House of Representatives

Tax Laws Amendment (2007 Measures No. 3) Bill 2007

Tax Laws Amendment (2007 Measures No. 3) Act 2007

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello MP)

Chapter 10 Non-resident trustee beneficiaries

Outline of chapter

10.1 Schedule 9 to this Bill amends the Income Tax Assessment Act 1936 (ITAA 1936) and the Income Tax Assessment Act 1997 (ITAA 1997) to ensure that a trustee can be taxed on net income of the trust in relation to a non-resident trustee beneficiary similar to the treatment of non-resident company and individual beneficiaries. This treatment is, in effect, similar to a withholding system because the beneficiary is still assessed on these amounts but can reduce their tax liability by the tax paid by the trustee. This change applies to income years starting on or after 1 July 2006 and later income years.

10.2 The broadening of the taxation of trustees does not apply to Australian managed investment trusts and Australian intermediaries covered by the separate measure in Schedule 10 to this Bill (see Chapter 11).

10.3 Legislative references in this chapter are to provisions in the ITAA 1936 unless otherwise stated.

Context of amendments

10.4 Under the current law, a trustee is liable to pay tax on a beneficiary's share of the net income of the trust if the beneficiary is a non-resident company or individual at the end of the income year and is presently entitled to income of the trust. However, a trustee is not currently liable to pay tax if the beneficiary is a non-resident trustee of another trust. This means the taxation of trustees in relation to non-resident beneficiaries is inconsistent. Further, although a non-resident trustee is liable to pay Australian tax under the current rules in relation to non-resident company or individual beneficiaries, collecting the tax is difficult.

10.5 These amendments ensure a trustee is liable to pay tax in relation to a non-resident trustee beneficiary in a similar way to that in which a trustee is currently liable to pay tax in relation to a non-resident company or individual beneficiary. This means that the taxation of trustees in relation to non-resident beneficiaries is more consistent. These amendments also reduce the difficulty in collecting tax from non-resident trustees.

Summary of new law

10.6 These amendments extend a trustee's liability to be taxed on the net income of a trust to include the case where a trustee beneficiary who is a non-resident at the end of an income year is presently entitled to trust income. The trustee is to pay tax on that beneficiary's share of the net income of the trust attributable to an Australian source.

10.7 The broadening of the taxation of trustees does not apply to Australian managed investment trusts covered by the separate measure in Schedule 10. Similarly, it does not apply to Australian intermediaries covered by Schedule 10 to the extent their income is managed investment trust income (see Chapter 11).

10.8 Transitional provisions implement the exclusion for Australian managed investment trusts and intermediaries from this Schedule until the amendments in Schedule 10 apply. See paragraphs 10.49 to 10.51 for a more detailed explanation of the transitional provisions. Once the amendments in Schedule 10 apply, specific provisions in that Schedule will ensure the exclusion applies for later periods.

10.9 A trustee of a trust in a chain of trusts is not liable to pay tax on an amount included in the net income of that trust if that amount is reasonably attributable to an amount that has already been taxed in the hands of a trustee of a trust earlier in the chain.

10.10 The rate of tax that a trustee pays in relation to a non-resident trustee beneficiary is the top tax rate for a non-resident individual (currently, 45 per cent). There is no change to the tax rates a trustee pays in relation to non-resident individual and company beneficiaries that are not trustees.

10.11 The tax paid by the trustee is not a final tax in that an ultimate individual or company beneficiary is assessed on its share of the net income that is reasonably attributable to an amount on which the trustee was taxed. The ultimate beneficiary is then able to deduct from its tax liability its share of the tax paid by the trustee on that amount. The beneficiary is entitled to a refund of any excess tax.

Comparison of key features of new law and current law

New law Current law

The trustee of a trust is liable to pay tax on a non-resident trustee beneficiary's share of the net income of the trust attributable to an Australian source.

This treatment does not apply to Australian managed investment trusts and Australian intermediaries covered in Schedule 10 to this Bill (see Chapter 11).

A trustee of a trust is not liable to pay tax on a non-resident trustee beneficiary's share of the net income of the trust.

An ultimate individual or company non-trustee beneficiary that includes an amount in assessable income that is reasonably attributable to an amount on which a trustee earlier in a chain of trusts has paid tax is entitled to a deduction from tax liability for the amount that represents the relevant proportion of the tax paid by the trustee on that amount.

The ultimate individual or company non-trustee beneficiary may be a resident or non-resident.

There is no equivalent provision as a trustee is not assessed in relation to a non-resident trustee beneficiary's share of the trust net income.
A trustee does not pay tax in relation to a non-resident beneficiary's share of the net income that is reasonably attributable to a distribution declared to be conduit foreign income. A trustee may pay tax in relation to a non-resident beneficiary's share of the net income that is reasonably attributable to a distribution declared to be conduit foreign income.

If the amount of net income on which a trustee is assessed in relation to a non-resident trustee beneficiary includes a discount capital gain, the trustee is assessed as if the discount had not applied to the capital gain.

The ultimate beneficiary is entitled to a deduction from tax liability for their share of the tax paid by the trustee, including the extra amount paid as a consequence of the trustee being assessed as if the discount had not applied.

