It comes as a surprise to clients when, on occasion, they find themselves either subject to, or trying to enforce, “informal agreements”. Informal agreements may come in the form of an exchange of discussions in respect to an arrangement, or a signed Lease Offer. It may be that the informal agreement is a sword for a client (for example, the client wants to push the arrangement in the absence of a written contract signed by the parties), or a shield for a client (for example, the client wants to avoid the arrangement because there was no written contract signed by the parties – or the terms were not finally agreed).
Whether the arrangement relates to a supply of goods, services or a commercial leasing arrangement – a legally binding arrangement may be determined by way the conduct of the parties (such as one of the parties completing a condition agreed to start the arrangement (for example, supplying a service), or an exchange of emails about an arrangement), even in the absence of a formal contract – whether or not the contract is ultimately signed.
When are negotiations binding?
Courts look at the objective intention of the parties when determining whether there is a legally binding agreement. That is, whether a reasonable person would consider the agreement to be legally binding, and not the parties’ subjective intention.
Courts have found a legally binding agreement in the following situations:-
- When a vendor and purchaser of commercial property agreed to the essential terms of the agreement over email, noting that the agreement was “subject to contract” and “subject to execution”. A court found that this was essentially an “agreement to contract” and made judgement against the vendor (who attempted to withdraw from the transaction due having found a more favourable third party purchaser);
- Negotiations between a tenant and landlord whereby the essential terms of the lease were agreed upon were found to constitute an agreement to lease. This was the case even though the negotiations began with “subject to formal lease documents being signed” and that not all (minor) terms were agreed. The landlord was ordered to pay damages to the tenant for failing to countersign the formal lease document; and
- A tenant who, after negotiating and signing a letter of offer with a landlord, proceeded to obtain council approvals (with the landlord’s assistance) and took steps to fit-out premises without a formal lease in place was found to be bound by an agreement to lease.
When determining the intention of the parties, regard will be to the surrounding circumstances of the negotiations, the relationship of the parties, subject matter of the agreement and other relevant factors.
What can you do to ensure no binding agreement is in place until documents are signed?
Parties who do not wish to be bound by negotiations or pre-contract documents (e.g. heads of agreement) must ensure that they clearly and consistently reiterate to the other party in all correspondence that no legally binding agreement will be formed until formal and final documentation has been signed. As the above cases reveal, merely stating “subject to contract” is not enough.
Further, prospective tenants should not enter into possession and pay rent until the lease is signed as this may constitute acceptance by conduct. Conversely, a landlord should not accept rent until they are in a position to be bound. More generally, parties should not begin performing their obligations under the agreement before the documents are signed.
However, the risks of making an agreement conditional is as a sword which can be used against you – as the other party to a transaction may similarly withdraw from the arrangement if there is no legally binding agreement. This may mean that you could lose a commercially advantageous deal if it is not locked in.
In any negotiation, you should always seek legal advice before accepting the terms of an agreement (whether by email, orally or otherwise) and before signing any preliminary document.
Nautilus Law Group has a team of professionals experienced in commercial and property agreements. It may be that our team can give you a “thumbs up” or recommendation for variations in a short meeting, or for more complex matters – the engagement may be extended.
Engaging a lawyer to advise on an agreement is an investment in certainty, as the costs of remedying a failed arrangement greatly outweigh the costs savings of avoiding advice.
We welcome you to contact our Property and Commercial Team to discuss your arrangements. Please free to contact Marguerite, our department manager, on (07) 5574 3560 or by email to email@example.com.
The release of PCG 2016/5 comes as no surprise, which follows on the back of the Australian Taxation Office (ATO) publications ATO ID 2015/27 and ATO ID 2015/28, which set the tone for related party Limited Recourse Borrowing Arrangements (LRBAs). The ATO’s 2015 position clarified that nil interest rates and/or interest rate terms being other than “commercial” in nature, constituted “non-arms’ length income” within the meaning of subsection 295.550(1) of the Income Tax Assessment Act 1997 (ITAA97).
PCG 2016/5 sails past interest rates, and now gives the ATO’s position on the entirety of related party LRBAs, including requirements for principal and interest monthly payments, security, terms of lending and standards for setting fixed and variable interest rates.
