• UPE by a trust to a trust beneficiary

    The principles in TR 2010/3 and PS LA 2010/4 apply to UPEs owing by a trust to any entity, including another trust. Therefore, if Trust A appoints income to Trust B (a trust within the same family group) but does not pay the funds to Trust B, the UPE is capable of amounting to financial accommodation and may be a loan for Division 7A purposes unless the conditions in PS LA 2010/4 are satisfied. This is illustrated in Figure 1.

    Figure 1

    Conditions required to comply with PS LA 2010/4

    Division 7A will not automatically apply even though the UPE is a loan for Division 7A purposes. Essentially, a UPE becomes a loan, within the extended definition in these circumstances if the funds representing the UPE are not reinvested for the sole benefit of the beneficiary by the lodgment day of the trust income tax return. See paragraphs 46-48 of PS LA 2010/4.

    However, it becomes particularly important where Trust B similarly appoints an amount of net income, and does not pay the amount, to a private company beneficiary within the same family group. The paragraphs below highlight two scenarios as examples where Division 7A may potentially apply.

    Scenario 1: (potential application of Subdivision EA)

    Trust A, Trust B and PrivCo C are part of a family group. Trust A and Trust B have the same corporate trustee. Trust A and Trust B are both shareholders of PrivCo C.

    In June 2011, Trust A appoints all of its net income, but does not pay the amount to Trust B. Similarly, Trust B appoints all of its net income, but does not pay the amount to PrivCo C. Before the lodgment day for Trust B's 2011 tax return, the trustee decides to put the UPE owing by Trust B to PrivCo C on a sub-trust for the sole benefit of PrivCo C using one of the investment options in PS LA 2010/4.

    The trustee decides not to put the UPE owing by Trust A to Trust B on a sub-trust before the lodgment day of Trust A's 2011 tax return. The trustee of Trust B is aware of this but does not call for payment of its UPE, or for the funds representing that UPE, to be held for its sole benefit. As a result, the UPE would constitute financial accommodation and therefore a loan by Trust B to Trust A for Division 7A purposes.

    The arrangement is diagrammatically illustrated in Figure 2.

    Figure 2

    Potential application of Subdivision EA

    Subdivision EA of Division 7A applies to certain trustee payments, loans and debt forgiveness made in favour of a shareholder (or associate of a shareholder) of a private company on or after 12 December 2002. Subdivision EA of Division 7A applies to this arrangement to treat PrivCo C as having paid an assessable dividend to Trust A in the 2012 income year. This will occur unless an exception contained in Subdivision D of Division 7A applies, or the loan is fully repaid before PrivCo C's 2012 lodgment day (that is, the UPE has been paid out to Trust B by that date), or PrivCo C has insufficient distributable surplus such that section 109Y will operate.

    Scenario 2: (potential application of Subdivisions EA and EB)

    As with Scenario 1, Trust A, Trust B and PrivCo C are part of a family group. Trust A and Trust B have the same corporate trustee. Trust A, Trust B and Individual D are shareholders of PrivCo C.

    In June 2011, Trust A appoints all of its net income, but does not pay the amount to Trust B. Similarly, Trust B appoints all of its net income, but does not pay the amount to PrivCo C.

    On 1 July 2011, the trustee for Trust A decides to provide an interest-free loan to Individual D.

    Before the lodgment day for the 2011 trust returns, the trustee decides to put the UPE owing by Trust B to PrivCo C on a sub-trust for the sole benefit of PrivCo C using one of the investment options in PS LA 2010/4. The trustee also puts the UPE owing by Trust A to Trust B on a sub-trust for the sole benefit of Trust B using one of the investment options in PS LA 2010/4.

    The arrangement is diagrammatically illustrated in Figure 3.

    Figure 3

    Potential application of Subdivisions EA and EB

    Subdivision EA of Division 7A applies to certain trustee payments, loans and debt forgiveness made in favour of a shareholder (or associate) of a private company on or after 12 December 2002.

    From 1 July 2009, Subdivision EA can apply to (amongst other things) payments and loans from a trust of which a private company is taken to have an unpaid entitlement to income. Subdivision EB was introduced to ensure that the operation of Subdivision EA cannot be circumvented by interposing an entity between either the trust making a payment or loan to a shareholder (or their associate) or between a trust and the private company that holds an unpaid present entitlement to an amount from the net income of the trust.

    Section 109XI of Subdivision EB may apply in this arrangement to deem PrivCo C to be presently entitled to an amount of the net income of Trust A. Subdivision EA of Division 7A would then apply to treat PrivCo C as having paid an assessable dividend to Individual D in the 2011 income year. This will occur unless an exception contained in Subdivision D of Division 7A applies, or the loan is fully repaid before PrivCo C's 2011 lodgment day, or PrivCo C has insufficient distributable surplus such that section 109Y will operate.

     

    Further Information

    Refer to Taxation Determination TD 2011/15 for further information on how section 109XI operates.

    End of further information
      Last modified: 22 Jun 2011QC 24445