 09

14

All editorial is copyright and may not be reproduced without consent. Opinions expressed in FS Private Wealth are not necessarily those of Financial Standard or Rainmaker Information. Financial Standard is a Rainmaker Information company.

News

SHORTING THE INDEX WITH AN ETF PENDAL RESTOCKS HNW TEAM

News

SMSFS IN FLASHBACK TO 2008 TAXMAN CHASING RICH TAX EVADERS

Cover story

RISKY BUSINESS Mike Chisholm, Crestone Wealth Management What makes a high-net-worth advice firm click? Chisholm shares key business decisions in setting up Crestone, which advises on just under $20 billion for wealthy clients.

ABN 57 604 552 874

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For more news and updates, visit www.fsprivatewealth.com.au

FS Private Wealth

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Contents

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

WHITE PAPERS

24

Family office management

WORKING FOR A FAMILY OFFICE

By Peter Pontikis, India Avenue Investment Management Managing money for a rich family can be a tug-of-war between the clan and the talent. This whitepaper breaks down the challenges for both side of the equation.

28

Philanthropy

THE OUTLOOK FOR PHILANTHROPY DURING COVID-19

By John McLeod, JBWere The author trawls through data on philanthropic giving in Australia since 1979 to gauge what’s next for the sector in light of the pandemic, which came on the heels of bushfires.

34

Taxation & Estate Planning

XECUTIVE SHARE SCHEMES: STRUCTURING, TAXATION E AND INVESTMENT STRATEGIES

By Sabil Chowdhury, Koda Capital With FY20 bonuses done and dusted, this whitepaper is a timely read on how to best structure your executive share entitlements.

39

Taxation & Estate Planning

CHARITABLE GIFTS IN WILLS

By Mitchell Evelyn, Elringtons Lawyers What happens if the charity you name in your Will winds up or shifts away from your desired area of focus? This whitepaper answers how you can avoid such pitfalls.

Ethics & Governance

DIRECTORS’ DUTIES DURING UNCERTAIN FINANCIAL TIMES

By Lisa Calabrese, Jeremy Schultz and Andrew Dyda, Finlaysons Lawyers A handy guide on directors duties, as corporate governance takes centrestage once again during an unprecedented operating environment.

42

Taxation & Estate Planning

IRECTORS’ PERSONAL LIABILITY EXTENDED TO INCLUDE D COMPANIES’ GST LIABILITIES

By Letty Chen and Robyn Jacobson, TaxBanter Legislation passed in February now holds directors to account on a company’s unpaid goods and service tax. The authors offer examples on how this could play out.

50

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Investment

OVERVIEW OF TRUSTS IN AUSTRALIA

By David Garry, David Garry & Associates Trusts don’t just hold superannuation or family assets. They can be put to many other uses, as this author lays out.

Trust & Corporate services

COVID-19: MERGERS AND ACQUISITIONS IN A TIME OF CRISIS

By Neil Pathak and Lisa d’Oliveyra, Glibert + Tobin The leading law firm shares its outlook on local mergers and acquisitions activity in a COVID-19 world.

FS Private Wealth

Welcome note

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

5

Christopher Page managing director Financial Standard

A lesson in privilege hat a difference three months can make.

W When the last edition of this journal went to print, the world was just coming to terms with COVID-19.

Conversations in February focused on where the disease came from, how deeply it could impact human life, the possibility of a vaccine, and in finance circles, how it would affect markets.

Since then, most of us have become armchair experts on it – rattling off numbers, dropping the term ‘flattening the curve’ with the ease of a seasoned statistician, and even going so far as to weigh the pros and cons of lockdown strategies adopted by different nations.

For me, the pandemic has served as a reminder of our privilege.

Australia fared better than many countries in containing it. Yet, the lives lost can’t be replaced, and many have had their livelihoods disrupted.

The readers of this publication will agree that we have been the more fortunate ones, with at least a safe roof over our heads and with the social mo-

bility to earn back what we’ve lost in this period.

When we started to put together this edition, we did so with more care than usual.

The soft-footed arrival of a recession – our first one in 29 years – will force most of us to rethink how to invest, donate and manage family’s wealth.

Then there are the usual issues like how to hire good talent, optimise our wills, trusts and other structures. You will find curated content on both fronts in the latter half of this journal.

For our cover profile, we introduce you to Mike Chisolm who has built a successful wealth management business for wealthy clients in a short period of time after leaving a two-decade-long career at UBS. Chisolm worked in risk-related roles at the Swiss bank, and is now extending his expertise to a wealth management business.

He speaks freely about what works and what doesn’t in building an advice firm, in lessons that can be applied to any business.

Happy reading and stay safe. fs

The soft-footed arrival of a recession – our first one in 29 years – will force most of us to rethink how to invest, donate and manage family’s wealth.

Christopher Page managing director, Financial Standard

FS Private Wealth

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News

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

Family offices put $4.8b in private assets

Local ETF bets soured in April oil crash

Local family offices are bigger investors in Australia’s $68 billion private capital market than insurers, banks, government agencies and endowment plans, according to a new report.

Australian private capital assets reached $68 billion in FY19, with the demand for private equity and venture capital investments rising 16% over the previous year, according to the latest tally of the industry published in Preqin & Australian Investment Council Yearbook 2020.

The biggest investors active in the Australian private capital markets are superannuation funds (47% of the total market for private assets in Australia), followed by asset managers (14%), wealth managers (10%), family offices (7%), insurance companies (6%), banks (5%), government agencies (3%) and endowments (2%).

The report said family offices preferred open-ended funds [such as Revolution Asset Management’s second private debt fund] to have better control of their commitments and investment pace.

Consumer discretionary had the largest share of aggregate buyout deal value in 2019 at 52% (11% in 2018) followed by healthcare at 37% (30% increase).

Venture Capital funds, popular with institutional investors and family offices, raised $632 million in the year.

“The industry is well-placed to withstand the ongoing disruptions arising from COVID19, with dry powder levels for private equity and venture capital now totalling $13 billion,” Australian Investment Council chief executive Yasser El-Ansary said. fs

A

Kanika Sood

The quote

It’s only been possible to create an index on handbags now because of the frequency with which many iconic pieces are coming to auction today.

ustralians poured $35 million in the country’s only ETF tracking crude oil futures in the week ending April 17, and were stung hard when WTI May contracts slipped into negative territory in April 20 trading.

BetaShares Crude Oil Index ETF (OOO) tracks an index composed of WTI crude oil future contracts, focusing on shorter-dated deliveries, and is only such ETF exposure in Australia.

That week, OOO attracted the second-highest inflows of all ETFs in Australia (second to a shorting ETF), as investors put in net $35 million, likely expecting oil prices to stabilise after the recent OPEC deal to cut down production by 30% in a world where COVID shutdowns have created significant oversupply for the commodity.

Next Mondy WTI futures contracts slipped into negative territory for the first time, as COVID shutdowns continue to bog down demand and traders run out of space to store oil.

It’s not only Australian investors that were caught wrong footed on the direction of WTI futures. In the US,

investors poured US $1.3 billion into the United States Oil ETF (USO), Bloomberg reported.

Oil prices’ crash made OOO the worst-performing ETF for all listed on the ASX. As of April 17, it was down nearly -70% since the start of the year, as well as on a 12-month basis.

BetaShares on April 23 announced the ETF will replace its exposure to future contracts with one-month maturities (June for the ETF, as it didn’t have May exposure) to three-month maturities (September) as it saw the risk of June contracts trading at negative prices.

“While this change can be expected to temporarily result in a higher level of tracking error for fund performance relative to the index than otherwise would be the case (as the index will continue to reflect the one-month contract), BetaShares considers that the longer-dated future contract should have lower volatility, and that exposure to it should reduce the risk of the fund and unitholders experiencing a permanent loss of capital.”

It told investors to exercise caution given global risks in oil. fs

Hermes handbags an emerging asset class for Ultra high-net-worths There’s now an index that tracks the value of collectable Hermés bags and they returned about 13% in 2019, beating annual returns of other collectables like cars, jewellery, art and rare whisky.

Knight Frank Luxury Investment Index, for the first time, added collectable handbags to its list of asset classes.

And Hermés came out on top with 13% returns for 2019, ahead of stamps (6% growth in value), rare whisky (5%), art (5%), watches (2%), wine (1%), furniture (0%), coloured diamonds (-1%), cars (-7%), and jewellery (-7%).

“It’s only been possible to create an index on handbags now because of the frequency with which many iconic pieces are coming to auction today,” said Sebastian Duthy, a director at Art Market

THE JOURNAL OF FAMILY OFFICE INVESTMENT•

Research, which supplies most of the data in the Knight Frank Luxury Investment Index.

“Although bags made by other luxury brands like Chanel and Louis Vuitton are also highly collectable, it is those made by Hermès that attract the highest prices and are considered the most desirable.”

In Australia, a 30-inch Hermés Birkin starts at $16,285 and goes up to undisclosed prices.

However, widening the lens to ten-year period, handbags slip down the ranks and rare whisky emerges as the best investment.

Whisky grew by 564% over 10 years, followed by cars (194% growth in value), art (141%), wine (120%), handbags (108%), jewellery (90%), coloured diamonds (86%), stamps (64%) and watches (60%).

UNHWs put 5% of their portfolios in collectables. fs

FS Private Wealth

News

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

7

Top dividends picks for COVID-19

What’s next for income-focussed funds

UBS says the dividend dip in Australian stocks in the next year could be worse than the Global Financial Crisis, but six stocks are poised to pay good dividends.

In 2008, dividends fell by $10.5 billion (or 28%) to $44.9 billion. But this time, dividends could fall about 30%, taking total dividends from over $70 billion to $50.7 billion, according to UBS estimates.

“The 30% decline in DPS under our scenario is in line greater than the GFC where DPS fell by 28%...We note on the balance of probability, it is more likely DPS will fall by >30% this time than by less so there is the possibility DPS will decline by more than in the GFC [and] the largest decline since our data starts from 1999,” UBS analysts said in an April 16 note, led by analyst Pieter Stoltz.

At the time, about 38 ASX200 stocks had suspended, cut or deferred dividends while a further 60’s DPS forecasts had fallen by at least 20%, according to UBS. “With many stocks cutting DPS already...we think a scarcity of income will be a big focus in 2020 and opportunities to outperform due to dividends could be even greater than normal,” the note said.

UBS’s six preferred stocks for dividend income are: Aurizon, Ausnet, Metcash, Coles, APA and Woolworths.

Some others, including Magellan Financial Group, Rural Funds Management, Inghams and Kogan, will provide reliable income streams.

However, UBS thinks consensus DPS is too high for Challenger, SkyCity, Sydney Airport, JB Hi-Fi, Scentre and Vicinity Centres. fs

A

FS Private Wealth

Kanika Sood

The quote

We can earn twice as much income from selling similar option contracts from a month ago because volatility has effectively doubled.

s ASX-listed companies wind back dividends, income-focused equities funds will have to look harder for sources of income.

APRA asked banks to focus on their balance sheets instead of appeasing investors with dividends.

The dividend suspensions, deferrals, or cancellations spell trouble for income-focused funds which are popular with retirees and pre-retirees.

Morningstar senior analyst Matthew Wilkinson says its universe includes about 11 income-focused equities funds, of which only one is a global equities fund.

Australian equities income-focused funds have some commonalities: they tend to be value focused (and hence have underperformed the ASX200 by up to 200 basis points over the last ten years, with variations from fund to fund) and they can have a skew towards financials which are traditionally big dividend payers.

All such funds have two ways of generating income: dividends, or selling options on stocks.

“Whole equities market is going to be hurt by dividend scale backs, but income-focused funds will be hurt a little more. Balance sheet strength

should be front of the mind for new allocations,” he said.

Plato Investment Management managing director Don Hamson said while Plato hasn’t calculated exactly how much lower the fund’s yield could be, he hopes that it will not fall by the 30% he expects of the broader market, owing to active positions.

“For some I think some financials can still pay a good dividend -- CBA has just paid very good dividend and has very strong capital [structure] and is less affected some others,” he said He points to telecommunication service providers and grocery chains in identifying dividend opportunities for the months ahead.

Vertium chief investment officer Jason Teh said assuming his fund returns 10% in a year, about 3% comes from growth in the stock price while 7% comes from income (4% from dividends, 1% from franking and 2% from selling options on stocks).

It’s this last component that will take centre stage for income-focused funds in the months ahead, according to Teh. “We can earn twice as much income from selling similar option contracts from a month ago because volatility has effectively doubled.” fs

Tail-risk hedging pays off for super fund Elizabeth McArthur

A $10 billion industry superannuation fund managed to lock in gains from a tail-risk hedging strategy during recent market volatility amid the COVID-19 pandemic.

Vision Super has had tail-risk protection in place for its defined benefit plan for a few years.

Chief investment officer Michael Wyrsch told Financial Standard that the strategy paid off during recent volatility.

“We have now monetised it and locked in a 3% gain.

This was the result we had hoped for,” Wyrsch said.

“Employers fund defined benefit plans, so this is a great result for our defined benefit employers and

means peace of mind for members of the defined benefit plan.”

Internationally, tail-risk hedging has been making headlines after a tail-risk hedge fund advised by Nassim Taleb returned 3612% for March.

Bloomberg reported that the Universa Investments fund returned 4144% year-to-date at the end of March.

Vision Super’s tail-risk strategy is managed by PIMCO. PIMCO describes tail-risk hedging as giving a little bit of return each year to purchase protection against a market meltdown.

The usefulness of this kind of “insurance” is clear in defined benefit plans. fs

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News

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

Pendal hires HNW lead A Sydney equities boutique’s chief executive has jumped to Pendal Group to work as its head of high net worth distribution.

Lee Hopperton was most recently the chief executive and distribution head of value manager Auscap Asset Management in Sydney for four years. ln his new role, Hopperton will look after Pendal Group’s sales and relationship management for the HNW channel, including family offices.

He started on April 20.

Hopperton has about 20 years of experience, including seven at Macquarie Group as an equities analyst in Sydney and London and then on the institutional equity sales desk.

Between 2006 and 2014, he was head of the Australian and then Pan Asian equities desks for JPMorgan in Europe before becoming head of distribution in Seoul where he ran the equities trading and stockbroking businesses, according to Pendal.

In October, Rebecca Fesq left as Pendal’s head of client experience and direct after five years at the company to join Regal Funds Management as its global head of distribution and marketing.

Two months later, Pendal’s head of family offices Rob Saunders left for Regal as well, joining as the boutique’s head of wholesale and family office, including the private banks.

Hopperton reports to Tim North Ash. The entire wholesale team, which includes HNW channel, has 12 members.

Pendal’s March quarter results saw it slip from managing $101.4 billion at December end to $86 billion at March end. fs

COVID-19 puts rocket under shorting ETFs Kanika Sood

A The quote

In the past month or so, we have seen a very, very significant increase in their [shorting ETFs’] usage.

ustralian investors flocked to ETFs that allow them to short the ASX200 and the S&P 500 amid the stock market correction, doubling their assets by March since January 1.

The ASX 200 and S&P 500 had both lost over 20% from the start of the year to March 17 close, as COVID-19 and economic slowdown swept through the world.

The market inflows translated into juicy inflows for three shorting ETFs, the BetaShares Australian Equities Bear Hedge Fund (ASX: BEAR), the BetaShares US Equities Strong Bear Hedge Fund – Currency Hedged (ASX: BBUS), and the BetaShares Australian Equities Strong Bear Hedge Fund (ASX: BBOZ).

Investors had poured about $250 million into the three ETFs since the start of the year, doubling their assets to about $551 million at March 16’s market close, according to BetaShares chief executive Alex Vynokur.

“In the past month or so, we have

seen a very, very significant increase in their usage. Trading volumes are 30 times higher than average trading volumes,” Vynokur told Financial Standard.

“The liquidity has been fantastic.

We are seeing trading of over a $100 million every day in these ETFs. BBOZ has done $95.7 million today.”

He said the primary users have been financial advisers, especially with retiree and pre-retiree clients and some institutional investors.

BetaShares also has a suite of three managed-risk ETFs but inflows there tend to dominate when markets are up, according to Vynokur.

BEAR returns 0.9% to 1.1% return every time the S&P/ASX 200 Accumulation Index falls 1%.

Its leveraged version, BBOZ, delivers 2-2.75% increase for 1% fall in the index – similar to what BBUS does for the S&P 500 Total Return Index.

In March ASX reported its worst one-day fall ever and BBOZ rose 22.07%. fs

Asset consultant expands into retail market Eliza Bavin

One of the country’s largest asset consultants has entered the market for the provision of managed account services to financial advice and private wealth practices.

JANA said it will be expanding its service offering to financial advice and private wealth firms in response to the needs of the “growing and evolving” sector.

“Our focus for 32 years has been exclusively institutional grade, but we then realised there was a whole market segment out there that was a natural growth area for us to look at,” JANA chief executive Jim Lamborn told Financial Standard.

“We have also seen the evolution of that marketplace and the importance of good governance and of non-conflicted business models.”

JANA said it will draw on its advisory and implemented consulting expertise to offer managed

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account and consulting services to high quality financial advice and private wealth practices.

Michael Karagianis has been selected to lead the roll out of JANA’s retail partnerships offering.

Karagianis joined JANA in January 2019 as senior consultant and he will be supported by John Ryan, who has joined as business development lead for retail partnerships.

“At present the adviser focussed consulting market is highly fragmented with a wide range of players ranging from individual consultants through to boutiques to larger institutionally owned consulting firms,” Karagianis said.

“Not all of these are likely to survive moving forward.

JANA has a unique blend of the culture of a boutique consultancy business but with the strength of its institutional presence and balance sheet.”

He said JANA is working with Melbourne-based Strategic Wealth and Queensland-based First Point. fs

FS Private Wealth

News

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

Boutique launches Cayman fund

Self-managed super in flashback to 2008

Kanika Sood

S

A macro hedge fund in which Pinnacle Investment Management owns a minority stake has launched a new vehicle after delivering 16.5% in returns for the March quarter.

Reminiscent Capital’s Asia Macro Master strategy has so far been available as an Australian unit trust but will now be available as a Cayman fund.

The strategy invests in rates, FX and equities and was previously only available through an Australian unit trust.

It is run by a former Morgan Stanley Australia and Brevan Howard investor David Adams.

It returned 16.5% before fees in the March quarter, including 21.73% outperformance to S&P 500 in March and 14.04% outperformance in February. It has also outperformed the HFRI Macro Discretionary Thematic Index year to date and since February 2019 inception.

“The focus of the fund in investing only in liquid products and its policy of no net short option positions has contributed to it exhibiting significant outperformance during months where the S&P500 suffered bad sell-offs,” Pinnacle said in a statement.

Reminiscent founder and chief investment officer David Adams said he believes an agile, discretionary macro trading strategy is the best way to exploit opportunities across Asia.

Adams said divergent central bank views on rates, foreign exchange and temporary dislocations from retail flows make Asia attractive to the fund when many hedge funds are underweight the region. fs

FS Private Wealth

Elizabeth McArthur

The numbers

2-7%

Minimum SMSF withdrawal rates from 2008 to 2011.

elf-managed super fund professionals and trustees may be feeling some déjà vu, as the same measures that were used in 2008 have been brought in to guide the sector through the COVID-19 pandemic.

Terry Pinnell, chair of the Ethical Advisers’ Co-op, wrote to Treasurer Josh Frydenberg in mid-March to ask him to institute the same measures for SMSF pensioners that the Rudd Government introduced during the Global Financial Crisis.

In 2008, the government made a temporary reduction to the minimum pension payment to assist SMSF pensioners who suddenly found their funds’ holdings devalued.

By the weekend, Pinnell’s wish had been granted. The government’s stimulus package included measures to help SMSF trustees cope with the fallout of COVID-19.

In 2008 the minimum percentage withdrawal for the 2008-09, 2009-10, 2010-11 financial years was 2% for someone under 65, 3% for someone 7579 and up to 7% for someone over 95.

In the 2011-12 and 2012-13 finan-

9

cial years the rates rose to 3% for under 65, 4.5% for someone 75-79 and up to 10.5% for someone 95 or over.

The rate continued to rise in the years following, all the way up to 14% for someone over 95.

Now, for the first time since the GFC minimum percentages withdrawal factors are at 2008 levels.

“I had several SMSF clients in 2008 in the GFC and some of them used the lower pension payments to help with cash flow in the fund and it also meant that they didn’t have to sell down any low priced assets to pay a statutory pension amount that they didn’t really need,” Pinnell said.

Verante Financial Planning SMSF specialist adviser Liam Shorte explained while the change may be small to some, it could be very significant to those who need it most.

“It may not seem generous to people around 65 -74 who need to only take 2.5% of their July 1 balance (normally 5%) but for some aged 85 they need to normally take 9% minimum which they often don’t need so being able to reduce that to 4.5% is welcome,” Shorte said. fs

ATO cracks down on HNWs Eliza Bavin

The Australian Taxation Office said it will expand its Tax Avoidance Taskforce and introduce a new program targeting high wealth private groups.

The ATO said in the 2016-17 financial year high wealth individuals and groups avoided paying around $770 million.

