Proposed Changes to Trust Distributions

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The ATO’s Draft Rulings on Trusts: What you need to know (for now).

The Australian Taxation Office (ATO) have released a package of draft rulings on trust distributions (in particular section 100A) that may have a big impact on the way trusts in Australia distribute their income and how they are taxed.

It has caused a strong response and attracted a lot of media attention in recent weeks. However, it’s important to note that these rulings are draft only, not final. There is a consultation process which closes on 8 April 2022, which may result in changes.

Proposed Changes to Trust Distributions (Section 100A)

Section 100A is designed to catch situations where an individual or entity (other than the beneficiary) is benefiting from the distributed income of a trust specifically to avoid tax. This generally results in the trustee being taxed at higher rates.

The ATO’s latest guidance through their draft rulings suggests that the ATO is looking to apply section 100A to a wider range of scenarios, including some arrangements that are commonly used for tax planning purposes by family groups. This means that some family trusts could be at risk of higher tax liabilities.

There are some important exceptions to section 100A, including where income is appointed to minor beneficiaries and where the arrangement is part of an “ordinary family” or commercial dealing.

The ATO notes that this “ordinary family” exclusion won’t necessarily apply simply because arrangements are commonplace or they involve members of a family group.

To provide reassurance to tax agents and taxpayers, the ATO has stated that: “The vast majority of small businesses operating through a trust are not operating in a way that will attract section 100A. A distribution to an adult child who has a low marginal tax rate will not attract section 100A where they simply receive or enjoy the benefit of their distribution”. 

Further, they have indicated that they are not concerned when family business profits are appointed to members of the family who work in the management of the business, with the family member choosing to reinvest the profits back in the business. 

Certain arrangements will be looked at closely and if the ATO determines that section 100A applies, tax will be applied at the top marginal rate, potentially across a number of income years so it important to still be aware of the risks.

However, the ATO has emphasised that they will not be pursuing taxpayers who entered into their arrangements between 1 July 2014 and 30 June 2022 and thoroughly considered whether section 100A would affect them.

Proposed Changes to Companies Entitled to Trust Income (Division 7A)

The ATO has also released a draft ruling dealing with unpaid distributions owed by trusts to corporate beneficiaries. If the amount owed by the trust is deemed to be a loan, then it can potentially fall within the scope of Division 7A.

Division 7A captures situations where shareholders access company profits in the form of loans, payments or forgiven debts. If certain steps are not taken, these amounts can be treated as deemed unfranked dividends for tax purposes and taxable at the taxpayer’s marginal tax rate.

The latest ATO guidance looks at when an unpaid entitlement to trust income will start being treated as a loan. This could impact when a complying loan agreement needs to be put in place to prevent the full unpaid amount being treated as a deemed dividend, and also change when the trust needs to start making principal and interest repayments to the company.

If finalised, these changes to Division 7A will only apply to trust entitlements arising on or after 1 July 2022.

Who is likely to be impacted?

The ATO’s updated guidance focuses primarily on distributions made to adult children, corporate beneficiaries, and entities with losses. Depending on how arrangements are structured, there is potentially a significant impact to family trusts. However, it is important to remember that section 100A is not confined to these situations.

Once the draft rulings are finalised and the changes are confirmed, those with discretionary trusts will need to ensure that all trust distribution arrangements are reviewed by their accountant. It is also important to ensure that appropriate documentation is in place to demonstrate how funds relating to trust distributions are being used or applied for the benefit of beneficiaries.

A Note for Aintree Group Clients

As of May 2022, the ATO has clarified some areas of this draft ruling, however nothing is finalised. We will be in touch with clients individually once the ruling is set in stone.  

If you have any other questions or concerns, please be in touch with your Aintree Group advisor.