Tax Office Moves To Squash Keyman Abuses
Sydney Morning Herald
Friday August 18, 1989
Tax Office officials have uncovered what they believe to be multi-million dollar abuses of tax deductions for keyman insurance policies.
Keyman, or split dollar, insurance policies compensate businesses for the loss of key executives, and are popular among company directors, partners, businessmen and professionals.
The policies tend to be whole of life cover, with death cover amounts of more than $1 million. Annual premiums of thousands of dollars, often running into five figures, are not uncommon.
Consequently, they are enthusiastically promoted by teams of agents on behalf of some of Australia's largest life insurance companies.
Generally, where the policy is taken out for revenue purposes - that is in the event of the policyholder's death, the cost of the death cover is tax deductible, as are any interest costs associated with borrowings for these premiums. It is in this area where the multi-million dollar abuses are suspected.
Last weekend, a senior Canberra-based Tax Office official and two Brisbane officials met in Brisbane to be briefed by a firm of superannuation consultants, Managed Superannuation Services Pty Ltd, on how the alleged tax abuses worked.
It is understood that the officers were so horrified by prevalence of the abuses, which they thought had been plugged almost two years ago by the issue of ruling IT2434, that they are considering a number of options to halt them.
The abuses are understood to centre on the wrongful deduction by the policyholder of interest costs associated with loans taken out to pay for the premium paid on the investment component of the policy - often the most expensive part of the policy. This is contrary to what is permitted by IT2434, which sets down which keyman insurance costs are tax deductible.
Selling agents are apparently encouraging policyholders to borrow the entire amount of the premium and write off the whole cost by not itemising how much of the premium is split between death cover and how much between investment. Sometimes, too much insurance is taken out, or it covers people who the Tax Office would not consider to be keymen, such as junior executives, who build up a valuable asset with tax deductible amounts.
Insurance sources say that some professionals who have large keyman policies are not considered by the Tax Office to be keymen because their businesses would not normally be expected to survive their death - as in the case of a doctor's private practice. In this situation, the tax deductibility of any of the premium is questionable. In other cases, the amount of insurance cover claimed overstates the policyholder's worth to the firm.
According to Mr Mike Beachy-Head, a director of Managed Superannuation Services, "a great many private companies are relying on claims that their keyman insurance policies can be fully deductible".
"Now that the confusion is being cleared up they could face horrendous tax assessments."
It is understood that action being considered by the Tax Office includes requesting life companies involved in the aggressive marketing of keyman policies to supply details of all such policies issued since ruling IT2434 came into force, including the names of the policyholders involved, the amount of premiums paid, the split between death cover and investment, any loans attaching to the policy, the source of those loans and the interest rate on those loans.
The information could then be used to mount an audit blitz on the policyholders to see if the spirit of ruling IT2434 has been complied with.
The Canberra-based tax official who attended the conference was unavailable for comment yesterday and the Brisbane Tax Office telephone number was constantly engaged.
If the Tax Office disallows claims the taxpayer could be up for the tax avoided by the deduction wrongfully made, plus a further heavy penalty.
According to Mr Beachy-Head, "these claims are going to be stomped on very soon".
"Insurance agents who continue to advise clients that they can get away with these claims are doing them a grave disservice," he warned.
He also forecast that if the Tax Office did issue keyman policyholders with amended tax assessments, the policyholders might have recourse to legal action against agents if they were misled over the true tax position.
© 1989 Sydney Morning Herald