Strategies to Facilitate Intergenerational Wealth Transfers #3 – Transcript

Vince Scully
Hello and welcome back to this special XY advisor podcast mini series focused on the retirement income covenant and its implications for advisors. I’m Vince Scully, veteran advisor and founder of life Sherpa, Australia’s most affordable financial advice service. In today’s episode, we talked to a couple of advisors doing great things in their businesses. In these sessions, we chatted about their businesses in general, and specifically how they’re using investment bonds and annuities to improve the lives of their clients. My first guest is Les McGuire of futureproof wealth, operating under the Fortnum wealth license and based in Ballena, New South Wales lazes, a 2008, graduate of the ANP horizons program, and was named one of Barron’s Australia’s top 100 financial advisors in 2020. His practice focuses mainly on retirees and higher income earners. Welcome, Les.

Les McGuire
I’m a big believer in looking at strategy being the underlying driver for every person’s best outcomes. So it’s not about product, it’s about what are the right investment underlying structures to put people into better positions. And so in that regard, that’s where, for instance, I’ve utilized, for instance, investment bonds and various structures for clients to enable incredible tax efficiencies, asset protection, wealth creation, succession planning, mechanisms to be able to ensure that clients of all different wealth dynamics, you know, can be best set up not only for them while they’re alive, but also for their estates in the future. Because that’s very important to a lot of clients, when they really understand what estate structures are out there and how best they can be leveraged, because unfortunately, many people believe a will is you know, write a will and everything’s okay, well, that’s incorrect. So how can we best as advisors educate clients around having the appropriate structures to ensure that, you know, their wealth when they pass, regardless of it, that wealth is can move to their family, how they wish it to, and that’s wearing investment bonds, etc, have been incredible introduction into our business for clients, because it provides such an extra layer of protection, but still in a very tax effective environment.

Vince Scully
So that’s, it’s interesting, you should talk about investment bonds, because that’s a whole market that’s changed a lot over the last 20 or 30 years, especially in the last five. So you obviously don’t have quite as much gray hair as I do. But if you go back to the early 90s, when the top marginal rate of 49% cut in at $50,000 of taxable income, and bonds were primarily used for tax efficiency. Your roll forward through the Costello and Howard reforms, we’ve now got a top marginal rate that cuts in at $190,000. So about 3% of taxpayers are top marginal rate payers. So the tax argument is much less critical for a large chunk of the population. So talk to me about how you use investment bonds and like Pepsi as an example of how you’ve used it for the benefit of some of your categories of clients. Yeah, look,

