NSW 12 th ANNUAL ESTATE & BUSINESS SUCCESSION PLANNING

Transcription

1 NSW 12 th ANNUAL ESTATE & BUSINESS SUCCESSION PLANNING Retirement Living getting the best for your clients Part 1 the landscape Written & presented by: Scott McGill Partner Moore Stephens Sydney From 1 November 2015: Pitcher Partners NSW NSW Division 5 August 2015 Doltone House Hyde Park Scott McGill 2015 Disclaimer: The material and opinions in this paper are those of the author and not those of The Tax Institute. The Tax Institute did not review the contents of this paper and does not have any view as to its accuracy. The material and opinions in the paper should not be used or treated as professional advice and readers should rely on their own enquiries in making any decisions concerning their own interests.

2 CONTENTS 1 Overview What are we dealing with? The family home Estate Considerations Other Considerations Over 55 s Residential Complexes Not RV s Estate Considerations Other Considerations Retirement Villages Independent Living Units (ILU s) Estate Considerations Other Considerations Serviced Apartments in a Retirement Village Estate Planning Considerations Other Considerations Residential Aged Care Estate Planning Considerations Other Considerations The Operators Perspective Retirement Villages ILUs & Serviced Apartments Aged Care Facilities Scott McGill

3 1 Overview The purpose of this paper is to address the various types of accommodation available for what is now known as retirement living and examine them from the perspective of residents to get an understanding of financial costs and impact on the estate of your client or your client s parents. The sector is constantly evolving with many new offerings coming to market. For the purposes of today however we will look at what considerations you are faced with in the following main categories: The family home & other ordinary residential premises Residential complexes that are restricted to those 55 and over Independent Living Units (ILU s) in a retirement village context Serviced Apartments (for GST purposes) in a retirement village context Approved Aged Care facilities & nursing homes In examining these from a resident and estate planning perspective, it is also useful to understand the financial, funding, commercial and taxation aspects for the provider or operator that you are dealing with. In doing so you may better understand what is being offered and what the overall risks may be. Given the complexities in this sector, the intersection of State and Federal regulation and funding, the coverage will necessarily be at a broad level with some assumptions. However it should provide a base for discussions and question toward the right outcome for your clients. These issues also have an impact on pensions and other entitlements as well as funding options in respect of residential aged care from 1 July 2014 that Louise Biti will cover in more detail in presentation to follow this one. Scott McGill

4 2 What are we dealing with? 2.1 The family home A traditional choice in retirement has always been to remain in the family home/apartment/villa for as long as possible. There are a range of support services to this choice that are well developed to provide transport, community social events, meals, care and medical services to aged, needy and disabled persons. The providers in this are diverse, ranging from charities, community groups, specialist providers, hospitals, local and state government/s. It is not proposed to go into these in detail, suffice to say that the only limit to the care and services you may obtain is cost and your ability to meet those costs. Many services, but particularly home care, are subsidised by the NSW Government through Family & Community Services Ageing, Disability & Home Care or the Commonwealth through the Department of Community Services Ageing & Aged Care Access to services is usually needs and/or means tested Estate Considerations Apart from the ordinary considerations for any estate in regard to assets, ownership of the home, pension entitlements and who the beneficiaries are to the estate, this is perhaps the most simple scenario. The home ownership remains and subject to the costs of care and the impacts of those costs on the estate, nothing extraordinary arises. Unless a reverse mortgage or similar was entered into to fund the services, the property and the passing of this through the estate on death should not be otherwise impacted Other Considerations The home may be disposed of, leased, mortgaged or otherwise dealt with in the ordinary course, both by the owner while living or by the estate. For pension purposes the property, if owned by the pensioner, will be excluded from the assets test. Where the owner goes into approved aged care, the home remains exempt but only for 2 years. 2.2 Over 55 s Residential Complexes Not RV s These should not be confused with Retirement Villages that are governed by the NSW Retirement Villages Act Typically they are a form of title that provides normal ownership via strata, company or freehold title, and as such are largely similar to the family home as set out above. Scott McGill

