The Tax Office has confirmed that the interest expense incurred in this style of situation will not be automatically deductible, even if the borrowed funds allows the trust to retain income producing assets.
Instead, in order for the interest to be deductible, the borrowings must be shown to be ‘sufficiently connected’ with the assessable income earning activity.
The leading case in this area is that of FC of T v. JD Roberts & Smith 92 ATC 4380 (Roberts & Smith). The principles in that decision were further expanded on in the Tax Office Ruling TR 2005/12.
Based on the principles outlined in the Ruling and Roberts & Smith, it is clear that whenever a trust is refinancing any existing loans or UPEs care should be taken to ensure there is the requisite connection to income producing activities; as opposed to, for example, making distributions to beneficiaries.
The key criteria is whether it can be shown that the objective purpose of the trustee in borrowing the funds is to refinance the outstanding amount, however the Tax Office’s position is that each situation will depend on the particular facts of the case.
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** For the trainspotters, the title of today's post is riffed from the Gorillaz song ‘Feel Good Inc’.
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