Edited version of your private ruling

Authorisation Number: 1012598090992

Ruling

Subject: Trust - income

Question 1

Will the income from XY maintenance trust (the trust) satisfy the excepted trust income condition set out in subparagraph 102AG(2)(c)(viii) of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

Yes, except to the extent it is paid to beneficiaries other than the subject minors.

Question 2

Is the trustee assessable on any excepted trust income which is distributed to the child?

Answer

Yes

Question 3

Will normal rates of tax which apply to an adult resident taxpayer apply to both the trustee and the child, to the extent they are assessable on the income?

Answer

Yes

This ruling applies for the following periods

Year ending 30 June 2014

Year ending 30 June 2015

Year ending 30 June 2016

Year ending 30 June 2017

The scheme commenced on

1 July 2013

Relevant facts

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.

A and B were married and have separated.

A & B have two children, X and Y, who are both minors.

Following their separation, access rights for A and B to X and Y were prescribed by court orders which have been provided. As a result A is required to pay or cause to be paid child support payments to B for their children. The liability lasts until the youngest child, Y, turns 18 years of age. A and B are not living together at the same address.

On 20XX, a Deed of Settlement (DOS) was executed for the trust. The appointer is C.

The applicant was settlor of the trust, and A was nominated as the trustee.

You have provided a copy of the DOS and the Court Order.

The DOS Recitals section explains that A is required to provide maintenance payments pursuant to the abovementioned obligation. A wished to establish the trust to facilitate the satisfaction of A's obligations for ongoing maintenance payments.

A clause of the DOS defines the beneficiaries of the trust as:

a) X and Y (the Specified Beneficiaries);

b) the trustee of any trust (acting in its capacity as the trustee of that trust) under which the Specified Beneficiaries have any interest, or are eligible to receive a distribution of income or capital (including as an object of any power of appointment);

c) any company of which a Specified Beneficiary is a member;

d) any other person whom the Trustee nominates in writing with the Appointor's written consent to be a Beneficiary before the Closing Date,

but does not include any Ineligible Appointee.

…

Ineligible Appointee means:

a) the Settlor;

b) any other person revocably or irrevocably excluded as a Beneficiary by the Trustee pursuant to clause 5 provided that if a revocable exclusion is revoked, then that person shall cease to be an Ineligible Appointee from the time that the exclusion is revoked and no new exclusion is made in respect of that person.

The initial Settled Property consists of a small sum of money. It is anticipated that further property will be contributed to the Trust Fund.

It is anticipated that the trust:

n will receive additional property from A,

n will receive the additional property for the purpose of facilitating the satisfaction of A's obligations to provide child maintenance, and

n may borrow funds on an interest-free or commercial basis for the purpose of generating income.

It is intended that a sum will be invested in the trust to generate sufficient income to cover child maintenance obligations. Initially this cash investment could be used to either generate a return or purchase an asset or other security to generate a return.

Any income derived by the trust in respect of the investment of the Trust Fund will be the product of commercial arm's length arrangements.

No agreement has been entered into or carried out by any person for the purpose, or for purposes that included in the purpose, of securing that relevant assessable income will be 'excepted trust income'.

Assumptions

Not applicable

Relevant legislative provisions

Income Tax Assessment Act 1936 - Section 98

Income Tax Assessment Act 1936 - Division 6AA

Income Tax Assessment Act 1936 - Section 102AC

Income Tax Assessment Act 1936 - Subsection 102AC(1)

Income Tax Assessment Act 1936 - Section 102AG

Income Tax Assessment Act 1936 - Subsection 102AG(1)

Income Tax Assessment Act 1936 - Subsection 102AG(2)

Income Tax Assessment Act 1936 - Subparagraph 102AG(2)(c)(viii)

Income Tax Assessment Act 1936 - Subsection 102AG(2A)

Income Tax Assessment Act 1936 - Section 102AGA

Income Tax Assessment Act 1936 - Paragraph 102AGA(2)(c)

Reasons for decision

Summary

The purpose of the trust is to facilitate the satisfaction of A's maintenance obligations. The DOS ensures that A or another person or entity may transfer property to the trust. The transfers of property to the trust will be as a result of a family breakdown, provided that:

n the transfer of property to the trustee is for the benefit of the child beneficiaries, and

n the transfer gives effect to, or discharges up to the amount of A's legal obligation.

In this case, any income that the trust derives up to the amount of the legal obligation from the investment of property, which has been transferred to the trust for the benefit of the children and as a result of a family breakdown, will satisfy the excepted trust income condition.

The trustee is assessable on any excepted trust income which is distributed to the children.

The normal rates of tax which apply to an adult resident taxpayer will apply to both the trustee and the children (to the extent they are assessable on the income)

Detailed reasoning

Question 1

Will the trust satisfy the excepted trust income condition set out in subparagraph 102AG(2)(c)(viii) of the ITAA 1936?

Division 6AA of the ITAA 1936 sets out special rules that apply in working out the basic income tax liability on the income of minors. These rules apply to income derived by a minor directly or indirectly, such as through a trust.

The Division 6AA rules apply to any person classed as a prescribed person who receives eligible assessable income. Subsection 102AC(1) of the ITAA 1936 defines a prescribed person as a person who is under 18 years of age at the end of the financial year and is not an excepted person.

Subsection 102AG(1) of the ITAA 1936 identifies when the special rules apply to trust income. If a beneficiary of a trust estate is a prescribed person, the special rules apply to so much of the beneficiary's share of the net income of the trust (net trust income) as the Commissioner considers is attributable to the assessable income of the trust estate that is not excepted trust income.

