20 Oct Is it the end for Gift and Loan Backs?
A recent Queensland Supreme Court decision calls into question the effectiveness of gift and loan back arrangement as an asset protection strategy.
What are gift and loan backs?
A gift and loan back is an asset protection strategy which involves transferring assets or rights to another legal entity to protect it from claims from third parties such as potential creditors. We previously wrote a blog on how gift and loan backs could be used to protect the equity in your home- https://neweralaw.com.au/asset-protection-strategies/.
In Re Parmewan No. 2  QSC 114, the Court held that a gift and loan strategy, which was implemented in an attempt to prevent the children of a deceased person from contesting a will, was unenforceable on the basis that it was against public policy.
The case involved a mother entering into a series of transactions which had the desired effect of changing her net asset position of $3 million, into a net liability position of $3 million. In order to achieve this the mother did the following. She gifted $3 million to a discretionary trust via a promissory note. The trust then loaned $3 million back to the mother. The mother than granted the trust a mortgage over real property and a security interest in other property. Importantly, no cash ever changed hands.
At the time the mother passed away, she owned her principal place of residence, her shares and a loan. Pursuant to the mother’s will, her entire estate was bequeathed to her son, or alternatively, to the trust mentioned above. The two daughters who were excluded from the mother’s will were able to convince the Court to remove the son as the executor of the mother’s estate. Shortly after this, the son gained control of the trust and called in the $3 million loan that he claimed was owed by the estate to the trust under the series of transactions described above.
The Court determined that the series of transaction entered into by the mother were essentially a sham arrangement, with the intention of preventing the daughters from making a claim under section 41 of the Succession Act 1981 (Qld). The Court was not prepared to uphold transactions which sought to defeat the application of the Succession Act. The Court relied on settled legal principles which provide that a Court will not uphold contracts which are opposed to public policy. The Court held:
‘The public policy upon which s 41 of the Succession Act is based is “the making of provision for the maintenance of members of a family who are found to be in need of such maintenance when the family tie has been broken by death. That policy is of public, as well as private importance.’
Implications for gift and loan backs
Whilst the circumstances surrounding this case did impact on the Court’s decisions, we believe the Court’s reasoning in this case could be applied to other gift and loan back situations where there is potential for the strategy to be at odds with public policy. For example, where a gift and loan back is deployed to defeat a claim made by a creditor, the arrangement could be set aside on public policy grounds. In addition to this, there are already mechanisms available under the Corporations Act and bankruptcy laws to set aside such transactions.
The Court’s decision does not mean that all prior implemented gift and loan backs are automatically invalid, but it does call into question whether these arrangements could be enforced.
If you have already implemented a gift and loan back arrangement, we can advise you on other asset protection strategy that might be available to you.