There is no equivalent provision as a trustee is not assessed in relation to a non-resident trustee beneficiary's share of the trust net income.

Detailed explanation of new law

When is a trustee liable to pay Australian tax on behalf of a beneficiary?

10.12 Generally, the net income of a trust is taxed to beneficiaries of the trust under section 97. However, section 98 applies in certain cases to tax a trustee in relation to a beneficiary, including where a beneficiary is a non-resident at the end of an income year. Trustees are taxed in relation to non-resident beneficiaries to assist in the collection of Australian tax on relevant income.

10.13 Under the current law, a trustee is liable to pay tax on a non-resident beneficiary's share of the net income of the trust where the beneficiary is a company (under subsection 98(3)) or an individual (under subsection 98(4)), but only if the beneficiary is not acting in the capacity of a trustee.

10.14 The amendments to section 98 do two things. The first is to restate the effect of the current subsections 98(3) and (4). The second is to extend the circumstances in which a trustee is taxed in respect of a non-resident beneficiary to include non-resident trustee beneficiaries.

Restating current subsections 98(3) and (4)

10.15 Subsection 98(2A) will now set out the circumstances in which a trustee is taxed in relation to a non-resident company or individual beneficiary [Schedule 9, item 1, subsection 98(2A )]. Subsection 98(3) will now provide the rules for determining the rates of tax that a trustee pays in relation to the share of the net income of those beneficiaries [Schedule 9, item 1, subsection 98(3 )].

10.16 The rewritten provisions do not change the way a trustee is taxed in relation to non-resident company and individual non-trustee beneficiaries. The trustee is taxed on a non-resident beneficiary's share of the net income of the trust whether attributable to Australian or foreign sources for the period the beneficiary is a resident. The trustee is taxed only on net income of the trust attributable to Australian sources (excluding dividends, interest and royalties) for the period the beneficiary is a non-resident. [Schedule 9, item 1, subsections 98(2A) and (3 )]

Extending the liability of trustees

10.17 These amendments extend a trustee's liability to pay tax to include the case where a non-resident beneficiary is a trustee of another trust and is presently entitled to income of the first trust. The trustee of the first trust is assessed on net income of the trust attributable to Australian sources (other than dividends, interest and royalties) for an income year if a trustee of the other trust is a non-resident at the end of that income year. If the other trust has more than one trustee, the amendments will apply if at least one trustee is a non-resident at that time. [Schedule 9, item 1, subsection 98(4 )]

Dividends, interest and royalties

10.18 A beneficiary is liable, under the withholding tax rules in Division 11A of Part III, for tax on Australian dividends, interest and royalties to which they are presently entitled while a non-resident. The withholding tax is collected from the trustee under the pay as you go withholding rules in the Taxation Administration Act 1953 . Income taxed under the withholding tax rules or excluded from those rules is not treated as assessable income and is therefore not taxed again to the trustee or beneficiary under either the current or new rules.

Distributions declared to be conduit foreign income

10.19 If an Australian company makes an unfranked frankable distribution that it declares to be conduit foreign income to a trustee, a trustee is not to be liable to pay tax in relation to a non-resident beneficiary's share of the net income of the trust that is reasonably attributable to all or part of that distribution. The non-resident beneficiary must be presently entitled to the share of the trust income that is reasonably attributable to all or part of that unfranked distribution. [Schedule 9, item 23, subsection 802-17(3) of the ITAA 1997]

10.20 A non-resident beneficiary is not assessed on its share of the net income of a trust to the extent the share of the net income is reasonably attributable to a distribution declared to be conduit foreign income. [Schedule 9, item 23, subsection 802-17(1) of the ITAA 1997]

10.21 The new provision ensures that distributions declared to be conduit foreign income are able to flow through trusts to non-resident beneficiaries free of Australian tax.

Capital gains

10.22 In calculating the net income of a trust, the trustee may be entitled to discount a capital gain by the relevant capital gains tax (CGT) discount percentage (currently, 50 per cent). However, such a discount is in effect reversed under section 115-220 of the ITAA 1997 in determining the amount on which a trustee pays tax in relation to a non-resident company beneficiary not acting in a trustee capacity. Taxing a trustee in this way ensures that a company beneficiary cannot gain access to a CGT discount to which it should not be entitled.

10.23 Similarly, a new provision in effect reverses a CGT discount in determining the amount on which a trustee pays tax in relation to a non-resident trustee beneficiary. [Schedule 9, item 21, section 115-222 of the ITAA 1997]

Example 10.1: Trustee tax - discount capital gain included in net income (For illustrative purposes, this example uses the tax rates for the 2006-07 income year as in force on 1 July 2006.)The P Trust has two non-resident trustee beneficiaries, the trustee of the S Trust and the trustee of the H Trust. The trustee of the S Trust is presently entitled to a three-fifths share of the income of the P Trust. The trustee of the H Trust is presently entitled to a two-fifths share of the income of the P Trust.The net income of the P Trust is $100,000. It is all attributable to Australian sources. A discounted capital gain of $40,000 (the gain before discount having been $80,000) on taxable Australian property was taken into account in working out the net income.The trustee of the P Trust pays tax of $37,800 in respect of the trustee of the S Trust's interest. The tax includes an extra amount of $10,800 as a result of the operation of section 115-222 of the ITAA 1997. The trustee of the P Trust also pays tax of $25,200 (including an amount of $7,200 as a result of the operation of section 115-222) in respect of the trustee of the H Trust's interest.