5 Where they may differ is in the joint facilities offered to residents that may be more resort style on one end of the spectrum or jointly facilitate and share care services on the other. The prospect of a quiet, more secure existence is what may attract many to them. The main consideration would appear to be the costs of joint and additional services. Perhaps included in this category should be the emerging approach of a group of over 55 s pooling resources to acquire or lease long term a larger residence or similar facility to share. Clearly there will be many permeations of this, however the key considerations will need to be: Title and ownership interests Mechanisms of returning any equity interest to the resident on exit or to the estate on death The viability of retaining the friendship group as people age, numbers diminish and the costs increase The ongoing and perhaps increasing shared costs and individual care costs Estate Considerations For all intents and purposes over 55 s complexes, where clear title is held, are largely similar to the family home and can be considered as above. In the writers view, complications are likely to arise on shared houses/facilities regardless of planning Other Considerations As for 2.1 above. 2.3 Retirement Villages Independent Living Units (ILU s) Now things start to get quite a bit more complicated. Retirement Villages in NSW are regulated by the State Government mainly through the Retirement Villages Act 1999 (RV Act). This encompasses Lifestyle resorts, caravan or mobile parks and over 55 villages, where they comprise ILU s for this purpose. For simplicity however we will deal here with a generic ILU within what would have planning approval as a retirement village. ILU s typically track the value of housing in the surrounding areas, whether they are structured as a strata sale or a loan/lease arrangement. For the latter, the components of the purchase price are a nominal lease fee and ingoing contribution in in fact an interest free loan. By way of example, a $500,000 ILU may be structured as a $10,000 non-refundable lease fee plus the contribution on an interest free loan of $490,000. Regardless of this, the RV Act will refer to this as the purchase of your home and provide rights for you or your estate to appoint an independent real estate agent to sell your interest. For this reason the terms sale and value take on somewhat of an artificial and surreal context, but are nonetheless widely used and accepted. Scott McGill

6 The key features of an ILU are typically as follows: It will be within a Retirement Village that is approved for that purpose. As such, things like internal roadways & common areas may be different than what may appear in a normal subdivision/development. There is usually a single entry point for services such as electricity, water and gas and communal facilities typically including meeting, dining, library and recreational aspects. It is worth noting that retirement villages often cannot easily be repurposed and therefore difficult to break up or strata for normal residential purposes. Your right to occupy an ILU may be by strata title (not overly common in NSW), 99-year lease, licence of similar period, or even a straightforward rental arrangement on a shorter periodic basis. The key difference between a 99-year lease and a licence of similar term is that the lease is recorded with Land Titles Office. Focusing on the most common offering in NSW, being the 99-year lease or licence, the occupancy right will comprise the following: Payment of an upfront non-refundable lease fee typically a nominal value up to $10,000. Payment of an ingoing contribution which will equate with the purchase value of the ILU. This contribution will in effect be an interest free loan to the operator, refundable on exit from the ILU. There will also be an obligation to pay or have deducted from your loan on exit an amount of Deferred Management Fees (DMF) or Exit Fees. See comments below. An obligation to pay monthly recurrent charges to the village operator or a related entity. These charges will cover the cost of maintenance of common areas and facilities, provision of common services and the like. This is quite heavily regulated, excludes things such as capital expenditure, and for this exercise should be understood not to be a profit centre for the operator. The accounts must be audited and are open for review by the residents. Often the operator may need to top up these charges and in essence they are run longer term on a breakeven basis. Retirement Villages are quite heavily regulated at a state level as opposed to the Commonwealth who carries the primary responsibility for aged care and funding. It is well beyond the scope of this paper to go into detail on the many facets of Retirement Village regulation in NSW, however a great summary of the key issues and the reforms effective 2010 can be found through NSW Fair Trading see o_retirement_village_laws.page It is worth noting at this point, that although leases/licenses to occupy may typically be for 99 years, they will generally have no prospect of running for that time as they invariably terminate on exit of the resident. Scott McGill

