Edited version of private ruling

Authorisation Number: 1011509794220

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Ruling

Subject: Public trading trust, assessable income of trust, franked dividends

Question 1

Will the Trust be a public trading trust within Division 6C of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

No.

Question 2

Will section 99A of the ITAA 1936 apply to assess the income of the Trust to the Trustee?

Answer

No.

Question 3

Is the Trust a fixed trust under the trust loss provisions?

Answer

Yes.

Question 4

If no, will the Commissioner determine that the Beneficiary has a fixed entitlement?

Answer

Not applicable.

Question 5

Are the terms of the Trust such that the Beneficiary has a vested and indefeasible interest for the purpose of determining whether the Beneficiary is a qualified person in respect of franked dividends distributed by the Trustee?

Answer

Yes.

Question 6

If no, will the Commissioner determine that the interest is vested and indefeasible for the purposes of these provisions?

Answer

Not applicable.

This ruling applies for the following period:

1 July 2010 to 30 June 2014

The scheme commences on:

1 July 2007

Relevant facts and circumstances

The Beneficiary

The Beneficiary is a charitable institution as listed in item 1.1 of the table in section 50-5 of the Income Tax Assessment Act 1997 (ITAA 1997). The Commissioner has endorsed the Beneficiary as:

- exempt from income tax under section 50-105 of the ITAA 1997; and

- a deductible gift recipient pursuant to paragraph 30-120(a) of the ITAA 1997.

The Beneficiary has a physical presence in Australia and incurs expenditure and pursues the objectives principally in Australia.

The Trustee

The Trust has a corporate trustee (Trustee).

All the shares of the Trustee are owned by a company (Company).

Company is wholly owned by the Beneficiary.

The Trust

You have supplied a copy of the Trust Deed.

The Trust was established to aid the beneficiary by:

- promoting research;

- holding, managing, protecting, and commercialising intellectual property; and

- seeking work and consulting opportunities.

The Trust's primary purpose is promoting, encouraging, and increasing research.

The Trust carries out the primary purpose for the benefit of the Beneficiary.

The Trust carries on commercial activities and holds assets for the benefit of the Beneficiary.

All income of the Trust is to be applied for the benefit of the Trust or distributed to the Beneficiary.

On winding up, the capital of the Trust is to be paid to the Beneficiary (subject to existence).

The Trust Deed

The features of the Trust Deed are:

- it is established solely for the benefit of the Beneficiary

- there is no power to add other beneficiaries;

- there is no power in the Beneficiary to deal with or otherwise transfer its interests in the Trust;

- the Beneficiary is presently entitled to all of the income of the Trust;

- the capital of the fund can only be paid to the Beneficiary;

- the Beneficiary has power to remove the Trustee without its consent;

- the Trust Deed can only be varied with the consent of the Beneficiary; and

- on vesting the surplus property is to be transferred to the Beneficiary.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 102R.

Income Tax Assessment Act 1936 Subsection 97(1).

Income Tax Assessment Act 1936 Section 99A.

Income Tax Assessment Act 1936 Section 160APHD

Income Tax Assessment Act 1936 Section 160APHL

Income Tax Assessment Act 1936 Section 177EA.

Income Tax Assessment Act 1997 Subsection 6-15(2).

Income Tax Assessment Act 1997 Section 30-120.

Income Tax Assessment Act 1997 Section 50-5.

Income Tax Assessment Act 1997 Section 204-30.

Income Tax Assessment Act 1997 Section 207-50.

Income Tax Assessment Act 1997 Section 207-45.

Income Tax Assessment Act 1997 Section 207-55.

Income Tax Assessment Act 1997 Section 207-95.

Income Tax Assessment Act 1997 Section 207-110.

Income Tax Assessment Act 1997 Section 207-115.

Income Tax Assessment Act 1997 Section 207-150.

Income Tax Assessment Act 1997 Section 272-5.

Income Tax Assessment Act 1997 Section 272-40.

Income Tax Assessment Act 1997 Section 272-65.

Income Tax Assessment Act 1997 Section 272-70.

Reasons for decision

Question 1

Summary

The Trust is not a public trading trust as it does not meet the requirements of subsection 102R(1) of the ITAA 1936.

Detailed reasoning

Public Trading Trust

Division 6C of the ITAA 1936 considers the tax liability of certain public trading trusts. Subsection 102R(1) of Division 6C provides that a trust is a public trading trust in a relevant year of income if it is:

- a unit trust; and

- a public unit trust; and

- a trading trust; and

- a resident unit trust.

It must also not be considered to be a corporate unit trust within the meaning of Division 6B of the ITAA 1936.

