Edited version of private advice

Authorisation Number: 1052364597044

Date of advice: 25 February 2025

Ruling

Subject: Vested and indefeasible interest - former section 160APHL

Question 1

Do the Unitholders under the Deed of Trust have a vested and indefeasible interest in the income and capital of the Trust as required under former subsection 160APHL(11) of the Income Tax Assessment Act 1936 (ITAA 1936) for the purposes of the qualified person requirement under section 207-145 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer 1

No

Question 2

If the answer to question 1 is no, can and will the Commissioner exercise the discretion under former subsection 160APHL(14) of the ITAA 1936 to treat the Unitholders' interests in the Trust as vested and indefeasible for the purposes of the qualified person requirement under section 207-145 of the ITAA 1997?

Answer 2

Yes

Question 3

If the answer to question 2 is no, will the proposed amendments to the Deed of Trust result in the Unitholders having a vested and indefeasible interest in the income and capital of the Trust as required under subsection 160APHL(11) of the ITAA 1936 for the purposes of the qualified person requirement under section 207-145 of the ITAA 1997?

Answer 3

As the answer to question 2 is yes, it is not necessary to rule on this question.

Question 4

If the answer to question 3 is yes, will the proposed amendment to the Deed of Trust trigger a resettlement of the Trust as considered in Taxation Determination TD 2012/21?

Answer 4

It is not necessary to rule on this question.

This ruling applies for the following periods:

Income year ending 30 June 20XX

Income year ending 30 June 20XX

Income year ending 30 June 20XX

Income year ending 30 June 20XX

Income year ending 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

1.            The Trust is a unit trust.

2.            The Trust has a number of Unitholders.

3.            Under the Deed of Trust to the Trust, the Trustee holds the income and capital of the Trust for the benefit of the Unitholders. Each Unitholder's interest in the income and capital of the Trust is proportionate to their Unit holding.

4.            The Deed of Trust gives the Trustee power, with the consent of the Unitholders, to amend the Trust.

5.            The Deed of Trust gives the Trustee power to issue different classes of Units, and gives the Trustee power, with the consent of the Unitholders, to create and issue additional Units.

6.            The Deed of Trust allows Unitholders to redeem their Units.

7.            The price of any Unit redeemed or issued will not be determined based on the Trust's net asset value, according to Australian accounting principles, at the time of the redemption or issue.

8.            The Trust is not listed for quotation on an approved stock exchange.

9.            The Trust is not widely held.

10.         The Trust has a single class of ordinary Units on issue.

11.         No Units of different classes have ever been issued by the Trustee nor is there any proposal to issue any new classes.

12.         If the Trustee were to issue Units in the Trust, only ordinary Units would be issued.

13.         No partly paid Units in the Trust have ever been issued nor proposed to be issued prior to the end.

14.         There have been various changes in Unit holdings in the Trust.

15.         No Units have been compulsorily sold or redeemed.

16.         Units will only be transferred or redeemed at the request of a Unitholder.

17.         The Trust is the sole shareholder of the Company.

18.         It is proposed that:

(a) The Company will pay fully franked dividends over the next few income years to the Trust as its sole shareholder. The franking credits attached will be in excess of $XX.

(b) The Trust will ensure that its Unitholders have a present entitlement proportional to their Unit holdings to all the net income of the Trust (which will include the fully franked income it will receive from the Company).

19.         The Trustee has never exercised the power to defeat Unitholder's interest in income or capital of the Trust and does not intend to exercise the power throughout the ruling period.

20.         The Unitholders all hold the same class of Units with the same rights to income, capital and voting.

21.         No Units of different classes have ever been issued by the Trustee. No partly paid Units will be issued by the Trustee throughout the ruling period.

22.         The Trustee will not amend the Deed of Trust to either defeat or be capable of defeating a Unitholder's interest in the income or capital of the Trust during the ruling period.