Subsection 102AG(2) of the ITAA 1936 identifies a number of different categories of excepted trust income that apply for the benefit of the prescribed person. Subparagraph 102AG(2)(c)(viii) of the ITAA 1936 specifies that amounts included in the assessable income of a trust estate are excepted trust income in relation to a beneficiary, to the extent they are derived by the trustee of the trust estate from the investment of any property transferred to the trustee for the benefit of the beneficiary, as a result of a family breakdown.

The previous subparagraph will not apply unless subsection 102AG(2A) of the ITAA 1936 is satisfied. The beneficiary of the trust must, under the terms of the trust, acquire the trust property when the trust ends. In addition, the beneficiary must not acquire the trust property in a capacity as a trustee. Paragraphs 29 to 46 of Taxation Ruling TR 98/4 Income Tax: child maintenance trust arrangements (TR 98/4) provide further information and examples on when a property has been transferred to the trustee for the benefit of a beneficiary.

Section 102AGA of the ITAA 1936 clarifies when a transfer of property will be a result of a family breakdown. Subsection 102AGA(2) of the ITAA 1936 is relevant in this case, as A and B ceased to live together as spouses. A transfer of property to the trustee for the benefit of a minor beneficiary will be a result of a family breakdown if:

…

(b) at least one of the persons:

(i) is the parent; or

…

(iv) has legal custody or guardianship;

of the minor or the beneficiary; and

(c) an order, determination or assessment of a court, person or body (whether or not in Australia) is made wholly or partly because the person has ceased to live as the spouse of the other person; and

(d) the effect of the order, determination or assessment is that a person (whether one of the parents, the transferor or any other person) becomes subject to a legal obligation to maintain, transfer property to, or do some other thing for the benefit of, the minor or beneficiary or one of the parents of one of the spouses; and

(e) the transferor transfers the subject property to the minor, or to the trustee for the benefit of the beneficiary, in giving effect to the legal obligation (including in discharging the legal obligation if it falls on someone else, and whether or not the legal obligation could have been given effect in some other way).

The Explanatory Memorandum to the Taxation Laws Amendment Bill (No. 4) of 1994 explains the intention behind paragraph 102AGA(2)(c) of the ITAA 1936. It states:

2.33 The third requirement is that an order, determination or assessment of a court, person or body is made wholly or partly because the parties have ceased to live together on a genuine domestic basis [new paragraph 102AGA(2)(c)]. The requirement is not restricted to orders, determinations etc. made in Australia. The intention of this requirement is to include all obligations arising not only by way of court order but by operation of law (for example, an administrative assessment under the [Child Support (Assessment) Act 1989]). …

Application

The trust's specified beneficiaries are children who are under the age of 18. The child will continue to be prescribed persons in a financial year under section 102AC of the ITAA 1936, up until they turn 18 years of age.

Under the Court Order, A is subject to a legal obligation to pay B an amount of monthly child support payments for their child. The legal obligation will last until the children turn 18 years of age.

Under clause 4.5 of the DOS, the specified beneficiaries will acquire the remaining income, capital, property or benefits of the trust when the trust ends. The specified beneficiaries will not acquire the property in a capacity as a trustee. Clause 5 of the trust deed makes it certain that the child cannot be excluded as the specified beneficiary.

The purpose of the trust is to facilitate the satisfaction of A's maintenance obligations Clause 1.1 of the DOS ensures that A or another person or entity may transfer property to the trust. The transfers of property to the trust will be taken to be as a result of a family breakdown under subsection 102AGA(2) of the ITAA 1936, provided that:

n the property is transferred to the trustee for the benefit of the child beneficiary, and

n the transfer gives effect to, or discharges up to the amount of KF's legal obligation to pay maintenance.

In this case, any income up to the amount of the legal obligation that the trust derives from the investment of that property, which has been transferred to the trust for the benefit of the child and as a result of a family breakdown, will satisfy the excepted trust income condition under subparagraph 102AG(2)(c)(viii) of the ITAA 1936.

Any income paid to beneficiaries other than the minors subject to the maintenance obligation would not qualify as excepted trust income.

Question 2

Is the trustee assessable on any excepted trust income which is distributed to the children?

If the beneficiary of a trust is a resident minor, then the trustee is assessed and must pay tax on the minor beneficiary's share of the net trust income under section 98 of the ITAA 1936. The trustee's liability arises irrespective of the net trust income being eligible or excepted trust income amounts under section 102AG of the ITAA 1936.

Question 3

What rates of tax will apply to the excepted trust income of the trust and/or the children?

If a resident beneficiary is presently entitled to a share of trust income, and is under a legal disability because they are a minor under the age of 18, then the trustee is assessed on the minor's share of the net trust income under section 98 of the ITAA 1936.

Division 6AA of the ITAA 1936 sets out special rules that apply in working out the basic income tax liability of minor's income. These rules apply to income derived by a minor directly or indirectly, such as through a trust.

The Division 6AA rules apply to any person classed as a prescribed person who receives eligible assessable income. As stated in question one, the trust's specified beneficiary is a child who will continue to be a prescribed person under section 102AC of the ITAA 1936 up until they turns 18 years of age.

The rate of tax on income subject to Division 6AA of the ITAA 1936 is governed by schedule 12 of the Income Tax Rates Act 1986. Where the minor's eligible taxable income exceeds the relevant threshold, the tax is payable on the whole of the eligible income at the rate of 45%.

If the child beneficiary only received excepted trust income under section 102AG of the ITAA 1936, then Division 6AA of the ITAA 1936 rates will not apply to the excepted trust income. Instead, the normal rates of tax which apply to an adult resident taxpayer will apply to both the trustee and the children (to the extent they are assessable on the income) and will include the tax-free threshold.