Edited version of your private ruling

Authorisation Number: 1012516972522

Ruling

Subject: CGT events E1 to E9 - trusts

Question 1

Will CGT event E1 or E2 in sections 104-55 and 104-60 of the Income Tax Assessment Act 1997 (ITAA 1997) occur if the terms of the Trust are changed to exclude specific beneficiaries from the Trust, pursuant to a valid exercise of the amendment power in sub-paragraph 1(b)(iv) of the trust deed?

Answer

No.

This ruling applies for the following periods:

Year ending 30 June 2014.

The scheme commences on:

The scheme has commenced

Relevant facts and circumstances

1. X Pty Ltd (X) is the trustee of the Y Trust (Y), which is an Australia resident discretionary trust;

2. X is owned by A and B, both of whom are Australian residents;

3. The general class of beneficiaries of Y includes relatives of A and B, as well as other entities (trusts, companies, and limited partnerships) owned or controlled by A and B, or their relatives;

4. Subparagraph X of the trust deed provides an amendment power.

5. X plans to exclude beneficiaries from the general class of direct beneficiaries, pursuant to the amendment power.

Relevant legislative provisions

Section 104-55 of the Income Tax Assessment Act 1997

Section 104-60 of the Income Tax Assessment Act 1997

Reasons for decision

There may be situations where changes to a trust result in the creation of a new trust (a resettlement). Where a resettlement arises, the new trust may exist independently of the original trust or, alternatively, the original trust may cease to exist.

What constitutes a resettlement is a very important issue, for in circumstances where there is a resettlement, the tax consequences for the trust (and therefore the beneficiaries of the trust to whom any tax liability may be assessed) can be potentially serious.

In the present case, the issue at hand is whether or not a change to the terms of the Y trust, pursuant to a valid exercise of a power contained in the trust deed, will result in CGT event E1 or E2 in sections 104-55 and104-60 of the Income Tax Assessment Act 1997 (ITAA 1997) occurring.

Case law

In a test case on resettlements for income tax purposes, the High Court in FCT v Commercial Nominees of Australia Ltd (2001) 47 ATR 220 (Commercial Nominees) considered whether a superannuation fund was entitled to utilise prior year losses following amendments to its trust deed (including the appointment of a new trustee, a new set of rules, and a change in the nature of benefits from defined to accumulation). The High Court held that a resettlement did not arise because:

1. the amendments were authorised by the trust deed (which contained wide powers of amendment);

2. the trusts under which the superannuation fund operated were still constituted by the original trust deed (as varied);

3. the trust property and the fund members did not change; and

4. the superannuation industry regulatory authority treated the fund as a continuing fund, both before and after the amendments.

The Full Federal Court in F.C. of T v Commercial Nominees of Australia (1999) 167 ALR 147 stated:

55…in order to determine whether losses of particular trust property are allowable as a deduction from income accruing to that trust property in a subsequent income year, it will be necessary to establish some degree of continuity of the trust property of corpus that earns the income from the income year of loss to the year of income. It will also be necessary to establish continuity of the regime of trust obligations affecting the property in the sense that, while amendment of those obligations might occur, any amendment must be in accordance with the terms of the original trust [emphasis added].

56…so long as any amendment of the trust obligations relating to such trust property is made in accordance with any power conferred by the instrument creating the obligations, and continuity of the property that is the subject of trust obligations is established…

The decisions of the High Court and the Full Federal Court in Commercial Nominees were followed 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). In that case, the Full Federal Court had to determine whether changes to property, membership and operation of the trust had caused termination of the trust for the purposes of Division 6 of Part III of the Income Tax Assessment Act 1936 (ITAA 1936).

Taxation Determination TD 2012/21

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 the trust are changed pursuant to a valid exercise of a power contained within the trust's constituent documents, or varied with the approval of a relevant court? (TD 2012/21) states that CGT event E1 (creating a trust over a CGT asset by declaration or settlement) will not generally happen if the terms of a trust are changed pursuant to a valid exercise of a power contained in the trust's constituent document, or are varied with court approval. CGT event E2 (transferring a CGT asset to a trust) will also not occur. However, a CGT event will occur if the change:

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

· results in 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.

As discussed at paragraph 19 of TD 2012/21, the Commissioner has explained his view on the administrative impact of the Court's decision in Clark as follows:

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.

…

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 consequences 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 extend that the High Court in Commercial Nominees left open the possibility that there might be a loss of contiguity 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 [relevant trust in that case] without any finding of the courts that there was a loss of continuity such as to deny the trust access to the losses being carried forward.

Paragraph 21 of TD 2012/21 explains that, 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 'a proper exercise of a power of amendment contained under the deed' will not result in a termination of the trust, despite the extent of the amendments that are made to the trust, so long as the amendments are properly supported by the power.

In the present case, Y trust is proposing to exercise the amendment power in subparagraph 1(b)(iv) of the trust deed, in order to exclude beneficiaries from the class of General Beneficiaries. By doing so, it will not result in the resettlement of the trust, nor the occurrence of CGT events E1 or E2. There is continuity of property and membership of the trust, and the proposed amendment will be a proper exercise of an amendment power contained in the deed.

Paragraphs 2 to 5 of TD 2012/21 provide the following example:

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 disposes of their interest 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.

Conclusion

The above example is applicable to Y trust. In the current circumstances, the trustee is proposing to exercise a valid amendment power at subparagraph 1(b)(iv) of the trust deed, to specifically remove some beneficiaries from the class of General Beneficiaries. Because the amendment to the class of General Beneficiaries is in accordance with the terms of the trust, there will continue to be identifiable property of Y trust and a continuation of the membership and obligations of the trust.

Therefore, the making of the resolution, being a valid exercise of a power of amendment contained within the trust deed, does not give rise to CGT event E1 or E2.