A new bill dealing with discretionary trusts in response to Bamford's case:
These amendments have received Royal Assent and will apply from the 2010-11 income year. However, for the 2010-11 income year, the Commissioner will, as an administrative arrangement, accept a recording of distributions of franked distributions made by 31 August.
We outline below practical considerations that need to be considered by trustees looking to stream such amounts to particular beneficiaries. The ATO has given trustees until 31 August 2011 to make the necessary records.
The Cleardocs Discretionary Trust deed contains the necessary powers to allow trustees to stream capital gains, or franked distributions, to particular beneficiaries in the way clarified in the new law.Andrew Wright
As we have reported in previous editions of ClearLaw, the decision in Bamford's case considered two primary issues, namely:
On those issues, the High Court clarified that:
The Bamford case highlighted problems associated:
The amendments in the Bill are interim measures. They deal with the uncertainty around the 'proportionate approach' that was highlighted in Bamford's case.
They seek to ensure that capital gains and franked distributions (including attached franking credits) that are received by specific beneficiaries are subject to tax in the hands of those beneficiaries.
Amounts are able to be streamed if beneficiaries are specifically entitled to a capital gain or franked distribution of the trust.
Importantly, the amendments do not give the trustee the power to stream capital gains or franked distributions. They merely set out how streaming can be done if the trust's deed gives the trustee power to stream. So that power must be in the deed. It isn't in the law.
In this light, trustees and their advisers need to review trust deeds to see if the trustee has the power to:
If the trust deed does not give the trustee these powers, then trustees and their advisers should consider amending the deed to allow for such powers.
The new law has received Royal Assent and will apply to the current 2010-11 and later income years.
Cleardocs deeds The Cleardocs Discretionary Trust deed contains the powers trustees need to stream capital gains or franked distributions to particular beneficiaries. These powers are contained in clauses headed:
The ability to stream amounts depends on a beneficiary being specifically entitled to a capital gain or franked distribution. So:
We now discuss each of these concepts in turn.
A beneficiary of a trust will be specifically entitled to an amount of a capital gain or franked distribution made by the trust equal to the amount calculated using the formula below:
An amount the beneficiary is specifically entitled to under the above formula will be assessable on a quantum basis:
The 3 elements of the formula are:
1 "Capital Gain/Franked Distribution" This means the capital gain made by the trust or the franked distribution received by the trust.
2 "Net Financial Benefit" This means the amount of the financial benefit (meaning anything of economic value) referable to the capital gain or franked distribution. However, that amount is reduced by:
You also need to consider the following about the definition of net financial benefit:
3 "Share of Net Financial Benefit" This means the amount of the net financial benefit which the beneficiary has received or reasonably expected to receive which has been recorded, in its character as referable to the capital gain or franked distribution.
3.1 Received or reasonably expected to receive. You also need to consider the following factors about the definition of "Received or reasonably expected to receive". A net financial benefit has been received or reasonably expected to be received if the beneficiary has:
When considering those factors, you need to remember that:
3.2 Recorded, in its character as referable to the capital gain or franked distribution. You need to record these amounts within the following time frames:
Concession for 30 June 11 The ATO has acknowledged the practical difficulty of recording distributions of franked distributions by 30 June 2011 given the legislation is being passed so close to the end of the income year. In light of this, the Commissioner will, as an administrative arrangement, accept a recording of distributions of franked distributions made by 31 August for the 2010-11 income year.
When recording amounts, you need to consider the following:
Administrative measure for 2010-11 income year We also note that as an additional administrative measure for the 2010-11 income year, the ATO will not review or audit trusts for the sole purpose of determining whether streaming of capital gains or franked distributions by the trustee is effective for tax purposes. However, this administrative measure does not apply where there is a deliberate attempt to exploit the streaming provisions.
After amounts have been streamed to specifically entitled beneficiaries, the remaining income of the trust is assessable to beneficiaries on a proportionate basis.
Each beneficiary's share is to be allocated on the basis of an "adjusted Division 6 percentage" — effectively, this assesses beneficiaries on the share of the remaining taxable income of the trust which corresponds to the share of the remaining income of the trust which the beneficiary is presently entitled to.
This income includes any capital gains or franked distributions which have not been streamed.
If an amount of the trust property referable to the capital gain is not paid or applied for the benefit of a beneficiary, then the trustee can choose to be assessed on a capital gain of the trust.
In certain circumstances, a trustee can be treated as assessable on amounts if any of the beneficiaries of the trust are exempt from income tax, for example because they are a charity. These circumstances are outlined below:
Given the anti-avoidance provisions, it will often not be advisable for trustees to make distributions to charities.
The proposed new law's streaming rules will not apply to trusts that qualify as Managed Investment Trusts (MITs) or to certain trusts that are treated like MITs. However, the trustees of those trusts can choose to apply the new law. This exemption recognises that generally MITs:
Notably, MITs are excluded from the anti-avoidance rules even if they choose to apply the streaming rules. This is to reflect the difficulty MITs have in engaging in the kind of tax manipulation that the anti-avoidance rules target.
For more information, contact Maddocks on (03) 9288 0555 and ask to speak to a member of the Tax and Revenue or General Commercial Teams.
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Andrew is a lawyer in the Maddocks Tax & Revenue team.
Andrew provides advice on:
His advice covers both direct and indirect tax considerations.
Prior to joining Maddocks, Andrew was a tax consultant at a Big 4 Chartered Accounting Firm.
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For more information, contact Maddocks on (03) 9258 3555 and ask to speak to a member of their team.