It said its research shows some high wealth private groups are deliberately engaging in risky behaviour, including engaging in artificial arrangements designed to avoid paying tax.

ATO deputy commissioner Tim Dyce said the ATO is still confident that its compliance strategies are tackling the bad behaviour it has seen from higherrisk taxpayers and their agents.

“From 1 July 2020 we will be expanding the work of the Tax Avoidance Taskforce and as part of this

we are introducing a new program focusing on high wealth private groups and engaging early to help them get it right,” Dyce said.

“Those seeking to obtain an unfair advantage by avoiding their tax obligations will attract our full attention and will be the subject of strong enforcement action.”

“Access to sophisticated data and analytical tools has increased our ability to match data from Australian and off-shore institutions and regulators and means that those engaging in tax avoidance activities will be caught out. It is not a matter of if but when.”

The ATO defines the high wealth tax gap population as individuals and companies linked to a high wealth private group with group net wealth greater than $50 million and ownership greater than 40%. fs

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News

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William Buck bolsters private wealth

NAB Private director starts new venture

Eliza Bavin

A

Accounting and advisory firm William Buck has announced a new appointment to its South Australian private office wealth team.

Andrew Bradley has been appointed to the role of private office senior advisor at the firm.

William Buck SA managing director Jamie McKeough said: “Andrew is a very impressive individual with outstanding experience and expertise.”

“He will be an excellent addition to our bespoke Private Office service and our broader wealth advisory team, which is the largest in South Australia with its own AFSL.” Adrian Frinsdorf, William Buck’s head of wealth advisory, said Bradley’s appointment was reflective of the growth of the firm’s specialist Private Office offering.

“William Buck Private Office has established a strong reputation as a trusted advisory service and Andrew’s appointment adds further strength to our client offering,” Frinsdorf said.

“Andrew brings specific skills in investment, philanthropy, family governance and family office advisory services, all of which are in strong demand among high net worth individuals and families to manage their assets.”

During his career, Bradley has worked in various senior roles within family office, accounting firms, private and investment banking as well as broking firms.

He was most recently responsible for family office services as group head of investments with EWM Group in Brisbane.

William Buck currently manages around $1.3 billion of funds under advice in its wealth advisory division. fs

Kanika Sood

The quote

It will represent a small selection of investment managers and be their country representative in Australia.

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former director in NAB’s private bank has set up a funds management distribution business, and has signed a UK fund manager as its first client.

Richard Borysiewicz has set up Strathnaver Capital to partner with overseas fund managers looking to tap into Australia’s institutional and wholesale market.

“It will represent a small selection of investment managers and be their country representative in Australia,” Borysiewicz told Financial Standard.

“We will focus on institutional and wholesale market, including dealer groups and model portfolios, managed accounts and private banks,” he said.

The firm is in negotiations with a few overseas managers, after scoring its first client.

It is starting with Somerset Capital, which offers its dividend-growth strategy in Australia through a locally domiciled fund.

Somerset has so far raised about $100 million, with its team flying in and out of Australia, but going forward Strathnaver will be its country representative.

Borysiewicz says while COVID-19 may slow down plans, he expects to be distributing three or so managers by mid year.

Borysiewicz, in 2007, headed Amundi Asset Management’s foray into Australia as its local chief executive.

Later, he worked as the director of sales for Apostle Asset Management.

Somerset Capital Management specialises in emerging markets and frontier markets equities and was founded in 2007. fs

Family-office-backed boutique folds in Melbourne A Melbourne fund manager started by former heads of RBS Morgan’s ultrahigh-net-worth division and backed by a family office started to wind up in February.

Qato Capital had three funds, in market neutral, long/short fund, and active share style.

It was backed by single family office Larkfield Funds Management.

It won a couple of awards, including the best emerging manager at the Australian Hedge Fund Awards.

In February, James Koutsoukos of BRI Ferrier was appointed to liquidate the company.

Qato has no secured debts and was solvent at the time of the appointment, according to ASIC data.

It is understood it had already returned all investor money by February.

The business was helmed by Ben Silluzio

as the chief executive and chief investment officer and Brett Dawson as chief operating officer and macroeconomist.

Both were founding members of RBS Morgan’s UNHW division before starting Qato in 2014.

Larkfield Funds Management is the family office of Greg Hargrave, whose father founded labour hire company Skilled Group, which used to be listed on the ASX. The younger Hargrave was Qato’s chair, but stepped down from the board and from Larkfield Nominees early last year, The Age reported in May 2019.

Last year, ARCO Investment Management was left in a limbo when family office Burnham Group withdrew support.

In December, Bennett family’s private investment business AMB Capital Partners sold its stake in Coolabah Capital Investments to Pinnacle Investment Management. fs

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News

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Fee cuts hack at fundie margins

It’s not you, it’s quarantine

Fee cuts are eating into fund managers’ operating margins, sending them to post-GFC levels, according to new research from Deloitte unit Casey Quirk.

Publically listed managers’ operating margins tumbled an average of 5.2% annually over the three years ending 2018.

Margins stood at 29% in 2018, down significantly from postGFC high of 34% in 2015 for the same sample set of investment managers, the research house said.

The biggest driver is the accelerating fee pressure.

Between 2012 and 2015, passive strategies lowered their fees by 3.5% while active strategies were cut by 2.5% annually.

The fee cuts intensified in the next three-year period ending 2018. During this period, fees for both passive and active strategies declined by an average of 5% annually.

The decline in margins came with 6.9% increase in the total assets under management for the managers in the research – implying that scale may no longer guarantee juicier profits.

“The financial performance over the past several years suggests a secular change is occurring in the investment management industry: asset growth is no longer guaranteed to yield margin enhancement as fee pressure intensifies and costs continue to rise,” said Casey Quirk senior manager Amanda Walters.

The asset management industry tallied up US$93 billion in profits in 2018 and shrinking margins took away US$29 billion, Casey Quirk estimates. fs

M

FS Private Wealth

Eliza Bavin

The quote

Even though a divorce can prevent someone from inheriting your will, up until the point it is finalised they’re still a beneficiary.

any financial advisers may need to gear up to handle the aftermath of couples growing apart as they’re forced together.

China was expecting a boom in births when it eased mandatory quarantine laws, instead it has seen a surge in divorce applications.

If Australia is facing the same fate, it’s more important than ever to understand how complex divorce can be and how lawyers and advisers must work together to benefit their clients.

In Australia, a couple cannot get divorced until they have been separated for at least 12 months, and it is during this time they need to start getting the paperwork prepared.

Anna Hacker, national manager of estate planning at Australian Unity, said most people don’t realise that up until the time the divorce is finalised their partner is still a power of attorney or beneficiary of their estate.

“Initially, most people don’t think about things like power of attorney or wills,” she said.

“Even though a divorce can prevent someone from inheriting your will, up

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until the point it is finalised they’re still a beneficiary.”

Another thing to consider, Hacker said, is that a divorce does not stop power of attorney operating.

“That is a really critical part, because even though the will may take an ex-partner out as an executor, a power of attorney is not impacted in every state,” she said.

“That can end up giving the wrong person a lot of power when it comes to your client’s assets.”

Even if a person has removed their ex-partner as an executor and a beneficiary, they may still be listed as the trustee of any trust that was established within the will for the children from that relationship.

“For example, if a person divorces their husband he is out of the will and out as a beneficiary, but because they have kids together that are beneficiaries he will be the trustee of those trusts,” Hacker explained.

“You need to make sure the estate has a separate superannuation death benefits trust in it, and this is the part most people don’t understand,” Hacker said. fs

Prodigy folds, two boutiques find new homes Kanika Sood

Steve Tucker’s multi-boutique Prodigy Investment Partners is closing its doors after its joint venture partner Euroz pulled out.

Tucker, who was formerly the chief executive of MLC and now runs Koda Capital, partnered with Euroz in 2014 to start Prodigy and over time attracted three boutiques: Dalton Street Capital, Flinders Investment Partners and Equus Point Capital.

In March, Euroz decided to stop funding Prodigy, taking the view that Prodigy had failed to reach sufficient scale, and industry headwinds and barriers to entry are strong.

At the time of the decision, Prodigy’s boutiques had about $80 to $90 million, with no institutional investors. It had two offices - in Sydney and Melbourne - with about a dozen staff.

Equity Trustees, as the responsible entity decided Dalton and Equus will wind down their funds and Flinders will continue. Since then, Flinders has partnered with Warakirri Asset Management, while Dalton has continued with Mantis Funds after a reversed decision.The responsible entity, Equity Trustees, decided the Flinders fund should continue.

Prodigy’s two offices will close as well.

Prodigy was an 80/20 joint venture with Euroz, which was looking to expand its funds management presence to the east coast.

Euroz expects Prodigy’s closure will cost it about $8 million, across a non-cash component of $7.2 million and a cash component of $0.8 million.

Euroz executive chair Andrew McKenzie told Financial Standard the business has no plans to look for another multi-boutique partnership. fs

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Opinion

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

Paul Barrett co-founder Absolute Wealth Advisors Pty Ltd

Are you ready for a high-net-wealth divorce?

OVID-19 is driving up divorce C rates across the country and family law offices expect the numbers to keep surging over the coming months.

High-net-worth divorces are typically more complex than others, they often take longer and their outcomes can be unpredictable, particularly if you end up in court where the mechanical calculations that might occur in other types of cases do not apply.

Where the family has enjoyed a very high standard of living, the needs of each party will be considered in a more generous way than in an ordinary divorce case.

The court may determine a spouse ‘needs’ very large sums, which may run into many millions of dollars.

Courts will also consider whether a party acquired much of their wealth prior to the marriage or if it has been inherited by one of the parties during the marriage. All of these complicating factors and the uncertainty in these cases can make litigation risky and expensive.

If you are headed for a high-networth divorce there will be a lot for you to consider financially. Many of your assets may be difficult to divide and it could take many months before valuations can be assessed and agreed.

There will also be tax considerations that will apply to any agreement reached between the parties.

However, with thoughtfulness and planning, you can emerge from the process in sound financial condition.

So how do you go about navigating the financial complexities of your divorce?

Step 1: Rally the troops Regardless of your professional profile and net worth, you will be making some of the most difficult and important financial decisions of your life during an emotionally chaotic time. It goes without saying that I am going to recommend you find yourself a good wealth manager, a good accountant and a good family lawyer as soon as possible.

More often than not couples have shared the same advisers during their marriage. If a divorce is on the horizon you will need separate representation. Your advisory team will be invaluable in safeguarding your interests throughout the process. If you have one and not the others, ask the adviser you know for a recommendation.

As soon as you have your team in place, introduce them to each other and obtain quotations for the work they think will be necessary to get you through your divorce. You will need to get your head around the costs involved in the process.

Step 2: Assess your assets Make copies of all important financial records and draw up an inventory of each individual partner’s and joint assets and liabilities as soon as practically possible. Download account statements while you still have access.

Include photos that have date-stamps.

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The quote

Regardless of your professional profile and net worth, you will be making some of the most difficult and important financial decisions of your life during an emotionally chaotic time.

Make a note of any gaps in your joint finances or anything you are unsure of so that your team of advisers can investigate for them for you.

Start with the following: bank accounts, superannuation funds, any loans (including your mortgage, car or personal loans), credit cards, recent payslips, executive compensation plans, income tax returns (past three years), properties, vehicles, works of art, jewellery and collectibles, share portfolios, bonds, businesses, commercial real estate, trusts, hedge funds, private equity funds, and commodity-based holdings.

If you have led an international lifestyle, it will be important to note if any of these assets are held in other countries.

They may be subject to different court jurisdictions.

Additionally, it would be prudent to note whether each asset could be considered a matrimonial asset or a non-matrimonial asset. A property acquired before the marriage by one spouse that does not become the parties’ home will likely be classified as non-matrimonial. An asset acquired after the parties’ separation (but before divorce), may be considered non-matrimonial in character because it falls outside the time of the marriage.

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In some cases, the wealth of highnet-worth individuals may derive in whole or in part from their family.

The origin of the wealth in such cases can justify a departure from equality in a court decision, as such family wealth is likely to be characterised as non-matrimonial property.

Step 3: Review any trusts In high-net-worth divorce, assets are often held in complex structures like onshore and offshore trusts. Obtaining disclosure about trusts can be a difficult process. If the trust is located in Australia, a request can be made to the trustees to provide documentation about the trust, but the position becomes more complex if a trust is located offshore. Court applications may need to be made for disclosure in the Australian court or in an offshore jurisdiction’s court.

Step 4: Value privatelyowned businesses Privately-owned businesses are often the most significant asset in high-networth divorces and valuing them is a difficult process. The position can be further complicated if the business has assets around the world, all held in a complex web of inter-related onshore and offshore corporate and trust structures. You may need expert help in unravelling the opaque ownership structure of a company and in locating hidden company assets.

Businesses can also be difficult to distribute on divorce. It may not be possible to sell the shares or one party may want to retain the shares and continue to hold a controlling share in the business. In either case, the spouse who is to retain the shares may need to provide more of the parties’ liquid capital to the other spouse or raise the funds in another way. For example, if the business is cash rich, a special dividend could be paid out to fund the transaction.

Companies and trustees of trusts, which may form the business or hold shares in it, can apply to be joined to divorce proceedings so as to best protect their own interests. Obtaining disclosure from these parties and

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the role that they play if successfully joined to proceedings can complicate matters further.

depending on your age and circumstances will need to calculate your needs through retirement.

Step 5: Beware of nondisclosure In high-net-worth divorces, the financial stakes are high. Sometimes spouses refuse to make full and frank disclosure of their financial position in an attempt to gain a financial advantage over the other spouse. They may transfer funds from their disclosed bank accounts into other nondisclosed bank accounts or in more extreme cases they may move their wealth overseas into a series of interlinked corporate and trust structures.

When necessary, applications to court for emergency remedies can be made but keeping a detailed inventory of assets and a close eye on the movement of money, as early as you see warning signs for your marriage, may help prevent non-disclosure.

Step 6: Prepare financial forecast for future When going into a divorce, it’s important to know what you are going to ‘need’ going forward. As soon as you know divorce is inevitable, begin tracking your household income and expenses, including household bills, food, clothing, entertainment, home maintenance, transportation, childcare and anything else that you spend money on. This will not only help build a budget post-divorce, but it is also crucial for your lawyer and later the judge in deciding how to split assets and debts, and whether to award spousal or child support.

Next, project future expenses.

Look beyond the normal monthly expenses and include things like your holidays and replacing vehicles and household appliances over time.

If you have children, you’ll transition from spending on childcare to spending on after-school activities and eventually car insurance and tertiary education.

A financial adviser will be able to assist you with financial modelling.

Forecasting should account for both best and worst case scenarios and

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Step 7: Protect your career and reputation The quote

Avoid serving legal papers at the office or over-sharing with your colleagues.

As difficult as it was to navigate a demanding career and a family before, divorce will increase it exponentially. Focusing on the healthiest restructuring of your family while maintaining excellent performance at work is a winning strategy for both spouses.

Keeping your reputation intact will also be a priority. Make sure you control the message and announcement of your new direction in the appropriate forums.

Avoid serving legal papers at the office or over-sharing with your colleagues. If your divorce is likely to be classified as high profile, you may need to involve a public relations specialist to avoid unfavourable media coverage.

Step 8: Hit reset When your divorce is final and assets have been legally divided, it will be time to clean house and it is going to involve a fair bit of paperwork. You will need to change names on property titles, shares and investments and any other assets like cars or boats.

You may need to close joint bank accounts and credit cards. Any insurance policies held jointly will need to be reviewed and updated. You may need to split selfmanaged super funds and create a new one. Remember to change the beneficiaries on your trusts, superannuation and life insurance policies and don’t forget to update your will.

Then finally, in order to optimise your fresh start you will need a new financial plan or wealth strategy, starting with the pool of assets you’ve acquired.

It will be time to prepare a new budget and make investment decisions suited to your new lifestyle and priorities. fs

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Cover story

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Cover story

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RISKY BUSINESS Crestone Wealth Management chief executive Mike Chisholm speaks to Kanika Sood about the value of identifying your clientele early, the power of the adviser as a shareholder and why every advice chief needs to be a risk management expert.

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Cover story

F

ive years ago, Swiss banking giant UBS decided to spin out its Australian wealth business, which employed about 95 financial advisers and looked after $14 billion for clients.

Its staff got together to buy the business, led by UBS Wealth’s head Mike Chisholm, named it Crestone Wealth Management and officially launched it after a year-long transition.

Crestone now brings in $108 million in revenue and $11.5 million in earnings before interest and tax, according to its FY19 results.

The firm works with about 3500 rich families and non-profits, with anywhere between a few million to over $100 million to invest.

The family units who have an account with Crestone usual include a couple and their children, with a family trust, a self-managed superannuation fund and usually also a personal investment company.

Crestone’s job, simply put, is to advise these people on how to invest for long-term, multi-generational wealth.

At a time when the traditional wealth giants have looked to exit the market and faced public shamings, Crestone has flourished.

For all its success, Chisholm, a former auditor and risk management executive, struggles to remember the exact moment when he found out he would leave behind UBS after almost two decades.

“We first spoke about it sometime in early 2015. At first, it was a possibility but as time went on, it looked more and more likely,” Chisholm says.

“With any of these things you can never be certain exactly what is

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going to happen. I think it wasn’t until the very end we realised that there is a realistic chance it was happening.”

About 70 of the 95 advisers crossed over from UBS Wealth.

Core operations were profitable from Crestone’s first year after transition but the company chose to invest in its systems and booked them as expenses, Chisholm says.

It now has 230 staff, of which about 85 are financial advisers, looking after just under $20 billion. The business has continued to hire new advice talent from other wealth management firms and investment talent from places such as JANA and Morningstar.

Advisers get a chance to own equity in the company, and Crestone’s ownership is split across 100 such shareholders.

Looking back, Chisholm credits four early decisions for the business’s success so far, across target clientele, vertical integration, ownership and risk management.

“One of the things that I am most proud of is the big strategic decisions we made at the start and one of them was to focus on wholesale clients,” he says.

Crestone decided to only work with clients with more than $2.5 million in net assets or $250,000 of income for at least the last two financial years. Some UBS Wealth advisers, who had predominately retail client books, decided not to make the move.

“It was quite a bold decision at that time. There was virtually no one across Australia focusing on just that in 2015,” he says.

Macquarie Bank’s private wealth business went down the same route in 2018, when it pivoted its business toward high-net-worth clients.

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“I’ve been very clear that firms should identify who their target market is and try to service them they best you can…rather than try to be all things to all people,” he says.

He says Crestone’s focus on wholesale-only clients has meant the firm has been able to attract investment offerings from top-performing overseas managers for its clients.

“Those types of clients generally have different types of portfolios than retail clients do. They are not managing money for 10 or 20 years from now, they are looking to manage it for multiple generations. So they are looking to generate solid, consistent risk-adjusted returns over the long term,” he says.

“And because their investment horizon is so different, they have capacity and the desire to invest some portion of their portfolio in less liquid assets like private equity, direct property to benefit from the illiquidity premium.”

A study commissioned by Crestone last year with CoreData found most Australian investors are heavily invested in only three asset classes: cash, local property and local equities.

“It was quite a horrifying finding,” he says.

Chisholm points to Crestone’s model portfolios during COVID-19 – the first crisis that the firm has faced in its current form – for proof that diversification works for its clients.

“Our balanced portfolio’s returns from July 1 last year to March end, which was the peak of volatility, were down 4.8% and have rebounded since then as equity markets rallied. For the same period the ASX 200 was down just over 23%. So you see the impact of diversification and it separates us from other wealth managers,” he says.

He says the bulk of the firm’s revenues (75-80%) come ongoing advice fees from its clients. The remaining 20% of the revenue is split across transactional brokerage costs for equities, fixed income, FX, and its activities in capital markets.

Over the last few years, Crestone has participated in raises for at least listed investment vehicles as the joint lead manager, including VGI Partners’ $1.3 billion raise for an Asian fund, KKR’s $925 million credit fund and Firetrail’s $305 million raise for an Australian equities fund which was later scrapped.

However, it doesn’t manufacture its own investment products and tout them to its advice clients – also commonly called vertical integration.

“We knew we wanted to be an advice-only business. We think it is impossible to be creating your own products and then trying to give objective advice to your clients based on those same products,” Chisholm says.

Instead, Crestone partnered with other businesses for its investment funds and other services. Commonwealth Bank does its multi-currency cash management accounts, Credit Suisse provides multi-currency loan solutions, while UBS takes care of capital markets and equity execution.

Advisers who work at Crestone get to own equity in the business, a model that is very different from UBS where they were all employees.

“One thing we have realised coming from UBS, where everyone was an employee, to coming to Crestone, where our advisers are all shareholders is the enormous amount of collaboration across the advisers to share views, share perspectives and test and challenge each other,” Chisholm says.

“That’s enormously powerful and results in our clients getting better level of service and advice because you are factoring in the ideas of 85 different advisers.”

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Chisholm says the merits of advisers as owners are many – it wards off risk-taking for short-term profits that was highlighted at the Royal Commission, retains talent and reassures clients who come in looking to grow wealth over multiple generations.