7 Exit fees or DMF arrangements vary from village to village and include a fee charged as a % of the value of the ILU, either the entry value or the exit value (to the next person). Most also include a share of capital gain which for all practical purposes is simply a reduction in the DMF otherwise payable. This is very much market driven, however the following is a guide as to what you might expect and consider: Most will have DMF/Exit fees that start low and step up in increments to a maximum level within 10 years. Other variations exist. I have seen examples of that maximum DMF level at between 28% and 36% of the value of the ILU. That value may be the value on entry that you pay or the value your ILU is sold for to the next occupier. On the assumption that the value of the ILU may increase over the life of the resident, the capital gain may be shared with the resident/their estate this arrangement can vary from 100% to the operator, through 50/50 to 100% to the resident. When the refund of the ingoing contribution will be made to the resident or their estate after exit. Most leases will provide that the payment will not occur until a new resident is obtained, subject to a sunset clause that may be up to 5 years, depending on the age of the lease. In comparing villages it is important to clearly understand and assess the key factors of entry price, exit value, percentage DMF charged and whether it is on entry or exit value and what share of capital gain you may be credited with. You may also wish to consider what the real prospects of a capital gain may or may not be. As noted however, it is really the final figure that is deducted from the ingoing contribution or loan that is critical. This is what impacts what is left to the estate. Example To give this context let s take the example above of a $500,000 ILU, split into $10,000 lease fee and $490,000 ingoing contribution. We will add the following data: i. DMF or exit fees are calculated at 5% per annum cumulative up to a maximum of 30% after 6 years. ii. iii. The DMF is calculated on the entry value. The operator will repay the ingoing contribution at the earlier of 6 months or securing another resident. iv. The capital gain however is shared 75% operator and 25% to the resident. Let s assume the resident remains for 8 years and the value of the ILU is $600,000 at that time. The entitlement would be calculated as the ingoing contribution of $490,000 less the DMF due of 30% of the $500,000 or $150,000 reduced by the share of capital gain of $25,000. The total exit fee is accordingly $125,000, leaving $365,000 to return to the estate. Scott McGill

8 As a comparison, what would happen if the DMF was 3.5% per annum up to 10 years, then capped at 35%, based on exit value, however the resident receives 75% of the capital gain. Lets call that example 2. Example 3 may be as for the first example, however DMF is based on exit value and 100% of the capital gain goes to the resident. If we were to compare side by side: Components Example 1 Example 2 Example 3 Ingoing contribution 490, , ,000 Less: Exit Fee (150,000) (168,000) (210,000) Add: Share Capital Gain 25,000 75, ,000 Net Repayment to Estate 365, , ,000 DMF Cost 125,000 93, ,000 Although this is a relatively straightforward calculation, the risk factor is in regard to the capital gain. Recent market trends have been toward giving up to 100% of gain to the resident, perhaps the tradeoff being higher base DMF. This appears to be off the back of the Sydney real estate boom, and may or may not be sustainable. It is possible that values may not move during the term of residence in the village and this should be considered. The total costs over 8 years? This is a bit rough and ready, but you are looking at the following over 8 years under Example 1: Lease Fee 10,000 Net DMF 125,000 Interest Free Loan 2.5% pa compound 107,000 Monthly Recurrent Charges say $1kpm 96,000 Total 8 years 338,000 Per Annum 42,250 Per Week It is a question for each potential resident, and indeed usually their family also, as to whether this cost represents value to provide accommodation, community and access to services many of which are like holiday resorts, for them to spend their retirement living years. The examples above are illustrative and it s fair to say that the sector is constantly moving in terms of the offering and structure of financial arrangements. Some of this is driven by the extraordinarily complex tax and regulatory requirements, and some by customer needs and demand. Scott McGill

9 Strata style villages, although a distinctly different arrangement may end up largely similar in terms of overall cost as they will also have monthly recurrent charges for village facilities, services and maintenance as well as a DMF or exit fee. The key will be to understand the overall costs and risks Estate Considerations From the rough analysis above it is clear that the following factors will impact the estate in a lease/licence ILU.: The amount of the ingoing contribution impacting the opportunity cost of the interest free loan as well as the calculation of the DMF on exit. The monthly costs of being resident in a particular village. Those villages with more resort & lifestyle facilities have greater running and maintenance costs that impact these charges. The period that monthly recurrent charges will be payable after exit. The terms of the lease/licence, loan agreement and DMF or exit fee calculation. The timing and risks of delay in the repayment of the balance of the ingoing contribution. Ultimately you need to consider not only what cash burn rate may be expected and what the ultimate return of capital might be, which will form part of the estate. Given that the lease/licence arrangements terminate on exit, it should be understood that the property interest itself cannot be passed through the estate. In reality strata villages may not be much different to this given the restrictions to residents over Other Considerations Provided the ingoing contribution exceeds the current threshold or allowable amount of $146,500, the interest free loan will not count toward the assets test for pension purposes, similar to the family home. Consideration must also be given to what might happen if the resident or one resident out of a couple needs to leave the ILU to go into Aged Care. In an ideal world, the repayment of the ingoing contribution would be released and could be applied as an accommodation bond in an approved residential aged care facility (RACF). The world is not always however ideal, and this is perhaps particularly so where the RACF is not within your village. My experience is that villages with co-located RACF will come to a practical arrangement to make this work particularly where one of a couple requires care and the other does not. This may not be so simple where the resident goes to an external facility and there are delays on the repayment. Scott McGill

