Tax Losses in Family Law: The Hidden Financial Resource Often Overlooked in Property Settlements
When a relationship breaks down, the financial aspects of a property settlement can extend well beyond the assets that are readily visible on a balance sheet.
Property, superannuation, investments, business interests
and trusts are commonly considered. However, carried-forward tax losses may
also be relevant and, in some circumstances, represent a significant future
financial benefit.
Understanding whether these losses have practical value can be important when assessing the financial position of the parties and negotiating a property settlement.
What Are Tax Losses?
A tax loss generally arises when allowable deductions exceed assessable income during a financial year. Depending on the relevant entity structure and applicable legislative requirements, those losses may be carried forward and used against future income.
Capital losses may similarly be available to offset future capital gains, subject to the applicable rules.
Although tax losses are not traditional assets in the same way as property or cash, they may provide an economic benefit where there is a realistic prospect that they can be used to reduce future tax liabilities.
This distinction is important in family law proceedings, particularly where one or both parties have interests in businesses, companies, trusts or investment structures.
How Are Tax Losses Considered in a Property Settlement?
The existence of a tax loss does not automatically mean it has a particular value for family law purposes.
The relevant question is whether the loss is likely to provide a genuine financial benefit in the future. This may depend on matters such as:
- Whether the loss can legally be utilised under the applicable tax rules.
- Whether the business or entity holding the loss is likely to generate future taxable income.
- Whether future capital gains are anticipated.
- Whether the business is expected to remain profitable.
- Whether the entity holding the loss will continue to exist.
- Whether the party retaining the loss is realistically able to obtain a financial benefit from it.
For example, a business may have accumulated substantial tax losses but have little prospect of generating sufficient future income to use them. Conversely, a smaller tax loss held by a profitable business may produce meaningful tax savings.
The amount recorded in the accounts is therefore not necessarily a reliable indication of its practical value.
Courts Position
The family law authorities demonstrate that tax losses may be considered in property settlement proceedings, but their treatment depends on the circumstances and the evidence available.
Sabell & Medhurst (No 2) [2011] FamCA 596
In Sabell & Medhurst (No 2), the Court considered whether carried-forward tax losses held by the husband's company should be taken into account in the property settlement.
The losses were estimated to have a value of approximately $103,000. The husband argued that they should not be included in the asset pool, while the wife contended that they represented a genuine future financial benefit.
The Court accepted that the losses had value because there was a realistic prospect that the husband could use them in the future to reduce his tax liabilities. Their value was therefore taken into account as part of the overall property pool.
The decision illustrates that tax losses should not necessarily be disregarded simply because they are not conventional assets. Where there is evidence that they are likely to provide a real economic benefit, they may be relevant to the overall financial assessment.
In Nash & Nash, the husband had received approximately $8.2 million following the sale of a family business in 2006. Over time, a significant portion of those funds was lost through share trading and investment activities, leaving him with approximately $4.8 million in carried-forward tax losses.
The wife argued that the losses represented a valuable financial resource that should be considered in the property settlement.
The Court accepted that tax losses may, in appropriate circumstances, constitute a relevant financial resource. However, there was insufficient evidence that the husband would obtain a meaningful future benefit from the losses. In particular, there was no realistic prospect demonstrated that they would be used to generate future income or reduce future tax liabilities.
The Court declined to attribute value to the losses as a relevant financial resource in the circumstances.
This decision highlights an important distinction: a substantial tax loss does not automatically have substantial economic value. Its significance depends on whether it is realistically capable of being utilised.
Key Takeaways from the Decisions
Taken together, these decisions demonstrate several important principles:
- Future benefit matters: The practical value of a tax loss depends on whether it is likely to provide a genuine economic benefit.
- Size is not everything: A large tax loss may have little practical value if there is no realistic prospect of using it.
- Evidence is critical: Financial information, business forecasts and appropriate accounting or valuation evidence may assist in assessing potential utilisation.
- The treatment may differ: Depending on the circumstances, tax losses may be treated as property, considered as a financial resource or given little or no weight.
- Each case is different: The treatment of tax losses will depend on the relevant facts, applicable tax rules and available evidence.
Why This Matters During Separation
Where a family has business interests, company structures, trusts or substantial investments, the financial position may be more complex than the readily identifiable assets suggest.
Tax losses may affect the economic value of a business or investment structure and may influence the financial position of the party who retains that interest following separation.
Failing to identify these issues early may result in an incomplete understanding of the parties' financial circumstances. Equally, attributing value to losses without establishing whether they can realistically be used may overstate their significance.
How We Can Help
At MistryFallahi Lawyers & Business Advisors, we understand that family law property settlements can involve complex financial arrangements, including business interests, companies, trusts and investment structures.
Our team can assist clients in identifying the issues that may need to be considered as part of a property settlement and work with relevant professional advisers where accounting, taxation or valuation expertise is required.
If you are navigating a separation involving business interests or complex financial arrangements, contact our team to discuss your circumstances.