“If you are an owner [as opposed to an employee] of a firm, you have a fundamentally different and much wiser approach in looking after clients, and being responsive to risk issues, cyber security and privacy,” he says.

“The secret in the wealth industry and certainly what the clients are looking for is long-term alignment between them and their advisers. That’s the only way that we grow and get new clients as a business from existing clients who are having a great experience and are prepared to say to their colleagues or family members or social networks, we’ve had a terrific experience.”

While he stresses the focus on the longer-term growth of the business over immediate profits, he’s quick to acknowledge the business benefits of the move.

“Our fee structures are generally linked to the value of the client portfolios. So as their portfolios go up over time, we will benefit as well. So there is a nice alignment there,” Chisholm says.

“And you know, if you are an equity owner in the business, you are not going to change employers every couple of years.”

So who are the 100 or so people who currently have equity stakes in the business?

Chisholm spells a simple two-point criteria for how the firm decided who gets a stake and who doesn’t.

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Cover story

The quote

We knew we wanted to be an advice-only business. We think it is impossible to be creating your own products and then trying to give objective advice to your clients based on those same products.

“We look to hire advisers who have the ability, the skill set and the drive to deliver long-term value for their clients and the business. Our focus is on identifying people who are model employees if you like i.e. they are very, very good particularly in terms of investment advice with our clients,” he says.

“And secondly, if they want to commit to the longterm performance of the business.”

When Chisholm left UBS, he had been there for 19 years and had worked across three continents across roles ranging from risk to operations and finally in wealth management.

But he got his start as an auditor for KPMG after training as a chartered accountant in New Zealand.

“As an auditor, right from the start, I was really drawn to financial institutions and increasingly focused on them. That really set me up for when I went to the UK as many Australians and New Zealanders do,” he says.

When Chisholm arrived in the UK in 1996, the economy was booming and there was a strong demand for accountants in particular, he recalls.

And so he got his start at UBS’s investment bank in London, working in the middle office as an accountant who crunched the numbers on what traders lost or made each day.

His team looked after corporate bonds, interest rate derivatives and structured derivatives. He stayed in the role for about seven years, eventually heading a team of 30 chartered accountants.

When it was time to move, he got the role of chief risk officer of UBS Australia where he would spend five years.

“It was a fascinating area to understand really complex type of products, how they behave, how they responded to movements in the markets,” he says of his early days at UBS, adding that Crestone’s chief investment office, led by former UBS economist Scott Haslem, does something similar with client portfolios now.

At the start of 2008, Chisholm moved to New York and supervised a team of 50 risk professionals tasked with taking stock of the bank’s exposure and management of sub-prime mortgages.

“It was right at the start of the financial crisis, just when the early signs of the crisis were showing and UBS realised they had a big problem.

“One of the first things they set out to do was position themselves to identify exactly what they have and how much risk was ahead and to derisk them in a responsible manner. And that essentially was my job…That was an extraordinary experience,” he says.

Two and a half years later, when UBS he moved to being chief operating officer of UBS’s equities business in the Americas, for about a year.

“I guess each of my different roles have leveraged the previous roles and have expanded, a little bit. In finance, when I started off, part of my job was to understand where the traders had made their profits and

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losses and so it was a natural extension from there to go into the risk area,” Chisholm says.

“The chief operating officer in the US involved an appreciation of how the business operates from front end of executing transactions right through to the back end settlements and controls processes.”

He says while moving from risk to leading a wealth management was a bit of a non-standard career progression, it was still quite natural.

“Any good business manager, chief executive or executive these days, has to have a very, very solid understanding of risk – regulatory risk, traded risk, credit risk, operational risk,” he says.

At Crestone, Chisolm’s attention to risk plays out in two main ways: how it builds portfolios and how it steers clear of regulatory interventions.

“You also need to have a very solid understanding and experience of all the different asset classes and how they behave together – whether they move together or in opposite directions,” he says.

“If you’re not actually giving good advice to your clients, in the end, your business will fail. That’s the biggest risk that you’re taking as a business.

“And lastly, quite aside from having outstanding people, ethics, integrity, as well as right investment products to advise your clients on, you also need to be focused on the front to back operations of business. As a business we’ve got to work seamlessly with the right technology to deliver overall experience,” he says.

The way Chisholm sees it, Australian wealth management firms fall into either of three categories: practices aligned to banks, brokers and smaller advice firms.

“Those attached to banks tend to be very slow, unwieldy and can be bureaucratic. Stockbrokers can only offer limited advice on equities or bonds, which means clients miss out on alternative asset classes such as private equity. Lastly, the smaller ones are unable to access top-quartile offshore managers and they are not focused on operational risks like cyber security,” he says.

In comparison to smaller, boutique firms in particular, Chisholm says Crestone scores a win with its scale.

“Because of our size we can develop relationships with some of the best overseas managers, push fees down for our clients and we are able to request those managers on a regular basis to show up and speak to our clients and our advisers. Those are all significant value adds,” he says.

Is there another wealth business in Australia that he likes?

“To be honest, we think we are quite unique,” he says.

He says he wants the firm to be the first choice for wealthy families and not-for-profits looking for advice and it’s goal, therefore, is to bring world-class opportunities across all the different asset classes and from top quartile investment managers to Australian investors.

“When we launched Crestone we had a view that HNW wealth management hadn’t been done very well in Australia and there was terrific opportunity for our business to focus on that.” fs

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Vantage point

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

Benjamin Ong director of economics and investments Financial Standard

Sector review Victoria’s Cinderella moment ictoria was primed and pumped for the secV ond stage of looser coronavirus restrictions on June 22.

The Good Economics Guide Making sense of key economic data

Your definitive handbook to understanding the Australian economy

Edition

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The guide Ben Ong is the author of the Financial Standard Good Economics Guide: Making sense of key economic data, a handy reference tool for investors, analysts, strategists and finance commentators, available in newsagents.

It would have seen 50 people (increased from 20) allowed inside cafes, restaurants, cinemas, theatres, auditoriums, stadiums, libraries, among others. So much so, that some gyms (those which offered 24/7 services) had strung welcome banners to its first fitness patrons. Before that, a number of restaurants had posted signs informing customers that they’d be reopening.

Instead, it turned into a reversed Cinderella story.

The planned easing of restrictions for restaurants and pubs, and limits on household and public gathering were suspended (some even tightened) for another month – until midnight July 12.

The Andrews government was forced into this after 19 new cases were reported on the eve of the planned reopening. The 19 new infections followed reported infections of 25, 13, 18 and 21 over the previous four days.

For sure and for certain, the Victorian government – and other Australian state governments, as well as other world governments – have the welfare of their respective economies and constituents in mind.

Much more than central banks trying to strike a balance between unemployment and inflation – their dual mandate, the coronavirus present policymakers a chicken and egg dilemma.

Health before wealth or vice versa.

Wealth before health. This is underscored by Australian Industry Group’s (AiG) chief executive Innes Willox statement that: “It is crucial that nationally our economy is able to open as far as possible to drive business and consumer confidence...

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We can’t afford to again shut down an already deeply struggling national economy because of localised COVID-19 outbreaks.”

Health before wealth. Australian Medical Association (AMA) president Tony Bartone warned that: “Any continued uptick from here and the risk of a second wave is absolutely a live possibility. The virus is still prevalent in the community, it still wants to spread. It needs to be treated with absolute respect.”

“Whether it’s restriction fatigue, whether it’s something else but clearly people have started to disregard those messages and we’re seeing the results in the number of case reports.”

Both have valid points. And so do other states’ decisions – particularly, Western Australia and South Australia – to keep their borders closed despite the Federal government’s coaxing.

The coronavirus doesn’t and won’t respect state borders. There may not have been many reported virus infections in other states at the time of writing but the ones in New South Wales and in Victoria could easily multiply if allowed to cross the borders.So much so, that the NSW government is now considering putting up restrictions at the NSW-VIC border (which has remained open since the pandemic began).

At the same time, NSW premier Gladys Berejiklian urged Sydneysiders not to travel to Melbourne “unless they have to” while indicating that Victorians not welcome north of the border.

One state giving all it’s got to control the virus (health before wealth), while its neighbouring state relaxes restrictions in the interest of business interests (wealth before health), provides a toxic recipe of fresh infections for both states. fs

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News bites

US retail sales US retail spending surged by 17.7% in the month of May following April’s sharp 14.7% fall. This is better than market expectations for an 8% gain and is the fastest rate of monthly increase on record as a number of stores started reopening and workers were allowed back at work. The increase in retail sales had also been supported by ultra-accommodative monetary and fiscal policies – cheaper borrowing costs and money printing from the Fed and trillions of dollars provided under the CARES Act – one time cheques and increased unemployment insurance. Year-on-year, retail sales growth has improved to a contraction of 6.1% in May following the 19.9% plunge in the previous month.

Property

Australia PMI The relaxation of social restrictions and business lockdowns sent Australian private sector activity back into expansion territory. Preliminary estimates show the Commonwealth Bank Composite PMI rebounding to a reading of 52.6 points in June from the final estimates of 28.1 in May and 21.7 in April. This is due mainly to the sharp jump in the flash services PMI to 53.2 in June from 26.9 in May and 19.5 in April. While the flash manufacturing PMI improved to a preliminary reading of 49.8 in June from May’s final reading of 44.0 (44.1 in April), it remains in contraction. The report noted that optimism over the 12-month outlook rose to a nine month high over the survey period. However, this was before recent COVID-19 infections in Victoria.

Australia employment Business closures and lockdowns due to COVID-19 sent Australia’s unemployment rate to its highest level since October 2001 – up to 7.1% in May from 6.4% in the previous month. It would have been worse, according to the ABS. “The increase in the number of people who were not in the labour force between April and May (142,000)…(that is, if they had been actively looking for work and been available to work) then the number of unemployed people would have increased to around 1.1 million people (and an unemployment rate of around (8.1%).” fs

Prices rise pre-COVID-19, sentiment positive Jamie Williamson

Prepared by: Rainmaker Information Source: REIA, PIPA

he latest edition of the Real Estate InT stitute of Australia’s Real Estate Market Facts shows house prices increased in the March quarter.

According to REIA, the weighted average median price for houses for Australia’s eight capital cities increased to $786,923. Sydney, Melbourne, Hobart and Darwin all saw increases.

Meanwhile, the weighted average median price for other dwellings increased to $602,293 over the quarter. Here, prices increased in Sydney, Melbourne and Adelaide but decreased in Brisbane, Perth, Canberra, Hobart and Darwin.

FS Private Wealth

REIA president Adrian Kelly said this marks the largest March quarter increase since 2017 which was the beginning of the 2017/18 housing boom.

“Over the quarter, the median rent for three-bedroom houses increased in all capital cities except for Brisbane and Perth, which remained steady and Darwin, which decreased,” Kelly said.

“The median rent for two-bedroom other dwellings increased in all capital cities except Darwin, which had a 2.4% decrease.”

At the same time, the weighted average vacancy rate for the eight capital cities decreased to 2.5%, which shows a tightening in the market compared to last quarter, REIA said.

New lending to household data released by the Australian Bureau of Statistics also shows lending to households for investment in dwellings decreased 16.3% over the quarter and decreased 13.1% for owner occupiers.

“The decrease is usual for the March quarter and has been occurring for the past 10 years,” Kelly said.

However, these figures do not reflect the impact COVID-19 has had and is further expected to have on the market. Still, consumer sentiment remains optimistic, with more than 70% of property investors believing now is a good time to buy.

New research conducted in May by the Property Investment Professionals of Australia (PIPA) and the Property Investors Council of Australia (PICA) shows 72% of investors are confident in the property market’s shortterm prospects, having dropped just 10% since September 2019.

It also revealed that COVID-19 had not changed the investment plans of 80% of respondents over the next six to 12 months.

About 18% said the crisis had made a property purchase more likely for them. fs

THE JOURNAL OF FAMILY OFFICE INVESTMENT•

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Vantage point

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

Key indicators

Source:

Monthly Indicators

May-20 Apr-20

Mar-20

Feb-20 Jan-20

Consumption Retail Sales (%m/m)

16.29

-17.67

8.47

0.60

-0.41

Retail Sales (%y/y)

5.27

-9.18

10.07

1.83

1.95

-35.29

-48.48

-17.85

-8.22

-12.52

Sales of New Motor Vehicles (%y/y)

Employment Employed, Persons (Chg, 000’s, sa) Job Advertisements (%m/m, sa) Unemployment Rate (sa)

-227.71

-607.40

-3.14

19.30

11.58

0.50

-53.35

-10.23

1.00

-2.79

7.09

6.37

5.23

5.09

5.27

Housing & Construction Dwellings approved, Tot, (%m/m, sa)

-

2.68

-0.66

1.26

-0.46

Dwellings approved, Private Sector, (%m/m, sa)

-

-1.82

-2.63

20.26

-14.31

Wages Total Private Industries (%q/q, sa)

0.38

0.45

0.92

0.38

0.39

Wages Total Public Industries (%q/q, sa)

0.45

0.45

0.83

0.46

0.46

Inflation CPI (%y/y) headline

2.19

1.84

CPI (%y/y) trimmed mean

1.80

1.60

CPI (%y/y) weighted median

1.70

1.30

1.67

1.59

1.33

1.60

1.60

1.50

1.30

1.30

1.40

Output Real GDP Growth (%q/q, sa)

-0.31

0.52

0.55

0.61

0.45

Real GDP Growth (%y/y, sa)

1.39

2.16

1.80

1.56

1.73

Industrial Production (%q/q, sa)

-0.09

1.25

0.39

1.07

0.59

Survey Data Private New Capex, Total, Chain, Vol, (%q/q, sa)

-1.65

-2.58

-0.55

-1.43

-1.46

Housing Finance Commitments, Number (%m/m, sa) -

Financial Indicators

Housing Finance Commitments, Value (%m/m, sa)

Interest rates

-

19-Jun Mth ago 3 mths ago 1Yr Ago 3 Yrs ago

Survey Data

RBA Cash Rate

0.25

0.25

0.75

1.50

1.50

Consumer Sentiment Index

88.10

75.64

91.94

95.52

93.38

Australian 10Y Government Bond Yield

0.86

0.98

1.48

1.34

2.41

AiG Manufacturing PMI Index

41.60

35.80

41.60

44.30

45.40

Australian 10Y Corporate Bond Yield

1.81

2.02

2.27

2.20

3.10

NAB Business Conditions Index

-23.76

-33.65

-21.99

0.16

-0.09

NAB Business Confidence Index

-19.97

-45.48

-65.19

-2.15

0.74

Trade Trade Balance (Mil. AUD)

-

8800.00

10446.00

4176.00

Exports (%y/y)

-

-6.48

7.44

-8.00

-2.03

Imports (%y/y)

-

-19.32

-8.56

-6.68

-2.25

Quarterly Indicators

Mar-20 Dec-19

Sep-19

5054.00

Jun-19 Mar-19

Balance of Payments Current Account Balance (Bil. AUD, sa)

8.40

1.72

7.26

4.87

-2.76

% of GDP

1.66

0.34

1.44

0.98

-0.56

Corporate Profits Company Gross Operating Profits (%q/q)

1.11

-3.47

-1.15

5.20

Wages Total All Industries (%q/q, sa)

-

3.24

-

3.02

-

0.53

0.53

0.53

0.54

0.54

THE JOURNAL OF FAMILY OFFICE INVESTMENT•

All Ordinaries Index

6061.6

7.12%

26.04%

-9.91%

3.87%

S&P/ASX 300 Index

5911.0

6.93%

24.79%

-10.39%

2.84%

S&P/ASX 200 Index

5942.6

6.89%

24.25%

-10.61%

2.37%

S&P/ASX 100 Index

4903.0

6.94%

23.37%

-10.86%

1.79%

Small Ordinaries

2682.2

6.82%

37.19%

-6.64%

12.66%

Exchange rates A$ trade weighted index

58.80

57.80

57.00

60.00

63.80

A$/US$

0.6862 0.6569 0.5864 0.6869 0.7602

A$/Euro

0.6135 0.6000 0.5480 0.6125 0.6807

A$/Yen

73.40 70.90 64.54 74.46 84.59

Commodity Prices

1.97

Employment Average Weekly Earnings (%y/y)

Stockmarket

S&P GSCI - commodity index

327.64

296.49

269.53

408.49

361.38

Iron ore

103.04

90.65

89.97

106.20

54.70

Gold

1734.75 1737.95 1474.25 1344.05 1248.15

WTI oil

39.74

32.30

25.09

53.74

44.24

FS Private Wealth

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Family Office Management:

24

Working for a single family office: Challenges for outsiders

By Peter Pontikis, India Avenue Investment Management

24

Family Office Management

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: In addition to ‘doing their job’ of investment management and administration, outsiders brought in to manage family offices may face wider issues and often unique challenges such as generational dynamics, strong personalities, competing priorities and third-party pressure.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Working for a single family office Challenges for outsiders

S Peter Pontikis

ingle family offices (SFOs) are designed to centralise the management of significant family fortunes in excess of $30–50 million, though overseas experience tends to suggest that for the office to be effective on its own, that figure should be a minimum of $100 million or higher.

Typically, these organisations employ outside staff to manage and administer their investments. This could include areas such as taxation, philanthropic activities, trusts and other structures, as well as handling other legal and due diligence matters.

Consider Often for those non-family managers who do work for an SFO, particularly at the senior levels, it is an especially difficult and demanding mandate presenting unique career challenges not generally found in professional and institutional investment organisations. In addition to ‘doing their job’ of investment management and administration, outside family office managers can get caught in the emotional cross-current and politics of family-owned investment companies.

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On top of the often-emotional, family-based negotiations that these managers need to effectively navigate, the family office and its owners have a mirror challenge of recruiting, adequately rewarding and retaining trusted talented managers using market-matching incentives and opportunities.

Looking beyond the costs of outside hired help, this separate task of managing ‘staff’ as opposed to family, understandably leads many wealthy families to outsource the whole family investment company task to multi-family offices (MFOs). However, assuming a wealthy individual and/or family want to be kept close to the operations of (if not in direct control of) their wealth, what must they reconcile in order to either establish an SFO and/or bring in outside managers?

Family wealth or investment management?

The body of family wealth is the essential object of a prospective SFO’s attention—being by its very essence the personal wealth (if not the identity) of its owners. This often equates to a very emotive, psychological and conservative bias in the SFO’s desire for family equilibrium and rhythm.

Further, it embodies the need for the wealth not to be lost with the SFO’s long-term aims of caring for and nurturing it, as well as handling intergenerational transfers, distributional ‘justice’ and ethical values among its many other non-financial objectives. Such objectives may not necessarily be consistent and without contradic-

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tion, coupled with individual family members who will bring their own mix of positive and negative behaviours to form the emotions-based (and not always apparent) context of the family’s wealth management.

Now, compare the above with the discipline of investment management, which is task-driven, outward, and based on efficiently maximising wealth opportunities to, among other things: • Professionalise and make more cost-efficient the SFO’s investment operations • Be active and pre-emptive in investment processes • Align portfolios and investments with stakeholder risk and reward preferences • Enable succession planning and education for managers and stakeholder owners of the wealth For outside managers in an SFO, these different approaches regarding aims and priorities can seem incompatible and the source of daily and sometimes unreconciled friction. This highlights the possibility (as opposed to inevitability) of negative impacts regarding any excessive transfer of family values onto the SFO’s operations and its outside managers.

There are of course many examples of successful ‘family-first’ solutions to staffing SFOs with nextgeneration family members brought in to commit their working lives to managing the family fortune. However, by dint of chance, available family may (or be perceived to) not have the aptitude, talent or inclination to do so.

It is at this point that key family wealth owners will need to consider either: • Keeping direct control (i.e. the DIY solution) • Delegating (i.e. outsourcing various wealth management functions) • Collaborate with trusted non-family talent and managers The first solution is an act of postponement and keeps any SFO at the embryonic or ‘emerging’ stage, with the owners and SFO remaining as one. The second is the domain of private banks, MFOs and other specialist wealth management service providers. The third choice is where the wealth owners seek a middle path between keeping total control of investment management versus trusting the contribution and support of external advisers and consultants—bringing in external managers with the skills to help the SFO grow and respond to its wealth and investment challenges dynamically.

Valuing outsiders Outside managers for an SFO are not recruited in a vacuum. There is a well-developed and deep market for finance professionals and business managers whose salary and on-costs are commensurate with the relative value, task complexity and risks of the role. A useful benchmark is to compare the annual cost of the manager and divide it by the basis point charge for a comparable (outsourced) wealth management asset or timebased charge.

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Family Office Management

25

Example: Calculating an outside manager’s value A full-time SFO employee costing A$200,000 would be justified at say a comparable 40 basis point charge of a passive whole-asset manager. This equates to a minimum A$50 million asset base that would justify the in-sourcing. If an SFO was also looking for alpha-plus returns, the equation will of course be more complex.

However, this methodology may be too clinical, as there are many other more qualitative benefits (some of which have been mentioned already) of having an aligned in-house adviser and manager—as well as risks on both sides.