There is no legislative definition of a 'unit trust' for the purposes of Division 6C of the ITAA 1936. Broadly, a unit trust is of the same essential nature as any other trust except that the beneficial ownership is divided into a number of units which are held by unit holders instead of named beneficiaries or a class of beneficiaries who are entitled to specified or discretionary interests in an ordinary trust.

In an article titled Unit Trusts (1960), volume 23 in Modern Law on page 129, HAJ Ford described a unit trust. A unit trust is an arrangement where properties are held on trust for a large number of investors, commonly known as unit holders, whose interest is divided into a large number of units that are acquired from the manager. Ford states that for a unit trust to exist, there must be a fractional right in either the capital and/or income of the trust.

Under the terms of the Trust Deed, the only beneficiary of the Trust is the Beneficiary. The main criterion for the existence of a unit trust (that is, unit holders with fractional interests) will therefore not be present. There is also no ability available to the Trustee to create or issue additional 'units' as the Trustee cannot add new beneficiaries or vary the terms of the Trust Deed without the consent of the Beneficiary.

Accordingly, the Trust is not a unit trust and it is, therefore, not possible for it to be a public trading trust in terms of section 102R(1) of Division 6C of the ITAA 1936.

Question2

Summary

Section 99A of the ITAA 1936 will not apply, as the Beneficiary is presently entitled to all income of the Trust.

Detailed reasoning

Assessment of income

Subsection 97(1) of the ITAA 1936 provides that, where a beneficiary is presently entitled to a share of the net income of a trust estate and is not under a legal disability, the beneficiary is liable to be assessed on their share of the trust distribution.

According to the Trust Deed the Beneficiary is presently entitled to all the income of the trust and as such, the Beneficiary would include the income in its own return under section 97 of the ITAA 1936.

Any income distributed to the Beneficiary would be exempt income under item 1.4 of section 50-5 of the ITAA 1997 by virtue that the Beneficiary is a public educational institution and subsection 6-15(2) of the ITAA 1997 excludes the exempt income from assessable income.

Section 99A of the ITAA 1936

The object of section 99A of the ITAA 1936 is to prevent the use of trusts as income splitting devices. This is achieved by the imposition of a flat rate of tax on that part of net income to which it applies.

Section 99A of the ITAA 1936 only applies where there is '…no part of the net income of a resident trust estate that is included in the assessable income of a beneficiary of the trust estate in pursuance of section 97': subsection 99A(4) of the ITAA 1936.

As outlined above, the Beneficiary would be presently entitled to the income of the Trust. There is no income to which the Beneficiary would not be presently entitled. Section 97 of the ITAA 1936 will apply to the income of the Trust. There is no income to which section 99A would apply.

Question 3

Summary

The Trust is a fixed trust, as the Beneficiary has a vested and indefeasible interest in a share of the income or capital of the Trust.

Detailed reasoning

Trust Losses

Special rules in Schedule 2F to the ITAA 1936 restrict the circumstances in which prior year and current year losses of trusts can be claimed as a deduction in calculating net income.

The rules are designed to prevent loss trafficking and the transfer of the tax benefit of losses to persons who did not bear the economic loss when the tax losses were incurred by the trust.

For the purposes of applying the measures, 3 broad categories of trusts are identified:

- fixed trusts;

- non-fixed trusts; and

- excepted trusts.

Excepted trusts, which include family trusts (as defined) and most deceased estates, are generally excluded from the measures.

Fixed and non-fixed trusts are defined in Subdivision 272-C of Schedule 2F to the ITAA 1936, consisting only of sections 272-65 and 272-70.

Section 272-65 of Schedule 2F to the ITAA 1936 declares that 'a trust is a fixed trust if persons have fixed entitlements to all of the income and capital of the trust'. Section 272-70 says 'a trust is a non-fixed trust if it is not a fixed trust'.

The concept of 'fixed entitlement' is extensively covered in Subdivision 272-A (sections 272-5 to 272-40) of Schedule 2F to the ITAA 1936. The circumstances in which a fixed entitlement will ordinarily arise can be found in subsection 272-5(1). A fixed entitlement to income or capital arises if, under a trust instrument, a beneficiary has a vested and indefeasible interest in a share of income of the trust that the trust derives from time to time, or of the capital of the trust.

A fixed entitlement can only arise where a beneficiary has a vested and indefeasible interest in a share of the income or capital of the trust (subsection 272-5(1) of Schedule 2F to the ITAA 1936). The requirement of a vested and indefeasible interest ordinarily amounts to:

- the interest must exist

- the amount or value of the interest must be ascertainable, and

- it must be not be capable of being taken away, even if the beneficiary cannot exact immediate payment or transfer.

Vested interests can include future interests. A person can, therefore, have a vested interest in a thing even though the person's actual possession and enjoyment of the thing is delayed until some time in the future.