23.         The Trustee deals with Unitholders on an arm's length basis.

24.         The Trust is audited by an independent auditor annually.

25.         No arrangement has or will be entered into which would result in:

(a) A "related payment" under former section 160APHN of the ITAA 1936

(b) A Unitholder having materially diminished risks of loss or opportunities for gain of less than X% in respect of the shares held by the Trustee of the Trust.

(c) A Unitholder not being sufficiently exposed to the risk of loss or opportunity for gain in respect of the Units in the Trust.

(d) The Commissioner making a determination under paragraph 177EA(5)(b) of the ITAA 1936, or

(e) Any of paragraphs 207-150(1)(c) to (h) of the ITAA 1997 (inclusive) applying.

Relevant legislative provisions

Former section 160APHL of theIncome Tax Assessment Act 1936

Division 207 of the Income Tax Assessment Act 1997

Subdivision 207-F of the Income Tax Assessment Act 1997

Section 207-145 of the Income Tax Assessment Act 1997

Section 207-150 of the Income Tax Assessment Act 1997

Reasons for decision

Question1

Detailed reasoning

Division 207 of the ITAA 1997 sets out the consequences of an entity receiving directly or indirectly a franked distribution from a corporate tax entity. Generally an entity receiving a franked distribution will be entitled to gross up their assessable income for the franking credit and obtain a tax offset equal to the franking credit received. However, Subdivision 207-F of the ITAA 1997 provides that an entity that receives a franking distribution, either directly or indirectly, will not be entitled to gross up their income for the franking credit received, nor claim a tax offset equal to the franking credit, if, among other things, the entity is not a qualified person in relation to the distribution for the purposes of Division 1A of former Part IIIAA of the ITAA 1936 (paragraphs 207-145(1)(a) and 207-150(1)(a)).

Former subsection 160APHL(11) of the ITAA 1936 states that 'for the purposes of subsection (10), the taxpayer's interest in the trust holding is a fixed interest to the extent that the interest is constituted by a vested and indefeasible interest in so much of the corpus of the trust as is comprised by the trust holding'.

The meaning of the terms 'vested' and 'indefeasible' are not defined in the ITAA 1936 or the ITAA 1997.

Vested

In Dwight v Federal Commissioner of Taxation (1994) 92 ATC 4192 (Dwight), Hill J made the following comments about the meaning of the word 'vested':

Estates may be vested in interest or vested in possession, the difference being between a present fixed right of future enjoyment where the estate is said to be vested in interest and a present right of present enjoyment of the right, where the estate is said to be vested in possession... A person with an interest in remainder, subject to a pre-existing life interest, has an interest which is vested in interest, but being a future interest is not yet vested in possession. That person's interest will vest in possession on the death of the life tenant. In the present context the word "vested" is used in contradistinction to contingent. (at 4202-4203)

The Trustee holds the income and capital of the Trust for the benefit of the Unitholders. Each Unitholder's interest in the income and capital of the Trust is proportionate to their Unit holding.

The Unitholders are vested in interest in the corpus of the Trust.

Indefeasible

In Dwight, Hill J stated that 'an interest is said to be defeasible where it can be brought to an end and indefeasible where it cannot'. (at 4203)

In Colonial First State Investments Limited v Commissioner of Taxation [2011] FCA 16 (Colonial), Stone J stated that the word indefeasible 'bears its ordinary meaning when applied to an interest, that is that the interest cannot be terminated, invalidated or annulled. (at paragraph 97)

Former subsection 160APHL(12) of the ITAA 1936 states:

Subject to subsection (13), if the taxpayer has an interest in the trust holding and either:

(a) the interest may be redeemed under the terms of the trust for less than its value; or

(b) the value of the interest may be materially reduced by:

(i) if the trust is a unit trust - the issue of further units; or

(ii) otherwise - in creation of further interests under the trust;

the interest is taken to be defeasible.