Indeed, the metrics of valuing outside managers for an SFO are a separate complex subject, depending on specific tasks and the relative effectiveness and structure of governance and key family personalities.

Challenges for outsiders For an outsider, the challenges of working with an SFO begin from the outset with its culture and integration into it. The SFO culture, as is the norm, is based around the first-generation wealth-maker, often of strong character. Thus, it may be difficult for an outsider to adjust to or change/influence this dynamic.

Alternatively, consensus-based partnership or informal family structures could be equally challenging to manage.

Therefore, it helps if the manager possesses prior experience working in SFOs or family businesses as such.

For the SFO looking to retain staff, and for managers to better know what they are in for, the SFO needs to have a clearly formulated set of values and vision statement. Further, there must be a conscious effort to reassure managers at the onboarding stage and on an ongoing basis around: • Remuneration • Decision-making • Career development In return for employment and career direction, the manager needs to earn and secure the trust of their SFO employer. Getting them to feel comfortable with their competencies and behaviours is not an unfamiliar task for any potential or incoming employee. However, the acute fiduciary trust being asked of the manager needs to be appreciated and applied in the delicacy of this challenge.

Moreover, trust has both character and competence components, which respectively carry deeper expectations of intent and integrity in the first instance and capability and ability to produce desired results in the second.

The relationship with the SFO’s broader family may also be a factor for consideration. Out and out suspicion of ‘outsiders’ together with the possibility of the manager becoming (as Peter Leach says in his Family businesses: The

Peter Pontikis, India Avenue Investment Management Peter Pontikis is director of macro strategy for India Avenue Investment Management.

He has over 30 years’ investment, wealth management and financial markets experience, with a focus on wealth management for Australasian high- and ultrahigh-net-worth investors and institutions. He is a fellow of CPA Australia and senior fellow of FINSIA.

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Family Office Management

CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. The author perceives an outside SFO manager’s function as: a) A caretaker until an SFO sorts out its priorities b) An investment manager, nothing else c) First and foremost a relationship manager d) None of the above 2. What did the author highlight regarding SFO dynamics? a) Next-generation family wealth managers mostly lack management talent b) First-generation wealth-makers often have strong personalities c) Consensus-based or informal family structures are straightforward to manage d) First-generation wealth-makers often want to ‘let go’ and hand over the reins to an outside manager 3. A full-time SFO manager’s salary of $240,000 is justified at a comparable 30-basis-point charge. As a yardstick, what asset base may warrant their employment? a) $ 40 million b) $30 million c) $80 million d) $24 million 4. In terms of hurdles, an outside manager may have to contend with an SFO’s: a) E thical values and non-financial objectives b) Broader-family dynamics c) Inherited third-party conflicts d) All of the above 5. What observation does the author make regarding SFO lifecycles? a) They focus more on one-off gains over time b) They are mostly static at the point an outside manager is employed c) They require skilful generational straddling from the outside manage d) Different generations have similar aims 6. The author believes an SFO must let an outside manager help draft a set of company values and vision statement. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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essentials book) ‘triangulated’ between key SFO owners and the broader family, or becoming the ‘dumping ground’ for (or being dragged into) unresolved third-party conflicts between family members and partners is itself a source of uncertainty for the manager regarding the ability to do their job effectively.

It goes without saying that an SFO lacking a succession plan, or possessing a latent or unclear one, adds to any job insecurity that an outside manager may experience.

While the universal ideal is a conflict-free work environment, SFOs have advantages over institutional work environments, such as the resilience of informal and flexible close-knit working teams, personal relationships and the confidence that comes with clarity of dealing directly with stakeholder-owners of the SFO. This offers the opportunity for the manager to become a key and trusted member of the SFO team and, by extension, its family owners.

Family office lifecycles Family offices, like investment markets, do not stand still and, in their own way, have lifecycles. Their initial formation begins as a strong desire to safeguard and perpetuate the family fortune or for various other ‘reasoned’ purposes, be it promotion of family values, causes or established business and so on.

As such, the survival of family capital across the generations will, with time, become more important than one-off gains and transactions in the business and investing space. A first-generation entrepreneurial fortune-maker will have a different starting point and aims compared with say third-generation (and likely more widely dispersed) wealth inheritors. The SFO (and its managers) straddle the spectrum of time, lifecycles and characters of wealth owners.

An appreciation of the nuances regarding the change in number and composition of people to the sensitive SFO manager also means the SFO (and supporting managers, bloodline or not) need to be receptive and adaptive to the whole train of other changes that could follow. This includes culture, assets, decision-making procedures and ground rules.

This is indeed a challenge for the outside manager to further help the SFO transition from an owner-manager SFO to one of a crossgenerational and sibling-partnership structure to an even more effective institutionalised corporate governance regime found in thirdgeneration SFOs and beyond.

An outside manager accepted into the fold can help to define and retain what has historically worked, and still works, for the SFO, discard what no longer does and help facilitate new techniques, processes and relationships that will.

Conclusion Dealing with both an investment company structure populated with family-owner bosses and stakeholders brings unique challenges for an SFO manager over and above that of a pure wealth manager.

At worst, the outside manager may be seen as a threat to the SFO, the wealth it is meant to steward and the values it is meant to espouse.

At best, taking in outside managers and being outward looking, allows SFOs to take advantage of a broader range of external skills and networks. Moreover, it allows the SFO and its stewarded nest egg to grow and effectively manage change in investment markets and family-owner dynamics. fs

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Philanthropy:

28

The outlook for philanthropy during COVID-19

FS Private THE JOURNAL Wealth OF FAMILY OFFICE INVESTMENT•

By John McLeod, JBWere

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Philanthropy

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: COVID-19 has placed a strain on corporate giving and the for-purpose sector. This paper compares the current philanthropic environment with previous trends during adverse times, analyses each of the giving segments in Australia and the outlook for each.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

The outlook for philanthropy during COVID-19 Where to from here?

T John McLeod

his report attempts to estimate the outlook for philanthropy and volunteering in Australia during the unprecedented combination of a major economic downturn and a significant global health crisis. We have looked at the past reactions of individuals, foundations and corporate donors during circumstances as close to rivalling this current situation as possible but, needless to say, a great deal of extrapolation is required.

In Australia, it is also complicated by the widespread and very generous support already given during the recent bushfires across most states only around four months ago.

While it would be easy and potentially prudent to assume a major fall in philanthropy is to occur, that would also ignore the main historical driver of rises in philanthropy in Australia. That is, natural disasters.

There are also some timing differences for structured philanthropy that is likely to see a delayed effect and smoothing of support. Corporate giving has been affected when profitability has fallen, although the actual proportion of profits given has risen during these tough times.

Volunteering, on the other hand, is being severely hampered by isolation requirements, regardless of how strong people’s desires may be to help.

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Australia last experienced a recession in 1991, at a time when the Australian Taxation Office (ATO) was not collecting donations data.

The recession prior was in 1983 when giving actually grew strongly, although it fell 4.5% in the following year.

Analysing each of the giving segments in Australia and looking at the main factors influencing their levels of support, we estimate total giving will fall by around 7.1% in 2020 after rising by almost 5% over each of the previous two years.

The larger effect from the current crisis is likely to be felt in 2021 when giving is estimated to fall by a further 11.9%, back to levels not seen since 2012 (see Figure 1).

Analysis of the long-run giving trends in the United States shows the slowdown (a fall in 2009 and 2010) in giving during recessions, mainly by individuals. From 2007 to 2009, giving in the US fell by the largest amount on record, 12% over two years as gross domestic product (GDP) fell 3.7% and corporate pre-tax profits fell over by 25% (see Figure 2).

The remainder of this paper looks at the different types of giving, and the outlook for each.

‘Mass market’ philanthropy The factors affecting the level of donations from the broad public to charities between now and 30 June 2020 are dramatic.

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Among the positive factors are: • Australians have always responded very generously to natural disasters in their own country (various bushfires and floods) and in other places where they have a connection (for example, 2005 Asian tsunami) • There is extremely widespread media coverage of the evolving crisis • While private incomes will be uncertain and under pressure, the level of discretionary spending will also be lower • Many people’s ability to help through volunteering will be severely curtailed, potentially increasing their desire to aid financially Among the negative factors are: • We have just had a very generous level of donations for the fires across the country in the same financial year Figure 1. Australian philanthropy outlook ($m)

• This ‘natural disaster’ is accompanied by a likely very severe global economic downturn • The timing and ultimate health and economic/employment effects may not be known for many months • While people are often donating to another smaller subset of the population, there may be a feeling that this time, they are in fact the beneficiaries in need of assistance • Many larger fundraising events are already, or will be, cancelled Figure 3 shows tax deductible giving in Australia both including and excluding donations into private ancillary funds (PAFs). Apart from the spikes seen during natural disasters in 2005, 2009 and 2011, there has been a consistent rise in donations, not including donations into PAFs. Figure 3. Australian tax deductible giving, 1979–2017 $4,000

$16,000

Corporates

$12,000

Other charitable trusts Public ancillary funds

$8,000

Private ancillary funds

$6,000

Bequests

$4,000

Individuals (not claimed as tax deductions)

$2,000

Individuals (tax deduct., excl. ancillary funds)

$3,000 $2,500 $2,000 $1,500 $1,000 $500 $-

79 19 81 19 83 19 85 19 87 19 89 19 91 19 93 19 95 19 97 19 99 20 01 20 03 20 05 20 07 20 09 20 11 20 13 20 15 20 17

$10,000

Annual Tax deductible donations ($m)

$3,500

$14,000

19

$0 2017

2018E

2019E

2020E

2021E

Donations into PAFs

Donations excl. PAFs

Source: ATO, JBWere Philanthropic Services

Source: JBWere Philanthropic Services

John McLeod, JBWere

Figure 2. US charitable giving

450 400 350

Recession years Bequests

300

US$ Billions

29

Corporates

250

Foundations

200

Individuals

150 100 50 0 1970

1974

1978

Source: Giving USA, JBWere Philanthropic Services

FS Private Wealth

1982

1986

1990

1994

1998

2002

2006

2010

2014

2018

John McLeod cofounded JBWere’s Philanthropic Services team in 2001. He researches and produces reports on philanthropy, the for-purpose sector, and impact investing. In 2019, he co-authored the inaugural list of community investment by Australia’s 50 largest corporate donors. He sits on the board of several charities and Philanthropy Australia.

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Philanthropy

www.fsprivatewealth.com.au Volume 09 Issue 02 | 2020

In the first significant test of fundraising during the coronavirus (COVID-19) pandemic which usually involves a high level of community involvement across a whole state, the Good Friday Appeal for the Melbourne Royal Children’s Hospital was forced to cancel a multitude of fundraising activities including the Kids Day Out, Run for the Kids, Cadbury Easter Egg Hunt, AFL Kick for the Kids match and many state-wide ‘tin rattling’ events. Even the usual all-day telethon was reduced to one hour. The annual event, conceived in 1931, concluded with just over half of the previous year's total being raised (see Figure 4).

In a welcome development, also mirroring that being seen in many other areas of the economy, the Victorian government stepped in to provide the balance to match the previous year’s total. While we do not expect all fundraising to drop by this extent, it is an indication of the current difficulty facing broad community event based activities.

There is also potential at this time to bring forward plans to offer opportunities to foundations to use their balance sheets as well as their granting. The ATO’s PAF guidelines offer many ways to do this, including offering or guaranteeing loans for deductible gift recipient (DGR) type 1s and including interest forgone as part of annual granting requirements.

One of the effects of COVID-19’s economic impact is likely to be the rate of establishment of new PAFs which may slow considerably in 2020 and 2021. During the global financial crisis, we saw the number of new PAFs established fall considerably. While this was also influenced by the uncertainty surrounding the new PAF guidelines, we can see the strong relationship to equity market in other years in Figure 6 on the next page.

Foundations and other structured philanthropy

Corporate community investment is gradually being better understood as an important part of the overall level of support provided by private individuals and organisations to the for-purpose sector.

JBWere’s The Support Report estimated that corporates provide over a third of total support. The level of corporate support is highly correlated to their profitability and is estimated to be under pressure over the next few years.

The recent Australian Financial Review Corporate Philanthropy 50, research coordinated by JBWere, showed a total of $1.25 billion from the 50 largest corporate supporters and is a significant proportion of the total $4.5 billion provided by corporates in Australia. How this is affected by the probable large downturn in corporate profitability

There has been a lag between economic and equity market falls and the levels of foundation granting. This is due to the payout requirements being based on previous year asset or income balances. In the US, where payout rules are similar to PAFs in Australia, it can clearly be seen that giving from foundations held up well during years of equity market falls, with any declines or slowdowns often not seen until the following year (see Figure 5). While obviously trustees will remain cautious, this is also the time for them to help and utilise the assets that have accumulated due to their original foresight in establishing a foundation in better times.

Corporate giving

Figure 4. Good Friday Appeal, Melbourne Royal Children’s Hospital

$20,000,000 $18,000,000 $16,000,000 $14,000,000

Amount raised

$12,000,000 Victorian State Government "top up"

$10,000,000 $8,000,000 $6,000,000 $4,000,000 $2,000,000 $0 1931

1950

1960

1970

1980

1990

2000

2010

2020

Source: http://www.goodfridayappeal.com.au, http://www.premier.vic.gov.au, JBWere Philanthropic Services

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Philanthropy

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$50 $40 $30 $20 $10

2018

2016

2014

2012

2010

2008

2006

2004

2002

2000

1998

1996

1994

1992

1990

1988

1986

1984

1982

1980

1978

1976

1974

1972

1970

$0

Source: Giving USA, JBWere Philanthropic Services

Figure 6. Annual PAF establishment by year and state versus equity markets 175

7,000

150

6,000

125

5,000

100

4,000

75

3,000

50

2,000

25

1,000

0

NT ACT Tas SA Qld WA Vic NSW All Ord's (RHS)

19

20

18

20

17

20

16

20

15

20

14

20

13

20

12

20

11

20

10

20

09

20

08

20

07

20

06

20

05

20

04

20

03

-

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To state the obvious, these are uncharted waters for all parts of society. What we do know is that the confluence of factors leads us to conclude that many for-purpose organisations, funding models will be under significant pressure.

This pressure may manifest in weeks for some, and over many months for others. For those organisations reliant on philanthropy, we ask boards, executives and fundraising staff to consider the following points as they develop their tactical moves: • Reassure, if possible, the ability of your organisation to survive and be in a position to provide support.

• Clearly highlight the ways that your charity is able to help in the current situation.

• Be aware of what others are doing and, where possible, be part of the broader solution in the areas where you operate.

• If attempting something new and/or innovative, reassure that you have the skills needed and demonstrate why a change from your normal practices are needed and for those supporting your past work, whether you will continue those operations in the shorter term.

• If reaching out to the mass market, simple, clear messages are needed among the saturation of COVID-19 news and views.

Years of share market falls

$60

20

Concluding thoughts

$70

01

The for-purpose sector is an extremely important part of overall employment in Australia. With around 1.2 million employees, split between full time, part time and casual, it represents almost 10% of the total workforce. The sector’s cost base is also heavily affected by this large workforce, with around 50% of total costs used for employee wages.

Uniquely, the sector relies on volunteers to supplement its activities, and they represent around 25% of the total full-time equivalent workforce. Although various causes have a different reliance on these unpaid supporters, without them the sector’s overall surplus would quickly disappear. Undoubtedly, both the desire and ability of people to volunteer in the coming months will be severely curtailed.

Figure 8 on the next page shows the reliance on volunteering for selected cause areas.

$80

20

Volunteering

Figure 5. US foundation giving versus equity market falls (US$ billion)

20

in Australia might be informed by previous economic downturns.

Figure 7 shows the relationship in the US between corporate community investment and profitability from 1971 to 2018. The proportion of giving compared to pre-tax profitability has averaged 1.1% over almost 40 years, but interestingly has risen in tougher economic times when profits fell, although the dollars given fell.

In the earlier 1980s, economic downturns the proportion rose to over 1.6% and in 2001 to 1.7%. However, in the most recent significant economic downturn in 2008 it remained reasonably steady.

31

Source: ATO, JBWere Philanthropic Services

Figure 7. US corporate giving, 1971–2018 2,500

25

2,000

20 Corporate Giving (LHS - US$ Billions) Corporate pre-tax profits (RHS - US$ Billions)

15

1,500

1,000

10

500

5

0

0 1971

1981

1991

2001

2011

Source: Giving USA, JBWere Philanthropic Services

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Philanthropy

CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. What factors does the author cite as having an adverse effect on Australian philanthropy due to COVID-19? a) The ultimate impact is still not known b) The impact is on a global basis c) Donors may feel that they are beneficiaries d) All of the above 2. According to data cited by the author, what long-term trend in US corporate giving in adverse economic times is evident? a) The proportion fell, but the total amount rose b) The proportion rose, but the total amount fell c) The proportion and total amount remained steady d) The overall average declined around 0.6% 3. What does the author highlight regarding private ancillary funds? a) The rate of establishment will plateau in 2020 and 2021 b) They are largely independent from equity market performance c) They are strongly linked to equity market performance d) The rate of establishment will grow in 2020 and 2021 4. What recommendation does the author have for philanthropic organisations? a) P rioritise cash support from corporations b) Avoid the temptation of ‘balance sheet’ philanthropy c) Leverage the growing volunteer base d) Keep any mass-market messages clear and simple 5. Australian philanthropy is closely connected to natural disasters. a) True b) False 6. Foundation payout rules are based on asset or income balances from the current year. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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Figure 8. Volunteering by cause 100% 100% 90% 90% 80% 80% 70% 70% 60% 60% 50% 50% 40% 40%

30% 30% 20% 20% 10% 10% 0% 0%

PROPORTION OF PEOPLE PROPORTION OF PEOPLE

PROPORTION OF HOURS PROPORTION OF HOURS

Development and housing housing Development and Animal protection Animal protection

Emergencyrelief reliefand andincome income support Emergency support Socialservices services Social

International aid International aid Environment Environment

Healthincl inclmedical medicalresearch research Health Religion Religion

Law, advocacy, politics politics Law, advocacy,

Education(mainly (mainlyprimary/secondary) primary/secondary) Education

Culture and and arts arts

Recreation(mainly (mainlysports) sports) Recreation

Other Source: Giving Australia 2016, JBWere Support Report

• Foundations will differ in their minimum payout requirements from 5% of June 2019 assets (PAFs) to more income-based (charitable trusts). Either way, it is likely that the larger effects on minimum payouts will be seen in the 2021 year. Given the widespread affect across multiple charitable cause areas from health and education to arts and sport or welfare, mental health, and international aid, all foundations will see need grow from their preferred causes. There will even be a bring-forward of spending from some foundations and hopefully a growing usage of their balance sheets.

This offers for-purpose organisations the opportunity for different approaches to those of normally just seeking annual grants.

• Corporate support will still be available, but their own operations will likely have dramatically changed, and the ways they may be able to support could look quite different. Are there opportunities to utilise any spare capacity they may now have (for either goods or services), rather than simply asking for cash, which may currently be more difficult?

• Volunteering has been gradually moving towards having a smaller proportion of hours available and for fewer hours. Does the current crisis offer the opportunity to move faster towards that ‘reengineering of volunteering’ some for-purpose organisations were commencing?

We will be working closely with our clients during the coming months to help them understand the potential impact of that the current pandemic (and response) will have on their organisation, and guide them in developing strategies for the world post-COVID-19. fs

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Taxation & Estate Planning:

34

Executive share schemes: Structuring, taxation and investment strategies

By Sabil Chowdhury, Koda Capital

39 Directors’ personal liability 42 extended to include companies’ GST liabilities Charitable gifts in Wills

By Mitchell Evelyn, Elringtons Lawyers

By Letty Chen and Robyn Jacobson, TaxBanter

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: Employee share schemes can be a significant source of wealth for senior executives. This paper looks at the vesting conditions, tax-optimisation and asset-protection strategies, liquidity issues, cash flow requirements and diversification considerations regarding such schemes.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Executive share schemes Structuring, taxation and investment strategies

A Sabil Chowdhury

n employee share scheme is often the single most important source of wealth generation for an executive over their working life. Employee share schemes come in different forms with different potential outcomes. It is critical for executives to maximise the opportunities provided by this wealth creation tool, to have the right structures with the right entities and the right strategies in place for this most important source of future wealth.

Despite the fact that employee share schemes are often the most significant source of wealth generation, the vast bulk of the executives we speak with have found it difficult to cut through the inherent complexity of employee share schemes and maximise the opportunities for wealth generation these schemes represent.

This paper aims to: • Help busy, time-poor executives be aware of and understand the complexity that is often embedded within employee share schemes • Provide an overview of how these schemes work in practice • Assist executives to maximise opportunities by using the right structuring, tax and investment strategies An employee share scheme offers executives equity in the company or the opportunity to purchase shares in the company at a later date (known as a share options plan).

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The tax treatment of the employee share schemes can be complex in nature. This paper seeks to clarify such implications.

Further, it discusses different vesting schemes and financial strategies to help executives achieve their objectives; whether it be wealth creation, asset protection and/or tax optimisation.

