Edited version of your written advice

Authorisation Number: 1012845778690

Date of advice: 23 July 2015

Ruling

Subject: Distributing corpus through a testamentary trust

Question 1

Whether a distribution of the corpus of the trust would be taxable to the beneficiaries under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997) as ordinary income; section 6-10 as statutory income, or whether capital gains tax would apply to such a distribution under Part 3-1 and 3-3 of the ITAA 1997?

Answer

No. The corpus distribution is not taxable to the beneficiaries under section 6-5 of the ITAA 1997 as ordinary income or under section 6-10 as statutory income, nor would capital gains tax apply to such a distribution under Part 3-1 and 3-3 of the ITAA 1997 for the income year 20BB-20CC.

This ruling applies for the following period:

01 July 20BB - 30 June 20CC

The scheme commences on:

01 July 20BB

Relevant facts and circumstances

An individual died in 200X.

At the time of death the individual held 100% of the ordinary shares in Company B which are the subject of this private ruling.

The individual' Last Will & Testament provided for the creation of four testamentary trusts.

The testamentary trusts were established by the executors in 20YY. The terms of the trusts are embodied in the Will and accordingly there are no trust deeds per se. The individual' estate was divided equally between the four testamentary trusts.

The trusts are Australian resident trusts and all beneficiaries are presently entitled.

The testamentary trust subject to this private ruling is the X Trust (the Trust).

The initial capital of the Trust consists of the following and was transferred into the Trust in 200Z:

• Cash in a bank account

• Repayment of loan to individual from of Company A

• Transfer of Company B shares from the individual's estate to each testamentary trust

• Repayment of loan to individual from Company C

The Trust received 25% of the shares in the company following the administration of the estate (The trustee company being Company D).

Following a director's meeting, it was resolved to wind up and deregister Company B. Here, the shareholders resolved to agree with the return of paid up share capital calculated by the directors.

Company B was deregistered in 20AA and the capital was returned to the Trust.

As there were many investments inside the company it took several years to work through the journals. Accordingly, the actual winding up procedure did not occur until 200Z which was when the accountants completed the journals to recognise the initial capital in the trusts.

The trustee of the Trust would like to resolve to make distributions to its beneficiaries out of the corpus of the trust. The total amount of the capital distribution is likely to be around $1,000,000.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 6-10

Income Tax Assessment Act 1997 Part 3-1

Income Tax Assessment Act 1997 Part 3-3

Reasons for decision

Summary

The corpus distribution is not taxable to the beneficiaries under either section 6-5 or under section 6-10 of the ITAA 1997, nor would capital gains tax apply to such a distribution under Part 3-1 and 3-3 of the ITAA 1997 for the income year 20BB-20CC.

Detailed reasoning

On the death of a taxpayer, the property of the deceased taxpayer passes to his or her estate, legal control over which is exercised by an executor or administrator. The executor or administrator, in effect, steps into the shoes of the deceased and winds up the deceased's personal affairs. An executor of a deceased person who leaves a will must obtain probate of the will. This is the official proving of the will and provides the executor with authority to deal with the estate. When probate has been granted, the executor is free to call up the deceased's assets and liabilities, and pay the debts, funeral and testamentary expenses. After these matters have been attended to, the executor distributes the property of the deceased to the beneficiaries of the estate (IT 2622).

A fiduciary obligation is assumed by the executor or administrator, on the death of a taxpayer, in favour of the beneficiaries of the estate. At that time, beneficiaries of the estate have no interest in the assets of the estate, although they do have a beneficial right to see that the estate is properly administered (IT 2622).

A will may establish a testamentary trust in which income of the estate is to be applied in favour of certain beneficiaries for their lives and distribution of the capital of the estate is deferred for some time in the future. Where a deferred distribution is designated, a second fiduciary obligation arises - that of testamentary trustee (IT 2622).

Until the estate of a testator has been fully administered and the net residue ascertained, a residuary beneficiary has no proprietary interest in any specific investment forming part of the estate or in the income from any such investment. Both corpus and income are the property of the executors or administrators: Lord Sudeley v. Attorney-General [1897] A.C. 11; Dr Barnardo's Homes National Incorporated Association v. Commissioners for Special Purposes [1921] 2 A.C. 1. See also Pajels v. MacDonald (1936) 54 CLR 519 at 526; Corbett v. I.R.C. (1937) 4 All E.R. 700 at 707 and C.S.D. (Qld) v. Livingston (1964) 112 CLR 12. (IT 2622)

The testamentary trusts were established by the executors in 20YY.

The actual shares of the company were transferred into the various testamentary trusts in 20YY, however as there were a lot of investments in the company it took several years to sort things out. Accordingly, the actual winding up procedure did not occur until 200Z which was when the journals recognised the initial capital in the trusts.

The Will gives the trustee the absolute power to dispose of any assets the trustee chooses too. Following a director's meeting in 200Z, it was resolved to wind up and deregister Company B. Here, the shareholders resolved to agree with the return of paid up share capital.

In turn, Company B was deregistered in 20AA and the share capital returned to the trust.

The capital amount then became part of the corpus of the Trust. The following case law considered trust corpus:

• Re Richardson and Federal Commissioner of Taxation - (19 April 1999) (19 April 1999) - (1999) 42 ATR 1151.

Dr Gerber (Deputy President) Administrative Appeals Tribunal said at para 43:

The other issue arising is the time at which the assessment must be made: is it at the time of receipt? The significance of whether the moneys have been distributed must therefore be fully considered in view of the authorities and the contentions as to present entitlement of the beneficiaries prior to distribution. In this instance, it can be accepted that there has not been a distribution of the profits for trust purposes, as the trust accounts do not show a distribution of these funds to the beneficiaries, nor is there any evidence to suggest that the applicant received in full or in part the profits by way of distribution from the Trust. They remained in the capital reserve account as trust corpus after receipt.

• Barmote Pty Ltd v. Commissioner of State Revenue - (18 October 2005) - VICTORIAN CIVIL AND ADMINISTRATIVE TRIBUNAL [2005] VCAT 2209.

R Davis, Senior Member said at para 25

"Mr Caleo accepted in his submissions that the term "trust property" as used in s 13AA equates to the term "trust fund" as defined in the deed: see cl 1(e). Trust income only becomes part of the corpus of the trust or part of the trust fund if and to the extent that it is accumulated: see Garside v Internal Revenue Commissioner [1968] AC 553 at 614. Trust income that has not been accumulated does not form part of the corpus."

In this case, part of the initial capital being the shares in Company B is Trust corpus. The later conversion of these shares to cash (on the return on capital) also forms corpus of the Trust.

As the Trust distribution represents corpus of the deceased estate, the corpus distribution will not be taxable to the beneficiaries under either section 6-5 or section 6-10 of the ITAA 1997, nor would capital gains tax apply to such a distribution under Part 3-1 and 3-3 of the ITAA 1997 for the income year 20BB-20CC.

Copyright notice

© Australian Taxation Office for the Commonwealth of Australia

You are free to copy, adapt, modify, transmit and distribute material on this website as you wish (but not in any way that suggests the ATO or the Commonwealth endorses you or any of your services or products).