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Ruling

Subject: whether beneficiary is presently entitled to trust income

Question

Is the beneficiary presently entitled to the income from a testamentary trust set up for them as a condition of a Will?

Answer

Yes.

This ruling applies for the following period

Year ended 30 June 2011

Year ended 30 June 2012

Relevant facts

A testamentary trust has been formed for a beneficiary as a condition of the Will.

Relevant clauses of the Will are:

Each of the grandchildren is bequeathed 1% of the Trust Estate to be held on trust until each grandchild respectively attains the age of 21 years.

The will states that the Trustee shall have the following powers in addition to all other powers vested in trustees by law:

The will granted certain powers to the Trustee with regard to maintenance and education and other matters.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 97.

Income Tax Assessment Act 1936 Section 98.

Income Tax assessment Act 1936 Subsection 102AG(2)

Reasons for decision

Summary

The beneficiary is presently entitled to income from the testamentary trust. They are considered to be under a legal disability each income year until they are 18 years of age as at June 30. The income they receive from the testamentary trust is considered to be excepted income as it results from a Will.

Detailed reasoning

From the relevant clauses in the Will and the fact that you have established a testamentary trust for the beneficiary it is accepted that the gift to the grandchild is not contingent but merely postponed until they reach the nominated age. This is important to the concept of present entitlement of the beneficiary. If their receiving the gift was contingent on them reaching the nominated age the amount should have remained in the deceased estate until they reached that age.

Present entitlement

A beneficiary must have an indefeasible, absolutely vested, beneficial interest in possession in the trust income and must be able to demand immediate payment of the trust income or, if under a legal disability (eg a minor), the beneficiary's interest must be such that, but for that disability or incapacity, he or she would be able to demand immediate payment. If the beneficiary's interest is only contingent he or she will not be presently entitled.

Perhaps the best exposition of the meaning of the expression "presently entitled" in s 97 is that given by Kitto J in Taylor v FC of T (supra). In that case, under the terms of a settlement of which an infant was the principal beneficiary, the income arising before the beneficiary attained his majority or before his earlier death, or any part of it, could, at the discretion of the trustees, be paid or applied towards his maintenance, education, benefit, etc, and income not so applied was to be accumulated and invested, the accumulations being held, not as an accretion to capital but for the beneficiary absolutely if he attained 21 years of age and, if he did not, for his personal representatives as part of his estate.

In upholding the taxpayer's appeal, Kitto J said that the words "presently entitled" referred to an interest in possession in an amount of income that is legally available for distribution so that the beneficiary would have a right to obtain payment of it if he were not under a legal disability. In discussing the observations in Whiting's case (supra), Kitto J said (70 ATC at p 4029):

The statements above quoted from Whiting's case need, I think, to be understood in the light of the problem the Court was there considering; but before turning to the case it is well to look again at the terms of sec 98 itself. The section plainly acknowledges that a beneficiary may be 'presently entitled' to income notwithstanding that he is under a legal disability. A disability from what? Since the consequence which the section attaches to the disability is that the trustee is to be assessed instead of the beneficiary, the inference is clearly that the disability is from obtaining from the trustee income to which the beneficiary is presently entitled. It is therefore impossible to suppose that the learned Judges who decided Whiting's case meant that a person whose title to a specific amount of income is absolute, but who is under a disability from obtaining payment of it, is for that reason to be held not 'presently entitled' to it.

Kitto J pointed out that if an amendment to the law had removed the disability of an infant to give a valid discharge for money, the trustees would have had no answer to a demand by the beneficiary that they pay the income to him. It would appear from this statement that Kitto J regarded the case before him as being in the same category as a case where an infant beneficiary had an absolute vested interest in the income of the trust, and the trust instrument made no reference to his infancy so that, apart from his inability to give a valid discharge, he could have demanded payment of that income.

Because there are no contingencies with regards to the beneficiary receiving their gift to be held in trust, they are presently entitled to the income held on their behalf. This is evidenced by the forming of the testamentary trust. There is a postponement to their rights of owning the funds, but they have an indefeasible, absolutely vested beneficial interest in possession in the trust income.

Assessment calculation codes

For the purposes of determining who has the obligation to pay tax on assessable income and at what rate tax will be paid, we then have to consider if the beneficiary is under a legal disability and the source of the capital. This will help us to use the correct "Assessment calculation code" when completing the trust income tax return.

People are considered to be under a legal disability if they cannot give a valid discharge for money paid to them. Beneficiaries are under a legal disability if they are either:

· Minors (that is, under 18 years of age as at 30 June)

· Bankrupt, or

· Declared legally incapable because of a mental condition.

If a person is presently entitled, but under a legal disability the trustee will be assessed on their behalf.

In your case whether the beneficiary is under a legal disability will depend on their age as at 30 June each year. For the relevant income years they will be under 18 (a prescribed person) as at 30 June and under a legal disability. For the subsequent years onwards they will be over the age of 18 as at June 30 and not under a legal disability because of their age.

The rate of tax that is applicable while they are under 18 is affected by the source of the income. Subsection 102AG(2) ITAA 1936 will treat the income as excepted trust income in relation to the beneficiary of the trust estate to the extent to which the amount is assessable income of a trust estate that resulted from a Will. The capital in the testamentary trust for the beneficiary resulted from the Will.

Based on the above information the correct "Assessment calculation codes" to be used in the trust income tax return distribution statement are:

· For returns lodged for the years up until and including the 2009-10 year is Code 26. Code 26 is for a beneficiary who is presently entitled to a share of the income of the trust and is a prescribed person receiving excepted income only. The trustee will be assessed under section 98 of the ITAA 1936 at general individual rates.

· For returns lodged for the 2010-11 and onwards is Code 30. Code 30 is for a beneficiary who is presently entitled to a share of the income of the trust and who is not under any legal disability. The individual will be assessed under section 97 of the ITAA 1936 at general individual rates.

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