Les McGuire
I suppose there’s quite a number of reasons that we use investment bonds, one of which is yes, in that high net worth income earning space that can work, incredibly effective. However, what’s really important to note is, whilst the actual tax rate, or the Shoom tax rate from the ATO on the investment bonds is 30%, reality says that if you’re in the right investment, bond structure using the right investment bond provider, and in our case, we use generation, life is our key provider we actually use and the reason thing is, and I’ve done a lot of work in that space, because they’ve got some really tax effective internal options, where with rebates, etc, the actual real tax rate, you know, can be quite a lot lower than 30%, after rebates, etc. So, it’s critically important when you’re thinking about it from a client’s perspective, do you look at what the net result at the end is not just looking at what that notional sort of number is? Because that can play a massive difference in many people’s lives and in environments because even when people you know, you know, they’re earning above 80 or plus $1,000, a year and then moving, you know, towards that mid 20s, and so forth. If you’ve got the actual rich tax or taxable right within those bonds, let’s say, yeah, we’ve got quite a few around that 13 and 14%. You know, it’s still providing a really great benefit overall, but we sort of term take that back and think about what’s our key objective? Well, depending on the client’s age, they could be A young professional, they, you know, for their strategy point of view, they want to be able to have a really great tax effective investment strategy in place, they might be a professional, they could be a lawyer, that could be somebody that wants to make sure that their assets are relatively safe, you know, with what they do as well and won’t be self employed. When we start to look at investment bonds, there’s so many more benefits because they sit under the Life Insurance Act, you know, there’s so much protection around, you know, people, bankruptcy protection, you know, people try to sue you, you know, we’ve got there’s, there’s lots of asset protection mechanisms in a barn that provide really great outcomes there. But also from a taxable perspective. Well imagine that we commence one of these for young professionals 25, they’re earning $120,000 a year, let’s call it, they’re obviously contributing to super as well, alongside that as part of the strategy but super wants to long term retirement objective, they’re going to wait until they’re 65 Plus to even get access to that money. So that when we pull it back, we get all of these other. And as you said, as an example of some of the examples. Perfect One was an engineer, he’s in his late 40s. Weiss in 4040s. We’re looking at wanting to retire the agent, he wants to retire at 60. And he wants to be significant income, ultimately, and she that means she’ll be retiring and about 5857. So we set up a bond for them and investment bond, we’ve got a sound, investment, investment bond and the superstructure. The investments going to be able to come into play when she turns 58. Right, the investment bond will take kick in after that for them, because of the after 10 years, 10 plus years, obviously, it’s going to be tax free with whatever we’ve generated within that bond. And then the super can tap in at a later stage. So ultimately, it can become a really awesome mechanism to provide a multi layered layered strategy approach to achieve great outcomes for clients. You know, because once you maximize your super, what else do you do with your money, let’s call it give that super is the best tax strategy you can use. So then investment bonds tailoring inside and alongside that can work incredibly powerfully, regardless of a client’s age. I had a client who had a really difficult and she’s unfortunately passed, but she had a really difficult estate planning need and or something she wanted to solve. She had a daughter who passed away predeceased her. She had a son, who’s also a client of mine and the daughter, but she had some grandchildren of the daughter who had predeceased her. And she really wanted to make sure that her grandchildren could get some of these dates, or the least the portion of the estate that was go will initially to her daughter who had passed. Now the investment bonds structure for her and given that, you know, estate planning wishes and needs, and so of course providing an incredible outcome because the investment bonds themselves structured correctly, like a testamentary arrangement in themselves, self provided this incredible outcome in such sad difficult circumstances where she’s looking down on upon us today, her grandchildren in a estate arrangement that otherwise could have been contested, was free of contestation because of the way in the view for way that the investment ones work in the estate planning world. So when we think about investment bonds, it’s not just about investments, it’s not just about taxation, it’s not just about earnings, it’s actually so much more. And that’s why when I love to look at bonds, I’m thinking about those critical measures around and often things that are done very badly, unfortunately, in the world of legal and, and advice where estate planning is so critical. So so all advisors should be really considering in educating clients, especially with their estate planning needs to be considering these instruments as part of that strategy. When we take you back to what you said before Vince was in regards to the taxation and where they can fit in, given that obviously the, you know, the fire to be in that higher tax bracket here and more again, you know, I think and to touch on what I said earlier, that the internal tax rebates and so forth that are offered within certain investment environments, like what generation like opera, provide incredible benefits and significant benefits for clients there so that you can have various ages for clients. arrangements that will mature up to 10 years and be tax free. So if someone’s investing at 25, let’s call it by the time they’re 36. That investment regardless of their earnings is completely tax free. There might still be self employed, we leave it within the bond to continue. We can start other bonds such staggered approach. So we’ve always got access to capital in the future if we want but we can Within siping state, the investment bonds structure for protection and further growth tax free after 10 years, I was asked to present it Adyen life luncheon in Brisbane was with a roomful of advisors at Victoria Park. And the feedback after it was quite extraordinary with people coming out and talking to me where they didn’t understand the usage of bonds and how they can be best applied to better a client’s position. Because many people just think about it in a really linear sense. And that is client earns over this much over 30 cents in the dollar, we put it in here, they pay less tax, well, you know what that is thinking with a really minimal sort of line of thought when you think about the way that things can be best leveraged for a client. And when you’re looking at it broadly, the strategy, what are all those needs, and it’s not, like I said, it’s the 30%, unless you really understand how these things work, can really do many clients and injustice by not having these things by having investment bonds recommended as part of this strategy where it could be more beneficial. In many instances, I’ve got clients that often now grandparents are setting them up for the grandkids, because Mum and Dad might be in a position necessarily, to put money away that the grandparents see them, I have quite a bit of money. So we’re setting them up. And yeah, we’ve worked out in one case, lovely, ex, retired engineer of mine, had been a long term client. And now he’s got seven grandchildren, every time he has other grandchildren, I work out this spreadsheet to work out so little Johnny and Hannah up here and whatever all are going to end up on this same trajectory. So working out all the numbers so that it’s all going to flow through fai
rly at the end of the day is that when I hope mature, it’s going to be recently,

Vince Scully
you’re trying to make sure that being born first doesn’t give you an unfair advantage.

Les McGuire
So essentially, it’s quiet. But for him, it gives Terrence a real sense of the proud grandparent worth because he’s able to help to contribute towards his grandchildren. Where in 10 years time, yeah, for the oldest, let’s call it then working from there. It puts it into a position where, you know, well he can let’s call it let’s say the eldest is now 14. Oh, no, sorry, four. So it’ll be 14 when it matures. We can hold that up. And we keep that bond going with a maturity date. Yeah, potentially 18 for university, or it could be 14, so we can kick into private school fees and all sorts of things. So you know, so there are so many uses for the bonds.

Vince Scully
So if we can now move on a little bit and talk a little bit about the Retirement Income Challenge, you’re one of the challenges with, and I’m not sure if you see this your practice, but it’s certainly a story I hear a lot from other advisors that we spin that those of us who work mostly with accumulated clients are so used to hearing the message spending bad saving, investing good. And when people start to retire, the difficulty of moving to actually now spending good just not too much, and actually encouraging people to spend some of their principal as well, so that we don’t necessarily end up with people scrimping and saving to end up dying with more than they retired with. How do you deal with that in your, in your practice?