Exclusions for certain trustees

Provisions affecting a trustee's tax liability

10.24 Under the existing law, a trustee is generally taxed under subsection 98(1) or (2) in relation to a particular beneficiary where the beneficiary is under a legal disability or is treated as presently entitled to a share of the income of the trust. In such a situation, the trustee is not taxed under the current subsection 98(3) or (4) where the beneficiary is also a non-resident at the end of the income year.

10.25 The amendments to restate the effect of subsections 98(3) and (4) do not change this outcome.

10.26 Beneficiaries acting in a trustee capacity are in effect excluded from the current operation of subsections 98(1) and (2). The amendments do not change this outcome.

10.27 Currently, subsections 98(3) and (4) have the effect that trustees do not pay tax in relation to a beneficiary:

·
to whom section 97A applies; or
·
that is a body, association, fund or organisation to which subsection 97(3) applies.

Again, the amendments to restate the effect of subsections 98(3) and (4) do not change this outcome [Schedule 9, item 1, subparagraphs 98(2A)(a)(iii) and (iv )]. The new subsection 98(4) also does not tax a trustee in relation to a beneficiary to whom subsection 97(3) applies.

Trustees in a chain of trusts

10.28 A chain of trusts exists where a trustee of one trust is a beneficiary in another trust (see the diagram in Example 10.2). A trustee of a trust in a chain of trusts is not liable to pay tax under section 98 (or section 99 or 99A) on an amount included in the net income of that trust to the extent that the share of net income is reasonably attributable to an amount that has already been taxed to a trustee earlier in the chain. [Schedule 9, item 8, section 99E]

10.29 In particular, subsection 98(4) does not apply to a trustee in a chain of trusts if the relevant share of net income is reasonably attributable to an amount on which a trustee earlier in the chain was taxed under subsection 98(4).

Example 10.2: Trustees in a chain of trusts

Diagram:  Example 10.2

The trustee of Trust B is the only beneficiary of Trust A and the trustee of Trust C is the only beneficiary of Trust B. The trustee of Trust B is a non-resident at the end of the income year, as is the trustee of Trust C. Trust B is presently entitled to all of the income of Trust A. Similarly, Trust C is presently entitled to all of the income of Trust B. All the income of Trust A has an Australian source and the only income of Trust B and Trust C is that flowing to them from Trust A. There is one non-resident beneficiary presently entitled to all the trust income of Trust C but under a legal disability.Neither the trustee of Trust B nor the trustee of Trust C is taxed given that the trustee of Trust A is taxed under subsection 98(4). That is, the trustee of Trust B is not taxed under subsection 98(4) in relation to the non-resident trustee of Trust C. Similarly, the trustee of Trust C is not taxed under subsection 98(1) in relation to its individual beneficiary. However, if Trust C had other Australian source income, the trustee would be liable to pay tax under subsection 98(1) on the beneficiary's share of the net income that is attributable to that Australian source income. Example 10.3: Chain of trusts and ultimate company beneficiary (For illustrative purposes, this example uses the tax rates for the 2006-07 income year as in force on 1 July 2006.)The Fun Trust has one beneficiary. The beneficiary is the trustee of the NoFun Trust and is a non-resident at the end of the income year. The trustee beneficiary is presently entitled to all the income of the Fun Trust. The net income of the Fun Trust (all attributable to Australian sources) is $100,000. The trustee of the Fun Trust pays $45,000 tax on the trustee of the NoFun Trust's share (100 per cent) of the net income under subsection 98(4).The NoFun Trust has a non-resident company beneficiary that is presently entitled to a one-half share of the income of the NoFun Trust. The net income of the NoFun Trust is $120,000 ($100,000 being included as a share of the Fun Trust's net income plus an extra $20,000 from Australian investments). The trustee of the NoFun Trust pays tax of $3,000 (50 per cent of 30 per cent of $20,000) in relation to $10,000 of the non-resident company beneficiary's share of the net income of the NoFun Trust under paragraph 98(3)(b), being that share attributable to the income derived by the trust from its Australian investments. The trustee does not pay tax on the remainder of the non-resident company's share of the net income ($50,000) as it is reasonably attributable to an amount on which the trustee of the Fun Trust paid tax under subsection 98(4) (see section 99E). Example 10.4: Chain of trusts and no ultimate beneficiary (For illustrative purposes, this example uses the tax rates for the 2006-07 income year as in force on 1 July 2006.)The D Trust has two beneficiaries, the trustee of the F Trust and the trustee of the G Trust. Both trustee beneficiaries are non-residents at the end of the income year. The trustee of the F Trust is presently entitled to a three-fifths share of the income of the D Trust. The trustee of the G Trust is presently entitled to a two-fifths share of the income of the D Trust.The net income of the D Trust (all attributable to Australian sources) is $100,000. Under subsection 98(4), the trustee of the D Trust pays $27,000 tax on the trustee of F Trust's share of the net income and $18,000 tax on the trustee of G Trust's share of the net income. The F Trust's net income is $80,000 ($60,000 from the D Trust and $20,000 from other Australian investments). The G Trust's net income is $35,000 as the trustee incurred expenses relating to the income from the D Trust.There are no beneficiaries presently entitled to the income of either the G Trust or the F Trust. The trustee of the G Trust has no further Australian tax liabilities (see section 99E). The trustee of the F Trust is liable to pay tax under section 99A (if it is not unreasonable that this section applies) on the net income not reasonably attributable to the amount on which the trustee of D Trust paid tax (ie, tax under section 99A on $20,000).