IS ANYONE REALLY SURPRISED BY PCG 2016/5?
Given the overriding “sole purpose test” at section 62 of the Superannuation Industry (Supervision) Act 1993 (SISA) – what would lead anyone to think a related party LRBA could be made on other than an “arms’ length” basis, with a commercial standard of reference required? Let’s think this through – we are limited in acquiring assets from members and “related parties” of members by section 66 of the SISA, we are prohibited from providing financial assistance to members and relatives of members by section 65 of the SISA and we are required to deal with investments at an “arms’ length” in accordance with section 109 of the SISA. So, does it come as any real surprise that, if a member or a related party of the member is going to lend money to the self-managed superannuation fund (SMSF), it has to be on commercial terms?
It scares me when Trustees lose sight of the overriding black cloud of Part IVA of the ITAA97, and forget that the ATO has the benefit of hindsight in assessing anti-avoidance schemes. Looking beyond Trustees, those of us advising Trustees must also be alert to our civil, and possible criminal, exposure under SISA, including but not limited to section 55 of the SISA, which puts us, as advisors, on the line to pay losses or damages suffered by any “person” (not limited to members) as a consequence of another “person” (not limited to trustees) involved in a contravention of a SISA covenant. Remembering the Courts and Financial Ombudsman Service quite often favour the consumer, we need only look to section 52 of the SISA to appreciate the broad liability stacked on our shoulders when giving advice to SMSF Trustees of any nature which is other than, on its face, based on all parties acting on commercial arms’ length terms.
Let’s look, therefore, at PCG 2016/5. Whilst the ATO provides us with peace of mind as to its interpretation of “arms’ length terms” for purposes of related party LRBAs in the Safe Harbour provisions, the ATO recognises at paragraph 4 of PCG 2016/5 that other arrangements may nonetheless be based on arms’ length terms.
Safe Harbour 1: The LRBA and real property (commercial or residential)
Safe Harbour 2: The LRBA and a collection of stock exchange listed shares or units
So, what happens if you can’t fit your arrangements into the Safe Harbours? You aren’t sunk just yet.
LET’S CONSIDER THE LOAN TERMS…
If your client borrowed from a commercial lender to on-lend to the SMSF, what does the commercial lender’s terms to the client look like?
To keep this simple, let’s create a reference:
Client Pty Ltd, as Trustee for Client Superfund, borrows from John Smith, the sole director of Client Pty Ltd and sole member of Client Superfund, to acquire Greenacre for $500,000. John borrowed $530,000 from Awesome Bank, secured against his home, on a 30 year interest free term, with the first 5 years being interest free only, with principal and interest from year 6. John gave a personal guarantee, and also offered up security against his personal share portfolio. The LVR was 80% of the combined value of John’s home and his share portfolio. The interest on the loan is variable, based on Awesome Bank’s published rates. Awesome Bank has their own internal assessment processes for determining variable rates. John’s advisor told him that he could on-lend at the Awesome Bank’s rate for the full acquisition value, on matching loan terms. John’s advisor also made sure John registered a mortgage over the property. What happens now?
Can John rely on Awesome Bank’s terms to escape the Safe Harbours? Not entirely.
Awesome Bank has recourse against John’s income as well, as the security and later acquired assets of John (through the personal guarantee). John only has recourse against the real property owned by the SMSF, and nothing else. Accordingly, given the additional risk, one would expect a commercial lender in John’s position would have either required higher interest rates, shorter terms or a varied LVR. However, the terms of Awesome Bank’s lending to John are nonetheless material; the first approach for John is to seek out Awesome Bank’s LRBA terms. If Awesome Bank’s LRBA terms at the time of acquisition were more lenient than the Safe Harbour provisions, John has a commercial “arms’ length” reference to hold to support a variation from the Safe Harbour. However, to the extent his LRBA terms are more favourable than the Awesome Bank’s LRBA terms, John would need to vary his own LRBA to match (even if the variation was less than the Safe Harbour provisions).