Les McGuire
I’ve got this funny little saying we have clients. And it worked really well. It happened the first time I used it was probably about five years, or they’re about to go because I had a client who was really, really worried and the headline, or they’re still with me, and then two plus me. But that was scared to spend it on just scared to spend them. So what I did, I introduced a little saying, you know, as simple as it is, I call it my, my permission, I give them my permission for them to spec. And it was quite amazing with the way that they accepted what I said there was incredible where they said oh, so is it okay. And I said it was like I become the parent to my client, which was giving them permission. And it was really funny. So making a little bit of a joke about it. Now there’s certain clients where I use that as a little bit of a tagline analogy around. I want to make sure that you understand that whilst this is always your money. I as Your advisor will make sure that financially you’re going to be okay and to ensure that you feel comfortable with Being able to spend money and do things and enjoy your life, I will make sure I give you permission to spend. And it is incredible the way that the clients that they seem to love it, because all of a sudden, it’s like that I’m empowering them to be able to know that they’re going to be okay. And then I usually say, depending again, on who the client is, I say, but if you asked me for money for a Porsche every year, you’re probably gonna get some really serious push backs. That’s really cool. Because clients then get the feeling between, you know, the ability to spend, but then being sensible about their retirement journey, right. So being under make sure, and I often talk about, wouldn’t it be really super cool that if on your last day that you decided to be on Earth, and you’re taking your last breath, that you had that last dollar that you environment, something with that last dollar, they go, right, I’m done. And they really again, they get the concept of that they that it is their money, how because works, too. So I talk about often bring my children into the scenario at $6. And often talk about, if I died today, my wife died today, our kids would walk away with a reasonably decent inheritance. However, I often say to my kids, by the time I plan on dying, you kids all should be married, they should have kids, there should be I’ve worked hard or you know, whatever it be, so you shouldn’t need mom. And that is because you shouldn’t be doing it all yourself, right? And so and so what I tell my clients is I said, you know, if you’ve been and you’ve empowered, your kids do the right thing, which I’m sure you haven’t they go, yeah. And I say, well, wouldn’t it be great if now all the hard work you’ve put in, you can actually enjoy and no doubt, there’s going to be a house leftover or there’ll be something left over. So you don’t ever have to worry about providing for that enjoy, own worry about how to enjoy every last day you have. And it’s amazing again, from that psychology perspective, it just turned the tables where people start to then feel like they have ownership over their own money. And I think that’s the problem, I think often people because it works so hard in their life. And as you’re working, you’re paying bills, you’re trying to survive, and you’re trying to get ahead, but all of a sudden you retire. And for some people have varying levels of wealth. You know, I think for them, it’s it’s the company’s real pee around spending, because they’re not getting that income to replace it. So being able to show them. And depending on what structures again, investment bonds, or super whatever how that works for them. In reality, I think it gives them a lot of strength around that to to provide better outcomes. When you think about retirement income, and the way to provide income certainty. This is where bottom now, the new US is playing quite a part in that space as well. And there’s some various annuities like zero interest bearing onesy to lock in. And obviously, they’ve been out of pain for quite some time because interest rates have been so low. So it’s, you know, you’re locking away clients money below inflation for a long period of time. Or now, for instance, with new generation like they’ve got where you’re actually able to invest that money and actually get that money to work. So ideally, again, as an advisor, you know, you can ever put your hand up to say that we’re always going to get everything right. But at the same time, if you’re investing that money sensibly for a client, and you’re investing over the longer term, and we’re getting some growth on that money is helping to provide that good stable income into the future. And I think that’s a real key dynamic. Now with the annuity space, especially with again, Genmaicha. What they’re doing is is providing other ways to what I would call have sexy annuities for advisors actually can be really involved and helping clients achieve better outcomes along the way.

Vince Scully
Yeah, I mean, you raised a whole bunch of very interesting points there. So as you say, your Australians, at least for the last decade or so have been reluctant to buy lifetime annuities will fix lifetime or index lifetime annuities. because interest rates have been so low and equities have done pretty well. Yeah, I think when we look back on at least the 2010 to 2020 decade, that will stick out as being a period of relatively high real investment returns, particularly on equities. And so Australians were very reluctant to, as you say, lock away money and we saw innovations around trying to create liquidity and you know, non zero residual values. But that psyche of Australians being very keen to leave a legacy in so being are reluctant to lock away significant chunks of their assets to generate a guaranteed inflation proof income, albeit a relatively low one. So obviously be able to get some market upside is a helps goes a long way to removing that reluctance. So how do you help clients understand that trade off between absolute certainty of income and that market upside that you’re giving away? In a way that’s understandable?