Strategies for consideration when participating in employee share schemes are: • Structuring for tax optimisation and asset protection • Benefits of diversification • Liquidity issues and cashflow requirements • Evaluating loan arrangements • Startup tax concessions Seeking specialist advice is crucial to navigating the terms and conditions before entering an employee share scheme.

Cutting through the complexity The primary source of wealth for many senior executives is often from the receipt of shares via an employee share scheme. Therefore, it is critical for executives to understand how these schemes work in practice and to cut through the complexity of the various terms, conditions and tax treatments.

Once an executive develops a good understanding of how these schemes work, they can consider specific wealth and investment strategies to help maximise their opportunity to preserve and grow wealth.

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As mentioned, an employee share scheme provides employees with equity in the company—either as outright shares or as the opportunity to purchase discounted shares in the company at a predetermined date in the future (known as a share options plan).

Employee share schemes are used by companies to attract, retain and motivate employees. These schemes are designed to align the shareholders’ interests with the employees’ interests, as both groups can benefit financially if the company performs well over the long term.

Employee share schemes offer executives shares of the company for a discounted price. The shares can be paid through salary sacrificing, using the dividends received from the shares or be paid upfront often using a debt facility arranged by the employer.

Taxation & Estate Planning

Tip: Executives can use the Australian Taxation Office’s online employee share scheme (ESS)

Vesting and restricted share schemes

calculator to help calculate the discount received from

A vested share is one that an executive can act on and sell. Companies implement share vesting schemes to retain employees, incentivise them to perform and mitigate the risk of giving away too much equity in case an employee decides to leave earlier than expected.

A company can award ordinary shares under a restricted share plan, subject to satisfaction of specified time-based and/or performance-based vesting conditions. Shares acquired under a restricted share plan at a discount to market value will be taxed when the shares are granted, unless a tax concession is available (see tax treatment in the next section of this paper).

Generally, shares are granted subject to meeting specified time-based or performance-based vesting conditions. Most often, shares vest based on the length of time to the company. That is, a time-based vesting condition.

A common vesting period is three to five years. A vesting schedule is set up by the employer, and determines when executives can acquire full ownership of the shares.

Shares can also be granted if the executive satisfies specific performance conditions such as individual performance metrics and/or company performance metrics like total shareholder return, return on equity or growth in earnings per share.

their employee share scheme. Note that while this tool

Tax treatment of shares received through an employee share scheme Division 83A of the Income Tax Assessment Act 1997 identifies the tax implications of employee share schemes.

The general principle is that executives will be taxed (according to their individual marginal tax rate or the marginal tax rate of the entity that owns the shares) on any discount to the market value received.

The discount refers to the difference between the market value at the time of vesting and the cost base. In other words, the amount executives are paid to acquire their shares. The discount forms part of their assessable income and needs to be included in their personal tax return.

Depending on the type of employee share scheme offered, the discount income amount of any shares will

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is a helpful guide for calculating the discount amount for relatively simple ESS scenarios, it does have limitations. Be sure to read about these limitations and, as always, it is best to speak with a tax adviser about one’s personal circumstances.

either be taxed at the time the shares are granted or deferred so that any tax is payable at a later point in time.

Under a tax-deferred scheme, an employee can defer paying tax until the financial year in which the deferred taxing point occurs, instead of paying tax in the financial year the shares are acquired. To be eligible for a tax deferral, the scheme and employee must meet specific conditions of the tax-deferred scheme.

If an executive decides to dispose of their shares within 30 days after the deferred taxing point, the deferred taxing point becomes the date of that disposal. This is known as the 30-day rule.

Executives should be mindful of this rule before disposing of shares. In some situations, the 30-day rule will bring forward the deferred taxing point to the previous financial year. This may pose cashflow issues for executives later down the track.

Capital gains tax (CGT) implications depend on what type of entity owns the shares. In relation to CGT, the 50% CGT discount applies if the shares have been held for at least 12 months before they are sold. CGT should then be assessed on 50% of any capital gain realised on sale. If there is a capital loss, the losses can be carried forward for future financial years.

Maximising the opportunity Employee share schemes can be an effective way for executives to maximise their long-term wealth, however, they should consider how the scheme fits into their broader wealth planning and investment strategy before deciding to participate in such schemes.

Sabil Chowdhury, Koda Capital Sabil Chowdhury is an adviser and partner at Koda Capital. His specialisations include customised investment mandates, strategic/tactical asset allocation, alternatives, managing liquidity events, equity extraction, structuring and tax strategies.

Previously, Chowdhury was a private wealth adviser at Macquarie Private Bank and held advisory roles at Perpetual Private Wealth and KPMG Risk Advisory.

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The following section of the paper discusses strategies to help executives maximise the opportunity to grow and preserve their wealth as well as how best to optimise tax and structuring.

Structuring for tax optimisation and asset protection

Generally, executives are on a higher marginal tax rate and should consider owning the company shares in a family trust or self-managed superannuation fund (SMSF). It is important to consider both the income and CGT implications, asset protection and access to capital before choosing the right entity in which to own the shares.

If an executive has already entered an employee share scheme in their personal name, they can consider transferring the shares to a different entity, however, they need to be careful of the CGT impact. When an executive transfers shares from their name to an entity such as a trust (after the shares have vested), the company will typically need to approve the transfer. The company may also like to see that the executive is still the controlling person.

For some individuals, owning the shares in their personal name may be a feasible option if the shares are granted immediately or via a loan-funded arrangement (see section about loan arrangements on the following page of this paper) or options exercised personally and then transferred.

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If an executive chooses to own their shares in their SMSF, the lower-tax environment in superannuation will likely be in their favour. While an executive is still working or accumulating wealth to spend in retirement (that is, they are in ‘accumulation phase’), the income tax on the dividends paid is 15% and the CGT is also 15%; though if the executive has held the investment for more than 12 months, then realised capital gains are taxed at only 10%. In retirement (that is, ‘pension phase’) the income tax and CGT are nil, provided the member’s pension balance does not exceed $1.6 million.

Although there can be significant tax advantages of holding shares in superannuation (especially if the executive has a long investment timeframe), access to capital and the number of years until an executive retires should be considered. The lack of access to capital may pose a problem if an executive has near-term cashflow requirements, such as purchasing a new home.

Another option is to own the shares in a family trust. In addition to having access to capital, another advantage of a family trust is that the trustee has the discretion to distribute and split the income (in this case, the dividends from the company shares) to beneficiaries with lower marginal tax rates, such as their spouse or children over 18 years of age. Splitting the income between different beneficiaries can be an effective way of reducing tax.

A further benefit of owning the company shares in a family trust or SMSF is asset protection. Executives, particularly company directors, can be at risk of being potentially sued for breach of director duties, and therefore owning shares in a discretionary family trust or SMSF can offer additional asset protection and the peace of mind that comes with it.

Another suitable option could be owning a portion of shares in an SMSF (for retirement savings and favourable tax outcomes) and the remaining portion of shares in a family trust (for income splitting, asset protection and access to sale proceeds). This diversified strategy allows executives to take advantage of the tax benefits in superannuation, while having access to the funds (once vested) via a family trust.

Different share schemes may result in different outcomes.

Example 1. Treatment of grants/acquisitions to superannuation funds One of the challenges in having employee shares granted into a superannuation fund is dealing with how that grant/acquisition to the superannuation fund can occur and how it will be treated for and by the superannuation fund.

It is important to know if the share dividends include franking credits as well as CGT consequences when choosing the right structure to hold the shares.

Example 2. The benefits of franking credits Distribution of income from a trust to a corporate entity will typically lead to no additional tax at that point when the dividends are fully franked.

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Benefits of diversification

Considering loan arrangements

If an executive is given the offer to participate in an employee share scheme, it is important that the shares are considered as part of their overall diversified investment strategy to avoid concentration risk in one single asset position.

There could be significant upside for executives participating in employee share schemes, especially when offered at a significant discount. While it is often good to have ‘skin in the game’, executives should be aware of the impact this can have on a portfolio’s level of diversification.

Harnessing the benefits of good diversification requires executives to make a fundamental shift in mindset to accepting that, from a wealth management perspective, good diversification means investing in strategies that are deliberately uncorrelated to the returns of the company shares.

Portfolio optimisation and good diversification require an investor to hold exposure to a range of asset classes and to avoid overexposure to any one particular investment or asset class.

Diversification across asset classes is the academically proven method of achieving optimal risk-adjusted returns as shown in economist and Nobel Prize Laureate Harry Markowitz’s 1952 paper ‘Portfolio selection’, in which he pioneered modern portfolio theory.

An ideal strategy would be to construct portfolios that offer better upside-downside capture relative to the median manager and diversified benchmarks, and importantly the portfolios also generate uncorrelated returns relative to traditional equities and bond market exposures.

Under a vesting loan arrangement scheme, executives are provided with a limited recourse loan to acquire shares at market value and repay the loan amount. Given that the shares are acquired for market value, CGT provisions will apply.

The employer can provide an interest-free loan, however, fringe benefit tax (FBT) may be payable by the employer, so executives should speak with their employer and tax adviser about any potential FBT impact. Executives should also check with their tax and structuring adviser regarding whether Division 7A dividends or FBT has precedence, the application of the otherwise deductible rule as well as the loan forgiveness provisions if the loan ends up being more than the share value.

Dividends paid on the shares can be applied against the outstanding loan balance (net of income tax on the dividends). It is generally expected that executives will receive franking credits, however, they should consider the 45-day rule and speak with their tax adviser about utilising franking credits in the right entity. The 45-day rule requires shareholders to have held the shares for at least 45 days to be eligible to claim franking credits in their tax returns.

The key advantage of a loan arrangement is that the income tax (from the shares rewarded to the executive) can be deferred and does not have to be paid upfront, which can have cashflow benefits.

It is suggested that executives speak with their employer and tax adviser to determine if a loan arrangement is suitable to their personal circumstances and objectives.

Liquidity issues and cash flow requirements

There can be limitations on when executives can access and transact their shares. Firstly, the shares must have vested (usually according to a certain number or years or meeting specific performance targets as discussed in the previous section) before they can be accessed or sold.

If the shares are listed in public markets such as the Australian Securities Exchange, there is often an annual trading window when employees can sell their shares. Further, there could be other liquidity constraints if the shares are privately owned and unlisted.

Previously, we discussed the fact that executives are taxed on any discount to market value received. Although unintended, participating in an employee share scheme could impose cashflow issues because a tax liability could arise if they are unable to fund the liability due to the illiquidity of the shares.

Due to the illiquidity company shares often have, it is not prudent for an executive to allocate the shares as part of their diversified ‘liquid bucket’ in case of an emergency or upcoming large expense such as a down payment on a mortgage. Prior to participation in an employee share scheme, it is important for an executive to consider their own financial circumstances and cashflow requirements. For instance, they may have other priorities like paying off their non-deductible debt or contributing towards their superannuation for a comfortable retirement.

Executives should also be aware of situations where they decide to pay tax upfront and the value of the shares reduces by the time they vest.

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Startup concessions

CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. In terms of employee share scheme taxation: a) The 30-day rule could bring forward the deferred taxing point to the previous financial year b) The CGT discount applies if the shares have been held for at least three years before they are sold c) The discount income amount is always tax-deferred d) The amount executives are paid to acquire their shares is not counted as assessable income 2. Which of the following statements regarding vesting loan arrangements is correct? a) Dividend income cannot be applied against the outstanding loan balance b) They may be subject to FBT c) Income tax from shares cannot be deferred d) Shares must be held for at least 30 days to claim franking credits 3. Caz buys a sizeable discounted holding in an executive share scheme, comprising the majority of her portfolio.

According to the author: a) The portfolio should still be able to deliver uncorrelated returns b) The share purchase price neutralises any diversification effects c) Diversification is at risk due to a concentrated portfolio d) Caz should view her purchase as ‘outside’ a diversified strategy 4. Which of the following is a benefit of owning company shares in a family trust? a) A ccess to capital post-vesting b) Asset protection from litigation for breach of director duties c) Tax reduction by splitting dividend income between beneficiaries with lower tax rates d) All of the above

If an executive works for a startup and has participated in an employee share scheme or options plan, they may be eligible for startup concessions if certain conditions are met. Under the startup concession rules, employees of Australian startup companies can reduce the assessable discount on options granted on or after 1 July 2015 to nil.

In the previous section of the paper, we discussed that the discount (difference between the market value and cost base) forms part of assessable income and needs to be included in a personal tax return. In respect of startup concessions, the discount is not subject to upfront taxation. However, CGT is still assessed (note: the 50% CGT discount can be applied).

Startup concessions are subject to specific conditions for both the employee and the firm. Some of these conditions are as follows: • The firm must not be listed on a stock exchange and must have been incorporated within the past 10 years • The firm’s aggregated turnover must not exceed $50 million • The employer is an Australian resident company • An employee must hold their employee share scheme interests for at least three years and cannot hold more than 10% of the total shares in the company The startup concession is essentially a tax-deferral mechanism which also provides tax efficiency for executives and founders of startups. There could be other conditions in relation to startup concessions that apply to various circumstances, so it is best for an executive to check with their employer and a tax specialist.

Conclusion As outlined in this paper, the structuring, tax consequences and financial strategies of employee share schemes can be complicated. By having the right strategy and structure in place from the outset, an executive will reap the benefits later down the track and can realise meaningful wealth creation opportunities. fs

5. Which of the following applies to startup concessions? a) The firm must be listed on a stock exchange b) The firm’s aggregated turnover must not exceed $30 million c) The discount is subject to upfront taxation d) CGT is still assessed 6. If someone transfers an employee share scheme holding from their name to a trust post-vesting, the company has no power over the transfer. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: A charitable gift in a Will can help shore up a testator’s wishes. However, careful consideration is warranted to ensure the purpose of the donation is upheld, given that a charity’s focus may change over time, and family provision claims may arise.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Charitable gifts in Wills

L Mitchell Evelyn

eaving a gift to a charity in a Will can be a great way to provide generous support which might ordinarily be outside a person’s financial means. As with any other gift made in a Will, it is important to make sure that any charitable gift is clear, well considered and carefully drafted to ensure that the wishes of the person making the Will (testator) are carried out after they have died.

Why give to a charity in a Will?

The main reason people tend to give to charities in their Will is to support a cause which they care about.

However, we often see people include charities in their Will for other reasons. For instance, a gift can be left to a charity contingently on certain other gifts failing in the Will. This process uses the charity as a safeguard to prevent the gift from going somewhere the testator did not intend.

Which charity to choose?

People choose charities carefully, often because they have either given to that charity regularly during their life or because they feel a close connection to the work done by that charity.

Conduct due diligence

Before leaving a significant gift to a charity, a prudent testator should investigate the organisation of interest and make sure that they are

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comfortable with it. It is important to ensure that the charity under consideration is a legitimate charity, and that the testator understands how the charity will use the gift. Many charities will be more than happy to speak with any interested person over the phone and explain how bequests might be applied. Further, some larger charities have a dedicated planned giving officer or team specifically for this purpose.

Mitchell Evelyn, Elringtons Lawyers Mitchell Evelyn is a solicitor and has practised with Elringtons Lawyers since 2014. In 2018, he became an associate to the firm. His broad expertise includes Wills and estates, as well as commercial and property law services. He works for a range of clients, including individuals and families, small to medium businesses, not-for-profit and community organisations, and local government.

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provisions can allow for a charitable gift in a Will to be made to a similar charity if the nominated charity no longer exists at the date of the testator’s death.

If this happens, and there is no substitution provision, it can mean that an application needs to be made to the court to redirect the gift to another, similar charity.

Example 2. Making allowances for a charity’s potential winding up

Example 1. Using a charity to shore up a

Mary leaves a gift to a local charity which helps to

testator’s wishes

take care of people’s pets if they become seriously ill

Mary is a single and has one son, Jack. She wants

and can no longer do so themselves. This is a small

to leave her whole estate to Jack and makes this known in her Will. However, Mary and Jack are both involved in an accident and are injured. Jack dies, and Mary dies soon after without having updated her Will.

The statutory intestacy formula applies and, in this situation, Mary’s estate goes to her next of kin. In this case, it is her brother, whom Mary does not get along with and would not wish to benefit under her Will.

Mary could instead make provision in her Will that she leaves her estate to Jack, or if that gift fails, her estate will instead go to a designated charity.

It is also important to be precise in identifying the charity, for instance, by including its Australian Business Number. Some charities are administered as a group of state or territory organisations, so it is prudent to ensure that the correct organisation is nominated in the Will.

Making use of substitution provisions

Substitution provisions can also be a useful tool. These

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charity, and after its founder passed away, it was wound up.

Mary’s Will includes a substitution clause, which provides that if a charity she has nominated no longer exists when she dies, then her executor may give the gift to another charity which has a similar purpose.

Mary’s executor uses this power to instead direct the gift to the NSW branch of the RSPCA.

Purpose of donation The conventional wisdom is usually that charities prefer gifts which are specified as being ‘for their general purposes’. This permits the charity to decide how and where that donation is applied. For instance, some may go to the general overheads of the charity, and the rest may go into various projects or services being offered by the charity.

Care should be exercised if a charitable gift is intended to serve a specific, narrow purpose, as the work conducted by charities can change over time.

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Example 3. Gifting and a recipient’s change of focus

CPD Questions

A gift which is made to assist research into a specific type of cancer might be problematic if the organisation in question has since diverted its attention into a different form of research.

Earn CPD hours by completing this quiz via FS Aspire CPD Tip It is a very good idea to contact the charity directly before including a gift for a specific purpose, and confirm that it is indeed able to direct the gift to that specific purpose.

Charities have even been known to refuse gifts in circumstances where they are unable to apply them towards the specific purpose provided in the Will because it would be far too difficult or expensive to divert the efforts and resources towards the nominated purpose.

Recommended clauses Many charities provide a recommended or preferred clause which they suggest using in Wills when making a gift to that charity.

Some of these recommended clauses are better than others, however, they may not be right for all circumstances without some minor alterations. These recommended clauses should be treated with care and should only be included in a Will with proper legal advice.

Family provision claims The Family Provision Act 1969 (ACT) and Part 3 of the Succession Act 2006 (NSW), as well as equivalent statutes in each Australian state and territory, provide mechanisms for certain people (including close family) to challenge a Will in cases where they have not been afforded adequate provision under the Will.

A testator must always be mindful of the circumstances of people who might expect a certain level of provision from their estate. Where an eligible person feels that they have not received adequate provision (or they have been from a Will entirely), they might bring a potentially costly and complex claims under these family provision laws.

The costs of defending these claims can significantly deplete estates, even if the applicant is unsuccessful in their claim.

A testator should exercise great care if leaving a significant portion of their estate to a charity if that gift significantly reduces provision available for children, a spouse, or a person who is eligible to bring a family provision claim.

Where a testator intends to benefit a charity over such eligible applicants, this should be undertaken only with very carefully considered legal advice from an estate planning expert. fs Disclaimer: This article is general in nature. It is intended only to provide a brief summary of some issues to consider when making charitable gifts in Wills. This article is not a substitute for proper personalised legal advice.

1. On the whole, a recommended or preferred clause in a Will: a) Tends to cover most circumstances, without alteration b) Is an effective DIY option for time-poor testators c) Should be approached cautiously, and with proper legal advice d) Is often viewed as an impediment by many charities 2. Cindy wants to bequeath a moderate amount to a niche charity which struggles to remain solvent. How would you advise her? a) Let the matter be decided by the courts if need be b) Include a substitution provision for a similar charity in her Will c) Find a trusted relative to make any necessary decisions d) Reduce the gifted amount to minimise any possible wastage 3. Leaving a sizeable portion of an estate to a charity: a) Could give rise to a family provision claim b) Effectively nullifies a family provision claim c) Ensures that any costs of defending a challenge are capped by legislation d) Can only give rise to a challenge if an eligible person has been left out of a Will entirely 4. What potential issue does the author highlight regarding gifts to charities in Wills? a) The charity may seek a further contribution to manage the gift b) The gift may be eroded by overheads and administration c) The charity’s focus may not move with the times d) The charity’s focus may change in the future 5. A gift can be left to a charity if certain other gifts fail in the Will. a) True b) False 6. On the whole, charities prefer gifts designated for specific purposes. a) True

b) False

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: Recent legislative changes to combat illegal phoenix activity make company directors personally liable for the company’s unpaid goods and services tax (GST) and other taxes. This paper examines the director penalty regime and remission conditions.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Directors' personal liability extended to include companies' GST liabilities

R

Letty Chen and Robyn Jacobson

ecently enacted legislation has extended the director penalty rules to include goods and services tax (GST), luxury car tax and wine equalisation tax. For tax quarters commencing from 1 April 2020, a company director becomes personally liable for these unpaid liabilities of the company unless they take corrective action within specified time limits.

The Combating Illegal Phoenixing legislation Another layer of the corporate veil has been lifted. The Treasury Laws Amendment (Combating Illegal Phoenixing) Act 2019 (Combating Illegal Phoenixing Act), which received Royal Assent on 17 February 2020, extends the director penalty regime in Div 269 of Schedule 1 to the Taxation Administration Act 1953 (TAA) to make the directors of a company personally liable for the company’s unpaid GST, luxury car tax (LCT) and wine equalisation tax (WET) in some circumstances.