What are the tax rates for a trustee?

10.30 There is no change to the tax rates a trustee pays in relation to non-resident individual and company beneficiaries that are not trustees of other trusts. Those rates continue to be:

·
if the beneficiary is a company - the company tax rate (currently 30 per cent) [Schedule 9, items 1 and 27 to 29, paragraph 98(3)(b), and sections 5 and 28 of the Income Tax Rates Act 1986] ;
·
if the beneficiary is an individual - the trustee is assessed as though an individual and not entitled to any deductions [Schedule 9, item 1, paragraph 98(3)(a )].

10.31 The tax rate for trustees assessed in relation to non-resident trustee beneficiaries as a result of these amendments is the non-resident individual top marginal tax rate (currently, 45 per cent). [Schedule 9, items 1 and 27 to 29, subsection 98(4) and sections 5 and 28 of the Income Tax Rates Act 1986]

How are ultimate company and individual beneficiaries treated?

10.32 The tax paid by the trustee in relation to a non-resident beneficiary is generally not a final tax. Ultimate company and individual non-trustee beneficiaries are entitled to a credit for the tax paid by the trustee on an amount to which their share of the net income is reasonably attributable. The beneficiary is entitled to a refund if the tax paid by the trustee is greater than the beneficiary's tax liability.

Ultimate beneficiary (trustee assessed under subsection 98(3))

10.33 There is no change to the way a non-resident company or individual non-trustee beneficiary is treated where a trustee is taxed on the beneficiary's share of the trust's net income. The non-resident company or individual beneficiary includes in their assessable income their share of the amount of the trust's net income on which the trustee was taxed (see subsection 98A(1)).

10.34 The beneficiary can deduct from their tax liability the amount of tax the trustee paid in relation to the beneficiary's interest in the net income of the trust. If the tax paid by the trustee in relation to the beneficiary's interest is greater than the tax liability of the beneficiary, the company or individual beneficiary is entitled to a refund of the difference (see subsection 98A(2)). As under the current law, the Commissioner may use the amount to offset any other tax liabilities of the beneficiary.

Ultimate beneficiary (trustee assessed under subsection 98(4))

10.35 If a trustee is taxed on the net income of the trust in relation to a non-resident trustee beneficiary under subsection 98(4), a later trustee in a chain of trusts is not taxed again on that income under section 98, 99 or 99A. However, an amount attributable to that net income may be taxed to the ultimate individual or company non-trustee beneficiary under subsection 98A(3), section 97 or section 100.

Subsection 98A(3)

10.36 A non-resident individual or company non-trustee beneficiary (including an individual under a legal disability) presently entitled to income of a trust, includes in assessable income their share of the trust net income that is reasonably attributable to an amount of net income previously taxed under subsection 98(4) to a trustee earlier in the chain. [Schedule 9, item 4, subsection 98A(3 )]

10.37 A new provision ensures an ultimate non-resident beneficiary is not assessed on the same share of the trust net income under both subsections 98A(1) and 98A(3). Subsection 98A(3) operates in preference to subsection 98A(1) where both may otherwise have applied. This prevents the same amount being included twice in the beneficiary's assessable income. [Schedule 9, item 4, subsection 98A(4 )]

Section 97

10.38 A resident individual or company non-trustee beneficiary presently entitled to the income of a later trust includes in their assessable income the share of the net income of the later trust under section 97, provided Part XI (about foreign investment funds) does not apply. Some of that amount may be reasonably attributable to an amount on which a trustee earlier in the chain paid tax under subsection 98(4).

Section 100

10.39 A resident or non-resident beneficiary who is under a legal disability or who is treated as being presently entitled under subsection 95A(2) and who derives income from more than one trust estate may be assessed under subsection 100(1).

10.40 A new provision is being inserted into section 100 to ensure a resident who is a beneficiary in only one trust estate, and is either under a legal disability or is treated as being presently entitled under subsection 95A(2), is assessed under the section to the extent their interest in the net income is reasonably attributable to an amount on which the trustee was taxed under subsection 98(4). [Schedule 9, item 11 subsection 100(1B )]

10.41 A new provision ensures an ultimate non-resident beneficiary is not assessed on the same share of the trust net income under both section 100 and subsection 98A(3). Subsection 98A(3) operates in preference to section 100 where both may otherwise have applied. This prevents the same amount being included twice in the beneficiary's assessable income. [Schedule 9, items 4, 9 and 10, subsection 98A(4) and subsection 100(1), note 2]

Deduction from tax liability for tax paid by a trustee under subsection 98(4)

10.42 An ultimate beneficiary who includes an amount in their assessable income under section 97, subsection 98A(3) or section 100 can deduct from their tax liability a proportion of the tax paid under subsection 98(4) by a trustee earlier in the chain [Schedule 9, item 5, section 98B] . The tax paid by the trustee includes the tax paid under section 115-220 or 115-222 of the ITAA 1997 that relates to a capital gain [Schedule 9, item 5, paragraph 98B(2)(c )].