10 2.4 Serviced Apartments in a Retirement Village These are somewhat of an anomaly driven primarily by GST considerations. The definition of serviced apartment in A New Tax System (Goods & Services Tax) Act 1999 (GST Act) applies only for that Act and only in a retirement village context to make the supply of accommodation in such apartments GST-free. Apart from the additional physical characteristics and required services to meet that definition, they are ordinarily provided on a lease/licence basis similar to ILU s detailed above. In simple terms the key requirements for this definition are as follows: Part of a complex of similar apartments, joined by a common corridor Provision of daily meals under an agreement and communal dining facilities also joined by that common corridor Only limited kitchen facilities (microwave, kettle, refrigerator) Provision of heavy laundry services (linen, towels etc) 24 hour on-call nursing staff available Certification by Doctor that the resident requires certain care services, the most common of which will be daily living assistance under the aged care definitions. You may expect that the cost of these services will result in higher monthly charges to the resident. This will be offset in part by the preferential GST treatment available to the operator of the village. However this will be more relevant on new facilities where high capital expenditure and GST recovery will result Estate Planning Considerations These are as for ILU s detailed above apart from quantifying and understanding the additional likely costs and cash burn rate impact on the estate Other Considerations This offering sits squarely between ILU s and RACF which are another step up. They can be an ideal offering to single residents not capable or willing to cook or clean any longer. The key question will always be how long the resident might practically stay in a serviced apartment and what might occur on moving to RACF. Once again, facilities within the one complex will ordinarily provide more practical and cost effective solutions in this regard. Considerations are otherwise as noted above for ILU s. 2.5 Residential Aged Care Residential aged care is a markedly different offering to a retirement village and in particular ILU s. For one it is largely regulated and funded by the Commonwealth. The requirements of providers of residential aged care are onerous and the accounts must be audited annually and provided to the Scott McGill

11 Department of Social Services. Funding to operators depends initially on the existence of aged care bed licences, which will dictate how many places they are able to offer. Previously classified as either high care or low care most licences now are capable of both and there have been significant reforms around funding and models for residents in the sector. The fundamental metrics behind funding however remain linked to the classification of the resident and the level of care that they require, with daily care fees increasing with the level of care required. Prior to 1 July 2014, access to an aged care place was broadly by accommodation bond in essence an interest free loan to the operator to secure your place. Bonds were generally payable for low care places, but not for high care, although the bond would remain if you moved from low to high. Entry however remains dependent on a threshold Aged Care Assessment Team (ACAT) needs analysis. They are in essence the gatekeeper. The system is perhaps far more complex, but also far more flexible now and good summaries can be provided by some of the major players in the sector. The Australian Unity summary is useful go to - select Aged care Maze. I have attached a copy of that to this paper for reference, however the following presentation from Louise Biti will go into these aspects in greater detail. In short the costs need to be broken into two distinct parts: 1. The Accommodation Payment This may now be done via an accommodation bond, now known as a Refundable Accommodation Deposit (or RAD) or a Daily Accommodation Payment (or DAP) which is in essence interest on that same amount. It can also be done by a combination of both. There are multiple considerations in selecting this that impact: Assets and income tests Impacts on pension Whether or not to retain the family home Other investments held It is very complex and requires a case by case financial advice by professionals as it is now well beyond the capability of most retirees and also their accountants. 2. Daily Care Fees Again this is complex, however there is a Basic Amount which equates to 85% of the Aged Pension amount plus a means tested amount (less $50 max supplement) to which caps apply. The income test and assets test apply in a formula to provide the daily amount, which is then added to the basic amount. The excess over this will need to be paid by the resident. A key difference occurs in how the family home is assessed: Under RAD the family home is assessed at market value Under DAP the home is assessed to a maximum of $144,500 Scott McGill