The Combating Illegal Phoenixing Act also extends the estimates regime in Div 268 of Schedule 1 to the TAA so that the Commissioner of Taxation (Commissioner) can collect estimates of GST,

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LCT and WET (which are jointly administered). The estimate liability is distinct from the underlying liability of the taxpayer to pay the actual liability. Div 268 enables the Commissioner to estimate unpaid amounts of certain liabilities, and to recover the amount of those estimates.

Before the recent changes were enacted, Divs 268 and 269 only applied to Pay As You Go (PAYG) withholding and superannuation guarantee charge (SGC) liabilities.

The changes implemented by the Combating Illegal Phoenixing Act will apply in relation to: • net amounts and assessed net amounts—comprising GST, LCT and WET—for tax periods, and • GST instalments for GST instalment quarters, that start on or after 1 April 2020.

The changes apply prospectively in relation to assessed liabilities that arise in relation to tax periods commencing on or after 1 April 2020. They may also apply retrospectively to a previous tax period where, on or after 1 April 2020, the Commissioner makes a Div 268 estimate of a net amount relating to that previous tax period (to the extent that the net amount has not been assessed).

The Explanatory Memorandum to the Illegal Phoenixing Act explains that a common characteristic of illegal phoenix activity is

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the stripping and transfer of assets from one company to another entity, carried out with the intention of defeating the interests of the first company’s creditors—including and usually the Australian Taxation Office (ATO)—in that company’s assets.

When an excess of input tax credits claimed is discovered, the Commissioner must amend the relevant GST assessment and pursue the excess as a debt (section 355(2) of the A New Tax System (Goods and Services Tax) Act 1999 (GST Act)). The collection of this debt may be obstructed by illegal phoenix activity. The amendments made by the Combating Illegal Phoenixing Act implements one of the measures to combat illegal phoenix activity that were announced in the 2018/19 Federal Budget.

All legislative references are to Schedule 1 to the TAA unless otherwise stated. For convenience, net amounts, estimates of net amounts, and GST instalments will be collectively referred to as ‘GST liabilities’ in this paper, unless context requires otherwise.

GST, LCT and WET liabilities

An entity’s liability to pay GST, or its entitlement to a refund, is linked to its ‘assessed net amount’ for a tax period (see Divs 33 and 35 of the GST Act). An entity’s net amount for a tax period is equal to the amount of GST imposed on its taxable supplies less its input tax credits, after adjustments. A net amount includes any applicable LCT and WET amounts (section 17-5(2) of the GST Act). Certain small businesses and not-forprofit entities may elect to pay GST by instalments, which are subtracted from the entity’s net amount for the tax period.

The entity is liable to pay a net amount to the ATO when the net amount is assessed (under the self-assessment system, this is when the entity lodges its activity statement for a tax period).

The director penalty regime Under the director penalty regime, directors who fail to discharge their duty to ensure the company pays its tax liabilities become personally liable for a penalty equal to the company’s unpaid liability.

The director penalty regime was first introduced in 1993 (in former Div 9 of Part VI of the Income Tax Assessment Act 1936 (ITAA 36) to assist the Commissioner with recovering unpaid PAYG withholding liabilities. It was rewritten into Div 269 of Schedule 1 to the TAA in 2010. The rules were subsequently extended on 29 June 2012 by the Tax Laws Amendment (2012 Measures No. 2) Act 2012 to cover a company’s unpaid SGC for quarters ending on or after 30 June 2012.

A director’s obligation

Company directors have a statutory obligation to ensure that the company: • pays PAYG withholding amounts, SGC liabilities, and GST liabilities to the Commissioner, or

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• promptly enters into voluntary administration or liquidation (so as to protect the interests of creditors).

Specifically, section 269-10 of Schedule 1 to the TAA obliges a director of a company to ensure that it complies with the following requirements outlined in Table 1.

Table 1. Directors’ obligations under section 269-10 of Schedule 1 to the TAA A company registered under the Corporations Act 2001 (Corporations Act) …

Must pay to the Commissioner by the due day …

has a PAYG withholding obligation in respect of: • a withholding payment under Div 12 • a n alienated personal services income payment, or • the provision of a non-cash benefit.

the amount that is calculated in accordance with: • Subdiv 16-B • Div 13 and Subdiv 16-B, or • Subdiv 16-B.

has an SG shortfall for a quarter (i.e. ending on 31 March, 30 June, 30 September or 31 December)

the SGC for the quarter in accordance with the SGA Act

is given notice of an estimate under Div 268 in relation to a PAYG withholding or SGC amount

the amount of the estimate

has a GST, LCT or WET liability at the end of a tax period NEW

the assessed net amount (GST, LCT, WET) for the tax period in accordance with the GST Act

has a liability for a GST instalment for a quarter NEW

the GST instalment for the quarter in accordance with the GST Act

is given notice of an estimate under Div 268 in relation to an assessed net amount for GST, WET or LCT (same as for PAYG withholding and SGC) NEW

the amount of the estimate (same as for PAYG withholding and SGC)

The director’s obligation commences on the day the relevant tax period ends and continues to be under this obligation until the company either: • complies with the obligation (i.e. makes the payment) • has had an administrator appointed to it in accordance with the Corporations Act, or • begins to be wound up.

The penalty and the notice

A director is liable to pay a penalty to the Commissioner at the end of the due day of the liability. The amount of the penalty is equal to the unpaid amount of the company’s liability under its obligations (for instance, the assessed or estimated net amount or GST instalment).

However, the Commissioner may not commence recovery proceedings until the end of 21 days after he has given written notice of the penalty. The notice is called a Director Penalty Notice (DPN). The Commissioner is taken to give written notice of the penalty at the time that he leaves it or posts it and not when it is delivered.

The Commissioner can give a DPN under section 269-25 of Schedule 1 to the TAA by leaving it at, or posting it to, an address that appears—from information held by the Australian Securities and Investments Commis-

Letty Chen, TaxBanter Letty Chen is a technical tax writer at TaxBanter.

Her experience includes business services and tax advisory roles in various public practice firms, and as a senior specialist at a tax professional association. Chen is a Chartered Accountant and a Chartered Tax Adviser.

Robyn Jacobson, TaxBanter Robyn Jacobson was formerly a senior tax trainer at TaxBanter and comes from a public practice background. She is a Fellow of both Chartered Accountants Australia and New Zealand and CPA Australia, a Chartered Tax Adviser of The Tax Institute and a Registered Tax Agent.

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sion—to be, or to have been the director’s place or residence or business within the last seven days. The Commissioner may also serve a copy of the DPN to the director’s registered tax agent.

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Important The liability extends to amounts due before the director’s appointment.

Multiple directors

Where the company has multiple directors, the director penalties are likely to be ‘parallel liabilities’. The Commissioner has stated in Practice Statement Law Administration PS LA 2011/18 Enforcement measures used for the collection and recovery of tax-related liabilities and other amounts that he may commence action against any or all of the directors to recover the company’s unpaid amounts. In determining which director(s) to pursue, the Commissioner will have regard to a number of factors, including each director’s capacity to pay and the relative merits of any defences.

There is no provision which relieves a director from their obligation to cause the company to comply with its obligations if they resign as director after the initial day. A former director remains liable for director penalties equal to the company’s unpaid GST liabilities that fell due either: • on or before the date of resignation, or • after the date of resignation, if the relevant tax period ended before that date.

Defences

New and former directors

New directors that are appointed after the due date of the liability become liable for the penalty if the obligation remains unsatisfied for 30 days after the appointment.

Section 269-35 of Schedule 1 to the TAA contains the possible defences that a director may claim against the penalty: • All director penalties—because of illness or other good reason, it would have been unreasonable to expect the director to take part, and the director did not take part, in the management of the company.

• All director penalties—the director took all reasonable steps, or there were no reasonable steps that could have been taken, to ensure that the company complied with the obligation, an administrator was appointed or the company began to be wound up.

• Director penalties relating to SGC only—the company adopted a reasonably arguable position and took reasonable care in connection with applying the Superannuation Guarantee (Administration) Act 1992.

• Director penalties relating to assessed net amounts only— the company adopted a reasonably arguable position and took reasonable care in connection with applying the GST Act. The penalty will be remitted if the Commissioner is satisfied that the director’s circumstances meet one of the defences. Further, according to PS LA 2011/18, the Commissioner will not initiate (or continue) court proceedings to recover a penalty if he considers that the director could satisfy the court that they have a valid defence.

ATO definition of 'reasonable care' and 'reasonably arguable' Refer to Miscellaneous Taxation Ruling MT 2008/1 Penalty relating to statements: meaning of reasonable care, recklessness and intentional disregard and Miscellaneous Taxation Ruling MT 2008/2 Shortfall penalties: administrative penalty for taking a position that is not reasonably arguable for the ATO’s view on the meaning of ‘reasonable care’ and ‘reasonably arguable’ respectively.

Recovery of the penalty

An amount that is paid or applied towards discharging a liability will reduce each parallel liability by the same amount. That is, where a director pays their penalty, the company’s liability and other directors’ penalties which relate to the same underlying debt will be reduced by the amount paid.

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Figure 1. Timeline for remission of a director’s penalty

Source: TaxBanter

To recover an unpaid penalty, the ATO may issue a garnishee notice to an individual or a business (for instance, a bank) that holds, or may hold, money for the director.

Other recovery measures may include a: • departure prohibition order (which prevents the director departing from Australia) • writ/warrant of execution (which authorises the seizure and sale of the director’s assets) • freezing order (which restrains the director from removing or disposing of assets).

Remission of a director’s penalty

A director’s penalty is remitted if the director stops being under the obligation within section 269-15 of Schedule 1 to the TAA: (a) before the Commissioner gives the director a DPN, or (b) w ithin 21 days after the Commissioner gives a DPN to the director (see Figure 1).

Allocation of payments to tax debts

The Commissioner has stated, in Practice Statement Law Administration PS LA 2011/20 Payment and credit allocation, that a payment that is made and readily identified as being in respect of a particular liability of a company that has arisen under a remittance provision will usually be allocated to that liability.

The ATO does not typically provide personalised payment advice forms to a director to whom it issues a DPN. The director must therefore advise the ATO that the payment that the director makes is in relation to a DPN. However, the practice statement notes that the ATO does not have to follow any instruction given by the taxpayer when allocating payments.

If the director is paying the full amount of the DPN, the amount is allocated to reduce the penalty on the director’s account and the corresponding parallel liability on the company account (for instance, the relevant PAYG withholding amounts).

If the director’s payment is less than the full amount, the payment will: • reduce the penalty owed on the director’s account by that amount • be allocated against the company’s earliest parallel liability in accordance with the order of allocation set out in Attachment C of PS LA 2011/20.

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The director ceases being under the obligation if they take certain actions. Where these conditions for remission are not satisfied by a specific date, the penalty is then ‘locked down’ and cannot be remitted other than by payment of the debt.

Figure 2. Remission of directors’ penalties for GST liabilities

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This means the following: • Where the company lodges a GST return for the relevant tax period before the end of the three-month period, the remission will be available only to the extent of the amount reported on the return (and any other information furnished to the Commissioner within that timeframe). There is no remission of the excess of the actual liability over the reported amount.

• Where a GST return is not lodged by the end of the three-month period, there is no remission. The only way in which the penalty will be remitted is for the company to pay its outstanding debt (i.e. putting the company into administration or liquidation will be ineffective). If the liability remains unpaid, the ATO will pursue the director for payment of the unpaid balance after the 21-day period.

Examples Example 1. Director penalties for a net amount Emma and Julie are directors of Swift Supply Pty Ltd. Source: TaxBanter

Swift Supply is required to pay and report GST on a quarterly basis under section 27-5 of the GST Act. Swift Supply is required to lodge its return for the quarter ending 30 June 2019 by the due

The three-month rule: state of play The three-month rule was removed in respect of unpaid SGC liabilities, and estimates of these liabilities, from 1 July 2018, to

date of 28 July 2019 (section 31-8 of the GST Act).

Swift Supply lodges its return more than three months late on 1 November 2019. The return gives rise to a liability for Swift Supply

discourage directors from taking advantage of it by delaying the

to pay an assessed net amount of $100,000. The due date for the

placing of the company into liquidation or voluntary administration.

payment is 28 July 2019 (section 33-3 of the GST Act).

The three-month period remains applicable to PAYG withholding

Emma and Julie are under an obligation to ensure Swift Supply

liabilities and estimates, and now for GST liabilities (and LCT and

pays the liability, enters administration or begins to be wound up.

WET liabilities).

The obligation begins on the initial day, the day the tax period ended (30 June 2019).

Restrictions on remission

Julie’s resignation

Where the company enters administration or begins to be wound up after the lockdown date, only the amount of the assessed net amount liability that was calculated by reference to information reported to the Commissioner before the end of the three-month period is remitted.

Julie resigns from Swift Supply on 20 July 2019. This does not affect her obligation in relation to the company’s liability.

Swift Supply is never in a position to pay the liability. As such, both Emma and Julie were required to place the company into administration or begin winding it up. This does not happen on or before the due date of 28 July 2019, and the director penalties begin to apply from this date.

The Commissioner issues director penalty notices to Emma and Julie on 1 February 2020, and may begin recovery proceedings on or after 23 February 2020.

Kerrie’s appointment Kerrie is appointed as a director of Swift Supply on 15 November 2019 and is immediately under the obligation to ensure Swift Supply pays the liability, enters administration or is wound up. The penalty arises for Kerrie after 30 days on 15 December 2019.

The Commissioner also issues a director penalty notice to Kerrie on 1 February 2020.

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Example 2. Partial remission of penalty Aaron is the sole director of Tangent Communications Pty Ltd. Tangent Communications is required to pay and report GST on a quarterly basis under section 27-5 of the GST Act. Tangent Communications is required to lodge its return for the quarter ending 30 June 2019 by the due date of 28 July 2019 (section 31-8 of the GST Act).

Tangent Communications lodges its return on 23 July 2019. The return gives rise to a liability for Tangent Communications to pay an assessed net amount of $150,000. The due date for the payment is 28 July 2019 (section 33-3 of the GST Act).

Aaron is under an obligation to ensure the company pays the liability, enters administration or begins to be wound up. The obligation begins on the initial day, the day the tax period ended (30 June 2019).

Tangent Communications is never in a position to pay the liability. As such, Aaron was required to place the company into administration or begin winding it up. This does not happen on or before the due date of 28 July 2019, and the director penalty begins to apply from this date.

On 1 September 2019, Tangent Communications provides further information to the Commissioner to correct an error in the company’s GST return and requests an amended assessment.

The Commissioner agrees to issue an amended assessment to the company. Under this assessment, the company has an assessed net amount of $200,000. This does not affect the due date for the company to pay the amended assessed net amount (28 July 2019).

On 15 January 2020, the Commissioner further amends the company’s assessed net amount for the period ending 30 June 2019, increasing the assessed net amount to $220,000. This does Emma and Kerrie place Swift Supply into administration on 10 February 2020.

The original directors, Emma and Julie, satisfy the first condition to have their penalties remitted because their obligation is satisfied on 10 February 2020, before the end of the 21-day period on 22 February. However, because Swift Supply entered administration more than three months after the company’s due date of 28 July, the penalty is locked down. The entire amount of the penalty is locked down because the company’s GST return for the June quarter was more than three months late.

As a new director, Kerrie is entitled to a full remission of the penalty because Swift Supply entered administration: • within 21 days of the director penalty notice being issued to Kerrie, and

not affect the due date for the company to pay the amended assessed net amount (28 July 2019).

On 1 February 2020, the Commissioner issues a director penalty notice to Aaron for the company’s outstanding $220,000 liability. The Commissioner may begin recovery proceedings on or after 23 February 2020.

Aaron places Tangent Communications into administration on 10 February 2020, before the end of the 21-day period on 22 February.

Because Tangent Communications lodged a timely GST return for the relevant period, the entire penalty is not locked down.

However, because the information the company provided to the Commissioner led to an understatement of the company’s assessed net amount, the shortfall amount ($20,000) is locked down. The remaining director penalty amount of $200,000 is

• within three months of Kerrie being appointed a director.

remitted.

Source: Examples 4.4 and 4.5 in the Explanatory Memorandum to the Treasury Laws Amendment (Combat-

Source: Example 4.6 in the Explanatory Memorandum to the Treasury Laws Amendment (Combating Illegal

ing Illegal Phoenixing) Bill 2019

Phoenixing) Bill 201

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Staying on top of obligations

CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. Which of the following is a trait of illegal phoenix activity? a) Stripping and transferring of assets from one company to another entity b) Obstruction of debt collection by the ATO c) The intention to defeat the interests of a company’s creditors d) All of the above 2. When does a director’s penalty obligation commence? a) The day the penalty is ‘locked down’ b) The day the relevant tax period ends c) The day the relevant tax period begins d) The day an administrator is appointed 3. A penalty will be remitted if the Commissioner is satisfied that the director’s circumstances meet: a) Two of the defences under the Corporations Act b) One of the defences under the Corporations Act c) One of the defences under the Taxation Administration Act d) Four of the defences under the Taxation Administration Act 4. A newly appointed director is entitled to a full remission of a GST penalty if a company enters in administration within: a) 21 days of the Director Penalty Notice being issued and within three months of their appointment b) 21 days of the Director Penalty Notice being issued and within two months of their appointment c) 28 days of the Director Penalty Notice being issued and within two months of their appointment d) 28 days of the Director Penalty Notice being issued and within four months of their appointment

Phoenix companies have received increasing attention from the legislature, the government, the courts and the media because of their cost to public revenue and the inherent unfairness that the controlling minds are often seen to ‘get away’ with unethical and illegal behaviour due to the protection offered by the corporate veil.

Not all companies that default on tax debts—and not all directors of such companies—engage in illegal activity. Regardless of motivation, the government has recognised that non-payment of corporate GST liabilities is a serious problem which requires the strong deterrent of personal liability to be imposed on directors.

With the new rules having commenced on 1 April 2020, now is the time for directors to ensure their company is complying with, and will comply with, their GST obligations. This includes making sure that activity statements and GST returns are lodged on time, and net amounts and GST instalments are paid promptly. It is also important to ensure that responsible staff members are adequately trained, or that appropriate external advice is sought, to correctly ascertain liabilities and entitlements. If the company has genuine difficulty with meeting lodgment and payment obligations, contacting the ATO to discuss the problem and to negotiate a deferral or payment plan will help ensure that the Commissioner does not issue a DPN. Directors also need to be up to date with their understanding of their legal and ethical responsibilities and to consider asset-protection strategies in structuring their personal affairs. fs This paper was prepared by tax experts from TaxBanter, an organisation which provides technical tax training to organisations across Australia. TaxBanter currently provides online training options in the areas of: • tax updates • superannuation training • bookkeeper training • fundamentals/graduate training • JobKeeper training • tailored private training.

You can read further blogs and view all of TaxBanter’s training opportunities on its website.

5. The GST liability is usually excluded for amounts due before the director’s appointment. a) True b) False 6. In terms of recovery, the Commissioner can use estimates of unpaid amounts of certain liabilities. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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Trust & Corporate Services:

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Overview of trusts in Australia

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By David Garry, David Garry & Associates

COVID-19: Mergers and acquisitions in a time of crisis

By Neil Pathak and Lisa d’Oliveyra, Gilbert + Tobin Lawyers

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: This paper explains the different kinds of trusts and their attributes, outlines the obligations of various parties within a trust, and highlights taxation implications for those considering a trust.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Overview of trusts in Australia

T David Garry

rusts are a fundamental element in the planning of business, investment and family financial affairs. Although trusts are commonplace, they are frequently misunderstood.

There are many instances of how trusts figure in everyday transactions: • Shares are frequently held in trust by ‘nominees’ • Cash management trusts and property trusts are used by many people for investment purposes • Joint ventures are frequently conducted via unit trusts • Money held in accounts for children will generally involve trusts • Superannuation funds are trusts • Many businesses are structured as ‘trading trusts’ • Executors of deceased estates act as trustees • There are charitable trusts, research trusts and trusts for animals • Solicitors, real estate agents and accountants operate trust accounts • There are trustees in bankruptcy and trustees for debenture holders • Trusts are frequently used in family situations to protect assets and assist in tax planning • There are some large companies established by statute which carry on business as trustee companies In short, trusts are everywhere. The purpose of this paper is to assist an understanding of the nature of trusts, the role and obligations of trustees, the accounting and income tax implications of trusts, and some of the advantages and pitfalls in using or becoming involved in a trust structure.

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Of course, there is no substitute for specialist legal, tax and accounting advice when a specific trust issue arises, and the general information given in this paper needs to be understood in that context.

What is a trust?

This is probably the most misunderstood aspect of trusts. A frequently held, but erroneous view, is that a trust is a legal entity or person, like a company or an individual.