Les McGuire
To answer your question the best way, like when I want to explain about introducing income in an annuity form, for instance, to a client, it becomes far more strategic than just going, oh, let’s just put an annuity. So you’ve got this income. So what it could be, depending on the situation, is by implementing or introducing an annuity plus having, you know, some capital assets, let’s say, in Supra, or whatever, over here. So we’ve got access to some of that capital, which can provide an income in pension, we’ve got an annuity, all sudden, we’re starting opening up another door to potentially settling, you know, all of a sudden, we’re opening up this door to potentially aged care benefits that otherwise wouldn’t have been because of the such favorable treatment with annuities with only 60% Obviously counted under the assets test. So essentially, all of a sudden, by strategically looking at them. From a more comprehensive strategy perspective, there’s so many opportunities that we can start to open up for clients, whether it be day one, so there’s clients that have introduced annuities into their lives, where I said to them in their statement of advice and their projections, by year, three, that stuck at the age pension where otherwise they wouldn’t have, and then all of a sudden, that’s just ramped up quite the other day, she’s 82, she has been longtime client of mine, she comes in, she sits down, and she had a daughter and son with it, because we’re doing some pre potentially moving into aged care space. And so one thing about for her, that was just that’s just puts a smile on their face every day, is how I was able to because I recommended introducing annuities into her life, was able to help her achieve the age pension, and that was the Holy Grail for her. And she’s still got hundreds of 1000s of dollars over here, you know, in other pensions, etc. But she’s getting this age pension and the age pension for her even if she got $1. But she’s getting something like 8000 bucks a year. She’s so blown away by that it’s like the rest of the world doesn’t matter. But to achieve that outcome for her the annuity, the annuities, in her case, played a beautiful role in achieving that outcome. So the amount of people out there, the problem is they just don’t understand from an advice perspective where the annuity can fit in. Because if you think about anybody, and even assuming if the market invested in the market, and the market was flat, for argument’s sake, so let’s just say there wasn’t a lot of side growth in the income for a period there. But all of a sudden, that meant we got age pension, right, because otherwise they wouldn’t have because they’re over the assets test. And all of a sudden by getting them that if you think about them the uptick on the percentage of return on that annuity, because of that, how that’s created the ability to get the age pension, all of a sudden that return itself is looking far better. Plus the all other ancillary benefits Yeah, the car radios all the other health things that go with it. So watch to be honest thing broadly that if more people understood the benefits of being able to utilize again, investment bonds and annuities as part of their life, that’d be financially far better off.

Vince Scully
Less McGuire, thank you for joining us on the x y podcast that was less McGuire a future proof wealth. My next guest is Michael Bova founder and managing director of family wealth advisory based on Sydney’s lower north shore. Michael specializes in providing advice to high income earners, business owners, and high net worth families on investment and wealth management. Michael, tell us a little bit about how you help your clients.

Michael Bova
And so if we can take the financial stress away and take that cloud away and they’ve got clarity of IK this is what I can do if there’s no financial stress, and sort of set them free. So if we can do that, then we feel like okay, we’ve sort of done our job, the family businesses we like because it takes a lot of strategy boxes. And one of my core values is I love to learn. So love learning about strategies and how we can help them so the thing with family business, I guess, different 20 employees, you’ve got, I guess some concerns around asset protection. So asset protection definitely becomes quite an important part of their overall strategies dovetails into the estate planning, which is you know, ensuring that the asset protection survives that the person that passes. And then you’ve got the complexity around cash flow. So an employee receives cash, it’s hard enough to try and make them safe. And I’m sure you know the events, the NSF, that’s our core business. So we’re very good at helping clients get control of that cash flow. So we do work with some high income earning accumulators where they’ve got enough savings where we can work with but in the family business space, there’s an extra discipline because you got to get the cash out. So no, you got to get the dismount of the savings for so many family businesses just love to reinvest, reinvest, reinvest. So we teach them the discipline of firstly, take the cash out. And then once we’ve convinced them to take some of the cash out, to build sort of a passive wealth around them. Part of that setting themselves financially free and taking the stress out of the business, is how do we do that? And so there’s the complexity around what’s the most tax effective way to get it out of either the PTO or limited company, the unit trust the family trust, whatever it is. So we work very closely with their accountants to minimize tax leakage on the on the way through, and then where does it end up. So where does that cash end up doesn’t end up in their hands in another family trust in a company what Superfund and so once we’ve worked the plumbing out and locked the plumbing down, then we just focus on continuing to pull the cash through that. So most of the family businesses we’re looking at, are quite profitable. And it’s showing quite a strong profit. So there’ll be drawing out and living their lifestyle, so we don’t get in there and really change their lifestyle too much. If there’s excess cash that says disappearing in the lifestyles not really improving, we’ll capture that. We won’t change their lifestyle over that lesson. And there’ll be funding that lifestyle, either through salaries, directors, fees, dividends, that we’d sort of leave alone, there is an art to whether it comes out of salaries or dividends and all of that, but that’s more in the accounting space. Once the lifestyle has been fully funded, that generally gives them the income to do the service the debt with the bank. Now, if there were businesses out there that weren’t sort of pulling salaries, then yes, those individuals would probably struggle. But that typically hasn’t been hasn’t been our client base,

Vince Scully
that intergenerational moving from mom and dad retiring to one or more of the kids coming in to take over or bringing in professional management at that point, creates a need for a change in mindset to move from, this is probably not the words that your client base will use. But when I told my client base, we talked about moving from accumulation, where you’re thinking, spending bad saving good to retirement, where you’ve got to get into the actually spinning good, just not too much. And to accept that you will erode some of the capital of your remaining retirement life. That creates a bunch of challenges in business where the business may have a continuing appetite for capital, and how you balance that income for the retiring generation with the income for the younger generation.