In the present case, the Beneficiary is the only beneficiary of the Trust which has been set up for its benefit. The Trust Deed can only be varied with its consent and the Trustee may be removed by the Beneficiary by notice in writing in which instance the Beneficiary may appoint a new trustee. The Beneficiary has a vested and indefeasible interest in all of the income of the Trust. Further the Beneficiary is the only entity entitled to benefit from distributions of capital of the Trust. Upon termination of the Trust on the vesting day, any remaining property of the Trust must be distributed to the Beneficiary subject only to the Beneficiary being in existence at that time.

In these circumstances the Trust is a fixed trust for the purposes of Schedule 2F of the ITAA 1936.

Question 4

Summary

Not applicable.

Question 5

Summary

The Beneficiary is a qualified person for the purposes of Division 207 of the ITAA 1997.

Detailed reasoning

Franked distributions

Subject to the operation of section 207-150 of the ITAA 1997, section 207-45 of the ITAA 1997 provides that an entity to whom a franked distribution flows indirectly in an income year is entitled to a tax offset for that income year equal to its share of the franking credit on the distribution.

A franked distribution is taken to flow indirectly to a beneficiary of a trust estate for the purposes of section 207-45 of the ITAA 1997 where the three requirements of paragraphs 207-50(3)(a)-(c) of the ITAA 1997 are satisfied:

First, during that income year the distribution must be made or flow indirectly to the trustee of the trust;

Second, the beneficiary must have a share of the trust's net income for that income year in the relevant sense;

Third, the beneficiary's share of the distribution as identified in accordance with section 207-55 of the ITAA 1997 must be a positive amount.

It is intended that the Trust will receive franked distributions, that a share of the Trust's net income for the year in which such distributions are received will be included in the assessable income of the Beneficiary, and that this amount will be a positive amount. As such, the requirements of section 207-50 of the ITAA 1997 will be satisfied.

If a franked distribution flows indirectly to a beneficiary of a trust and the beneficiary's share of the distribution is exempt income or non-assessable non-exempt income in its hands, section 207-95 of the ITAA 1997 applies to preclude the beneficiary from qualifying for the tax offset under section 207-45.

There are, however, exceptions to this rule. Paragraph 207-110(1)(a) and subsection 207-110(2) of the ITAA 1997 together have the effect that where a franked distribution flows indirectly to a beneficiary that is 'an exempt institution that is eligible for a refund', the beneficiary will still be eligible for a tax offset notwithstanding the general rules relating to distributions that are exempt income in the recipient's hands.

Section 207-115 of the ITAA 1997 sets out the various ways in which an entity is an 'exempt institution that is eligible for a refund'.

By reason of subsection 207-115(3) of the ITAA 1997, the Beneficiary is an exempt entity that is eligible for a refund because the entity:

- has been endorsed under paragraph 30-120(a) as a deductible gift recipient (refer paragraph 207-115(3)(a); and

- satisfies the residency requirement (refer paragraph 207-115(3)(b) and section 207-117).

However, it is necessary to have regard to the rules in Division 1A of former Part IIIAA of the Division 1A of the ITAA 1936, as in force at 30 June 2002, in determining whether an entity is a qualified person for the purposes of paragraph 207-150(1)(a) of the ITAA 1997 in respect of a franked distribution made indirectly to the entity after 30 June 2002

Specific rules apply to determine whether shares held through a trust are held 'at risk'. Under the rules the beneficiary of the trust will be required to have sufficient interest in the corpus of the trust to expose them to at least 30% of the risk of the loss and opportunity for gain in respect of the shares included in the trust assets.

In order to determine the extent of a beneficiary's interest it is necessary to distinguish between widely held trusts and non-widely held trusts. A widely held trust is defined as not being a non-fixed trust (defined in Schedule 2F to the ITAA 1936) and or a closely held fixed trust (defined in section 160 APHD of the ITAA 1936). The Trust is a non-widely held trust as it is a closely held fixed trust.

A beneficiary in a non-widely held trust will typically have a net position of zero (not be sufficiently at risk in relation to the beneficiary's interests in the shares). This is because the effect of deemed long and short positions under subsection 160APHL(7) and (10) of the ITAA 1936 relating to shares held in a non-widely held trust is that unless a beneficiary has a fixed interest constituted by a vested and indefeasible interest in trust corpus, the beneficiary will have materially diminished risks of loss and opportunities for gain in respect of the shares.

An interest is fixed if it is vested and indefeasible. As determined in the Trust Losses response the Beneficiary has a vested and indefeasible interest in all the income and capital of the Trust. The Beneficiary is a qualified person for the purposes of Division 207 of the ITAA 1997.

Question 6

Summary

Not applicable.