A trust is not a separate legal entity or person at all. It is essentially a relationship that is recognised and enforced by the courts in the context of their ‘equitable’ jurisdiction. Not all countries recognise the concept of a trust, which is an English invention. While the trust concept can trace its roots back centuries in England, many European countries have no natural concept of a trust. However, as a result of trade with countries which do recognise trusts, their legal systems have had to devise ways of recognising them.

The nature of the relationship is critical to an understanding of the trust concept. In English law, the common law courts recognised only the legal owner and their property, however, the equity courts were willing to recognise the rights of persons for whose benefit the legal holder may be holding the property.

Put simply, a trust is a relationship which exists where A holds property for the benefit of B. A is known as the ‘trustee’ and is the legal owner of the property which is held on trust for the beneficiary, B. The trustee can be an individual, group of individuals or a company. There can be more than one trustee and there can be more than one beneficiary. Where there is only one beneficiary, the trustee and beneficiary must be different if the trust is to be valid.

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The courts will very strictly enforce the nature of the trustee’s obligations to the beneficiaries so that, while the trustee is the legal owner of the relevant property, the property must be used only for the benefit of the beneficiaries. Trustees have what is known as a fiduciary duty towards beneficiaries, and the courts will always enforce this duty rigorously.

The nature of the trustee’s duty is often misunderstood in the context of family trusts where the trustees and beneficiaries are not at arm’s length. For instance, one or more of the parents may be trustees, and the children beneficiaries. The children have rights under the trust which can be enforced at law, although it is rare for this to occur.

Types of trusts Generally, the types of trusts most frequently encountered in asset protection and investment contexts are: • Fixed trusts • Unit trusts • Discretionary trusts • Bare trusts • Hybrid trusts • Testamentary trusts • Charitable trusts • Superannuation trusts A common issue with all trusts is access to income and capital. Depending on the type of trust that is used, a beneficiary may have different rights to income and capital. In a discretionary trust, the rights to income and capital are usually completely at the discretion of the trustee who may decide to give one beneficiary capital and another income. This means that the beneficiary of such a trust cannot simply demand payment of income or capital. In a fixed trust, the beneficiary may have fixed rights to income, capital, or both.

Discretionary trusts

Essentially, these are trusts where the trustee holds the trust assets for the benefit of specific beneficiaries in certain fixed proportions. In such cases, the trustee does not have to exercise a discretion since each beneficiary is automatically entitled to their fixed share of the capital and income of the trust.

These are often called ‘family trusts’ because they are usually associated with tax planning and asset protection of family members. In a discretionary trust, the beneficiaries (who are sometimes referred to as ‘objects’) do not have any fixed interests in the trust income or its property, but the trustee has a discretion to decide whether any of them is to be entitled to income or capital and, if so, to how much.

For the purposes of trust law, a trustee of a discretionary trust could theoretically decide not to distribute any income or capital to a beneficiary, however, there are tax reasons why this course of action is usually not taken.

The attraction of a discretionary trust is that the trustee has greater control and flexibility over the disposition of assets and income, since the nature of a beneficiary’s interest is that they only have a right to be considered by the trustee in the exercise of their discretion.

Unit trusts

Bare trusts

These are generally fixed trusts where the beneficiaries and their respective interests are identified by their holding ‘units’, much in the same way as shares are issued to shareholders of a company. The beneficiaries are usually called ‘unitholders’. It is common for property, investment trusts (for instance, managed funds) and joint ventures to be structured as unit trusts.

Beneficiaries can transfer their interests in the trust by transferring their units to a buyer. There are no limits in terms of trust law on the number of units/unitholders, however, for tax purposes the tax treatment can vary, depending on the size and activities of the trust.

Where there is only one trustee, one legally competent beneficiary and no specified obligations, the beneficiary has complete control of the trustee (or ‘nominee’). This is known as a ‘bare trust’.

Fixed trusts

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Example 1. Nominee shareholding A common example of a bare trust is a nominee shareholding—where the shareowner holds shares on behalf of someone else who does not want to be identified.

David Garry, David Garry & Associates David Garry is chairman of David Garry & Associates, a registration and compliance business he founded in 1976.

He has been a professional director for over 40 years.

He is a Fellow of the Institute of Directors, Institute of Chartered Secretaries, and Institute of Public Accountants.

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Hybrid trusts

Instalment warrant trusts (superannuation)

These are trusts which have both discretionary and fixed characteristics. The fixed entitlements to capital or income are dealt with via ‘special units’ which the trustee has power to issue.

Self-managed superannuation funds have the ability to borrow funds from financial institutions and others under an instalment warrant arrangement.

The transaction between the financial institution and the trustee of the superannuation fund is conducted by way of the establishment of a second trust deed with an independent trustee. This deed (entity) is the mechanism for the borrowing facility with the financier.

Testamentary trusts

As the name implies, these are trusts which only take effect upon the death of the testator [Will maker]. Normally, the terms of the trust are set out in the testator’s Will and are often established where the testator wishes to provide for their children who have yet to reach adulthood or are handicapped.

Charitable trusts

These trusts provide a vehicle for the establishment of philanthropic trusts which are allowed concessional taxation treatment and deductions to taxpayers for gifts to such trusts.

Private charitable foundation

This type of trust is a private charity which is not required to seek donations from the public or be controlled by a committee, a majority of whom have a degree of responsibility to the general community. It can have one trustee or a committee of trustees, provided the trustee or one of the trustees is a person who has a general responsibility to the community and is not associated with the founder or a major donor. This trust must only distribute money, property or benefits to charities which have deductible gift recipient status, or to establish such recipients. These trusts are called ‘prescribed private funds’.

Charitable trusts with gift deductible status

This type of trust is a public charity which is required to seek donations from the public. There are strict requirements for such a trust to obtain and maintain ‘gift deductible status’. It must be established for genuine charitable purposes within Australia. The trustee must be a committee of persons, a majority of whom have a general responsibility to the community or a company, the directors of which satisfy that requirement (a committee or board of at least five is recommended). Application must be made to the Australian Tax Office (ATO) for approval as a ‘deductible gift recipient’. These trusts are called ‘public charitable trusts’.

Superannuation trusts

All superannuation funds in Australia operate as trusts. The deed (or in some cases, specific acts of Parliament) establishes the basis of calculating each member’s entitlement, and sometimes the contributions that have to be made for a member, while the trustee will usually retain discretion concerning such matters as the fund’s investments and the selection of a death benefit beneficiary.

The federal government has legislated to establish certain standards that all funds (for which tax concessions are sought) must comply (and which are called ‘complying funds’).

Example 2. ‘Preservation’ conditions The preservation conditions, under which a member’s benefit cannot be paid until a certain qualification has been reached (such as reaching age 65), are a notable example.

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Establishing a trust Although a trust can be established without a written document, it is preferable for it to be evidenced by a formal deed known as a ‘declaration of trust’ or a ‘deed of settlement’. The declaration of trust involves an owner of property declaring themselves as trustee of that property for the benefit of the beneficiaries. The deed of settlement involves an owner of property transferring that property to a third person on condition that they hold the property on trust for the beneficiaries.

The person who transfers the property in a settlement is said to ‘settle’ the property on the trustee and is called the ‘settlor’.

In practical terms, the original amount used to establish the trust is relatively small, often only $10 or so. More substantial assets or amounts of money are transferred or loaned to the trust after it has been established. The reason for this is to minimise stamp duty, which is usually payable on the value of the property initially affected by the establishing deed.

The identity of the settlor is critical from a tax point of view, and it should not generally be a person who is able to benefit under the trust, nor be a parent of a young beneficiary. Special rules in the tax law can affect such situations.

Also critical to the efficient operation of a trust is the role of the ‘appointor’. This role allows the named person or entity to appoint (and usually remove) the trustee. For that reason, they are seen as the real controller of the trust. This role is generally unnecessary for small superannuation funds (those with fewer than five members), since legislation generally ensures that all members have to be trustees

The trust fund In principle, the trust fund can include any property at all—from cash to a large factory, from shares to one contract, from operating a business to a single debt. Trust deeds usually have wide powers of investment, however, some deeds may prohibit certain forms of investment.

The critical point is that whatever the nature of the underlying assets, the trustee must deal with the assets having regard to the best interests of the beneficiaries. Failure to act in the best interests of the beneficiaries would result in a breach of trust, which can give rise to an award of damages against the trustee.

A trustee must keep trust assets separate from the trustee’s own assets.

The trustee’s liabilities A trustee is personally liable for the debts of the trust because the trust assets and liabilities are legally those of the trustee. For this reason, if there are significant liabilities that could arise, a limited liability (private) company is often used as trustee.

However, the trustee is entitled to use the trust assets to satisfy those liabilities, as the trustee has a right of indemnity and a lien [the legal right to hold assets as collateral until a debt has been paid] over them for this purpose.

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This explains why the balance sheet of a corporate trustee will show the trust liabilities on the credit side, and the right of indemnity as a company asset on the debit side. In the case of a discretionary trust, it is usually thought that the trust liabilities cannot generally be pursued against the beneficiaries’ personal assets, but this may not be the case with a fixed or unit trust.

Powers and duties of a trustee A trustee must act in the best interests of beneficiaries and must avoid conflicts of interest. The trust deed will set out in detail what the trustee can invest in, and the businesses the trustee can carry on.

The trustee must exercise powers in accordance with the deed. This is why deeds tend to be lengthy and complex so that the trustee has maximum flexibility.

Who can be a trustee?

Any legally competent person, including a company, can act as a trustee. Two or more entities can be trustees of the same trust.

A company can act as trustee (provided that its constitution allows it) and can therefore assist with limited liability, perpetual succession (the company does not ‘die’) and other advantages. The company’s directors control the activities of the trust. Trustees’ decisions should be the subject of formal minutes, especially in the case of important matters such as beneficiaries’ entitlements under a discretionary trust.

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The two-month ‘period of grace’ is particularly relevant for trusts which operate businesses, as they will not have finalised their accounts by 30 June. In the case of discretionary trusts, if this is done, the overall amount of tax can be minimised by allocating income to beneficiaries who pay a relatively low rate of tax.

The concept of ‘present entitlement’ involves the idea that the beneficiary could demand immediate payment of their entitlement.

It is important to note that a company which is a trustee of a trust is not subject to company tax on the trust income it has responsibility for administering.

In relation to capital gains tax (CGT), a trust which holds an asset for at least 12 months is generally eligible for the 50% CGT concession on capital gains that are made. This discount effectively ‘flows’ through to beneficiaries who are individuals. A corporate beneficiary does not receive the benefit of the 50% discount. Trusts that are used in a business rather than an investment context may also be entitled to additional tax concessions under the small business CGT concessions.

Since the late 1990s, discretionary trusts and small unit trusts have been affected by a number of highly technical measures which have a bearing on the treatment of franking credits and tax losses. This is an area where specialist tax advice is essential.

Trust legislation All states and territories of Australia have their own legislation which provides for the basic powers and responsibilities of trustees. This legislation does not apply to complying superannuation funds (since the federal legislation overrides state legislation in that area), nor will it apply to any other trust to the extent the trust deed is intended to exclude the operation of that legislation.

It will usually apply to bare trusts, for instance, since there is no trust deed, and it will apply where a trust deed is silent on specific matters which are relevant to the trust.

Example 3. Legislation and a trustee’s operational parameters The legislation will prescribe certain investment powers and limits for the trustee if the deed does not exclude them.

Income tax and capital gains tax issues Because a trust is not a person, its income is not taxed like that of an individual or company unless it is a corporate, public or trading trusts as defined in the Income Tax Assessment Act 1936. Essentially, the tax treatment of the trust income depends on who is and is not entitled to the income as at midnight on 30 June each year.

If all or part of the trust’s net income for tax purposes is paid or belongs to an ordinary beneficiary, it will be taxed in their hands like any other income. If a beneficiary who is entitled to the net income is under a ‘legal disability’ (such as an infant), the income will be taxed to the trustee at the relevant individual rates.

Income to which no beneficiary is ‘presently entitled’ will generally be taxed at the flat rate of 47%. For this reason, it is important to ensure that the relevant decisions are made as soon as possible after 30 June each year and certainly within two months of the end of the year.

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Why a trust and which kind?

CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. Which of the following statements regarding the structure of trusts is correct? a) Fixed trusts require the trustee to exercise discretion b) Unit trusts have limitations on the number of unitholders c) Family trusts must operate at arm’s length d) None of the above 2. Sole-beneficiary Jill wants to establish a trust, but keep as much control as possible and maintain simplicity. What kind of trust would best suit her? a) H ybrid trust

b) Superannuation trust

c) Bare trust

d) Discretionary trust

3. In terms of establishing a trust: a) The settlor is unable to transfer property b) The appointer can remove trustees c) The appointer can only appoint trustees d) The settlor assumes liability of trust debts 4. With regard to trusts and taxation: a) A company which is a trustee of a trust is subject to company tax on the trust income b) Trusts operating businesses lose the two-month ‘grace period’ c) Corporate beneficiaries are entitled to the 50% CGT discount d) Discretionary trusts can allocate income to beneficiaries on lower tax rates 5. A trust is best thought of as a company or person. a) True

b) False

6. Trusts enable losses to be distributed to beneficiaries for personal use. a) True

b) False

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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Apart from any tax benefits that might be associated with a trust, there are also benefits that can arise from the flexibility that a trust affords in responding to changed circumstances.

A trust can give some protection from creditors and is able to accommodate an employer/employee relationship. In family matters, the flexibility, control and limited-liability aspects combined with potential tax savings, make discretionary trusts very popular.

In arm’s length commercial ventures, however, the parties prefer fixed proportions to flexibility and generally opt for a unit trust structure. However, the possible loss of limited liability through this structure commonly warrants the use of a corporate entity as unitholder.

That is, a company or a corporate trustee of a discretionary trust.

There are strengths and weaknesses associated with trusts, and it is important for clients to understand what they are and how the trust will evolve with changed circumstances.

Trusts which incur losses

One of the most fundamental things to understand about trusts is that losses are ‘trapped’ in the trust. This means that the trust cannot distribute the loss to a beneficiary to use at a personal level. This is an important issue for businesses operated through discretionary or unit trusts.

Establishment procedures

The following procedures apply to a trust established by settlement (the most common form of trust): • Settlor determined to establish a trust • Select the trustee. If the trustee is a company, form the company • Settlor makes a gift of money or other property to the trustee and executes the trust deed • Open a trust bank account • Establish books of account and statutory records and comply with relevant stamp duty requirements.

Continuing administration

For discretionary trusts, it is necessary to hold a formal meeting to establish the basis of distribution to beneficiaries prior to the close of the income tax year at midnight on 30 June each year. For this purpose, it is desirable that preliminary accounts be prepared.

Annual accounts and tax returns need to be prepared. If the trustee is a company, directors’ and annual meetings must be held and annual returns lodged.

Further, it is necessary to ensure that all investments, property transactions and significant decisions are documented, and appropriate minutes prepared.

Should a person decide that they need a trust, they should seek legal and financial advice to ascertain the most suitable type. Whether someone is contemplating asset protection and/or estate planning, they must also consider tax planning prior to creation of the trust, as well as duties implications. fs

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: The impact of COVID-19 on turnover and earnings means many companies will have urgent funding needs in relation to capital raising, restructuring and solvency. On the flipside, opportunities will emerge for those with cash and liquidity.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

COVID-19: Mergers and acquisitions in a time of crisis

S

Neil Pathak and Lisa d’Oliveyra

ince the onset of the coronavirus (COVID-19) pandemic, the world has changed in a dramatic way and at a significant pace. The Australian economy, and indeed the global economy, is being severely impacted. The short to medium term seems very uncertain. Stock markets have rapidly declined.

While as at the time of writing they have recovered some lost ground, stock markets remain subject to extreme volatility.

This all makes mergers and acquisitions (M&A) hard.

The impact of the pandemic on company turnover and earnings means many companies will have urgent funding needs. However, on the flipside, those with cash and liquidity will see opportunities emerge. Many Australian companies are not overleveraged and have healthy balance sheets (unlike in the Global Financial Crisis), and private equity can access billions in available cash.

This paper, written as at 27 April 2020, provides an overview and some commentary on the current Australian M&A and equity capital market landscape and what we are seeing in real time.

M&A in the short term Business conditions are uncertain. Many would say that is an understatement.

The rapid onset of the pandemic across the globe has had a chilling effect on M&A in the short term.

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Various public M&A deals in negotiation have been put on hold or, in some cases, ceased altogether as the target’s future earnings and valuation is difficult to assess.

For instance: • some competitive auction/sale processes, which at one time had multiple engaged bidders, have been delayed or left in limbo (e.g.

Owens Illinois’ ANZ business, Laureate Education, Village Roadshow and the Western Australian Government sale of WATAB).

We are also aware of various confidential transactions in advanced stages of negotiations which did not proceed due to the uncertainty, and • some non-binding indicative offers have been withdrawn (e.g. multiple proposals by trade and private equity for the National Storage real estate investment trust) or put on hold (e.g. Alimentation Couche-Tard’s $8.8 billion proposed acquisition of Caltex Australia) while others have received a flat rejection (e.g. Partners Group/Healius, Strike Energy/Warrego Energy).

In addition, some announced public deals, for which binding transaction documents had been entered into, have been terminated (or sought to be terminated) in reliance on conditions, including: • breach of offer conditions prohibiting new financing, such as Starwood Capital Group’s proposed takeover of Australian Unity Office Fund, and • material adverse change clauses, such as the proposed acquisition of Abano Healthcare by private equity (albeit there is a suggestion

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pletion accounts and deferred consideration mechanisms and provisions governing the conduct of the business between signing and closing.

Opportunities for M&A

Neil Pathak, Gilbert + Tobin Neil Pathak is co-head of Gilbert + Tobin’s M&A/ Corporate group.

He advises on M&A, equity capital raisings, Takeovers Panel disputes and corporate governance matters. He has advised on some of the largest recent M&A transactions and is also a member of the Takeovers Panel.

Lisa d’Oliveyra, Gilbert + Tobin Lisa d’Oliveyra is a senior lawyer at Gilbert + Tobin, with significant experience in mergers and acquisitions, equity capital markets transactions, company law and corporate governance.

in the announcement of a potential to renegotiate the deal), Pioneer Credit/Carlyle Group, Metlifecare/Asia Pacific Village Group and Liquefied Natural Gas/LNG9.

It has also been reported that Scottish Pacific is seeking to terminate its acquisition of CML Group.

This is of course also happening overseas. Two high-profile examples are Xerox and Carl Icahn recently terminating its five-month-long US$34 billion unsolicited tender offer to acquire HP, and Sycamore Partners terminating its deal to acquire a majority stake in Victoria’s Secret.

We are also aware of a number of private deals that will not proceed or will be revisited in three to six months’ time when more information on the impact of the virus on the target’s business is known.

We expect to see more reluctant acquirers seeking to withdraw from deals based on material adverse change, stock market fluctuation and other conditions.

Alternatively, if not withdrawing altogether, they may use these conditions as a basis to renegotiate a more favourable deal reflective of the new norm of lower asset prices.

For those small number of deals that are ongoing, or as the world stabilises and more acquirers actively engage in M&A again, we expect even greater emphasis on commercial diligence on maintainable earnings and a laser-like focus on the specific terms of material adverse change, financing and other conditions, com-

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That said, for those with cash and liquidity (particularly many private equity firms), the stock market decline and deteriorating economic conditions will provide a range of attractive opportunities to pick up companies at much lower valuations. The key for both target boards and acquirers alike is determining the point where the markets have stabilised, and the target’s business has a line of sight on its future earnings profile allowing for more reasoned conversations about valuation. We are certainly not at that point yet and may not be there for some months.

For those private equity firms which have recently raised funds or who have a large amount of unused funds, it is the perfect time in the investment cycle to be investing.

That said, the economic and social uncertainty and the likely prospect of a recession make proceeding with acquisition and investment opportunities a tough call. However, fortune often favours the brave. Indeed, some with memories of the GFC might consider they did not move quickly or hard enough as the world rebounded from those difficult times. The second half of 2020 and into 2021 may provide a similar opportunity.

Australian superannuation funds also have significant amounts of funds which could be redeployed.

This may further enhance their willingness over the last few years to become actively involved in M&A, including in public M&A. Indeed, having regard to the additional Foreign Investment Review Board (FIRB) restrictions (see ‘Foreign investment’ section later in this paper), Australian superannuation funds have a terrific opportunity to be the financial saviours and victors of these times.

For now, it will be relatively easy for companies, especially those which are financially stable, to rebuff unsolicited takeover approaches on the basis that they are opportunistic, such as Healius did in respect of Partners Group’s $2.1 billion approach.

However, outright rejections by those with shortterm cash needs will not be so easy. They might need to seek buyers for all or part of their business or cede control to a supportive investor (perhaps by way of convertible notes—see further below) to survive. The need for cash makes the accessibility of equity capital markets critical to the ability of a potential target company to survive on a standalone basis.

One thing is for sure: as and when stock markets stabilise and companies can see a pathway through to the end of the COVID-19 pandemic, we can expect to see unsolicited confidential approaches, bearhugs and maybe even a few unsolicited takeover bids.

