Edited version of your private ruling

Authorisation Number: 1012470644132

Ruling

Subject: Resettlement of a trust and CGT event E1

Question

If a deed of variation is executed to vary the Trust Deed of a family trust to include the de facto of one of the eligible beneficiaries would such a change constitute a resettlement of the trust for tax law purposes?

Answer

No.

This ruling applies for the following periods:

Year ending 30 June 2013

Year ending 30 June 2014

Year ending 30 June 2015

Year ending 30 June 2016

The scheme commences on:

10 May 2013

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

The applicant was previously issued with an unfavourable private ruling. The issues and facts relating to that private ruling are the same as those in the current application. The difference between this and the previous ruling is that the ATO view has changed with the issue of Taxation Determination TD 2012/21.

Facts as stated in the application for private ruling.

The Trust was established by a deed of settlement prior to1990. The Trust was established for the benefit of X and his/her family. At the time of settlement, X was married and had children from that marriage.

Subsequently, MT X and his/her spouse divorced and he/she has been in a long term de facto relationship for a number of years.

The trustee now wishes for X's de facto partner to be a beneficiary of the Trust.

Primary beneficiaries were defined as "the said X and his/her spouse, X, and such of their children…"

The trustee now proposes to amend the Trust Deed to include a de facto spouse as an eligible beneficiary.

X has had a long standing relationship with his/her de facto spouse. Potentially X's de facto would have rights under family law regardless of any amendments to the Trust Deed.

Trust deed

Sub-clause 5 (c)

5. The procedures for:-

(c) Making any alteration or amendment to this Deed other than to the First Schedule thereof, shall be as follows:-

(i) Should the Trustee be a Special Trustee any such determination or making of a partial vesting or alteration shall be made by the passing of a resolution of the members of the Special Trustee …

Deed of variation

2. Variation to the trust deed

2.1. Pursuant to clause 5(c) of the Trust Deed and pursuant to every other power enabling, the parties to this Deed hereby declare and acknowledge that the Trust Deed is varied with effect on and from the date of this Deed by the insertion of the following words …:


"and any other person who is or has been legally married to the said X and any other person who the Trustee determines from time to time is or has been the de facto spouse of the said X".


2.2. The terms of this Deed shall prevail over the terms of the Trust Deed to the extent of any inconsistency.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 104-55.

Reasons for decision

Question 1

Taxation Determination TD 2012/21 Income tax: does CGT event E1 or E2 in sections 104-55 or 104-60 of the Income Tax Assessment Act 1997 happen if the terms of a trust are changed pursuant to a valid exercise of a power contained within the trust's constituent document, or varied with the approval of a relevant court? states the current ATO view on the issue of whether a change to the terms of a trust pursuant to an exercise of an existing power will result in a termination of the trust:

1. No. In these circumstances neither CGT event E1 nor CGT event E2 in sections 104-55 or 104-60 of the Income Tax Assessment Act 1997 (ITAA 1997) happens unless:

· the change causes the existing trust to terminate and a new trust to arise for trust law purposes, or

· the effect of the change or court approved variation is such as to lead to a particular asset being subject to a separate charter of rights and obligations such as to give rise to the conclusion that that asset has been settled on terms of a different trust.

Example 1: addition of new entities to, and exclusion of existing entities from, class of objects

2. The Acorn Trust is a family discretionary trust that was settled to benefit the members of the Squirrel Family. Under the terms of the trust deed the trustee (a private company of which Mr and Mrs Squirrel are directors) has the power at its absolute discretion to appoint income to any one or more of the General Beneficiaries. The General Beneficiaries are defined under the terms of the trust deed to be Mr Squirrel, his wife, their children, their grandchildren, and Oak Pty Ltd, a private company through which the family runs a business of growing flowers to supply local florists .

3. Having decided to get out of the flower industry, the Squirrel Family dispose of their interests in Oak Pty Ltd to an unrelated third party.

4. The trust deed for the Acorn Trust provides for a procedure for the trust to be amended, namely by trustee resolution recorded in writing. Pursuant to this procedure the trustee resolves in writing to amend the deed to specifically remove Oak Pty Ltd by name from the class of General Beneficiaries. The trustee further resolves to add to the class of General Beneficiaries :

· the respective spouses of the children ;

· trusts and companies in which the family has a majority controlling interest ; and

· a philanthropic charity unrelated to the Squirrel Family .

5. The making of these resolutions, being a valid exercise of a power of amendment contained within the deed, does not give rise to the happening of a CGT event.

…

The decision in Clark means the approach formerly set out in the Statement of Principles is not sustainable

17. On 21 January 2011, the Full Federal Court (Edmonds and Gordon JJ, Dowsett J dissenting) handed down its judgment in Commissioner of Taxation v. David Clark ; Commissioner of Taxation v. Helen Clark [2011] FCAFC 5; 2011 ATC 20-236; (2011) 79 ATR 550 ( Clark ). That case raised squarely for consideration the circumstances in which the nature of a trust has so changed that it might be concluded that the trust that originally incurred capital losses is not the same trust for income tax purposes as that which has derived gains against which the losses are sought to be recouped.

