Edited version of private ruling

Authorisation Number: 1011464509350

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Ruling

Subject: Public trading trust matters

Questions and Answers:

Are you carrying on a vineyard business?

Yes.

Are you a public trading trust for taxation purposes?

Yes.

Can you frank the loan repayments made from your profits?

No.

For taxation purposes, is your sole unitholder your presently entitled beneficiary?

No.

Relevant facts and circumstances

Your sole unitholder is a superannuation fund. You were established and acquired a lot in a vineyard. This acquisition was financed by a loan from the shareholders of the corporate trustee of your unitholder.

The vineyard is made up of many lots and is managed by a company. Each lot owner holds the same amount of shares in the management company. Under a farm management agreement, the company carries out the day to day management of the vineyard, which includes employing suitably qualified persons to undertake the business and horticulture activities.

Your income tax returns reported the relevant amounts of taxable income or loss. You reported gross sales, which represented one-tenth of the gross sales of the vineyard.

Your balance sheet shows a liability for the loan and unpaid trust distributions to your unitholder. To date, you have used profits made to repay this loan rather than using your profits to pay distributions to your unitholder.

Relevant legislative provisions

Income Tax Assessment Act 1936 Subsection 44(1)

Income Tax Assessment Act 1936 Paragraph 97(1)(a)

Income Tax Assessment Act 1936 Subsection 98A(1)

Income Tax Assessment Act 1936 Subsection 100(1)

Income Tax Assessment Act 1936 Section 102M

Income Tax Assessment Act 1936 Subsection 102N(1)

Income Tax Assessment Act 1936 Subsection 102P(2)

Income Tax Assessment Act 1936 Subsection 102T(14)

Income Tax Assessment Act 1936 Subsection 102T(16)

Income Tax Assessment Act 1997 Section 200-5

Income Tax Assessment Act 1997 Section 960-120 

Reasons for decision

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

Carrying on a business

The Commissioner's view on carrying on a business of primary production is found in Taxation Ruling TR 97/11. It cites the following indicators of a business, which the courts have held to be relevant:

· whether the activity has a significant commercial purpose or character; this indicator comprises many aspects of the other indicators;

· whether the taxpayer has more than just an intention to engage in business;

· whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity ;

· whether there is repetition and regularity of the activity;

· whether the activity is of the same kind and carried on in a similar manner to that of the ordinary trade in that line of business ;

· whether the activity is planned, organised and carried on in a businesslike manner such that it is directed at making a profit;

· the size, scale and permanency of the activity; and

· whether the activity is better described as a hobby or a form of recreation.

TR 97/11 gives no relevance to the situation of where a manager or employee conducts the business activities rather than the business owner. The Commissioner has issued numerous Product Rulings on vineyard projects, where participation in the project constitutes the carrying on of a business of primary production, despite the fact the participants generally merely lease the land and do not provide any labour or management to the project.

In your case, your vineyard activity constitutes the carrying on of a business. The sophisticated and businesslike nature of the activity as a type of joint venture employing a management company; its regularity and quantum of income; its scale; and its capacity for profit are all factors that indicate your vineyard activity is a business activity.

Public trading trusts

Under Division 6C of the 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, a 'public trading trust' is a 'public unit trust' (section 102P) which is also a 'trading trust' (section 102N).

Subsection 102P(2) of the ITAA 1936 states a unit trust is a 'public unit trust' where an 'exempt entity' holds a beneficial interest in 20% or more of the property or income of the unit trust. Section 102M of the ITAA 1936 specifically defines 'exempt entity' to mean, among other things, a 'complying superannuation fund'.

Subsection 102N(1) of the ITAA 1936 states a unit trust is a trading trust in relation to a year of income if, at any time during the year of income, the trustee carried on a trading business.

In your case, you are a public trading trust because a complying superannuation fund holds a beneficial interest in you of 20% or more and because you carry on a business.

Franked distributions

Section 200-5 of the Income Tax Assessment Act 1997 (ITAA 1997) states the general purpose of the imputation system is to integrate the income tax liabilities of an Australian corporate tax entity and its members by allowing the entity, when distributing profits to its members, to pass to those members credit for income tax paid by the entity on those profits.

The Explanatory Memorandum to the New Business Tax System (Imputation) Act 2002 explains this core characteristic of the imputation system as follows:

1.8 To prevent double taxation of the distributed income of corporate tax entities (i.e. once when it is received by the entity and again in the hands of the members on distribution), the income tax paid by the entity will generally be imputed (i.e. passed on) to the members.

1.10 In essence, a franked distribution is one that is marked as carrying tax credits that can be imputed to members. Those tax credits reflect the tax already paid by the entity on the entity's profits that are distributed to the member.

1.12 When a franked distribution is made to a member of an entity, the franking credit is referred to as an imputation credit in the members' hands. Imputation credits usually reduce income tax by giving rise to a tax offset known as the franking rebate.

Section 960-120 of the ITAA 1997 defines the meaning of the term 'distribution'. For a public trading trust it states a distribution is a 'unit trust dividend' as defined in section 102M of the ITAA 1936. Apart from distributions by a trustee in respect of the cancellation, extinguishment or redemption of a trust unit, section 102M of the ITAA 1936 defines a unit trust dividend as any distribution made or any amount credited by the trustee of a prescribed trust estate, whether in money or in other property, "to a unitholder as a unitholder".

In your case, your loan repayments cannot be franked for at least three reasons.

· The first reason is your creditors are not your unitholders. Section 102M of the ITAA 1936 only allows a franked distribution to be made to a unitholder.

· The second reason is, if your creditors were unitholders, your loan repayments would not meet the definition under section 102M of the ITAA 1936 as a distribution to a 'unitholder as a unitholder'. Instead, your loan repayments would be a payment to a 'unitholder as a creditor'.

· The third reason is a core intention of the imputation system is to prevent double taxation. The capital amount of a loan repayment received by a creditor (who is not carrying on a business of money lending) is not subject to taxation therefore such a repayment of capital is not part of the 'double taxation' the imputation system legislation is designed to prevent.

Public trading trusts do not have presently entitled beneficiaries for tax purposes

The net income of a public trading trust is determined in accordance with the definition in section 102M of the ITAA 1936. The distribution to a beneficiary of a public trading trust is a 'unit trust dividend' as defined in section 102M of the ITAA 1936. A 'unit trust dividend' is included in a beneficiary's assessable income in terms of subsection 44(1) of the ITAA 1936 as 'the assessable income of a shareholder in a company'. This is stipulated in subsection 102T(14) of the ITAA 1936, which states: "a reference in subsection 44(1) of the ITAA 1936 to a shareholder in relation to a company shall be read as including a reference to a unitholder in a prescribed trust estate".

It follows the 'net income' of a public trading trust does not fall under the definition in subsection 95(1) of the ITAA 1936 and the unitholder does not include the distribution in their assessable income under paragraph 97(1)(a), subsection 98A(1) or subsection 100(1) of the ITAA 1936 as a presently entitled beneficiary. As stated in Division 6C of the ITAA 1936, public trading trusts are treated as if they are companies for tax purposes. Subsection 102T(16) of the ITAA 1936 renders the specific provisions dealing with trust income inapplicable in the case of a public trading trust.

Conclusion

To conclude, you have used profits to make loan repayments. As such, it is expected you will have excess franking credits in your franking account until the time you can make a frankable distribution from the proceeds of the sale of an asset (in the expected case where the taxation of your future profits will accrue sufficient franking credits for distribution purposes).

You may refer to Subdivision 202-C of the ITAA 1997 about which distributions can be franked.