What if Awesome Bank did not offer LRBA lending at the time of acquisition? Perhaps John could then look to Community Bank instead. If Community Bank has lending terms which were more lenient than the Safe Harbour provisions, then John would have a commercial “arms’ length” reference to support a variation.
To the extent John tries to find “arms’ length” terms different to the Safe Harbour provisions, he is best to ensure the comparative is truly “commercial”. John should not look to his best mate Bob, who is a third party lender, to provide the “commercial” comparative – unless Bob is a recognised credit provider who has engaged in LRBA arrangements as a regular component of his business (which business commenced well before the publication of ATO ID 2015/27 and ATO ID 2015/28).
LET’S CONSIDER SOME STRATEGIES…
Let’s say that John has to figure out how to raise the shortfall in the LVR. What are some options?
- John could make additional concessional and non-concessional contributions (subject to the contribution caps and restrictions) by allowing part of the loan to be paid down (do not forget the paperwork and required transactions!);
- John could invite new members to the fund and their rollovers and/or contributions could be used to reduce the loan (make sure the investment strategy is considered for each);
- John could sell the asset (which could be difficult by 30 June – but it is an option); and/or
- John could re-finance through Awesome Bank, and give Awesome Bank a personal guarantee (hopefully Awesome Bank values his business).
What if John is in pension phase, and he has to fund increased repayments on the LRBA from the SMSF? John could look to any of the above options, and he could also:
- Commute his pension and roll back to growth phase;
- Commute his pension, and commence a part pension with the balance of his member interest in growth phase; and/or
- Vary the terms of his pension to reduce his payments to the statutory minimums.
PCG 2016/5 is not the end of the world, but it is a wake-up call to all advisors in the SMSF space to favour conservatism in strategies. There may be litigation which flows out of PCG 2016/5, given some advisors made exceedingly ambitious strategic recommendations to clients who will not be able to float adequate remedial action by 30 June 2016. The ATO has given advisors a bit of leeway and, with a bit of creative manoeuvring, many SMSFs can sail to the Safe Harbours with minimal frustration (consider the above options, if the client could fund to lend – the client may likely remediate by treating funds as contributions).
If you would like to discuss PCG 2016/5 or what the ATO Safe Harbours mean for you or your clients, please contact Katrina Brown on 07 5574 3560 or via email.
Transfer duty in Queensland is imposed by the Office of State Revenue on all dutiable transactions, pursuant to the Duties Act 2001.
When transactions are related, the transfer duty payable on the transactions must be aggregated; meaning that, rather than assessing the value of the transactions separately (in which case a lower rate of duty may be payable), the value of the transactions are combined and duty is assessed on the combined value of the transactions.
What are “aggregated transactions”?
There are various circumstances that must be considered in determining whether transactions are aggregated.
Firstly, it is important to make clear that the aggregation of transactions relates not only to the transfer of real property, but also to acquisition of business and other interests in Queensland.
The negotiation of the Contract, method and terms of sale must be considered. The Office of State Revenue generally holds that property purchased at auction is not subject to aggregation (as the Buyer is unable to negotiate their purchase, and cannot guarantee that they will be successful at auction). If, however, the transactions were effected by a contract or negotiation, then the offer and execution of documents occurring for both transactions on the same day can also create an aggregated transaction. Further, any terms of a Contract implying that the transactions are linked (for example, settlement of Purchase A is subject to Purchase B also settling), creates a relationship between the transactions, resulting in aggregation.
Finally, and most obviously, the combined use of the subject of the transactions will result in aggregation.
What happens if my transactions are linked, but they aren’t assessed as aggregated?
Your solicitor will rely on information provided by you in determining whether the transactions are aggregated. In order for transfer duty to be correctly assessed when payable, it is important to make sure that you disclose any relevant information to your solicitor from the outset. Failure to do so could result in incorrect assessment of your transfer duty liability, which can incur Unpaid Tax Interest until rectified.
As the circumstances in which aggregated transfer duty is payable vary from case to case, it is best to speak to your solicitor if you are considering entering into any Contract or agreement which could result in an aggregation. As transfer duty in Queensland is calculated at progressive rates, failure to take this into account before entering into a transaction could result in a high rate of transfer duty being assessed than you anticipated.