18. Clark was decided adversely to the Commissioner. Special leave sought by the Commissioner to appeal the decision to the High Court was rejected on 2 September 2011.

19. The Commissioner has explained his view on the administrative impact of the Court's decision in the following terms:

The Commissioner considers that the decision of the Full Federal Court in Clark does not change the basic proposition that based on the authority in Commercial Nominees; the relevant focus is on whether continuity of the trust estate has been maintained. That this is so is confirmed by the High Court's language in disposing of the Commissioner's application for special leave where the High Court noted that the decision of the Full Federal Court involved 'characterisation and evaluation of the continuity of the trust estate'.

The statute does not contain a statement of the applicable criteria against which continuity is to be assessed. As was recognised by the Full Federal Court in Commercial Nominees [at para 49], the consequence is that criteria must be established for these purposes. As decided by the High Court in Commercial Nominees, the Commissioner considers that the test to be applied looks to whether changes to one or more of the trust's constituent documents, the trust property, and the identity of those with a beneficial interest in the trust property are such as to terminate the existence of the trust.

To the extent that the High Court in Commercial Nominees left open the possibility that there might be a loss of continuity in circumstances short of the existence of the trust having come to an end, the Commissioner acknowledges that in Clark there were significant changes to the property, membership and operation of the [the relevant trust in that case] without any finding by the courts that there was a loss of continuity such as to deny the trust access to the losses being carried forward. Relevantly, in disposing of the Commissioner's special leave application, the High Court noted that the application raised the question:

· Whether a trustee of a unit trust could set-off, against capital gains, capital losses incurred some years before under a different trustee with different unit holders, with an intervening excess of liabilities over assets, subsequent recapitalisation of the trust and a waiver by the original trustee of its right to be indemnified from the assets of the trust.

Accordingly, following Clark, there will not be a loss of continuity sufficient to deny a trustee access to any capital losses being carried forward without a termination of the existence of the trust estate.

20. It is clear following Clark that, at least in the context of recoupment of losses, continuity of a trust estate will be maintained so long as the trust is not terminated for trust law purposes. As such, in the absence of termination, tax losses being carried forward by a trustee will as a general rule remain available to be recouped against relevant trust income derived in future years of income.

21. Furthermore, as a general proposition, it would seem that the approach adopted by the Full Federal Court in Commercial Nominees , as explained by Edmonds and Gordon JJ in Clark , is authority for the proposition that assuming there is some continuity of property and membership of the trust, an amendment to the trust that is made in proper exercise of a power of amendment contained under the deed will not have the result of terminating the trust, irrespective of the extent of the amendments so made so long as the amendments are properly supported by the power…

Effect of a change in the terms of a trust pursuant to a valid exercise of a power in the deed or court approved variation

24. Even though Clark and Commercial Nominees were decided in the context of whether changes in a continuing trust were sufficient to treat that trust as a different taxpayer for the purpose of applying relevant losses, the ATO accepts the principles set out in these cases have broader application. Relevantly, the principles established by those cases are also relevant to the question of the circumstances in which CGT event E1 or E2 may happen as a result of changes being made to the terms of an existing trust pursuant to a valid exercise of a power in the deed (including a power to amend). In light of those principles, the ATO accepts that a change in the terms of the trust pursuant to exercise of an existing power (including an amendment to the deed of a trust), or court approved variation, will not result in a termination of the trust and, therefore… will not result in CGT event E1 happening.

…

26. Whether a purported change to a trust in exercise of a power under the deed is properly supported by the power is to be determined in accordance with principles of trust law having regard to the scope of the power properly construed. Relevant to this question will be whether the deed itself explicitly specifies conditions (including procedural conditions) that need to be satisfied for the exercise of the power to be effective.

…

The fundamental issue is to determine whether the terms of a trust have been changed pursuant to a valid exercise of a power contained within the trust's constituent document. Clause 5(c) of the trust deed allows for the variation of the trust deed other than the First Schedule. This would appear to give the trustees considerable scope for varying the terms of the trust.

The amendment of clause 1(h) of the trust deed seeks to extend the beneficiaries to include any person who is or has been married to X and any person who is or has been a de facto of X. The effect of the amendment is merely to extend the current sub-class of beneficiaries, being the spouses of X, married or de facto, and not to create a new class of beneficiaries.

However, the view expressed in clause 1 of TD 2012/21 in relation to a change to a trust deed under a valid exercise of power by the trustee is conditional on there not being a termination of the existing trust and there being no new trust created for trust law purposes.

While each case must be determined on the specific facts, TD 2012/21 provides some guidance. In clause 19 the Commissioner acknowledges that in Clark there were significant changes to the property, membership and operation of the relevant trust in that case, without any finding by the courts that there was a loss of continuity such as to deny the trust access to the losses being carried forward.

Further to this, example 1 in TD 2012/21 provides an example involving extensive changes to the beneficiaries of a family discretionary trust. These changes were not considered to have terminated the trust and thus did not give rise to a CGT event.

From this it can be determined that a mere extension of a current class of trust beneficiaries would not be sufficient in itself to terminate a trust at trust law.

As the proposed amendment to the trust deed would be validly made and would not terminate the trust, there would be no resettlement of the trust.