Beware of the insolvency pitfalls
Those owning property in negative equity may plan to use the Personal Insolvency Act 2012 to achieve a return to solvency. While the Insolvency Service of Ireland announced last week that this process is delayed until Autumn 2013, those who wish to use the new procedures should be examining the key issues and planning now.
Whether an insolvent borrower selects an informal approach with creditors, bankruptcy or a Personal Insolvency Arrangement, (PIA) the issues to be considered in devising a workable solution are generally the same, and below we have looked at some of the taxation, prior transactions and principal private residence issues.
* Tax traps on sale of properties
Many personal insolvency solutions will involve the disposal of property but some owners tend to assume that tax will not be an issue, given that most properties have fallen in value. Your bank may also be surprised to learn that significant tax liabilities can arise at a time when the borrower has low income and is in deep financial difficulty.
Here are some of the potential tax traps which need to be taken into account when planning a possible disposal of property assets, whether under any personal insolvency arrangement or otherwise.
Property owners who benefited from property incentive tax reliefs such as Rural Renewal, Student Accommodation, Nursing Homes or Section 23, could face a nasty income tax liability in the event of a sale. This arises because tax legislation provides for a claw-back of many property tax reliefs where the related property is sold within a particular time period.
"If the sale value of a property exceeds the original cost, for example, if property was bought long before the boom years, Capital Gains Tax (CGT) at 33pc of the capital gain may be payable unless the owner has CGT losses available from current or prior years that can shelter the capital gain.
Persons who availed of "Business Relief" or "Agricultural Relief" on receipt of a gift or inheritance of a business/farm property could face a costly Capital Acquisitions Tax bill if a claw-back of this relief arises.
"If the property has been developed, VAT may be payable on the sale proceeds or a claw-back of VAT may arise if the property is in the VAT net. Similarly anyone considering leasing a property to generate cashflow should take advice on VAT before granting a lease, as a poorly thought out transaction could trigger a VAT liability.
"Where a person's bank debt relates to the trade of "land dealing", such as, bought land or sites for re-sale, a write-off or partial write-off of the debt by a bank may result in income tax being payable by the borrower.
Tax may arise as the debt amount forgiven will be treated as a receipt of income in the year of write-off. Tax on this write-off could be significant where the person has no trading losses to reduce this "deemed income". In contrast, a partial or full write-off by a bank of other debts, may be exempt from tax under the provisions in Finance Act 2013.
* Property transactions before an insolvency arrangement
If, in the prior three years, a borrower has entered into a transaction at undervalue which materially contributed to his insolvency, this provides grounds for a bank or other creditor to object to a proposed PIA.
* Principal Private Residence and Mortgage Arrears Resolution Process
The good news is that the Personal Insolvency Act 2012 includes provisions designed to keep a borrower in his/her principal private residence where possible. However, the act generally prohibits a borrower availing of a PIA where he/she has not co-operated with his/her bank in accordance with its Mortgage Arrears Resolution Process (MARP) for a principal private residence.
Michael Keenan is personal insolvency services partner, RSM Farrell Grant .Sparkswww.rsmfarrellgrantsparks.ie for further information.