Loss attributing qualifying companies: Perks and your checklist for quirks
Murray Downs, New Zealand Tree Grower May 2005.
From a purist’s tax perspective, using a loss attributing qualifying company (LAQC) to own your forest is a real perk. And the government knows it. An LAQC is a company that has a special tax status only. Companies or trusts that have more expenses than income, which is the nature of young forestry companies, have to carry forward their losses until a year when there is income. In forestry, that could be a 30 year wait.
What are the perks with LAQCs?
Shareholders have immediate access to company forestry losses especially in the expensive early years of planting and tending your trees. Liability is limited to the paid up value of shares which limits shareholders’ exposure to economic catastrophes.
An investor can sell shares in their forest company at any time without any income tax to pay. If the trees are owned in a partnership or in your own name, there would be tax to pay based on the current value of the standing timber.
If a shareholder dies there will be no tax on the value of the immature trees. Current government comment has specifically noted that there will be no respite from paying tax on the value of standing trees that you own in your sole name or in partnership when you die, because you could have used a company to avoid it.
Major concessions do come at a price
All shares must carry the same rights so there can be no ‘Mum and Dad’ only voting shares. All shareholders must be directors and contribute to company management.
There can only be a maximum of five shareholders with special rules about relatives.
Shareholders must personally elect to be liable for company tax.
It is easy to lose LAQC status
The following situations endanger your LAQC status and should ring your alarm bells, causing you to contact your accountant –
- Before any shareholder goes overseas to live
- Before transferring any shares
- Immediately on the death of a shareholder
- When there is a change of trustees if the trust is a shareholder.
It takes extra time for your accountant to make sure that your company does not inadvertently drop out of the LAQC tax status. Even when your trees have been pruned and thinned and are merrily just putting on weight year after year.
Large accountancy firms insist that they act for all LAQC shareholders, completing each shareholders income tax return each year. Experience has shown that without this, someone makes an unintentional faux pas. Trusts or estates as shareholders of LAQCs are notorious for causing problems, as there are so many specific beneficiary rules to comply with, and potentially often many beneficiaries.
Another thing you can do to help, is to make sure your solicitor knows you have shares in an LAQC. Tell them in writing and who the accountant is, especially when you make or review your will.
Check your company constitution
We heard of a lawyer who helped set up a forestry LAQC company. Recognising the potential for problems, he specifically put a clause in the constitution effectively saying that the company is not allowed to register any transaction that causes the company to lose its LAQC status. Apparently this saved the companies LAQC status when some years later the shareholders did a transfer of shares without talking to their accountant or lawyer. This put themselves outside the 63 days allowed to re-elect LAQC status following a change of shareholding. So does your LAQC company have a life saving clause like that?
The same lawyer also put in a clause that if any shareholder deliberately revokes their LAQC elections, they forfeit all their shares to other complying shareholders.
Borrowing and shareholders
Shareholders invest funds into a forestry LAQC so the company can buy trees or pay for contractors. If the shareholder borrows to finance the purchase of shares in the company, the interest cost is deductible for the shareholder against the promise of future dividend income.
If the shareholder borrows to on-lend money to the company
– not to buy shares, but as a current loan account to the company
– the interest is not automatically deductible to the shareholder. To be deductible, the company must pay interest to the shareholder. This subtle distinction has trapped many a company shareholder and their accountants.
What will happen when you harvest?
This is when the Inland Revenue will have their day. Given normal circumstances, either shareholders or the company effectively will have to pay income tax on all the company forestry income. By definition you do not get to deduct expenses twice. The consolation is that you saved on your tax bill 25 years ago when the expenses were incurred, and there should be plenty of forestry income at harvest to pay the tax.
This is the time to evaluate a range of options for your LAQC – from winding it up to some furtive tax planning for the future.
An LAQC is a great perk, but there is a price to pay and matters to make professionals aware of.
This article is simplified and cannot be relied on to cover all situations and we recommend you seek professional advice.
Murray Downs is a chartered accountant for Down to Earth Accountants in Te Awamutu.