Australian Tax - ATO Releases Final Ruling on Companies and Trust Entitlements
On the 2nd of June 2010, The Australian Taxation Office ("ATO") released Taxation Ruling TR 2010/3 in relation to Division 7A of the Income Tax Assessment Act 1936 and unpaid trust entitlements of corporate beneficiaries.
An unpaid present entitlement arises when a trustee makes a beneficiary (in this case a company) entitled to some or all of the income of the trust for a particular year of income but does pay this amount to the company.
TR 2010/3 is the finalisation of the very controversial draft ruling, TR 2009/D8.
This draft ruling set out a significant proposed change in the way that the ATO would deal with unpaid present entitlements of corporate beneficiaries of trusts.
For the most part, the ATO was proposing to treat such entitlements as loans under Division 7A of the Income Tax Assessment Act 1936.
This interpretation would cost small business operators and investors millions of dollars.
Further, large amounts of money will have to be expended on legal and accounting advisors to interpret trust deeds, review past tax returns and determine the best course of action for trustees and beneficiaries.
To the great disappointment of the tax profession, broadly, the position of the ATO is unchanged from the draft taxation ruling.
Also, the Commissioner released for comment a draft Law Administration Practice Statement on this matter.
This is Draft PS LA 3362.
For any person dealing with trusts and corporate beneficiaries, these two documents are essential reading.
There is a good deal to read in these two documents.
Let me summarise what I understand the Commissioner's position to be.
[1] In a family group, the trustee or trustees of a trust and the directors of a private company beneficiary are considered to have full knowledge of the treatment and status of unpaid present entitlements, unless there is evidence to the contrary.
[2] An unpaid present entitlement of a corporate beneficiary can be, from its creation, immediately turned into a loan from the private company to the trustee for the purposes of Division 7A in certain circumstances.
These circumstances include where the private company has knowledge that the trustee has treated its unpaid present entitlement as having been satisfied and the private company acquiesces to that treatment.
It will also occur where the trustee, pursuant to a term of the trust deed, applies the unpaid present entitlement for the benefit of the private company.
Further, a loan will be created when an unpaid present entitlement has been credited to a loan account in the books of the trust.
This part of the ruling applies both before and after the date of issue of the ruling.
[3] With regard to subsisting or existing unpaid present entitlements, a Division 7A loan will arise where the private company grants some form of pecuniary aid to the trust.
This will occur where the private company does not call for the payment of the unpaid present entitlement or does not call for the investment of the funds representing the unpaid present entitlement for the private company's sole benefit.
This particular part of the ruling, that is in regard to subsisting unpaid present entitlements, only applies to unpaid present entitlements arising after 16 December 2009.
For any trustee or family group that has distributed income to a corporate beneficiary, or is proposing to, an understanding of the new tax ruling and PS LA is very important.
Further, it is essential that you obtain advice from a person who is well versed in these ATO pronouncements.
If the trust has had unpaid present entitlements to a company beneficiary in the past, there is a reasonable probability that you have contravened (unknowingly) what the ATO now considers to be the law.
Wishing you easier business (if that's possible with rulings like these) John M.
Jeffreys
An unpaid present entitlement arises when a trustee makes a beneficiary (in this case a company) entitled to some or all of the income of the trust for a particular year of income but does pay this amount to the company.
TR 2010/3 is the finalisation of the very controversial draft ruling, TR 2009/D8.
This draft ruling set out a significant proposed change in the way that the ATO would deal with unpaid present entitlements of corporate beneficiaries of trusts.
For the most part, the ATO was proposing to treat such entitlements as loans under Division 7A of the Income Tax Assessment Act 1936.
This interpretation would cost small business operators and investors millions of dollars.
Further, large amounts of money will have to be expended on legal and accounting advisors to interpret trust deeds, review past tax returns and determine the best course of action for trustees and beneficiaries.
To the great disappointment of the tax profession, broadly, the position of the ATO is unchanged from the draft taxation ruling.
Also, the Commissioner released for comment a draft Law Administration Practice Statement on this matter.
This is Draft PS LA 3362.
For any person dealing with trusts and corporate beneficiaries, these two documents are essential reading.
There is a good deal to read in these two documents.
Let me summarise what I understand the Commissioner's position to be.
[1] In a family group, the trustee or trustees of a trust and the directors of a private company beneficiary are considered to have full knowledge of the treatment and status of unpaid present entitlements, unless there is evidence to the contrary.
[2] An unpaid present entitlement of a corporate beneficiary can be, from its creation, immediately turned into a loan from the private company to the trustee for the purposes of Division 7A in certain circumstances.
These circumstances include where the private company has knowledge that the trustee has treated its unpaid present entitlement as having been satisfied and the private company acquiesces to that treatment.
It will also occur where the trustee, pursuant to a term of the trust deed, applies the unpaid present entitlement for the benefit of the private company.
Further, a loan will be created when an unpaid present entitlement has been credited to a loan account in the books of the trust.
This part of the ruling applies both before and after the date of issue of the ruling.
[3] With regard to subsisting or existing unpaid present entitlements, a Division 7A loan will arise where the private company grants some form of pecuniary aid to the trust.
This will occur where the private company does not call for the payment of the unpaid present entitlement or does not call for the investment of the funds representing the unpaid present entitlement for the private company's sole benefit.
This particular part of the ruling, that is in regard to subsisting unpaid present entitlements, only applies to unpaid present entitlements arising after 16 December 2009.
For any trustee or family group that has distributed income to a corporate beneficiary, or is proposing to, an understanding of the new tax ruling and PS LA is very important.
Further, it is essential that you obtain advice from a person who is well versed in these ATO pronouncements.
If the trust has had unpaid present entitlements to a company beneficiary in the past, there is a reasonable probability that you have contravened (unknowingly) what the ATO now considers to be the law.
Wishing you easier business (if that's possible with rulings like these) John M.
Jeffreys