12 There are certainly now circumstances where retention of the family home and leasing this out provide a better outcome. This must however be assessed against the treatment of the home for pension purposes. The family home will remain outside the asset assessment for pension purpose for up to two years from entry into care. It is then assessed and included Estate Planning Considerations Any RAD (or accommodation bond in the old parlance) will be refundable to the estate of death, less only fairly nominal permitted charges. It accordingly forms part of the estate like any other financial asset. Recognition must of course be had of the interest free nature of this asset and that it will not provide a return during the period. This combined with an full understanding of the out of pocket costs of the care, will allow you to assess cash burn and what may remain in the estate Other Considerations Perhaps way too complex for the scope of this paper, but will be addressed by Louise Biti as noted. Key will be assessment of the position on a family home if one is held by the resident. It is not as clear cut perhaps as it may have been in the past, given funding may be met by a DAP rather than having to sell the home to provide required capital for the bond. Care should also be taken on the difference in assessment of the family home between daily care fees and pension entitlements Scott McGill

13 3 The Operators Perspective I will address the perspective of retirement villages and aged care in this segment. A brief overview is provided below on which I will happily expand on and discuss in the presentation as required. Although retirement villages and aged care are seen as too expensive and perhaps less kindly than that, an understanding of what is dealt with by operators may go some way to moderating those views. 3.1 Retirement Villages ILUs & Serviced Apartments There is no doubt that the construction of new retirement villages is a highly capital intensive exercise that carries some degree of risk and often has a significant lead time in producing income on that investment. This is overlaid by relatively complex tax treatment from income tax, GST and Stamp Duty perspectives that require some care and attention. It is not perhaps an adventure in trade that one should enter lightly or without a solid knowledge of the industry and secured funding to meet the capital costs. I will focus on perhaps a typical example in the 99-year lease/resident loan category rather than a strata development, which is perhaps a more straightforward development. A typical village may have the following characteristics: a. A parcel of suitable land on which to construct a facilities encompassing 150 ILU s together with communal facilities including a clubhouse, library, pool, gymnasium and café. Let s assume a cost of that land for this example as $4m b. Construction costs of the 150 ILU s, clubhouse, common areas, and offices/reception for the operator of $44m including GST. c. Rolling bank facilities of $15m are secured, which covers the initial land purchase and leaves $9m to construct the initial stage/s. d. Planning/approval requires a clubhouse and communal facilities to be in place for the first residents, so one ILU will be allocated for that purpose until the full clubhouse can be built. e. It is expected that the ILU s will sell for an average of $320,000 which will be split into an upfront lease fee of $10,000 and an ingoing contribution (loan) of $310,000. f. Constriction of Stage 1 commences immediately and will comprise 31 ILU s, one of which will be the temporary clubhouse. g. On completion of Stage 1, the existing residents and prospective residents for Stage 2 are demanding construction of the clubhouse and communal facilities. The cost of this will be $4m. Scott McGill

14 So what does that give us? If we look at the overall feasibility of the village, it is as follows: Receipts: Lease Fees: 150 x 10,000 1,500,000 Ingoing Contributions: 150 x $310,000 46,500,000 Total Receipts 48,000,000 Less outgoings: Land 4,000,000 Construction 44,000,000 Consultants, initial marketing, feasibility costs, accounting & tax advice, legals, including resident contracts etc, say 1,000,000 Total Outgoings 49,000,000 Notional Developer Profit/(Loss) (1,000,000) As the advisor to this operator, you tell your client that this is a little close to the wind and they really need to either cut costs or secure higher values for the ILU s. The client advises: We can push the ILU values to $350,000 for the bank It will be OK as these things always go up and one day they will make lots of money The revised feasibility then becomes: Receipts: Lease Fees: 150 x 10,000 1,500,000 Ingoing Contributions: 150 x $340,000 51,000,000 Total Receipts 52,500,000 Less outgoings: Land 4,000,000 Construction 44,000,000 Consultants, initial marketing, feasibility costs, accounting & tax 1,000,000 advice, legals, including resident contracts etc, say Total Outgoings 49,000,000 Notional Developer Profit/(Loss) 3,500,000 You observe that this is perhaps not a lot over the life of the project which will take 5 years to complete, but they are sure it will be great. Is interest included? Sorry, we forgot about that, but we are sure we can manage the facility at an overage of $10m through the stages and we have funding at 6.5%... That would be $650,000 per annum over 5 years or $3,250,000, effectively removing most on the notional profit. Which they can live with as it will make money in the future and it s a long term investment. Scott McGill

