Complete unity in relation to tax reform for trusts

Many of you will have seen the announcement last week that each of the major taxation professional bodies have called for proper reform to the taxation of trusts.

Undoubtedly, the ongoing angst caused by the ATO’s approach on UPEs has been a significant catalyst for the call, however the reality is that the piecemeal approach to taxation of trusts has been a longstanding problem.

A full copy of the press release providing more context in this regard is set out below.

Until next week.


Four of Australia's leading professional tax and accounting bodies, representing over 100,000 accountants and tax advisers, have united to call for sweeping reforms of the antiquated laws governing the taxation of trusts.

In 2009 the ATO introduced a controversial crackdown on "unpaid present entitlements" – distributions by trusts to associated private companies that were not paid, but remained intermingled with other funds of the trust.

The professional bodies believe the Tax Commissioner's technical interpretation of the taxation laws (Division 7A of the Income Tax Assessment Act 1936) that apply to unpaid present entitlements is not supportable and is at odds with the original policy intent.

While the practice statement on unpaid present entitlements released by the ATO last week embraced some of the practical recommendations put forward by the professional bodies, the fundamental incorrectness of the ATO interpretation remains. This will increase the cost of a major source of financing typically employed in the SME market.

The professional bodies have called for an urgent test case to challenge the Tax Commissioner's interpretation of the laws that apply to unpaid present entitlements, and will raise the issue again at a meeting today in Canberra of the ATO's peak external stakeholder forum, the National Tax Liaison Group.

The recommendation is for the test case to be heard by the Federal Court and funded under the ATO's test case funding program, to provide judicial guidance on whether the Commissioner's position on this important aspect of the law is correct. The Tax Commissioner has accepted the proposition that a test case is an appropriate vehicle through which to resolve this issue.

The unpaid present entitlement issue, alongside a High Court decision earlier this year on the taxation of trust income and distributions, highlights the need for major review into the taxation of trusts. The Henry tax review, along with recommendations made recently in Treasury’s "Red Book," both indicate that the government should re-write the trust laws which are more than 50 years old and are not adequate to deal with the modern use of trusts as trading and investment vehicles.

Institute of Chartered Accountants in Australia National Institute of Accountants Taxation Institute Taxpayers Australia

Company owned business succession insurance

Last week, we revisited with an adviser a strategy that had been put in some years prior by a trading company.

The trading company had obtained insurance policies for death and permanent disablement over each of the core principals who also controlled the ownership of the shares in the company.

The discussion centred on the tax consequences of a receipt by the company of the insurance proceeds and practically how the transfer of shares to the surviving principals would take place.

While from a simplicity (and Division 7A) perspective, company ownership of business succession insurance can be attractive, the disadvantages do normally outweigh the benefits.

Last week’s situation was no different given that on receipt of the insurance pay out by the company, steps would still need to be taken to:

1. Have the funds transferred to the exiting shareholder or their estate.

2. Ensure that the exiting shareholder transferred their shares.

As it turns out, primarily due to the significant increase in premiums that would be incurred to rearrange the current ownership structure, the adviser here is looking at other solutions to ensure that the existing structure can work as well as possible. It was however a timely reminder that business succession arrangements do require regular review.

Until next week.

Lineal descendant trust

'Lineal descendant trusts' come in many shapes and forms.

Undeniably, the popularity of the structure has been significant not only in recent years, but right back to the establishment of trusts as an asset protection and tax planning vehicle in early English law.

Whenever considering the establishment of such a trust (or reviewing a pre-existing trust), it is critical to understand how the legal firm involved in crafting the document has approached the task.

Some common themes for the structure of this kind of trust include:

1. Providing that income distributions can be fully discretionary amongst both lineal and non lineal descendants, with capital only able to be distributed to lineal descendants;

2. Both income and capital distributions being limited to lineal descendants;

3. Income and capital distributions limited to lineal descendants, unless otherwise approved by, say, the appointor.

Until next week.

When is a trust not a trust

One adviser contacted me after the post a couple of weeks ago about powers of variation and sent a trust deed for a brief initial review to our office.

For probably the 5th or 6th time in recent years, we discovered a situation where the trust itself had in fact already ended.

In other words, the vesting day for the trust had passed and, unfortunately, neither the client nor the adviser had realised that this event had taken place.

Practically the question as to whether the power to vary was wide enough, was easy to answer – it was irrelevant as there was in fact no longer a trust.

The more problematic issues however revolved around how exactly the income and capital of the trust should have been dealt with over the last 3 years since the trust had ended and what issues need to be addressed under -

1. trust law;

2. trustee liability;

3. tax legislation; and

4. stamp duty law.

Until next week.

ATO feedback on tax payer alerts

Many of you will have seen the recently released minutes from the National Tax Liaison Group meeting held on 23 June.

One item of interest relates to the ATO’s view on taxpayer alerts (TA).

In particular, the ATO claims that TAs are simply intended as an 'early warning' to taxpayers and their advisers of significant new and emerging higher risk tax planning issues or arrangements the ATO has under risk assessment.

The ATO claims TAs are essentially a 'press release' about issues causing it concern which it releases 'in the interests of an open tax administration'. The ATO stressed that TAs are not expected to replace rulings, and are not meant to be an ATO view of the law.

Until next week.

When a power to vary is not a power to vary

Last week, we touched on the fact that many trust deeds do not have any power to vary in them.

There are similarly many trusts that do have a power to vary, but that power to vary is not as comprehensive as may otherwise be assumed.

Two recent examples that we have seen are summarised below.

The first example (which was highlighted in quite a high profile case last year) turns on whether a power to vary extends to all aspects of the trust instrument. In particular, some powers to vary are restricted to either:

1. The formal provisions that actually establish the terms of the trust.

2. Alternatively, the power to vary might be restricted to the actual powers that the trustee has to run the trust.

Care should always therefore be taken to understand exactly how comprehensive the power to vary is.

Similarly, some powers to vary are subject to specific prohibitions. For example, a power might extend to all parts of a trust other than the rules regulating the appointor provision.

In these types of situations, it is generally impossible (unless court approval is obtained to vary the relevant clause), even if the affected party (for example the appointor) were to consent to the variation.

Ultimately (and generally in complete contrast to superannuation trust deed variations), there is always the need to very carefully review the exact basis on which any purported variation to a family trust is to be implemented before making a change.

Until next week.

Trust deed updates - Start at the start

Due to the recent decision in Bamford, we have seen a significant increase in the number of advisers recommending to their clients that a complete review of, particularly family trusts, be done for each client.

As part of this review process, there is often a subsequent recommendation that the trust deed needs to be updated for all recent changes in the law, or at the least to make the deed 'Bamford compliant'.

Previous posts have touched on some of the issues that arise in this regard. This week, I was reminded, however, about the importance of getting the basics right in relation to any deed update.

Arguably the most fundamental issue that needs to be considered in any deed update is whether there is in fact a power to vary the document.

There are an amazing number of trust deeds that, for whatever reason, in fact do not have any power to vary under them at all.

In these situations, the only way to amend the trust deed is to apply to court – which is obviously an expensive and time consuming exercise. In some situations however, it is a step that commercially must in fact be taken.

Next week, I will try to detail two further issues that arise in relation to deed updates that should also be kept in mind.

Finally, thank you for all those who have provided feedback on last week's post about the ATO ruling on insurance trusts. I have emailed all those who have emailed me about the posting, however if there is anyone who would like further comments please let me know.

Until next week.