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Equity capital markets The impact of COVID-19 on Australia’s economy means that many entities will need to assess all available means of accessing funding to alleviate a cash flow squeeze resulting from declining sales and operational closures, and to avoid debt levels falling outside acceptable levels.1 We have already seen many equity capital market raisings, including from companies in the retail, tourism and education sectors which we all know have been hit hard. However, companies in sectors, such as healthcare and financial services, which could be expected to be more resilient have also sought additional equity.

Some of the companies which have already successfully turned to the equity markets include: • National Australia Bank ($3.5 billion share placement and share purchase plan) • Ramsay Healthcare ($1.4 billion placement and SPP) • QBE ($1.2 billion placement and SPP) • Cochlear ($930 million placement and SPP) • oOh!media ($167 million placement and pro rata entitlement offer) • IDP Education ($240 million placement and SPP) • Kathmandu ($200 million placement and rights offer) • Webjet ($346 million placement and rights issue) • NextDC ($672 million placement plus SPP) • Flight Centre ($700 million placement and rights offer) • Metcash ($330 million placement and SPP) • G8 Education ($301 million placement and rights offer) • Oil Search ($1.16 billion placement and rights offer) In April 2020 alone, companies listed on the Australian Securities Exchange (ASX) raised over $14 billion in over 40 equity raisings.

As one would expect in these times, many of the capital raisings are being undertaken at a significant discount to the last closing price. Some raisings have been criticised as favouring institutional investors over retail investors. In this respect, the ASX and the Australian Securities and Investments Commission (ASIC) have sought more disclosure over allocation processes.

Other companies have sought additional debt funding.

For instance: • Transurban recently raised over $1 billion from foreign bond markets.

• Sydney Airport secured an additional $850 million in bank debt facilities.

• Woodside recently entered a new loan and extending an existing revolving facility, giving access to $1.2 billion.

• Even the Australian Football League considered it necessary to secure its future by entering into loan facilities of $600 million.

We expect many other companies to raise new equity or debt capital before we get to the other side of the pandemic.

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The ASX and ASIC have also moved quickly to introduce temporary relief measures which are designed to help facilitate successful equity capital raisings by ASX-listed entities, as discussed in the “ Facilitative regulatory approach” section later in this paper.

Those entities that need equity funding but cannot access equity markets or investment bank underwriting may need to seek comfort closer to home and have major shareholders underwrite (or backstop) capital raisings (with the complications this may give rise to for control of the company).

Alternatively, they may need to look further afield for a convertible note raising or PIPE (private investment in public equity) from private equity as Webjet reportedly did before it got its equity raising away at the second attempt. We know others are considering convertible note instruments. Superannuation funds may also have a role to play here.

For instance, last year, AustralianSuper supported Syrah Resources with a convertible note issue. These types of issues can be a win-win, particularly where the investor has some strategic benefit to offer the investee company and for the investor getting equity upside with debt-style protections.

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However, when deciding on the timing and structure of any capital raising, ASIC expects directors to balance the need for capital with the potential dilution of existing shareholders. Where circumstances allow, pro rata rights offers and SPPs can help achieve fairness. Given the volatile swings in equity markets, and also having regard to recently announced ASX and ASIC regulatory relief, capital raising structures with short risk periods for underwriters will be preferred. That is, institutional placements (with nonunderwritten SPPs to manage dilution of retail holders) and nonrenounceable entitlement offers.

Restructuring … and even nationalisation For some, it will be just too hard to access traditional equity and debt markets.

Sadly, for many of those, we will see them face administration or receivership, notwithstanding the federal government’s (government) temporary relaxation of the insolvent trading rules. 2 We expect to see significant insolvencies and restructures.

Virgin Australia’s voluntary administration, with debts of approximately $7 billion, has dominated M&A news over the last week. There is plenty of water to flow under the bridge in what is likely to be a complex administration process. While early days, it has been reported that well over 10 different parties have already

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lodged an expression of interest to obtain further information about Virgin Australia and its assets.

Retail is another sector which could struggle and see many insolvencies. For instance, Kikki.K went into voluntary administration in early March 2020.

There could well be a long list of administrations in the second half of 2020 and into 2021.

We also expect to see distressed debt funds taking advantage of these times to acquire loans of overleveraged companies at a discount as a means of controlling or influencing their future ownership.

Again, this will create opportunities for buyers with cash to acquire businesses and assets that were previously not for sale.

There has been speculation that the government may need to step in to provide funding for those businesses considered to be essential services or industries. For instance, Virgin Australia before its administration sought government assistance. There was also media commentary that the government funding might include conversion into equity if debt funding is not repaid in two or three years. We have not seen this in Australia in recent times, but there are various precedents out of the GFC, including UK banks and the US motor industry and banks. That said, the government has to date shown little appetite for nationalisation, suggesting instead that in the case of Virgin Australia it preferred that a market solution be found.

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Foreign investment As already mentioned, many developments are occurring quickly.

Indeed, one such development was the Treasurer’s stunning announcement at 10.30 pm on 29 March 2020 that: • the monetary thresholds for foreign investment proposals covered by the Foreign Acquisitions and Takeovers Act 1975 would be reduced to zero, and • the FIRB would be seeking to extend the deadlines for applications for up to six months (albeit most applications are not expected to take that long).

Why is the government doing this?

The FIRB website states that: “Australia is being fundamentally disrupted by the coronavirus, including potentially threatening economic security and the viability of critical sectors. Businesses are increasingly under pressure. There will likely be a rise in debt restructuring transactions for Australian businesses, along with opportunities to invest in distressed assets. Without these changes, it is possible many normally viable Australian businesses would be sold to foreign interests without any government oversight, presenting risks to the national interest.”

The changes have the potential to slow down foreign takeovers and provide a comparative advantage for Australian acquirers (including corporates and superannuation funds) which can move more quickly. This will particularly be the case if the FIRB becomes overwhelmed with processing applications due to the lower threshold. We have seen some smaller deals fall over as the cost and time of going through the FIRB process makes the transaction too difficult at these times. This should be addressed as Australia cannot afford not to be open for business.

That said, it seems defensible to protect Australian companies from foreign raiders at a time of uncertainty, provided that welcome foreign investment in the national interest is allowed to progress quickly. Indeed, the Federal Treasurer has stated that the investment will be fast tracked if it will preserve Australian jobs.

It will be interesting to see if the longer time periods result in foreign investors providing debt funding as an interim step to an equity investment while awaiting FIRB approval for the equity investment. 3

•

Facilitative regulatory approach These difficult times have also seen a proactive approach by regulators to be facilitative of proposals to improve the effective operation of financial markets and access to liquidity where it makes sense. These include: • Increased placement capacity—the relaxation of the ASX listing rules to allow for a temporary increase (until at least 31 July 2020) in placement capacity up from 15% to 25% of the share capital if there is a follow on SPP or an entitlement offer made at the same time. The Webjet, Flight Centre, NextDC, G8 Education and Oil Search placements have taken advantage of this change.4 • Greater opportunity for low doc offers—ASIC’s provision of temporary relief to enable ‘low doc’ offers (including rights offers, placements and SPPs) to still be made by listed companies which have been suspended for a total of up to 10 days in the previous 12-month period (up from a total of five days) in circumstances where their longer suspension has occurred after

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•

•

the escalation of government measures introduced to manage the spread of COVID-19.

Back-to-back trading halts—entities will be able to request back-to-back trading halts (i.e. a total of four days in halt) to consider and prepare for capital raisings.

Larger non-renounceable entitlement offers possible— the ratio limit of 1:1 for non-renounceable entitlement offers has been removed.

Virtual AGMs—ASIC’s sensible approach to temporary relief in holding annual general meetings in these times of social distancing.5 Australian Competition and Consumer Commission (ACCC) authorisation of competitors working together to benefit the community—the ACCC’s willingness to temporarily authorise companies (including the banks and the major supermarkets) to work together where doing so will deliver benefits to the public, particularly relating to continuity of service. The ACCC has established a dedicated COVID-19 taskforce and is being very responsive to issues as they arise. The ACCC has also noted that it will seek to minimise regulatory burden in its enforcement activities more generally, as far as possible.

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CPD Questions Earn CPD hours by completing this quiz via FS Aspire CPD 1. What did the authors observe in terms of the impact of COVID-19 on equity capital markets? a) Some of the more resilient sectors have sought additional equity b) Some raisings have been criticised for favouring retail over institutional investors c) New equity or debt capital raisings should begin to taper off soon d) Capital raising structures with long risk periods for underwriters will be preferred 2. What is a potential outcome of the Foreign Investment Review Board restrictions? a) The government may expedite foreign investment if it preserves local jobs b) Financially stable Australian companies should ward off unsolicited takeovers c) Superannuation funds could have an acquisition advantage d) All of the above 3. In terms of restructures and insol-vencies: a) There are no significant precedents for nationalisation b) Buyers with cash may have the opportunity to acquire businesses and assets previously not for sale c) Distressed debt funds will avoid the temptation to acquire overleveraged company loans d) The government’s relaxation of the insolvent trading rules are yet to take effect

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The impact of some of the capital raising reforms may result in excessive dilution to existing shareholders, and directors will be conscious of this.

Of course, that is not to say that the regulators will not carefully scrutinise any contentious matters where they arise. They will certainly be mindful that they will be judged with 20/20 hindsight for the transactions they let through, as occurred with certain mergers during the GFC. These are unprecedented times indeed. As noted, there will be many challenges ahead, but we also expect that attractive opportunities will arise before long, particularly with the lower asset valuations. We trust you can find a way to take advantage of such opportunities. fs This paper was prepared as at 27 April 2020.

Notes 1 S ee Raising Capital in the age of coronavirus: key considerations for issuers and underwriters and lessons from the GFC, Gilbert + Tobin [https://www.gtlaw.com.au/ insights/capital-raising-age-coronavirus]. For a more recent update on market activity, see D’Andreti A, Cook P, Bassil R & Hopper SI, ‘Market activity since announcement of ASX temporary relief measures and important new regulatory developments’, Gilbert + Tobin, 23 April 2020 [www.gtlaw.com.au/insights/ market-activity-announcement-asx-temporary-relief-measures-important-newregulatory].

2 ‘COVID-19 temporary relief for financially distressed businesses’, Gilbert + Tobin, 26 March 2020 [https://www.gtlaw.com.au/insights/covid-19-temporaryrelief-financially-distressed-businesses].

3 For more information on FIRB, see Johns D, ‘New rules on foreign investment under FATA’, Gilbert + Tobin, 30 March 2020 [https://www.gtlaw.com.au/insights/new-rules-foreign-investment-announced-under-fata].

4 For further information on the capital raising reforms in this section, see D’Andreti A, Cook P, Bassil R, Kauye A, Turner S, Tong M & Bell C, ‘ASX and ASIC introduce emergency reforms in response to the impact of COVID-19 on ASX-listed entities’, Gilbert + Tobin [https://www.gtlaw.com.au/insights/ asx-asic-introduce-emergency-reforms-response-impact-covid-19-asx-listed-

4. With regard to regulatory measures: a) The ACCC is yet to consider allowing competitors to work together to benefit the community b) Back-to-back trading halts will be permitted to help consider and prepare for capital raisings c) There will be more stringent scrutiny of low doc offers d) Placement capacity will be capped in relation to the ASX listing rules

entities].

5 Ho, K & Ching, R, ‘ASIC facilitates “social distancing” in AGMs’, Gilbert + Tobin, 15 May 2020 [https://www.gtlaw.com.au/insights/asic-facilitates-socialdistancing-agms].

5. Some of the capital raising reforms may result in excessive dilution for existing shareholders. a) True b) False 6. The authors found that in the COVID-19 environment, many Australian companies are not overleveraged compared with the GFC. a) True b) False Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

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Ethics & Governance:

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Directors’ duties during uncertain financial times

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By Lisa Calabrese, Jeremy Schultz and Andrew Dyda, Finlaysons Lawyers

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CPD Earn CPD hours by completing the assessment quiz for this article via FS Aspire CPD. Worth a read because: The risks faced by a company are continuously evolving, and its directors need to be vigilant in meeting their obligations. This paper summarises directors’ duties, including the government’s temporary relief measures for directors stemming from COVID-19.

Visit www.financialstandard.com.au and click ‘FS Aspire CPD’ in the menu or call 1300 884 434 to gain access to the platform.

Directors’ duties during uncertain financial times

F

Lisa Calabrese, Jeremy Schultz and Andrew Dyda

Introduction

ollowing Australia’s drought and bushfires, and in the face of coronavirus (COVID-19), the risks faced by a company are continuously evolving.

Company directors need to be vigilant in understanding and satisfying their statutory and common law obligations.

This paper provides a broad overview of directors’ duties, including the federal government’s (government) temporary relief measures for directors which have been introduced as a result of the COVID-19 crisis.

The impact of natural disasters and now COVID-19 on many, perhaps the majority, of Australian companies and their cash flow is significant.

In these circumstances, directors need to understand their obligations and be cognisant of their potential personal liability, as they face increased pressure to make difficult decisions about the company’s future on a daily basis.

A company director has a raft of obligations, including directors’ duties under the Corporations Act 2001 (Corporations Act) and fiduciary responsibilities owed under common law.

What are these directors’ duties?

A director has the following duties: • To act in good faith and for a proper purpose • To use care, due diligence and skill • To avoid conflicts of interest and private profits • To prevent the company trading while insolvent Duty to act in good faith and for a proper purpose

Directors must act in good faith and in the best interests of the company (that is, the shareholders collectively) and not act: • In their own interests • In the interests of particular employees or shareholders, or • In the interests of third parties

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Ethics & Governance

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Lisa Calabrese, Finlaysons Lawyers

Example. Conduct regarding company resources and shareholders Directors have a duty to not use a company’s resources for reasons other than to benefit the company, and directors should not act dishonestly or recklessly in dealing with shareholders.

Importantly in challenging times, if a company is facing financial distress or there is doubt about its ability to pay its debts, the duty to act in the best interests of the company includes an obligation to act in the interests of creditors. While that obligation is not paramount, it does require directors to give greater weight to the interests of creditors, give consideration to the impact of their decisions on creditors and not act prejudicially to creditors’ interests (either as a whole or to one creditor or group of creditors).

Duty to use care, due diligence and skill

Directors must exercise care in a way that a reasonable modern director would have in the circumstances.

Further, directors must (at an absolute minimum) adhere to the standards of a diligent director, including: • becoming familiar with the fundamentals of the business • keeping informed about the company’s activities (i.e. to not stop paying attention) • monitoring, generally, the company’s affairs and asking relevant questions • maintaining familiarity with the financial status of the company (i.e. reviewing financial statements), and • having the minimum skills of a skilful director including: i. base level of financial competence, and ii. base level knowledge of the business.

In times where restrictions on trading of businesses and movement are constantly changing, it is important to continuously monitor the operating environment of a company and its financial status.

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There are certain defences available to an alleged breach of duty to use care, due diligence and skill, such as: • the decision was made in good faith as a matter of ‘business judgment’ having informed themselves of the subject matter and rationally believing it was in the best interests of the company • the decision was made in reasonable reliance on professional/expert advice, or • the decision was made by the director’s delegate and the director reasonably believed in good faith that the delegate was competent and reliable to make that decision.

As such, the engagement of an appropriately qualified adviser at an early stage should be looked to by directors when making difficult decisions about the company’s operations, and there should be adequate documentation of directors’ decisions, outlining the circumstances of the time and the directors’ reasoning.

Duty to avoid conflicts of interest and private profits

A director has a duty to: • disclose direct or indirect interests in a company contracting with the company • not take bribes • not misuse company funds for personal use • avoid personally utilising a corporate opportunity that should have been taken on by the company (without disclosure or approval), and • not misuse confidential information for their own benefit (i.e. trade secrets, client lists etc.).

A director may have breached this duty if they: • have used their position to gain an advantage for themselves, for someone else, or to cause detriment to the company, or • have used the information they acquired in their role to gain a benefit for themselves or for someone else, or to cause detriment to the company.

Importantly, directors must give notice (to other directors) of matters with which they have a material

Lisa is a partner at Finlaysons Lawyers, working across a wide range of banking, finance and insolvency matters.

Jeremy Schultz, Finlaysons Lawyers Jeremy is the head of Finlaysons Corporate, Energy and Health practice areas.

Andrew Dyda, Finlaysons Lawyers Andrew is a partner at Finlaysons Lawyers, undertaking complex transactional and advisory work.

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personal interest. For a proprietary company, if the other directors have approved the conflict, it is unlikely to cause a breach of this directors’ duty.

When there is pressure on cash flow, directors should be extra vigilant in ensuring company funds are quarantined within the company, rather than being used for other purposes.

Duty to prevent the company trading while insolvent

Of paramount importance during these difficult times, directors must be aware of their duty to prevent the company from trading while insolvent. A company becomes insolvent at the point in which it cannot pay its debts when they become due and payable.

A director may be personally liable to the company for an amount equal to the loss or damage suffered by unsecured creditors if: • they were a director (or alternate, de facto, or shadow director) when a debt was incurred • the company was insolvent (or became insolvent) by incurring that debt • there were reasonable grounds to suspect the director knew of the insolvency, or a reasonable person in the director’s position would have known, and • the director did not stop the company from trading.

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COVID-19 temporary relief from directors’ personal liability for trading while insolvent On 22 March 2020, the government introduced temporary measures to curtail the impact of COVID-19 on Australian business, including to protect company directors from potential personal liability.

It is hoped that these reforms will incentivise continued trade through the COVID-19 health crisis, with the aim of returning to viability when the crisis has passed.

The measures introduced by the Coronavirus Economic Response Package Omnibus Act 2020 provide a special safe harbour to relieve company directors from their duty to prevent insolvent trading. This only applies in relation to debts incurred in the ordinary course of the company’s business.

The relief is designed to prevent directors who are concerned to avoid personal liability for insolvent trading from placing otherwise viable companies into external administration due to the cash flow restrictions arising from the COVID-19 crisis.

These measures will apply for six months: from 25 March 2020 to 25 September 2020, unless extended by the government.

Importantly, the temporary relief measures do not

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affect the liability of a company to repay debts that it incurs, nor any liability of a director under a guarantee given in favour of a creditor off the company.

CPD Questions

Penalties if non-compliant with directors’ duties A breach of a director’s duty may result in various penalties, including: • a declaration of contravention of the Corporations Act’s civil penalty provisions, • a disqualification order against the director, a pecuniary penalty order of over $1 million, or • a compensation order made against the director in favour of the company (if there is actual loss).

If the breach is reckless, or dishonest by the standards of ordinary people, criminal sanctions including fines and imprisonment of up to 15 years may apply.

What do tough economic conditions mean for company directors?

As the situation with COVID-19 and the government’s response change so rapidly, a director’s assessment of the company’s financial position, performance and viability must be constant and thorough.

Directors should consider the long-term viability of the company and seek appropriate advice to protect not only the company, its shareholders and creditors, but directors themselves.

Decisions made in these trying times will no doubt be analysed and critiqued when the COVID-19 crisis is over, and directors should be looking to ensure they are doing all they can now to protect their companies and themselves. fs This content is current as at 30 March 2020. The speed with which COVID-19 is spreading and the varied responses both internally within Australia and externally change on a daily basis. It is important to regularly keep up to date with all relevant information and be prepared to respond, as the landscape in which COVID-19 is moving changes.

This article is intended as general information only. It does not purport to be comprehensive advice or legal advice.

Readers must seek professional advice before acting in relation to these matters.

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Earn CPD hours by completing this quiz via FS Aspire CPD 1. A director may be personally liable for an amount equal to the loss or damage suffered by unsecured creditors if: a) They were a shadow director when a particular debt was incurred b) The company became insolvent by incurring a particular debt c) Reasonable grounds existed to suspect the director knew of the insolvency d) All of the above 2. In terms of acting in good faith and in a company’s best interests, directors may need to act in the interests of: a) Particular shareholders b) Third parties c) Particular employees d) None of the above 3. The temporary measures to curtail the impact of COVID-19 on Australian business: a) Affect a company’s liability to repay debts b) Allow directors to place otherwise viable companies into administration c) Only apply to debts incurred in the ordinary course of company business d) Apply for a least 12 months 4. Which of the following is a defence to an alleged breach of a director’s duty to use care, due diligence and skill? a) The decision was made using limited reliance on expert advice b) The defence transcended business judgment c) The director had reasonable doubts about a delegate’s competence d) None of the above 5. A company facing financial distress still has an obligation to act in creditors’ interests. a) True b) False 6. For a proprietary company, if the other directors approved a conflict of interest, it is still likely to cause a breach regarding the director in question. a) True

b) False

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Quick reference

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News and opinions Absolute Wealth Advisors Pty Ltd

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Working for a single family office Challenges for outsiders

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The outlook for philanthropy during COVID-19

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Taxation & Estate Planning Executive share schemes: Structuring, taxation and investment strategies

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Charitable gifts in Wills

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Directors’ personal liability extended to include companies’ GST liabilities

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Trust & Corporate services Overview of trusts in Australia

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COVID-19: Mergers and acquisitions in a time of crisis

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Ethics and Governance Directors’ duties during uncertain financial times

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UBS 7 Vertium Asset Management

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