10.43 A beneficiary who includes an amount in their assessable income because of the operation of section 100 cannot reduce their tax liability under subsection 100(2) by reference to the tax paid by a trustee under subsection 98(4), to the extent section 98B allows the beneficiary a deduction from tax liability for the tax paid. [Schedule 9, item 12, subsection 100(3 )]

10.44 A beneficiary who is entitled to a deduction from tax liability under section 98B calculates the amount they can deduct from their tax liability having regard to:

·
the amount on which they are assessed under section 97, subsection 98A(3) or section 100;
·
the extent to which the amount relates to a share of the net income of a trust on which a trustee paid tax under subsection 98(4); and
·
the amount of tax the trustee paid on that share of the net income.

The amount of the deduction is the same proportion of the tax paid as the proportion of that share that gave rise to the amount on which the beneficiary was assessed [Schedule 9, item 5, subsection 98B(3 )]. The total amount that all relevant beneficiaries entitled to a section 98B credit can deduct cannot exceed the total of the tax paid by the trustee on the net income of the trust under subsection 98(4).

10.45 If the amount the beneficiary is able to deduct from their tax liability is greater than their tax liability, they are entitled to a refund of the difference. [Schedule 9, item 5, subsection 98B(4 )]

10.46 If an ultimate beneficiary does not include an amount in assessable income that is reasonably attributable to net income on which a trustee has paid tax under subsection 98(4) (eg, because expenses and losses have been offset against that amount as it flows through the chain of trusts), the beneficiary is not entitled to a deduction for the tax the trustee paid. Similarly, if there is no individual or company beneficiary presently entitled to the trust income of the trust at the end of a chain of trusts in an income year, any tax paid by an earlier trustee on the net income of the trust does not give rise to a deduction from tax liability for any beneficiary.

Effect on a beneficiary of a discount capital gain included in trust net income

10.47 If a beneficiary is assessed on an amount of trust net income that is attributable to a capital gain, the CGT provisions in effect treat the beneficiary as having made that capital gain. If the trust capital gain was a discount capital gain, the beneficiary is treated as if they had made a capital gain double that included in their share of the trust net income. [Schedule 9, item 16, subparagraphs 115-215(2)(b)(ii) and (iii) of the ITAA 1997]

10.48 A beneficiary offsets their capital losses and carry-forward net capital losses against the trust capital gain and applies the appropriate discount percentage to the gain. A company beneficiary is not entitled to a CGT discount.

Example 10.5: Net income includes a discount capital gain - beneficiary assessment and credit (S Trust)(This example follows on from Example 10.1. For illustrative purposes, it uses the tax rates for the 2006-07 income year as in force on 1 July 2006.)The S Trust has one beneficiary and that beneficiary is presently entitled to all of the income of the S Trust. The beneficiary, John, is a non-resident individual.The net income of the S Trust is $60,000 as it has income only from the P Trust. This amount includes $24,000 in relation to the capital gain (having applied the CGT discount). The trustee of the S Trust is not required to pay tax in relation to John as all the net income of the trust is reasonably attributable to the amount on which the trustee of the P Trust paid tax.John includes $60,000 in his assessable income (ie, his interest in the net income of the S Trust that is reasonably attributable to a part of the net income of the P Trust on which the trustee of the P Trust paid tax under subsection 98(4)). Under subparagraph 115-215(2)(b)(ii), John is treated has having made an extra capital gain of $48,000. John is entitled to a deduction of $24,000 under subsection 115-215(6).Assuming John has no capital losses or carry forward net capital losses, the total amount included in John's assessable income is $36,000 trust income and net capital gain of $24,000.John's tax liability is $17,750 less the relevant share of the tax paid by the trustee of the P Trust on a part of the net income (namely, the tax paid on the trustee of S Trust's share of the net income ($60,000)). The relevant amount of the tax paid by the trustee of the P Trust is $37,800 (including the amount under section 115-222), which means that John is entitled to a refund of $20,050 ($37,800 - $17,750). Example 10.6: Net income includes a discount capital gain - beneficiary assessment and credit (H Trust) (This example also follows on from Example 10.1. For illustrative purposes, it uses the tax rates for the 2006-07 income year as in force on 1 July 2006.)The H Trust has one non-resident company beneficiary, Duffy Pty Ltd.The net income of the H Trust is $40,000 as it only has income from the P Trust. This amount includes $16,000 in relation to the capital gain (having applied the CGT discount). The trustee of the H Trust is not required to pay tax in relation to Duffy Pty Ltd as all the net income of the trust is reasonably attributable to the amount on which the trustee of the P Trust paid tax.Duffy Pty Ltd includes $40,000 in its assessable income (ie, its interest in the net income of the H Trust that is reasonably attributable to a part of the net income of the P Trust on which the trustee of the P Trust paid tax under subsection 98(4)). Under subparagraph 115-215(2)(b)(ii), Duffy Pty Ltd is treated as having made an extra capital gain of $32,000. Duffy Pty Ltd is entitled to a deduction of $16,000 under subsection 115-215(6).Assuming Duffy Pty Ltd has no capital losses or carry forward net capital losses, the total amount included in its assessable income is $24,000 trust income and net capital gain of $32,000 (no CGT discount).Duffy Pty Ltd's tax liability is $16,800 less the relevant share of the tax paid by the trustee of the P Trust on a part of the net income (namely, the tax paid on the trustee of H Trust's share of the net income ($40,000)). The relevant amount of the tax paid by the trustee of the P Trust is $25,200 (including the amount under section 115-222). Duffy Pty Ltd is entitled to a refund of $8,400 ($25,200 - $16,800). Example 10.7: Comprehensive example (For illustrative purposes, this example uses the tax rates for the 2006-07 income year as in force on 1 July 2006.)The following is a comprehensive example demonstrating the calculation for different types of ultimate beneficiaries of the amount they can deduct from their tax liability as a credit for tax paid by a trustee under subsection 98(4) where there is a chain of trusts.

