Fixed entitlements and fixed trusts: ATO guidance

The ATO on 13 September 2017 released its finalised guidance on fixed trusts (released as a draft on 26 October 2016). Practical Compliance Guideline PCG 2016/16 sets out the factors the ATO takes into account in deciding whether to exercise the Commissioner's discretion to treat a trust as a fixed trust for tax purposes. It also includes a safe harbour that allows certain trustees to manage a trust's tax affairs as though the Commissioner had exercised the discretion.

 

By way of background, a "fixed trust" is defined in the trust loss rules (Schedule 2F of the ITAA 1936) as a trust where persons have fixed entitlements to all of the income and capital of the trust. A "fixed entitlement" means a vested and indefeasible interest in a share of the income or capital of a trust under its trust deed. The Commissioner has a discretion (under section 272-5(3) of Schedule 2F) to treat an interest as a fixed entitlement in certain circumstances. This discretion cannot be exercised in relation to default beneficiaries and mere objects of discretionary trusts.

The guideline notes that various powers typically found in modern trust instruments may cause a beneficiary's interest to be defeasible (that is, capable of being defeated by the actions of persons or by the occurrence of events). These powers include:

  • broad powers to amend the trust instrument;
  • powers to issue or redeem units (although a "savings rule" may apply such that an interest is not treated as defeasible see paragraphs 18 to 22 of PCG 2016/16);
  • reclassification powers;
  • a power to appoint a beneficiary's interest to another beneficiary; and
  • a power to settle or appoint any part of the corpus of the trust to a new trust with different beneficiaries.

Accordingly, it can be difficult to satisfy the statutory definition of a fixed trust unless the Commissioner exercises the discretion to treat the beneficiaries' interests as vested and indefeasible.

Relevant factors in deciding whether to exercise discretion

The ATO says it takes 3 key matters into account in deciding whether to exercise the Commissioner's discretion to treat an interest as a fixed entitlement:

  • the circumstances in which a beneficiary's interest is capable of being defeated or not vesting. The ATO looks at factors such as whether any person (eg the trustee) is capable of altering the beneficiary's interest, and the nature of that person's relationship to the beneficiary;
  • the likelihood of the interest being defeated or not vesting. If the likelihood is low, this will weigh in favour of exercising the discretion. If the trustee has a particular power to defeat a beneficiary's interest (eg the power to redeem units), the ATO will consider how often, if at all, this power has been exercised; and
  • the nature of the trust.

Another relevant factor noted in the guideline is whether the exercise of the discretion would enable a taxpayer to obtain a tax benefit from a trust with a tax loss in circumstances where the economic loss incurred was not borne by the taxpayer.

Safe harbour

Attachment B to PCG 2016/16 allows the trustees of the following trusts to manage the trust's tax affairs on the assumption that the Commissioner's discretion has been exercised:

  • listed trusts;
  • registered managed investment schemes;
  • certain widely held trusts and unregistered managed investment schemes that satisfy licensing requirements;
  • specific single interest holder trusts (that satisfy the requirements set out in paragraph 54(5) of PCG 2016/16); and
  • other non-discretionary trusts that satisfy paragraph 54(6) of PCG 2016/16, including the requirements that all beneficial interests are capable of being expressed as a percentage of the trust's total income and capital, and that a power to defeat a beneficiary's interest has never been exercised.

Date of effect

PCG 2016/16 applies both before and after its date of issue.

More Cleardocs information on related topics

You can read earlier ClearLaw articles on a range of trust topics.

Order Cleardocs trust packages