Edited version of private ruling

Authorisation Number: 1011790081265

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Ruling

Subject: Public trading trust - franking deficit tax liability

Question 1

Is the Unit Trust a private company and entitled to the full franking deficit tax offset under subsection 205-70(5) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer: No.

The unit trust is not a private company and is not entitled to the full franking deficit tax offset provided for in subsection 205-70(5) of the ITAA 1997.

Question 2

Does the Commissioner determine, under subsection 205-70(6) of the ITAA 1997, that the excess referred to in Steps 1 and 2 of the method statement in subsection 205-70(2) was due to events outside the control of the trust?

Answer: No.

This ruling applies for the following period:

Year ended 30 June.

Facts

The unit trust is identified as a public trading trust under section 102 of the ITAA1936 because:

1. 50% of its units is held by a Self-Managed Super Fund, which is an exempt entity, and the other 50% is held by a family trust; and

2. it carries on a trading business.

The trust started trading in this year and was not required by the Tax Office to pay any PAYG instalments. The trust lodged a company tax return. The trust claimed the franking deficit tax offset.

The trust paid an amount to its unit holders, which can be classified as franked dividends. The trust lodged a franking deficit tax return and paid an amount of franking deficit tax. The company's franking account was in debit at 30 June in that income year.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 9-1

Income Tax Assessment Act 1997 Division 205

Income Tax Assessment Act 1997 Section 205-70

Income Tax Assessment Act 1997 Section 960-15

Income Tax Assessment Act 1936 Division 6C

Income Tax Assessment Act 1936 Section 102M

Income Tax Assessment Act 1936 Section 102N

Income Tax Assessment Act 1936 Section 102P

Income Tax Assessment Act 1936 Section 102R

Income Tax Assessment Act 1936 Section 102S

Income Tax Assessment Act 1936 Division 7

Income Tax Assessment Act 1936 Section 103A

Taxation Administration Act 1953 Schedule 1

Taxation Administration Act 1953 Division 45

Income Tax Rates Act 1986 Part III

Income Tax Rates Act 1986 Section 25.

Reasons for decision

These reasons for decision accompany the Notice of private ruling.

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

Question 1

Detailed reasoning

Public trading trusts

Under Division 6C of Part III of the Income Tax Assessment Act 1936 (ITAA 1936) certain unit trusts, called 'public trading trusts' are treated as if they are companies for tax purposes. Generally speaking, a 'public trading trust' is unit trust which is a 'public unit trust' and which also carries on a trading business.

Taxation of public trading trusts

Item 13 of the table contained in section 9-1 of the Income Tax Assessment Act 1997 (ITAA 1997) identifies the trustee of a public trading trust as a taxable entity.

Section 102S of the ITAA 1936 confirms that the net income of a public trading trust is taxable:

The trustee of a unit trust that is a public trading trust in relation to a relevant year of income shall be assessed and is liable to pay tax on the net income of the public trading trust for the relevant year of income at the rate declared by Parliament for the purposes of this section.

Section 25 of Part III of the Income Tax Rates Act 1986 (ITRA) specifies the rate of tax payable by trustees of public trading trusts:

The rate of tax payable by a trustee of a public trading trust in respect of the net income of the public trading trust in respect of which the trustee is liable, under section 102S of the Assessment Act, to be assessed and pay tax is 30%.

Franking deficit tax liability - tax offset

Under section 205-70 of the ITAA 1997 corporate tax entities may be entitled to a tax offset arising from franking deficit tax (FDT) liabilities.

Section 960-115 of the ITAA 1997 provides the definition of 'corporate tax entity':

An entity is a corporate tax entity at a particular time if:

(a) the entity is a company at that time; or

(b) the entity is a corporate limited partnership in relation to the income year in which that time occurs; or

(c) the entity is a corporate unit trust in relation to the income year in which that time occurs; or

(d) the entity is a public trading trust in relation to the income year in which that time occurs.'

As a public trading trust is defined to be a corporate tax entity, the unit trust is eligible for the tax offset arising from FDT liabilities subject to the conditions expressed in section 205-70.