Michael Bova
You know, having having the matriarch there, or the patriarch, they’re putting a plan in place for the next generation. So there there is a bit of inequity built, making sure to your point that mum and dad are still looked after financially because sometimes they might want to gift it down, but maybe they need the assets to sort of support them, we see that a little bit more in the farming space is a little bit more of a the generation that comes up and through onto the farm can be quite concessional in terms of accumulating the assets. So yeah, we’re working in all of that space. So there’s definitely an added layer of complexity to make sure that the succession plan works for both mum and dad and the and the generation coming through superannuation as a home. Really ticks so many boxes, asset protection, really, really strong. Tax benefits of super pretty hard to beat. Tax in retirement is great. Peter Costello Yeah, so So super is a bit of a no brainer. Also, in terms of getting money out of the business, we talked about the complexity of getting money out, getting money out and into super art on the on the deductible side is really cleaned. Yep, very clean. So that’s really efficient. Getting the non concessional is in is a little bit more complex because conditions only 27 and a half a year. Yeah, unfortunately, maybe with this inflation running as hard as it is I might we might get a bump next year. So there’s a small amount we can stream out that way. So superannuation as a home definitely is, is really good as a tool. For the younger generation, the liquidity issues around it are obviously a major concern. So if you’ve got a plan to buy a home and a car and whatever’s happening there, it’s probably not something you’ll accelerate to a bit later. But for those sort of 4550 onwards, it’s definitely ticks a lot of boxes. Once the super pot tends to be full, or if you’re hitting a concessional limits, and you can’t get more in every year. That’s when we start to see the fallback strategies of either as you mentioned, some people use a bucket company. There’s the disadvantages there. I mean, obviously, I’m not allowed to give tax advice, but the disadvantages in the PT Unlimited is you don’t get the CGT discount. And then once you start to pull the money out, you potentially have top up tax. On top of that. family trusts are really good. Take a lot of time offices around asset protection, flexibility in terms of streaming, both income and capital. So they’re a great intergenerational tool as well. And they do get the discretionary family trusts get the benefit of the CGT discount, which is really, really good. The challenge with the family trust is that the income has to be distributed every year, otherwise, they get taxed at a pretty nasty tax rate. So they need to find a home for it. And that’s where the bucket companies typically come in. Because if the marginal is at 47, then you can stream it into a company at 39. Yeah, so you’re saving yourself some tax that way. But the problem is, it’s a temporary, it’s a timing issue, because you’re just parking it, you’re deferring tax. And then when you rip the money back out, you’ve got the top up tax, and you haven’t really achieved much. And there’s no CGT discount in there. So the back of companies always typically tended to create challenges, because then people will raid the company create these divisions, seven, eight loans, and they’re already kicking it further down the road. And then the ATA one interest back on that loan. And it just gets very complicated. What it’s creating is a temporary, nebulous around, where’s the cash? So when we talk about cash flow sits at the heart, what we want to know for our clients is what is the cash after all tax, after all these complications that is available for lifestyle, like real money, go and spend? What is the cash that’s available for your next holiday home? Or whatever it is? Okay, great. We’ve got that provision for and where is the cash for long term wealth building. And the problem with the dip seminars, and some of those strategies is people’s robbing Peter to pay Paul, and there’s money going over here. And it’s money that’s got to go back into the company at some point and which which part of that cash flow is so

Vince Scully
and keeping track of it is, yeah, it’s a mental challenge that I found a lot of, not a lot of clients are actually up to keeping their head around that. And that is the big shift you get between real cash and what I’m eventually going to have to give the taxman on this becomes a

Michael Bova
Yeah, and that tax bill, if it’s in the mail and coming, that’s what that’s what annoys clients. So what we, we take a lot of that tax pain away. One, obviously, we work with great tax advisers to make sure that tax is minimized. But even when we know the tax is coming, because you can’t avoid tax, it’s as part of society. If you provision for the tax properly, and you park the cash, you can still run a treasury function, get a good return on it. But if you’ve got the cash, when the tax bill comes, you don’t really hate taxes much. It’s when the tax bill comes and you’ve spent the money on lifestyle, that’s when you start to go. I hate taxes, taxes. So so the bucket company is a good temporary solution, it typically used to be used a lot. A lot of accounts would tend to stream that, that, that income from the trust up to the trustee company as the backup company or even a separate market company.

Vince Scully
The CGT was an absolute winner of a strategy. Yeah, procedure

Michael Bova
to date, our good days. And then so what we’re looking for is Okay, so what’s another strategy? So one thing we’re seeing some of the accountants do his bucket companies are becoming more functional. So instead of a, just a timing issue, potentially become a more of a permanent issue. So if you sort of build up wealth within the company, which you use to fund you in retirement, you haven’t got any other assessable income. So when you start to pull some of those fully Frank dividends out in retirement without any other assessable income, then you’re avoiding the top tax. So in that case, it could actually be a permanent tax savings between that 30% and 47. But that’s, if you’re in a point where that makes sense. And you’re super small. So if you’ve got a full super, you’ve capped out your super, and you might sort of draw on your backup company first and then start to draw on your tax free super, potentially, that might be a solution. But another solution that we found in terms of what to do with that distributed income in the family trust is using something like an insurance bond or an investment fund.

Vince Scully
So how are you using those.