15 Additional complications are however encountered at the end of Stage 1. $320,000 was the going ILU rate for that Stage and numbers are as follows: Stage 1 Results Receipts: Lease Fees: 30 x 10, ,000 Ingoing Contributions: 30 x $310,000 9,300,000 Total Receipts 9,600,000 Less outgoings: Construction 31 x 267,000 8,277,000 Consultants, initial marketing, feasibility costs, accounting & tax advice, legals, including resident contracts etc, say so far 750,000 Interest on $4m + average $ 7m 715,000 Total Outgoings 9,742,000 Notional Developer Profit/(Loss) Ignoring Land (142,00) Stage 2 is likely to have similar cost and receipt metrics, however an additional $4m is to be sunk into the communal facilities, from which no direct return will result. The operator gets through this, and the village ends up being very popular with locals, the average age of whom is 65 on entry. They are however particularly healthy and there are no departures from the village for the first seven years.. What does all this mean? I think the point to be made is that retirement villages are highly capital intensive, and depending on the surrounding market, location and profile of residents may or may not make an initial developer profit. Although this is not really a profit as such as both the construction and the loans sit on the balance sheet if you are to comply with TR 2002/14 Income Tax: taxation of retirement village operators. Yes, they will derive an income from DMF or Exit Fees. That however can take some time to build to a regular income flow and in this example the developer/operator will not receive any of that income until year 7. You may also assume that no profit is made from the recurrent charges, and in fact the developer contributes to the residents funds in the first few years. This is why the industry is not perhaps for the faint hearted or those looking to get in and out with a quick profit. The value of the village, encumbered as it is with long term leases ccan only be assessed by reference to the future income flow from DMF. Where this is somewhat remote, the valuation can be startlingly low. Scott McGill

16 Those that have the tenacity to stay in and can fund this, will however be rewarded and whilst the initial value early in construction may have been nominal and possibly negative, it would be expected that by the time it starts receiving the first DMF in year 7 it will be very march larger by many multiples and ripe for takeover by the larger operators. Choices Newer v older? The question arises as to whether you may get a better deal in an older village as they are more profitable. This should be balance against the quality of the facilities and what you are actually getting into. As a rule however a popular established village will not be cheaper as there is a ready source of new residents willing to pay and the facilities & services should be at optimum. For profit v not for profit? NFP s compete in this space and have competitive advantages in tax. $4M in GST in this example which would be refunded to the NFP, but worn by the for profit operator (all things being equal). The for profit sector addresses this mainly in the higher standard and quality (generally) offerings made. It is however a lifestyle choice and you should not rule out the NFP offerings. Location and suitability will however be the most important drivers for most, and the marker remains competitive for comparative offerings. The real choice in my mind is usually more about, what happens when I am unable to look after myself. In this regard I strongly recommend villages with integrated or co-located aged care facilities of suitable quality. The value of the continuum of care in the same village cannot be underrated. 3.2 Aged Care Facilities Similar to retirement village ILU s aged care facilities are capital intensive to construct and get up and running. The accommodation bonds and now the choice between RAD & DAP are largely directed toward the capital cost of providing and regularly upgrading the required building and facilities. The provision of the care services themselves can perhaps be seen as separate. This is a tight margin, partially government funded business in which good operators can make profit, albeit subject to the ongoing scrutiny of government. Run well, they will similarly develop a surplus over time and perhaps be able to price their RAD and DAP more competitively. My observation is that there is arrange of offerings from profit and NFP providers sufficient to meet the needs of most, and this may not always be the most expensive option. In my view energy is better spent on sourcing a suitable facility and a quality operator to provide that essential care and quality of life. Scott McGill