Subsection 205-70(1) of the ITAA 1997 sets out the circumstances in which a corporate tax entity may be entitled to the tax offset:

A corporate tax entity is entitled to a tax offset for an income year for which it satisfies the residency requirement (the relevant year) if at least one of the following applies:

(a) the entity has incurred a liability to pay franking deficit tax in the relevant year;

(b) the entity incurred such a liability in a previous income year for which it did not satisfy the residency requirement, and that liability has not been taken into account in working out a tax offset under this section;

(c) when the entity was last entitled to a tax offset under this section for a previous income year, some of the offset remained after applying section 63-10 (tax offset priority rules).

The tax offset is calculated using the method statement provided in subsection 205-70(2) of the ITAA 1997.

The 30% reduction in the FDT tax offset arising under steps 1 and 2 of the method statement in subsection 205-70(2) of the ITAA 1997 where the FDT liability is more than 10% of the entity's franking credits for the income year does not apply in the first income year in which a private company has an income tax liability - refer to subsection 205-70(5). This concession is designed to enable a private company to make franked distributions in its first taxable year (before it would have franking credits attributable to the payment of tax) without incurring the penalty that a reduction in its FDT tax offset would represent.

The 30% FDT tax offset reduction will not apply to a private company that meets the following conditions:

(a) the private company would have had an income tax liability for the relevant year (assuming that it did not have a FDT offset).

(b) That year is the first income year in which the company has had an income tax liability.

(c) The amount of the income tax liability is at least 90% of the amount of the deficit in the company's franking account at the end of the year.

Is the trust a 'private company'?

The relief provided in subsection 205-70(5) of the ITAA 1997 only applies to entities that are 'private companies'.

Under section 960-115 of the ITAA 1997 a public trading trust is treated as a corporate tax entity, which means the trustee of the trust is taxed at company rates and distributions to beneficiaries are treated and taxed like dividends. Section 25 of Part III of the ITRA specifies the rate of tax payable by the trustee of the public trading trust to be 30%.

However, these provisions do not result in a unit trust, which is a public trading trust under Division 6C of the ITAA 1936, being a company for imputation purposes.

A public trading trust is defined in section 102R of the ITAA 1936 as a unit trust which is 'public unit trust' that also carries on a trading business.

However a unit trust (which is also a public trading trust for the purposes of section 102R of the ITAA 1936) does not meet the definition of 'company' and 'private company' under section 995-1 of the ITAA 1997 respectively, which provides that:

company means:

(a) a body corporate; or

(b) any other unincorporated association or body of persons;

(c) but does not include a partnership or a non-entity joint venture.

Note 1: Division 830 treats foreign hybrid companies as partnerships.

Note 2: A reference to a company includes a reference to a corporate limited partnership: see section 94J of the Income Tax Assessment Act 1936.

private company means a company that is not a 'public company' for an income year

public company means a company that is a public company (as defined by section 103A of the Income Tax Assessment Act 1936) for the income year.

The trust is not a public company within the meaning of public company under section 103A of the ITAA 1936.

As the trust is not a company it cannot be a private company. Accordingly the trust is not entitled to the relief provided for in subsection 205-70(5) of the ITAA 1997.

Question 2

Detailed reasoning

The Commissioner has considered the circumstances giving rise to the unit trust's franking deficit resulting from the franking of a dividend paid and the information provided to support the trust's request for the Commissioner's discretion.

The Commissioner determines, under subsection 205-70(6) of the ITAA 1997, that the excess referred to in Steps 1 and 2 of the method statement in subsection 205-70(2) was not due to events outside the control of the trust.

Therefore the 30% reduction, referred to in Steps 1 and 2 of the method statement in subsection 205-70(2) of the ITAA 1997, applies in working out the tax offset that the trust is entitled for the income year ended 30 June.

Further issues for you to consider

The definition of 'company' in section 221AK of the ITAA 1936 is specifically for the purposes of applying Division 1B (Division 1B - Collection of tax on companies and trustees of certain funds), which incorporates section 221AK.

Division 1B of the ITAA 1936 has been closed off with the introduction of the Pay As You Go (PAYG) system, which applies to taxpayers that are required to pay tax under the ITAA 1997.

Further, in closing off Division 1B of the ITAA 1936, section 221AKA was inserted, which provides that Division 1B does not apply to a taxpayer for the 2000-2001 income years or a later income year.

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