Former subsection 160APHL(13) of the ITAA 1936 states:

If:

(a) the trust is a unit trust and the taxpayer holds units in the unit trust; and

(b) the units are redeemable or further units are able to be issued; and

(c) where units in the unit trust are listed for quotation in the official list of an approved stock exchange (within the meaning of section 470) - the units held by the taxpayer will be redeemed, or any further units will be issued, for the price at which other units of the same kind in the unit trust are offered for sale on the approved stock exchange at the time of the redemption or issue; and

(d) where the units are not listed as mentioned in paragraph (c) - the units held by the taxpayer will be redeemed, or any further units will be issued, for a price determined on the basis of the unit trust's net asset value, according to Australian accounting principles, at the time of the redemption or issue;

then the mere fact that the units are redeemable, or that the further units are able to be issued, does not mean that the taxpayer's interest, as a unit holder, in so much of the corpus of the trust as comprised by the trust holding is defeasible.

The Deed of Trust gives the Trustee power to create and issue additional Units.

The Deed of Trust allows Unitholders to redeem their Units.

These powers will cause former subsection 160APHL(12) of the ITAA 1936 to apply and treat the Unitholders interest as defeasible. Former subsection 160APHL(13) of the ITAA 1936 will not apply to cancel the operation of former subsection 160APHL(12) as the price of any Unit redeemed or issued will not be determined based on the Trust's net asset value, according to Australian accounting principles, at the time of the redemption or issue, as required by that subsection.

Further, in Colonial, the Federal Court considered the meaning of vested and indefeasible, and whether a power of amendment in section 601GC of the Corporations Act 2001,which concerns managed investment funds, caused the interests of the members of the managed investment fund to be defeasible. Stone J stated:

103 ... the Court is not concerned with members' rights other that the right to a share of income or capital of the Wholesale Fund. It is only that right that must be vested and indefeasible for the trust to qualify as a fixed trust. The question therefore is could there be an amendment to the Constitution of the Wholesale Fund that terminated, invalidated or annulled the above right in circumstances where the Responsible Entity reasonably considered that the amendment would not adversely affect the right in question...

105 ..., the more telling argument that the right in question is defeasible stems from s601GC(1)(a), which empowers members to modify, repeal or replace the constitution of a unit trust by special resolution. In ING Funds Management Barrett J's commented that s601GC(1)(a) is a plenary power vested in members. As his Honour observed, at [60]:

There is no kind of modification that cannot be made in exercise of the power and by the means it prescribes, although the power is no doubt subject to the implied limitations that generally attend any power enabling a majority to bind a minority.

106 It follows that the members could vote to terminate the present right to a share of income and capital. Although in some circumstances such an exercise of power might be subject to implied limitations to which his Honour refers, there it no reason to believe that this would always be so. For that reason it must be concluded that the Wholesale Fund is not a fixed trust ...

The Deed of Trust gives the Trustee power, with the consent of the Unitholders, to amend the Trust.

This power could be used to defeat the interest that a Unitholder has in the corpus of the Trust. The interest of the Unitholders is defeasible.

Conclusion

The Unitholders do not have a vested and indefeasible interest in so much of the corpus of the Trust as is comprised by the trust holding, as required by former subsection 160APHL(11) of the ITAA 1936.

Question 2

Detailed reasoning

Former subsection 160APHL(14) states:

If:

(a) the taxpayer has an interest in so much of the corpus of the trust as is comprised by the trust holding; and

(b) apart from this subsection, the interest would not be a vested or indefeasible interest; and

(c) the Commissioner considers that the interest should be treated as being vested and indefeasible, having regard to:

(i) the circumstances in which the interest is capable of not vesting or the defeasance can happen; and

(ii) the likelihood of the interest not vesting or the defeasance happening; and

(iii) the nature of the trust; and

(iv) any other matter that the Commissioner thinks relevant;

the Commissioner may determine that the interest is to be taken to be vested and indefeasible.

Former paragraph160APHL(14)(a) - the taxpayer has an interest in so much of the corpus of the trust as is comprised by the trust holding

As discussed in question 1, the Unitholders have a vested interest in the corpus of the Trust.