If you would like to discuss a potential aggregation with our office, please feel free to contact Caitlin Bampton on 07 5574 3560 or firstname.lastname@example.org
When entering into a Contract in Queensland, it is critical the Buyer’s and Seller’s names are complete, and correctly spelt. Any omissions or errors can cause significant headaches and incur significant cost further on in the conveyancing process.
The Seller is the first party listed on the Contract. The Seller’s details are the easiest to get right, as these must exactly match the title of the property (which can be discovered from a title search of the property, which your agent or solicitor can conduct before the Contract is signed). If, for some reason, you are selling the property and the entity registered on the title is incorrect (say, for example, the title is registered in the joint name of two people, one of whom is deceased), please speak to your solicitor before the Contract is signed about the Seller’s name that should be reflected on the Contract, and any special conditions that must be inserted to address the variation between the Seller’s name on the Contract, and the name registered on the title of the property.
It gets a bit trickier when inserting the name of the Buyer. If you are purchasing the property in your individual name, then your full legal name must be inserted (no nicknames, assumed names, or initials). If the purchaser is a Company, the full company name and A.C.N. of the Company must be inserted (e.g. SMITH NOMINEES PTY LTD A.C.N. 123 456 789). If you are purchasing the property as Trustee, then the full name of the Trustee and Trust must be entered (e.g. SMITH NOMINEES PTY LTD A.C.N. 123 456 789 AS TRUSTEE FOR THE SMITH FAMILY TRUST).
Firstly, if you sign a Contract that does not reflect the correct entity, leading to a change of the Contract, the Office of State Revenue may determine that any variation to the Contract to change the entity is a separate transaction, and may impose Transfer Duty on both the transfer reflected by the Contract, and the subsequent transfer to the correct Buyer. At a minimum, your solicitor will need to make additional submissions to the OSR to enable a cancellation of the incorrect Contract – and generally you will have to pay the Seller’s solicitor fees as well.
For example, Mr Bob Jones sells his property to Mr John Smith, and an unconditional Contract is executed indicating these names (and Mr Smith does not provide any instructions to his solicitor indicating that the Buyer is a company or trust) (this is Transaction One). One week before settlement, Mr Smith’s bank observes that the transfer documents do not indicate the name of the Trust purchasing the property. Further discussion with Mr Smith reveals that he did indeed intend to purchase the property as Trustee, and didn’t realise that his solicitor needed to know this. His solicitor approached the Seller’s solicitor, who agreed that the Contract could be amended to reflect the Buyer as Trustee. However, Mr Smith signed the Contract in his own right, and then (it appears) decided that the purchaser would be the Trust. As the Contract signed is immediately unconditional, the Office of State Revenue can determine that the change of Buyer from Mr Smith to Mr Smith as Trustee is a second, and separately assessable, transaction (Transaction Two). Whilst the ultimate outcome is that both transactions are effected and the property is held in the name of the intended party (i.e. Mr Smith as Trustee), the effect of such a determination by the Office of State Revenue is that the respective Buyers have to pay transfer duty on each of the transactions – meaning that Mr Smith has to pay Transfer Duty on Transaction One, and Mr Smith as Trustee has to pay Transfer Duty on Transaction Two. The double-payment of Transfer Duty would be entirely avoidable had the correct purchasing entity been inserted in the Contract from the outset. Your lawyers may be in a position to apply for a cancellation of the first contract, nullifying Transaction One in terms of duties – but the process will incur additional costs – usually including costs payable to the Seller’s solicitor and the Buyer’s solicitor.
Secondly, indicating the correct entity on the Contract from the outset creates less potential for issues to arise as the transaction progresses. An incorrectly listed entity requires amendment on the Contract, which can be made only if both parties agree. It is also important to note that, if purchasing the property as Trustee of a Trust, a certified copy of the Trust Deed (and any variations) is required to be lodged with the Transfer documents after settlement. As you may not have these easily accessible, it is best to allow sufficient time to locate these documents prior to settlement in order to avoid a last minute rush.
If you have any questions about the name that should be indicated on your Contract, please feel free to contact Caitlin Bampton on 07 5574 3560 or Caitlin@nautiluslaw.com.au.