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Advanced CGT Strategy; How to cull dud investments without selling them

 

Investors, like to win. When any share goes dud, they usually hold it as "it owes them" to recover.

Investors holding loss-making investments need to think about whether it makes sense to sell those assets before June 30 and claim a capital tax deduction on the loss. Month of June is the time to decide to offset capital gains earned during the year with a realization of capital loss.

A capital loss occurs if proceeds of a sale of an investment are less than the cost base - the purchase prices plus other costs associated with the purchase. Any unrealized loss on 30th June is only available to share traders, any unrealized loss cannot offset any capital gain in a self managed superannuation fund, which means that it is possible that a SMSF may be in a net capital loss situation as on 30th June, however will still pay capital gains tax for realized gains.

 

Strategy for realizing capital loss and not diluting exposure

There is a strategy available for investors who own dud shares inside and outside SMSF (such as in their individual name or a discretionary trust) and who want to "stay in the market" as they do not want to liquidate their exposure and lose all chances of recovery.

Under Sec. 66 of SISA, a SMSF is exempted from acquiring listed shares from related entities such as members and discretionary trusts. Conversely, there is no restriction on the SMSF to sell listed shares to members or related parties at market value.

How this strategy works: SMSF sells its dud shares at market value to the member or a related party and instead of receiving cash for those shares, the SMSF will acquire from the member "in-specie" dud shares owned by the member or a related party as payment.

When shares are sold by the SMSF, the SMSF incurs a capital loss and when the member or related party transfers its shares to the SMSF, the member or the related party realizes a capital loss. The two transactions can also be done "off market" with a standard share transfer form.

There are issues with this transaction which can get you into trouble with the Australian Taxation Office when claiming these capital losses. The problem area is so-called wash sales - where the investor sells a loss-making investment before June 30 and then buys the same security later. The ATO considers these transactions as tax avoidance and provisions under Part IVA may apply.

For example, imagine both SMSF and the member purchased CBA shares for $53 and now they are $49. When SMSF sells these shares to the member, it incurs a loss, but when it buys it back from the member or from the market before 30th June or later, the transaction may be considered as a wash-sale.

However, if the member owns another bank share, not CBA, or a non-bank share and that share is transferred from the member as payment for one of the loss making SMSF share, the transactions can not attract Part IVA provisions.

But for this strategy to work, the trustee of the SMSF should be able to demonstrate to the auditor of the fund that the investment by the SMSF is according to its investment strategy and overall the replacement investment is better for the fund.

We recommend that you to take appropriate legal advice before you implement this strategy.

 

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