Diagram:  Example 10.7

The Fun Trust The Fun Trust has three beneficiaries, ForCo A Pty Ltd (a company) and the trustees of D Trust and NoFun Trust. The beneficiaries are non-residents for the whole of the 2007-08 income year and are presently entitled to all the income of the Fun Trust in equal proportions (one-third each).The income of the Fun Trust is $150,000, comprising $120,000 of Australian source income and $30,000 of foreign source income. This is also the net income of the trust.The trustee of the Fun Trust is assessed under paragraph 98(3)(b) on ForCo A Pty Ltd's share of the net income of the trust attributable to an Australian source (ie, on $40,000). The trustee is also assessed under subsection 98(4) on the share of the net income of each trustee of the D Trust and the NoFun Trust attributable to an Australian source. The trustee of the Fun Trust pays a total of $48,000 tax (30 per cent of $40,000 plus 45 per cent of $80,000). The D Trust The only income for D Trust is its share of Fun Trust's net income, which is $50,000. This is also the net income of the trust. There are no beneficiaries presently entitled to the income of D Trust for the 2007-08 income year. The trustee of the D Trust does not pay any Australian tax under section 99 or 99A as the net income of the trust attributable to an Australian source is reasonably attributable to an amount on which an earlier trustee (ie, the trustee of the Fun Trust) paid tax under subsection 98(4) (section 99E). The trustee of the D Trust is not liable for tax on the net income of the trust attributable to a foreign source. ForCo A Pty Ltd ForCo A Pty Ltd has no Australian source income other than from its investment in the Fun Trust. Its taxable income is $40,000 (subsection 98A(1)) and tax payable on that income is $12,000. However, ForCo A Pty Ltd's tax liability is nil ($12,000 less $12,000 tax paid by the trustee of the Fun Trust on ForCo A Pty Ltd's share of the net income of the Fun Trust (subsection 98A(2)). The NoFun Trust The net income of the NoFun Trust includes a share of the net income of the Fun Trust of $50,000 and an amount of foreign source income of $25,000. The NoFun Trust had deductible expenses relating to its investment in the Fun Trust of $5,000, which means the total net income of the NoFun Trust is $70,000. The amount of the net income attributable to Australian sources is $36,000,(ie, $50,000 - $10,000 minus four-fifths of $5,000).The NoFun Trust has two beneficiaries, the trustee of the Sea Trust and ResidentCo Pty Ltd. The trustee of the Sea Trust is presently entitled to four-fifths of the income of the NoFun Trust. ResidentCo Pty Ltd is presently entitled to one-fifth of the income. ResidentCo was a resident for the whole of the 2007-08 income year, and the trustee of the Sea Trust was a non-resident at the end of that income year.The trustee of the NoFun Trust does not pay Australian tax on either of its beneficiaries' share of the net income. The trustee of the NoFun Trust would not pay tax in relation to ResidentCo Pty Ltd as a trustee does not pay tax in relation to resident company beneficiaries. The trustee of the NoFun Trust would not pay tax in relation to the Sea Trust under subsection 98(4) because the trustee of the Sea Trust's share of the net income attributable to an Australian source is reasonably attributable to an amount on which an earlier trustee (ie, the trustee of the Fun Trust) paid tax under subsection 98(4) (section 99E).Assume the rules dealing with foreign investment fund income in Part XI do not apply to ResidentCo Pty Ltd. Assume also that ResidentCo Pty Ltd has $10,000 income from its Australian investments. ResidentCo Pty Ltd includes the $10,000 in its assessable income. The company also includes in its assessable income (because of section 97) $14,000, being its share of the net income of the NoFun Trust (one-fifth of $70,000). It has no deductible expenses.ResidentCo Pty Ltd's taxable income is $24,000. ResidentCo Pty Ltd's tax liability is $7,200 less $3,600. The $3,600 is the tax paid on that portion (one-fifth) of the trustee of the NoFun Trust's share of the net income of the Fun Trust as gave rise to an amount included in ResidentCo's assessable income. That is, $3,600 is one-fifth of $18,000. The $3,600 is available as a deduction because of subsection 98B(3). The Sea Trust The Sea Trust has two beneficiaries, ForCo B Pty Ltd and Geoff (an adult individual). Both beneficiaries are non-residents for the whole of the 2007-08 income year and are presently entitled to equal shares in the income of Sea Trust.The net income of the Sea Trust