Edited version of private advice

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Date of advice: 25 May 2020

Ruling

Subject: Family trust election and interposed entity election

Question 1

Can the trustee of a trust make a family trust election in respect of the trust for the purposes of section 272-80 of Schedule 2F to the Income Tax Assessment Act 1936 ( ITAA 1936) with Mr X as the primary individual specified in the election?

Answer

Yes

Question 2

Can the company make an interposed entity election for the purposes of section 272-85 of Schedule 2F to the ITAA 1936 to be included in the family group of Mr X as the primary individual specified in the family trust election?

Answer

Yes

This ruling applies for the following periods:

Year end 30 June XXXX

Year end 30 June XXXX

The scheme commences on:

1 July XXXX

Relevant facts and circumstances

The trust

The trust was established by Deed and used to invest in a development project. The trustee is a company.

Mr X and Mrs X are the Principals and Beneficiaries of the trust named in the Schedule to the Deed. The Principal has the power to remove and appoint a new trustee under the Deed.

The class of beneficiaries include Mr X and Mrs X and their lineal family including their related entities. It excludes persons outside the family group of the primary test individual if the trustee makes a family trust election.

Mr X and Mrs X are both directors in the trustee company since the establishment of the trust.

Mr X and Mrs Y are the only shareholders in the trustee company, each having a 50% shareholding.

The previous trustee resolutions provided for a share of distributable income of the trust to Mr X and Mrs X and their family members.

The trustee is proposing to distribute a share of distributable income of the trust to a related company.

The company

The company is registered and is conducting a business of providing consultancy services.

Mr X and Mrs Y have 30% and 20% shareholding in the company respectively. The other shareholders holding the 50% stake have sold out of the company and their shares were bought by the trust.

The trust is expecting to receive a significant share of profit from the development investment. The trustee of the trust is keen to distribute some of the profit to the company to utilise the lower tax paid in that entity.

The company has no carried forward losses and is a trading company in its own right.

It is proposed that the trustee of the trust will make a family trust election in the specified year, and the company will make an interposed entity election with Mr X as the primary individual whose family group is to be taken into account in relation to the election.

Relevant legislative provisions

Income Tax Assessment Act 1936

Schedule 2F

Subsection 272-30(2)

Section 272-75

Section 272-80

Section 272-85

Section 272-87

Section 272-95

Reasons for decision

Legislative references are to Schedule 2F of the ITAA 1936 unless stated otherwise.

A trust is a family trust at any time when a family trust election in respect of the trust is in force - section 272-75.

The making of a family trust election is governed by section 272-80, which provides in part:

·        a trust's trustee may make a written election that the trust is a family trust at all times after the beginning of a specified income year - subsections 272-80(1) and (2);

·        the trustee must not make that election, if the trust does not pass the 'family control test' at the end of the specified income year - subsection 272-80(4);

·        the election must also specify an individual as the individual whose family group is to be taken into account in relation to the election - subsection 272-80(3);

·        the trustee must only make one election in relation to the trust - subsection 272-80(11);

·        the election generally cannot be varied or revoked - subsection 272-80(5).

The making of an interposed entity election is governed by section 272-85, which provides in part:

·        if a trust's trustee makes a family trust election, a company may make a written election (interposed entity election) that the company is to be included, at all times after a specified day in a specified income year, in the family group of the individual specified in the family trust election - subsection 272-85(1) and (2);

·        the company must pass the 'family control test' at the end of the income year - subsection 272-85(4);

·        the election generally cannot be revoked - subsection 272-85(5).

Section 272-87 sets out the requirements for passing the family control test in relation to family trust elections and interposed entity elections.

Subsections 272-87(1) and (2) deal with the family control test relating to trusts.

Subsection 272-87(1) defines the 'group' that can exercise 'family control' collectively in a manner described in subsection 272-87(2). The group, for this purpose, may include:

·        the primary individual

·        family members including persons related in specified degrees to the primary individual (section 272-95)

·        the primary individual and one or more members of that individual's family, or

·        any of the above persons and one or more legal or financial advisors to the primary individual or a member of his or her family.

Broadly, a trust will pass the 'family control test' if the group consisting as above is able to control the trust in certain ways that include:

·        control of the trust's income or capital; or

·        power to obtain beneficial enjoyment of the income and capital of the trust; or

·        power to remove or appoint the trustee of the trust.

Relevantly, subsection 272-87(3) addresses the family control test relating to companies. The subsection provides that the 'family control test' is passed if the constituted group hold between them, directly or indirectly, fixed entitlements to more than 50% of the income or capital of the company. For this purpose, the constituted group may include:

·        the primary individual specified in the relevant family trust election and mentioned in subsection 272-85(1) in relation to the interposed entity election;

·        one or more members of the individual's family as defined in section 272-95;

·        the trustees of one or more family trusts, provided the same individual is specified in the family trust election of each of the family trusts, or

¢ any combination of the above.

Application to facts and circumstances

The trust passes the family control test because Mr X and Mrs X, being the Principals of the trust, have the power to remove or appoint the trustee of the trust.

Mr X and Mrs X also own the trustee company, each holding 50% share in the company. As such as a group, they are able to control the distribution of trust's income and capital and/ or are able to influence the trustee to act in favour of their family group to obtain beneficial enjoyment of the income and capital of the trust.

Therefore as the trust passes the family control test, the trustee can make a family trust election in respect of the trust for the purposes of section 272-80 of Schedule 2F to the ITAA 1936 with Mr X as the primary individual specified in the election.

The company will also pass the family control test because Mr X and his family group hold between them, fixed entitlements to more than 50% of the income or capital of the company.

Mr X and Mrs X beneficially own 30 and 20 shares in the company respectively. The trust owns 50 shares in the company.

Special tracing rules apply to certain entities such as trusts. For example, a trust with a valid family trust election in force is being treated as holding the fixed entitlement as an individual for the benefit of the individual - subsection 272-30(2).

Given the trustee of the trust can make a family trust election in respect of the trust with Mr X as the primary individual specified in the election, the 50% holding of the trust in the company is deemed to be the holding of Mr X based on subsection 272-30(2). This will effectively increase the holding of Mr X in the company to 80%. Mrs X also has 20% holding in the company. That means the family group of Mr X, between them, will have 100% fixed entitlement of the income and capital of the company. As such the threshold control condition is satisfied.

Therefore, as the company passes the family control test, the company can make an interposed entity election for the purposes of section 272-85 of Schedule 2F to the ITAA 1936 to be included in the family group of Mr X as the primary individual specified in the family trust election for the trust.

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