Trusts, specifically discretionary trusts, have long been the favored investment vehicle for families. They provide flexibility, asset protection, succession planning and taxation benefits. With the ATO’s recently announced updated interpretation of the law, the taxation benefits risk being eroded.
Background
Trustees of discretionary trusts regularly resolve to make certain beneficiaries entitled to income or capital of the trust by way of a distribution. These distributions may not be paid immediately or not paid at all and instead loaned, gifted or forgiven. It is these types of distributions that are now attracting the scrutiny of the ATO.
What are the ATO targeting?
The ATO is seeking to tax distributions at the top marginal rate (rather than the intended beneficiaries’ marginal rate) where some or all of the following conditions are met;
- The benefit of the distribution is ultimately received by someone other than the nominated beneficiary
- There is no intention of the nominated beneficiary ever benefiting from the distribution
- The distribution has the result of reducing another taxpayer’s income tax liability
- The distribution is outside the course of ordinary family or commercial dealing
- A child’s distribution entitlement is forgiven in leu of expenses the family incurred on the child’s behalf prior to them turning 18yo
What does this mean?
Trust distributions that are physically paid to the beneficiary in a timely fashion and are used by the beneficiary for their own benefit are unlikely to come under scrutiny. Arrangements that differ slightly however are reasonable, appropriately documented and accounted for correctly may be safe. Conversely, unpaid distributions to taxpayers on a low tax rate without appropriately documented arrangements in place could be levied with tax at 47%.
This development will be significant for trustees in the lead up to 30 June. Please feel free to contact our office to discuss how this might affect you.