includes a share of the net income of the NoFun Trust of $56,000 (four-fifths of $70,000) and net rental income from an Australian building of $30,000. The Sea Trust's total net income is $86,000. However, the net income attributable to an Australian source is only $58,800 (four-fifths of $36,000 plus $30,000 of rental income).The trustee of the Sea Trust pays Australian tax in relation to both its beneficiaries but only on their share of the net income that is attributable to an Australian source and on which (because of section 99E) an earlier trustee was not taxed under subsection 98(4). That is, the rental income of $30,000. The trustee pays tax of $8,750 (29 per cent of $15,000 (ie, $4,350) in relation to Geoff under paragraph 98(3)(a) plus 30 per cent of $15,000 (ie, $4,500) in relation to ForCo B Pty Ltd under paragraph 98(3)(b)).ForCo B Pty Ltd includes $29,400 in assessable income. An amount of $15,000 is included under subsection 98A(1) as a result of the trustee of Sea Trust's being taxed on ForCo B's share of the $30,000 net rental income, and $14,400 is included under subsection 98A(3), being the amount of the company's share of the net income of the Sea Trust as is reasonably attributable to an amount on which an earlier trustee paid tax (ie, the tax paid by the trustee of the Fun Trust under subsection 98(4)).ForCo B Pty Ltd has no other Australian source income or expenses, which means its taxable income is $29,400. ForCo B Pty Ltd's tax liability is $8,820 less $4,500 (tax paid by the trustee of the Sea Trust (see subsection 98A(2)) reduced further by $7,200 (tax paid by the trustee of the Fun Trust under subsection 98(4) on that portion (four-fifths of one-half) of the trustee of the NoFun Trust's share of the net income of the Fun Trust as gave rise to the $14,400 included in ForCo B's assessable income (see subsection 98B(3)). ForCo B is entitled to a refund of $2,880 as a result of the operation of subsections 98A(2) and 98B(4).Geoff includes $29,400 in assessable income. An amount of $15,000 is included under subsection 98A(1) as a result of the trustee of the Sea Trust being taxed on Geoff's share of the $30,000 net rental income and $14,400 is included under subsection 98A(3), being the amount of Geoff's share of the net income of the Sea Trust as is reasonably attributable to an amount on which an earlier trustee paid tax (ie, the tax paid by the trustee of the Fun Trust under subsection 98(4)).Geoff has no other Australian source income or expenses, which means his taxable income is $29,400. Geoff's tax liability is $8,570 less $4,350 (tax paid by the trustee of the Sea Trust (see subsection 98A(2)) reduced further by $7,200 (tax paid by the trustee of the Fun Trust under subsection 98(4) on that portion (four-fifths of one-half) of the trustee of the NoFun Trust's share of the net income of the Fun Trust as gave rise to the $14,400 included in Geoff's assessable income (see subsection 98B(3)). Geoff is entitled to a refund of $2,980 as a result of the operation of subsections 98A(2) and 98B(4).The total of the tax paid by the trustee of the Fun Trust was $48,000. Ultimate beneficiaries were able to claim $30,000 of the tax paid. No non-trustee individual or company was entitled to a deduction from tax liability for the remaining $18,000 of the tax paid by the trustee of the Fun Trust because there were no ultimate beneficiaries in the D Trust.

Application and transitional provisions

10.49 Generally, amendments made by this Schedule apply to income years starting on or after 1 July 2006. The changes made to the conduit foreign income provisions apply from 1 July 2005, which is when those provisions first applied. [Schedule 9, item 30]

10.50 The new rule that taxes a trustee in relation to a non-resident trustee beneficiary (subsection 98(4)) does not apply for an income year that starts on or after 1 July 2006 for trustees of Australian managed investment trusts that are to be covered by the separate measure in Schedule 10 (see Chapter 11). There is a similar exclusion for that period applicable to trustees who are intermediaries covered by Schedule 10 to this Bill, but only in so far as their income is managed investment trust income. Until the separate measure comes into force, this result is achieved by transitional provisions. The conditions in these transitional exclusions are modelled on the eligibility provisions in Schedule 10. [Schedule 9, items 32 and 33]

10.51 Once Schedule 10 is in force, new section 99G will ensure that, as an ongoing rule, subsection 98(4) will not apply to managed investment trusts and intermediaries.