Michael Bova
So if you’ve got the capital in the family trust, let’s say you’ve got, let’s just pick pick a number, let’s say you’ve got a million dollars sitting in a family trust,

Vince Scully
if you trust corpus

Michael Bova
corpus, so if you’ve got a capital that’s in there, you can either invest it directly in the family trust, it’ll generate that income, and that income has to be streamed somewhere. So they’ve got to distribute that to a beneficiary every year. Alternatively, you can put the million dollars into an investment bond that the family trust owns, and the income generated from that investment will be held within the bond structure, a tax will be paid within the bond structure, and it never comes back out to the family trust. So the family trust, the trustee of the family trust hasn’t got that issue at the end of the year. In terms of okay, who do I stream this income to? How do we minimize the tax because there’s nothing streaming through. So if you have the ability to stream income to people, or entities at less than 30% tax, there may be an investment fund doesn’t make sense. But if you’re streaming income through to beneficiaries who are paying more than 30%, and this is a great way to park that cash, you’re not getting the income you need to distribute. And it’s sitting in that that nice protected environment.

Vince Scully
And it’s interesting to talk about streaming income. I mean, one of the things that I talked to a lot of my peers about with adult children at uni and go Well, you got a choice. You can pay 39% of it to the tax off This will give 100% of it to your kids, which you want to do.

Michael Bova
And that’s really interesting because they used to distribute it and probably still do income to the children, and then had the children give them the money back. And now section 108 of the Tax Act has now, it’s always been there. But now they’re shining a light on it saying, if that cash doesn’t stay with the child, and it’s not actually used for the child, then we don’t see that as an actual distribution. And so, so that’s putting a lot of pressure now on some of those trusty distributions come year end. So

Vince Scully
how much do you love your adult children?

Michael Bova
Probably a bit easier if they’re at uni or school, and you can probably justify that the distribution was used to fund their actual education expenses. But without that, yeah, the gift back through love and affection, I think that’s it’s getting more problematic.

Vince Scully
So getting back to the investment bond in the trust funds. So when you’re saying that we take trust corpus, and we invested in investment insurance bond, whatever we call them, these days, we’re friendly society bonds, and that corpus stays in the investment bond, potentially forever, great. And the income never turns up on the trust’s net trust encounter. And even if we do cash it in post eu 10, we don’t have any taxable income in the trust.

Michael Bova
That’s right. So if you hold it through the 10 year rule, and you pull the income back in to the trust, you haven’t got that sort of any potential top up tax issues. So I guess a couple of advantages of doing it. One is it stops the income having to be distributed when you’ve got beneficiaries about 30% tax. So that’s a good way, some of the bonds, so we tend to use generation life. And they use some tax optimized strategies within the bonds. So the bond will pay a top tax rate of 30%. And if you pull the money out before the 10 year rule, you get a 30% credit. So it’s not like it’s wasted tax

Vince Scully
is a non refundable offset. Yes. So you need income to cover it.

Michael Bova
And so you’re paying tax in the bond at 30%. But you can run a tax optimize mandate within there and generation life tend to do quite some good ones in there. And so your tax rate may come down to as low as 20% 15%. Probably even lower than that with some of their really tax optimized strategies. But if you can now start to get your tax rate down to let’s call it 20%. That tax differential between what was ultimately the beneficiary and staying in the bond is starting to make a lot of sense. And then after 10 years, if you pull the money back, you haven’t got any of those potential top up tax issues.

Vince Scully
So we got to trust owning the bond. What about the insured life? Yeah,

Michael Bova
so the insured life is still a function of the bond. So you can nominate who is the person that’s going to be insured, you don’t have to have an insurable interest. So it could be anybody. Normally, once you set up within the family trust structure, so if we’re doing an investment bond, for an individual will always name a beneficiary. And we might use them as a bit of a de facto family trust or as the de facto testamentary trust, because you can have a future transfer event. And let’s say it’s to go to a minor beneficiary and you don’t want them to have the capital until they’re 25. You put that as the future transfer event when mom or dad pass. So that’s nice and clean. Once the bond is owned by the family trust, you lose the future transfer event capability functionality in the bond, because the capital has to go back to the family trust, you can’t stream it to someone that wasn’t a family trust. But you can sort of a death beneficiary. Yeah. So let’s say you nominated Joe Bloggs, as the life insured with the bond owned by the family trust, if Joe Bloggs passed, the bond would then pay that capital back into the family trust. But what you would normally do is you would have say two or three life insured on the on the policy within the family trust. So if one of them passes, it goes tax free, but you’re not forced to cash that bond in and you can either pull that capital back, or he just gives you that sort of flexibility so that it doesn’t totally collapse.

Vince Scully
So just just tease that out for the moment. You’re saying that the death of one of the nominated beneficiaries, the factory accelerates the 10 year rule for the entire value of the bond. Correct. That’s an interesting thought. So in the context of a family trust, that point, we’ve accelerated the 10 year rule. So all my income is now tax free or tax paid. But I don’t have the obligation to cash it in until the final

Michael Bova
three more lights. Yeah, you’ve got a cascading strategy there. So So yeah, you might have an elderly grandparent on there as one of the few in terms of trying to go to the tax free a bit earlier. So that gives you the flexibility, you lose some of that future event functionality once you go into the family trust. So as I said, if you own it individually, you can really say, right, well, when my child is 25, they can have access to $50,000 a year and when they’re 35, they can have the whole thing. So it’s a great estate planning tool. In the family trust you do give up a bit of that. But as I mentioned, there’s always those strategies we can put in place that sort of can at least give you some flexibility. So the trustee of the trust upon that passing can either pull the capital back, leave it there