Former paragraph160APHL(14)(b) - the interest would not be a vested or indefeasible interest

As discussed in question 1, the interest of the Unitholders in the corpus of the Trust is not indefeasible and can be defeated.

Former paragraph160APHL(14)(c)(i) - the circumstances in which the interest is capable of not vesting or the defeasance can happen

As discussed in question 1, the interests of the Unitholders are defeasible as the terms of the Trust:

•                     gives the trustee power to create and issue additional Units,

•                     gives the Unitholders power to redeem Units,

•                     gives the Trustee (with the approval of the Unitholders) power to change the Deed of Trust.

Former paragraph160APHL(14)(c)(ii) - the likelihood of the interest not vesting or the defeasance happening

You advise that:

•                     the Trustee will not amend the Deed of Trust to either defeat or be capable of defeating a Unitholder's interest in the income or capital of the Trust during the ruling period,

•                     the Trustee does not intend to exercise the power to defeat the Unitholders interest in the income and capital of the Trust throughout the ruling period,

•                     the Trustee does not propose to issue any new class of Units nor modify the rights of existing Units. Only ordinary Units in the Trust will be issued,

•                     any redemption of Units will only be at the request of a Unitholder. No Units have been compulsorily sold or redeemed,

•                     the Trustee deals with the Unitholders on an arm's length basis.

Based on the foregoing, it is unlikely that defeasance of the Unitholders interest in the corpus of the Trust will happen during the ruling period.

Former paragraph160APHL(14)(c)(iii) - the nature of the trust

The Trust is a unit trust. The Trustee deals with Unitholders on an arm's length basis. The Trust is not listed for quotation on an approved stock exchange, and is independently audited annually.

Former paragraph160APHL(14)(c)(iii) - any other matter that the Commissioner thinks relevant

The discretion in former subsection 160APHL(14) of the ITAA 1936 relates to the utilisation of a tax offset for a share of the franking credit on a franked distribution. It was introduced as part of integrity measures aimed at defeating franking credit trading schemes.

The Explanatory Memorandum to the Taxation Laws Amendment Bill (No.2) 1999, which accompanied the introduction of former subsection 160APHL(14) outlined the purpose of the integrity measures:

4.6 One of the underlying principles of the imputation system is that the benefits of imputation should only be available to the true economic owners of shares, and only to the extent that those taxpayers are able to use the franking credits themselves: a degree of wastage of franking credits is an intended feature of the imputation system.

4.7 In substance, the owner of shares is the person who is exposed to the risks of loss and opportunities for gain in respect of the shares. However, franking credit trading schemes allow persons who are not exposed, or have only a small exposure, to the risks and opportunities of share ownership to obtain access to the full value of franking credits, which often, but for the scheme, would not have been used at all, or would not have been fully used. Some of these schemes may operate over extended periods, and typically involve a payment related to the dividend which has the effect of passing its benefit in economic terms to a counterparty. The schemes therefore undermine an underlying principle of imputation.

When considering the exercise of the discretion, the Commissioner must ensure that the purpose of the integrity provisions is not undermined.

You advise that no arrangement has or will be entered into which would result in:

(a) A "related payment" under former section 160APHN if the ITAA 1936

(b) A Unitholder having materially diminished risks of loss or opportunities for gain of less than X% in respect of the shares held by the Trustee of the Trust.

(c) A Unitholder not being sufficiently exposed to the risk of loss or opportunity for gain in respect of the Units in the Trust.

(d) The Commissioner making a determination under paragraph 177EA(5)(b) of the ITAA 1936, or

(e) Any of paragraphs 207-150(1)(c) to (h) of the ITAA 1997 (inclusive) applying.

Under the Trust, the Unitholders are the true economic owners of the shares held by the Trustee, and are exposed to the risk of loss and opportunity for gain in respect of the shares.

Taking into consideration the above, it is considered appropriate for the Commissioner to exercise the discretion under former subsection 160APHL(14) of the ITAA 1936 to treat the Unitholders interest in so much of the corpus of the Trust as is comprised by the trust holding as vested and indefeasible.

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