Raking in big gains from failed ventures

How do the mass-marketed tax schemes being targeted by the IRD and the Treasury work? One theoretical example:

Mary puts $10,000 into a joint venture that forecasts losses of $100,000 over the first three years. It also forecasts income of $150,000 in year four, but this may not arise.

The promoter of the scheme sells some fixed-life intangible property - such as the right to make a film from a particular book for a limited period - to the joint venture for $95,000, depreciable over three years.

The joint venture pays for this with $5000 cash from Mary's investment with the balance of $90,000 funded by a non-recourse loan from the promoter.

The joint venture then spends the remaining $5000 of the investment on some deductible activity (such as work associated with the proposed film).

In the event the project may or may not go ahead. If not, the copyright will revert to the promoter. If there are profits the loan will be repaid, and if not it will be written off.

But regardless of whether there are profits Mary will receive tax deductions of $100,000 over three years, saving her $39,000 if the 39 per cent marginal tax rate is applicable, which is $29,000 more than she has invested.

In other words she will make a substantial gain even though the joint venture has been unsuccessful and the tax take will miss out on $29,000.