ATO targeting "reimbursement agreements": Draft taxation ruling on section 100A imminent

Section 100A of the Income Tax Assessment Act 1936 allows the Commissioner to disregard trust distributions that he deems forms part of a "reimbursement agreement". The Commissioner can instead impose tax on the trustee at the top marginal tax rate. The ATO has been enforcing section 100A more and more over recent years.

The ATO has stated that they will issue a draft taxation ruling on section 100A in early 2022. The ruling is to be applied immediately by the ATO audit teams. Trustees and their advisers should be aware of what the ruling is earmarked to include and the potential ramifications of the new ruling.

So, what is section 100A?

To understand section 100A, we must first broadly understand how the taxable income of a trust is taxed. Generally speaking, Division 6 the Income Tax Assessment Act 1936 (Act) provides that a beneficiary of a trust is taxed on a proportion of the taxable income of the trust based on their share of the trust income that they are presently entitled to (subject to beneficiaries being specifically entitled to a franked distribution or capital gain). Where there is no one presently entitled or specifically entitled, then the trustee is taxed at the top marginal rate.

Section 100A, however, operates to alter the general rule of taxing presently entitled beneficiaries, and can operate to assess the trustee on the taxable income of the trust at the top marginal rate even where there would ordinarily otherwise be a presently entitled beneficiary of trust income.

Section 100A operates as a specific anti-avoidance measure which broadly applies where a beneficiary's entitlement arises out of a "reimbursement agreement" (as defined in the Act).

In such a circumstance, 100A applies such that the presently entitled beneficiary in question is deemed to not be, and was never, entitled to the trust's income. It therefore operates to assess the trustee on the taxable income which would otherwise have been assessed to that beneficiary.

When do I have to worry about section 100A?

As a starting point, there must be a beneficiary that is presently entitled to trust income. This will depend on the terms of the trust deed and the distributions made for the relevant year of income as evidenced by the trustee resolution.

Secondly, there must be a "reimbursement agreement", which is defined as agreement that provides for a payment of money or transfer of property (or provides for the provision of services or other benefits) for a person other than the beneficiary presently entitled. There is also a requirement that at least one party enters into the agreement for purposes that include obtaining a tax benefit.

An agreement for the purposes of a reimbursement agreement does however expressly exclude an agreement, arrangement or understanding entered into "in the course of ordinary family or commercial dealing".

It also worth noting that the is no time bar for the Commissioner to review so called "reimbursement agreements" and issue amended assessments accordingly. The Commissioner can therefore issue amended assessments as far back as 1979 (when the section was introduced)!

How do I discharge the onus that 100A doesn't apply?

The taxpayer has the onus of proof to evidence that an assessment applying 100A is excessive. Tit can therefore be difficult to prove that 100A does not apply given an agreement can be formal or informal, express or implied, intended to enforceable or not.

Case law has established that conduct may be sufficient to infer that there was a tacit agreement. Further, the presently entitled beneficiary is not required to be party to this agreement (so long as the agreement benefits someone other than the presently entitled beneficiary). At least one of the purposes of the agreement must be to obtain a tax benefit. The subjective intent of the parties is a relevant factor.

Section 100A therefore has an incredibly broad application and should always be considered whenever year end distributions are being made.

Draft ATO ruling imminent

The ATO has for a long time said that it will be releasing a draft taxation ruling on section 100A. This ruling is expected to include what the Commissioner considers to be excluded from a 'reimbursement agreement', specifically, what conduct is considered to be "ordinary" for the purposes of the ordinary family or commercial dealing exclusion referred to above.

This has long been a vague concept and requires further clarification from the ATO. The concept of what is ordinary is not defined in the legislation, and not adequately explained in the existing extrinsic material.

Prestige Motors [1] , the leading case on section 100A, involved a complex scheme whereby company losses were utilised through the distribution of trust income. Whilst the Court found that the taxpayer had failed to provide a commercial justification for the arrangement, the Court did not expressly deal with what would constitute an ordinary dealing. Many questions remain insufficiently answered. How does a taxpayer prove that a dealing is ordinary? Does the ordinariness of the conduct have to be exclusively related to the family dealings or the commercial dealings? Can there be elements of unordinary conduct within an otherwise ordinary dealing?

The draft ruling had an expected completion date of July 2021 for the release of the draft ruling. It is now expected to be released in early 2022.

What this all means for trustees of discretionary trusts

Noting that the onus is on the taxpayer, it is very important for trustees and their advisers (such as accountants and lawyers) to be on the front foot.

It is essential to consider the risk of 100A when trustees are distributing funds and are making any type of transfer of trust property or dealing with stakeholders in their capacity as trustee of their trust.

More information from Maddocks

For more information, contact Maddocks on (03) 9258 3555 and ask to speak to a member of the Revenue Practice Group.

More Cleardocs information on related topics

You can read earlier ClearLaw articles on a range of matters.

Order Cleardocs products

• Company Minutes & Resolutions Package
• Discretionary (Family) Trust set up
• Discretionary Trust - excluded beneficiaries that provides options to exclude foreign and/or non-blood beneficiaries from the trust set up

[1] FCT v Prestige Motors Pty Ltd [1998] FCA 221