- Home
- Moore Tax News
- Trust Structures and Company Beneficiaries - Draft Ruling Released on Unpaid Present Entitlements
Trust Structures and Company Beneficiaries - Draft Ruling Released on Unpaid Present Entitlements
- By Moore Stephens
- Published 9/02/2010
- Moore Tax News
- Unrated
In a nutshell
The Draft Ruling is likely to cause significant concern to private company groups as the ATO have indicated that unpaid trust distributions will, in all but exceptional circumstances, be regarded as a loan. This will mean that such entitlements would be required to bear interest at the statutory rate and, more significantly, be progressively paid out in accordance with the terms applicable to Division 7A loans (generally over a seven year period), which would represent a very significant change in the way that such structures operate. The Commissioner recognises that this position is contrary to his previous practice and the Draft Ruling suggests that he will only apply this practice prospectively; that is, to new unpaid trust distributions post the release of the draft. However, the draft also contains suggestions that, depending on the terms of the relevant deed, he may also retrospectively treat some unpaid trust distributions as loans, which is a potential concern.
This issue deservedly received considerable press earlier in the year following comments from the ATO Deputy Commissioner that this issue was being considered by the ATO. This is an enormous issue for private client groups where the use of trusts and company beneficiaries is commonplace. In circumstances where such an arrangement exists, it is not uncommon for trust distributions to beneficiaries (both companies and others) to remain undrawn by those beneficiaries for some time. Taxpayer representatives have in recent months made strong representations to the ATO challenging both the technical correctness of the comments made and also in relation to the practical issues, not the least of which is that if this view was taken by the Commissioner, this represents a significant change in administrative approach and should only be adopted on a prospective basis. Unfortunately, it seems that many of concerns expressed by taxpayers and their representatives have not been addressed by the Commissioner in this Draft Ruling.
The ruling has been released in draft form for public comment, representing the Commissioner’s preliminary, (although considered) view on the matter. A significant amount of comment will no doubt be received and Moore Stephens will be actively involved in the dialogue with the ATO in response to this pronouncement.
A more detailed analysis of the draft is set out below.
The detail
The Draft Ruling has been divided into three sections. The first section provides a background. The second and third sections discuss the circumstances in which the Commissioner will regard UPEs as a loan for Division 7A purposes.
Loan instead of or in satisfaction of UPE
The second section of the Draft Ruling discusses circumstances where a private company will be taken to have made a loan to a trust for Division 7A purposes. Importantly, the application of Division 7A to arrangements which fall under this section will apply retrospectively.
The Commissioner describes three scenarios in which a Division 7A loan would be considered to arise:
1. Agreement between private company and Trust
This scenario refers to the situation where the private company makes a loan to the trust pursuant to an agreement, whereby the loan is effected by an agreed set-off in satisfaction of the trustee’s obligation to pay the private company an UPE.
Simplified example from Draft Ruling:
The trustee of AB Family Trust resolves that $10,000 of the trust income for the year is to be distributed to X Co. No cash payment has been made to X Co. X Co. enters into an agreement with Trustee Ltd in its capacity as trustee of AB Family Trust, under which X Co. agrees to lend Trustee Ltd. $10,000. No payments are made but Trustee Ltd. credits a loan account in the name of X Co. with $10,000 in satisfaction of X Co.’s trust entitlement to $10,000.
This example is reasonably straightforward and it is suggested that there is little surprise or controversy in relation to the above example. However, the more concerning scenarios, to varying degrees, are set out following.
The Draft Ruling is likely to cause significant concern to private company groups as the ATO have indicated that unpaid trust distributions will, in all but exceptional circumstances, be regarded as a loan. This will mean that such entitlements would be required to bear interest at the statutory rate and, more significantly, be progressively paid out in accordance with the terms applicable to Division 7A loans (generally over a seven year period), which would represent a very significant change in the way that such structures operate. The Commissioner recognises that this position is contrary to his previous practice and the Draft Ruling suggests that he will only apply this practice prospectively; that is, to new unpaid trust distributions post the release of the draft. However, the draft also contains suggestions that, depending on the terms of the relevant deed, he may also retrospectively treat some unpaid trust distributions as loans, which is a potential concern.
This issue deservedly received considerable press earlier in the year following comments from the ATO Deputy Commissioner that this issue was being considered by the ATO. This is an enormous issue for private client groups where the use of trusts and company beneficiaries is commonplace. In circumstances where such an arrangement exists, it is not uncommon for trust distributions to beneficiaries (both companies and others) to remain undrawn by those beneficiaries for some time. Taxpayer representatives have in recent months made strong representations to the ATO challenging both the technical correctness of the comments made and also in relation to the practical issues, not the least of which is that if this view was taken by the Commissioner, this represents a significant change in administrative approach and should only be adopted on a prospective basis. Unfortunately, it seems that many of concerns expressed by taxpayers and their representatives have not been addressed by the Commissioner in this Draft Ruling.
The ruling has been released in draft form for public comment, representing the Commissioner’s preliminary, (although considered) view on the matter. A significant amount of comment will no doubt be received and Moore Stephens will be actively involved in the dialogue with the ATO in response to this pronouncement.
A more detailed analysis of the draft is set out below.
The detail
The Draft Ruling has been divided into three sections. The first section provides a background. The second and third sections discuss the circumstances in which the Commissioner will regard UPEs as a loan for Division 7A purposes.
Loan instead of or in satisfaction of UPE
The second section of the Draft Ruling discusses circumstances where a private company will be taken to have made a loan to a trust for Division 7A purposes. Importantly, the application of Division 7A to arrangements which fall under this section will apply retrospectively.
The Commissioner describes three scenarios in which a Division 7A loan would be considered to arise:
1. Agreement between private company and Trust
This scenario refers to the situation where the private company makes a loan to the trust pursuant to an agreement, whereby the loan is effected by an agreed set-off in satisfaction of the trustee’s obligation to pay the private company an UPE.
Simplified example from Draft Ruling:
The trustee of AB Family Trust resolves that $10,000 of the trust income for the year is to be distributed to X Co. No cash payment has been made to X Co. X Co. enters into an agreement with Trustee Ltd in its capacity as trustee of AB Family Trust, under which X Co. agrees to lend Trustee Ltd. $10,000. No payments are made but Trustee Ltd. credits a loan account in the name of X Co. with $10,000 in satisfaction of X Co.’s trust entitlement to $10,000.
This example is reasonably straightforward and it is suggested that there is little surprise or controversy in relation to the above example. However, the more concerning scenarios, to varying degrees, are set out following.