10.52 A transitional provision ensures that the new subsection 98(4) does not apply to a trustee of a trust that ceased to exist before the date on which this Bill was introduced into the House of Representatives. This exclusion extends, for example, to a testamentary or other trust that was wound up before this date. [Schedule 9, item 31]

Example 10.8 (For illustrative purposes, this example uses the tax rates for the 2006-07 income year as in force on 1 July 2006.)The P Trust is a widely-held Australian managed investment trust with an income year that starts on 1 July 2006. The P Trust is an Australian resident trust estate for the 2006-07 income year. A beneficiary in the P Trust is the trustee of the S Trust, who is a non-resident during both the 2006-07 and 2007-08 income years. The trustee beneficiary is presently entitled to a 1 per cent share of the income of the P Trust. The net income of the P Trust for the 2006-07 income year is $1 million and does not include any capital gains. The trustee of the P Trust does not pay tax under subsection 98(4) on S Trust's share of the net income of the trust.The S Trust has a single non-resident company beneficiary (Forco Pty Ltd) presently entitled to all the income of the trust. The net income of the S Trust is $10,000 for the 2006-07 year. The trustee of the S Trust is assessed and is liable to pay tax of $3,000 on ForCo Pty Ltd's share of the net income of the trust.If this Bill receives Royal Assent on or before 30 June 2007, the new measure in Schedule 10 applies to the trustee of the P Trust for the income year that commences on 1 July 2007. The net income of the P Trust for the 2007-08 income year is the same as it was for the previous income year. During the year, the trustee of the P Trust makes a payment of $10,000 to the trustee of the S Trust. On the basis that the conditions in Schedule 10 are satisfied, the trustee of the P Trust withholds $3,000 from the amount of $10,000 it pays to the trustee of the S Trust. The trustee of the S Trust does not pay any further tax in relation to the $10,000 (being Forco Pty Ltd's share of the net income of the trust).

Consequential amendments

10.53 Amendments to Division 855 of the ITAA 1997 are being made (and a transitional rule included in relation to its predecessor in Subdivision 768-H of the ITAA 1997) as a consequence of the changes to subparagraph 115-215(2)(b)(ii) of the ITAA 1997 (discussed in paragraph 10.47). Other amendments are being made to Division 855 (and a further transitional rule included for Subdivision 768-H) because of the expanded taxation of a trustee in relation to a non-resident trustee beneficiary. [Schedule 9, items 24 to 26, subsections 855-40(3) and (4) of the ITAA 1997]

10.54 Subdivision 768-H was rewritten as Division 855 of the ITAA 1997 (as part of the Tax Laws Amendment (2006 Measures No. 4) Act 2006 ). Subsection 855-40(9) replaced section 768-615. Both provisions relate to capital gains and losses made by a beneficiary of a fixed trust if the beneficiary is a foreign resident company. The changes to subparagraph 115-215(2)(b)(ii) mean neither provision is now needed.

10.55 Subsection 855-40(9) is being repealed for an income year that starts on or after 1 July 2006 [Schedule 9, item 26] . Section 768-615 of the ITAA 1997 was repealed in relation to CGT events that happened on or after 12 December 2006. To ensure consistency with the changes to subparagraph 115-215(2)(b)(ii) that apply to income years commencing on or after 1 July 2006, a transitional rule dealing with the application of former section 768-615 has been included. This transitional rule prevents the operation of former section 768-615 in relation to income years commencing on or after 1 July 2006 [Schedule 9, item 34] .

10.56 The repeal of subsection 855-40(9) and the earlier repeal of section 768-615 do not affect the ability of a company beneficiary of a fixed trust to disregard capital gains and losses made by them in respect of trust assets that are not taxable Australian property. These companies now gain access to this concession through subsection 855-40(3) or subsection 768-605(3) (whichever is relevant) as a result of these amendments.

10.57 The table of particular deductions in section 12-5 of the ITAA 1997 is amended to reflect the fact that subsection 855-40(9) has been repealed. [Schedule 9, item 14, section 12-5 of the ITAA 1997]

10.58 Minor amendments are being made to subsections 98A(1) and (2) to reflect the structure of the new law. [Schedule 9, items 2 and 3, subsection 98A(1) and paragraph 98A(2)(a )]

10.59 Two minor amendments are being made to section 99B. One amendment is made because of the expanded taxation of a trustee in relation to a non-resident trustee beneficiary. The other amendment is made as a result of the new section 802-17 of the ITAA 1997 inserted by this Schedule that relates to the conduit foreign income rules. [Schedule 9, items 6 and 7, section 99B]

10.60 A new reference is being added under the heading 'trusts' in the check list of tax offsets in section 13-1 of the ITAA 1997. The new reference reflects that a beneficiary in a foreign trust may reduce their tax liability under section 98B. [Schedule 9, item 15, section 13-1 of the ITAA 1997]

10.61 Minor amendments are being made to section 115-220 of the ITAA 1997 to reflect the changes made to Division 6. [Schedule 9, items 17 to 20, section 115-220]

10.62 Minor amendments are being made to section 5 of the Income Tax Rates Act 1986 to reflect the structure of the new law. [Schedule 9, items 27 and 28, section 5 of the Income Tax Rates Act 1986]

10.63 Minor amendments are being made to subparagraph 207-50(3)(b)(ii) of the ITAA 1997 to reflect the new structure of sections 98A and 100. [Schedule 9, item 22, subparagraph 207-50(3)(b)(ii )].


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