Vince Scully
and I’m presuming even when the capital does go back to the trust, you could still do a distribution of Corpus to a beneficiary, assuming your trust deed allows you to correct. So you don’t really lose access to the capital,

Michael Bova
and you can stream it to them, they might even go set up an individual one, you can always transfer ownership of the bond. And anytime there’s no real taxing event, obviously, a family trust, selling corpus across to somebody else is probably a taxing event at the family trust level. But at the investment bond level, you can transfer ownership of an investment bond without triggering any tax inside the bonds. So

Vince Scully
so your strategy is really to say, if I transfer this amount of trust capital into a bond, I take that income out of the trust the nitrous to stay within the trust income. And I don’t have to report it until I actually receive it. And if I receive it post year 10, it’s a non taxable receipt. So my trust corpus has gone up. But I haven’t actually had to pay tax on that increment, other than those tax been paid inside the bond along the way. So as long as that’s less than the beneficiary who would have otherwise had it streamed, then I’m it I’m hated. Absolutely, because I’ve got all those other benefits along the way. But

Michael Bova
generally, the higher you go up in the families with a net worth the you tend to cap out the adult beneficiaries over 18, who aren’t really working, and you used to be able to stream and now we’ve got section 108 to deal with. So used to have those, then you had the bucket company, then that sort of cap, you’re at 30% here. So if you had flexibility to stream and get distributions to beneficiaries less than 30%, then this strategy really probably doesn’t make a lot of sense. But once that’s all capped out, this makes sense from definitely from a tax savings point of view. But also just control of the Capitol. And having an inside the family trust probably just gives you that added layer of flexibility and protection. I mean, you can own the bond as an individual and still have great asset protection. What you lose is the ability that when you pass away, you can nominate who the beneficiaries are. So that’s kind of a bit like a family trust in that you can sort of make some decisions around that. But the great thing about a family trust is once the capital comes back into the family trust, you’ve got that full flexibility in terms of at that time, who do you want to distribute it to?

Vince Scully
So I guess that’s the distinction between distributing the corpus to an individual and having the individual buy the bond, or the trust itself buying the bond. And that really comes down to what you want to do in the future, presumably, and asset protection? Is that the analysis?

Michael Bova
Yeah, so part of its tax, but I think also part of it is that sort of estate planning, and how is it you want to transfer wealth through to that next generation. And that’s quite important, because if you burden quite a young person with a significant amount of wealth, whilst they’ll probably think it’s Christmas, you’ll most likely destroy their life skills, they’ll normally blow the capital, because they’re not used to managing it, they’ll live a lifestyle well beyond what they can afford, they’ll attract friends that aren’t really friends. And over 10 year period, the capital will probably deplete, they hadn’t built the life skills that most of us would build through that period. And they’re normally in a worse position. So you want to put some tools in place that will let them step up at a sort of a trustee level, see how the capital is managed and go, Oh, well, if I can just keep this capital there, look at all the income it throws out every year. And then after a period of time, they become better managers of the family capital, and they see themselves more of the custodian to then pass it through to their next generation, as opposed to getting it too young without the education or getting it too young without the education and it normally sort of disappears. So for us, we use bonds and a whole range of things. But in terms of the family trust, one of the advantages is obviously that that tax advantage of not having the beneficiaries at 30%. At the individual level, they open up all sorts of great and wonderful strategies, as we talked about. They’re a great sort of savings vehicle for education. So a child is born, we always make sure our clients put a little bit of side memory controlling that cash flow. And so by the time they’re private education, if they are going to do private education, it’s all fully funded. And they’re pulling it out after the 10 year, so there’s no tax to pay on the money that’s coming out, fully funded, private education, fingers crossed, we got the cash flow working, consolidated revenue funds, private education in the bond keeps rolling, and then it becomes a deposit into property for the child when they’re 2025. And the way that property prices are going, that’s probably a better outcome. So that’s just a

Vince Scully
teaser from home. So that’s effectively saying when my child’s want, I take some cash flow out of the business or out of the family trust or elsewhere out of their family and set it aside. Or over the 10 years potentially, we’re using the 125% rule and use that to fund education, which I guess helps with cash flow too because I only had one boy private school but by the time he was in year 12 It was 34 grand. He You live in grand in your seventh looked? Okay. 34 And you 12 starts to look a bit. Yeah. So

