Edited version of your written advice

Authorisation Number: 1013071521700

Date of advice: 22 August 2016

Ruling

Subject: Trust Losses

Question 1

Is the Unit Trust a non-fixed trust for the purposes of section 267-40 of Schedule 2F of the Income Tax Assessment Act 1936 ('ITAA 1936')?

Answer

Yes

Question 2

Does the 50% Stake Test, as set out in section 267-40 of Schedule F of the ITAA 1936 apply to the Unit Trust?

Answer

No

This ruling applies for the following periods:

1 July 2015 to 30 June 2018

The scheme commences on:

1 July 2015

Relevant facts and circumstances

1. The trust deed (the Trust Deed) for the Unit Trust (the Trust) was executed in 19XX.

2. The Trust Deed was varied by deed (Amending Deed) in 20YY.

3. Currently all of the Ordinary units in the Trust are held by 3 discretionary trusts which are family trusts. Each discretionary trust holds 1/3 (one-third) of the units.

4. An individual also hold 1 Special Income Unit. The Special Income Unit is defined in the second schedule of the Trust Deed. This Special Income Unit is not entitled to capital. This Special Income Unit is discretionary at the full and unfettered discretion of the trustee and does not need to be in proportion to the number of units held.

5. The Trust operates a business.

6. The Trust will not make a Family Trust Election. The Discretionary Trusts have not made Family Trust Elections.

7. In the 20AA-BB income tax year it incurred a tax revenue loss of approximately $X.

8. The Trust expects to recoup these losses in 20CC and 20DD.

Relevant legislative provisions

Income Tax Assessment Act 1936

• Schedule 2F

• Division 267

• Division 272

Reasons for decision

Detailed Reasoning

Division 267 of Schedule 2F to the ITAA 1936 sets out the income tax consequences for non-fixed trusts where there is a change in ownership or control.

A 'non-fixed trust' is defined in section 272-70 of Schedule 2F to the ITAA 1936 to mean a trust that is not a fixed trust.

Subsection 267-20(1) of Schedule 2F to the ITAA 1936 will apply to a trust that:

(a) can deduct in the income year a tax loss from a loss year; and

(b) was a non-fixed trust at any time in the period (the test period) from the beginning of the loss year until the end of the income year; and

(c) was not an excepted trust at all times in the test period.

Subsection 267-20(2) of Schedule 2F to the ITAA 1936 then sets out the conditions that must be met if a non-fixed trust is to deduct the tax loss.

Fixed entitlement per subsection 272-5(1) and (2) of Schedule 2F to the ITAA 1936

A 'fixed trust' is defined in section 272-65 of Schedule 2F to the ITAA 1936:

A trust is a fixed trust if persons have fixed entitlements to all of the income and capital of the trust.

The term 'fixed entitlement' is defined in subsection 272-5(1) of Schedule 2F to the ITAA 1936 which states that:

'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, the beneficiary has a fixed entitlement to that share of the income or capital.'

In Colonial First State Investments Ltd v FCT (2011) 192 FCR 298; 201 ATC 20-235 at 97, the Federal Court defined an indefeasible interest under subsection 272-5(1) of Schedule 2F to the ITAA 1936 as having "its ordinary meaning when applied to an interest, that is that the interest cannot be terminated, invalidated or annulled."

Trust Instrument

The determining factor in deciding if a fixed entitlement exists under subsection 272-5(1) of Schedule 2F to the ITAA 1936 will be the terms of the trust instrument under which the trust is constituted.

In the context of subsection 272-5(1) of Schedule 2F to the ITAA 1936, determining whether a beneficiary has a 'vested and indefeasible' interest in a trust requires examination of the terms of the trusts upon which the relevant trust property is held, including individual clauses, and whether a beneficiary's interest in a share of the income or capital is defeasible by virtue of any of the powers contained in the trust instrument (see CPT Custodian Pty Ltd v Commissioner of State Revenue; Commissioner of State Revenue v Karingal 2 Holdings Pty Ltd [2005] HCA 53).

Application of the law to your circumstances

Under subsection 272-5(1) of Schedule 2F to the ITAA 1936 a person will be taken to have a fixed entitlement to a share of the income or capital of a trust if they have a vested and indefeasible interest under the trust instrument.

Under the Trust Deed, the Unit Holders in the Trust may not be considered to have a vested and indefeasible interest in all of the income and capital of the fund due to the hybrid nature of the trust. Further clause 48 of the Trust Deed contains a power to vary the Trust. This constitutes a defeasible power in respect of income and capital of the Trust (Colonial First State Investments Ltd v Commissioner of Taxation [2011] FCA 16; 2011 ATC 20-235 at [106]). It is also noted that the Trust has an 'open class' of beneficiaries whereby units may be issued or redeemed at a non-net asset backed value which are defeasible powers not saved by s272-5(2).

Conclusion

Given that the Unit Holders' interests can be defeased, they do not have fixed entitlements to all of the income and capital of the Trust. The trust is a non-fixed trust for the purposes of section 272-70.

Question 2

Detailed reasoning

Section 267-20 of Schedule 2F of the Income Tax Assessment Act 1936 (ITAA 1936) allows non-fixed trusts that are not excepted trusts to deduct a tax loss, provided that some conditions are satisfied.

Sub-section 267-20(2) of Schedule 2F of the ITAA 1936 (Schedule 2F) lists those conditions. The relevant condition here is the condition in section 267-40 of Schedule 2F, which is the 50% stake test.

Section 267-40 of Schedule 2F sets out the 50% stake test. The basic requirement is that if individuals have an entitlement to more than 50% of the income or capital of the trust, this entitlement must continue for the test period, which is the start of the income year when the loss is incurred and the end of the income year in which the tax loss is claimed.

Section 269-50 of Schedule 2F sets out the conditions in more detail. The basic requirement is that if individuals or group of individuals have fixed entitlements to more than 50% of the trust income or capital, then those individuals have more than a 50% stake in the trust and are then required to pass the 50% stake test by maintaining this stake during the test period.

The trust deed of the Unit Trust shows that the three unitholders are family discretionary trusts. Clause 48 of the Trust Deed contains a power to vary the Trust meaning that no beneficiaries have a fixed entitlement to the capital of the trust. There is also one individual who holds a Special Income unit. Under the trust deed the trustee can distribute income to the holder of this unit. Therefore not all unit holders have fixed entitlement to the income of the trust.

Conclusion

In this case no fixed entitlement exists in relation to the income or capital of the Unit Trust section 267-40 is not able to be considered.