Michael Bova
if you’ve got 50,000, a year, six years 300, and you’ve got three kids, that’s 900. If you’re not provisioning men, we talked about having clarity around all the pots, if you’re not provisioning for that, you’re going to have to find that. So that’s okay, you get to that point, and you’re gonna have to pull that money at that time. But that means maybe you won’t be able to save or pay down debt. So we like to get ahead of it. And we say, okay, that’s the cost that you may incur, why don’t we start provisioning for it and start to build it because they’re normally the early you build it, you get the magic and compound returns, and off we go. So we love that, because it’s just a great savings mechanism, we put it aside, we love the 120 5%, because it’s for savings. So forces them to, if they start at $500 a month, then it goes to 625, or whatever it is, and it just keeps building automatically. And anything that builds savings, we always find clients get better up, because we talked about them living a magnificent life, part of that is pushing them, we find that by starting to pull some money out of the business or some more savings from their salary, they tend to push themselves a little bit more, it just drives it, it almost helps drive the business, see what they’re capable of, and it throws out even more cash, you capture more cash, and it becomes this sort of self fulfilling type thing. So yeah, so on the individual level savings for education that works really, really well. Anything beyond a 10 year horizon, the tax rules within those bonds works absolutely fabulously. And as we mentioned, it’s also got those benefits from an estate planning point of view. So we’ll normally do quite work with a family solicitor and their accountant in terms of quite complex estate planning, because there’s normally Family Trust, self managed super funds, individuals, the whole works. So the transferring of that through to the next generation, you want to make sure you get in, right, because as we talked about, otherwise, it might be a bit detrimental, you leave behind

Vince Scully
some big CGT problems for the second generation.

Michael Bova
So whilst we don’t have death duties, there’s definitely some hidden taxes. And as you’d be aware, the superannuation has some pretty hidden taxes in there as well. So you want to get their whole estate planning, really well marked

Vince Scully
as that you’ve got to die before kids turned 25.

Michael Bova
And so managing all of that is really important. And it’s just the bonds just give you some flexibility, that one, there’s some good asset protection and tax while you’re alive. But they can also just dovetail really nicely into quite a broad estate planning strategy. So we will, because we strategy based, we love anything that gives us great strategy. We love it from the forced savings 25% increase every year, we love it from the asset protection, the estate planning, it really does take a lot of boxes, and they’re starting to get more fun flow into them with binding. And so just like everything, the more fun that flows into them, the more efficient they become, the more options are available in there. And it just sort of stands to

Vince Scully
show with those child almost call a child endowment the way you’re setting them up for education, plus potentially home deposit. How do you set those up to eat? Do you have the child as the

Michael Bova
so the generation might have had to, they had a child build a bond, and then they had been on the child build the bond matures at 25. So you’ve got full control of it. But if the child gets to 25, then they take ownership of the bond and off they go. Now, because you’ve got the future transfer event, you don’t really need the child build the bond, you can just put the future transfer event at 2025. So within the bond, you’ll have the life insurance, and then you’ll have the nominated beneficiary, so the last insured will be the child. So the life insurance normally the parents, you can nominate your grandparents if you’d like if you if you want to try and trigger the next day, but normally we’ve seen it, it’s the parents and and then if one parent dies, the bond keeps going. If both parents died, then it reverts through to the child that you’d normally have a future transfer event. It’s sort of 18 and 25. So the child would normally be the beneficiary and the parents would normally be the life insurance. And with the

Vince Scully
adventure that then is the income until the child turns 18 is sheltered from the excess tax for minors, and they receive the money without triggering a tax event at the time. Yeah, and in the meantime, it’s not assets of the parent, for asset protection purposes.

Michael Bova
It’s really and from a from a control point of view, the parents still have full access to that money. So whilst it’s there, and the aim is to be to fund the children’s education, or eventually maybe to give to the children say at age 25, up until the 25th, you know, the child’s 24 and 11 months and whatever 29 days, the parents can pull that money back to themselves anytime they want. So it gives gives them the the advantage of the strategy and the tax of the asset protection but with the flexibility that if they need money from a liquidity point of view, because I don’t know about you, but I know that if our families have financial stress comes from lack of liquidity. So we can have a 20 or $30 million family. If it’s all tied up in capital that’s not liquid, they will feel financial stress. So we’re always being on and part of that part of the reason why the funds grown so quickly is we always make sure they have liquidity pots. So either portfolio assets that can be liquidated really quick. That has its own complication because they can be liquidated quick and you’ve got to be able to manage volatility, particularly for family business clients who are used to cash and property. To them that’s, that’s nice and stable because they don’t, it’s not priced on a daily basis the property. So it seems really nice and stable.

Vince Scully
Although as I keep reminding our members that just because you stopped measuring it everyday doesn’t mean it goes away. So with those challenges, you taking the money out of the family trusts, so it’s non trust money that’s used

Michael Bova
for the child builder bonds. Traditionally, from from when we’re advising families, that’s money that’s outside of the whole structure. So it’s either come to them as a salary as a dividend or some sort of income that’s comes in. So we’re normally pick up the after tax cash, and use that as instead of sort of going into the lifestyle because we’ve got lifestyle fully funded. This is leftover. And it goes into into that. Well.

Vince Scully
Michael Bova, thank you very much for joining us at the X Y podcast. That was Michael Bova from family wealth advisory in Sydney from what both layers and Michael have shared from their experience. I think that it’s clear that innovation is alive and well and financial services and nowhere more so than in advisors helping a diverse range of clients with their investment and income stream offerings. When we return to the next episode, I’ll be chatting to grant Hackett and Philippe Peruzzo from our sponsor Gen life. To learn more about how their investment bond and annuity products can fit into your practice and how they can help you quickly gain the knowledge to effectively use these products with your clients. I’m Vin Scully, and you’ve been listening to the X Y advisor podcast. Till next time, bye for now.