Edited version of your written advice

Authorisation Number: 1013103347036

Date of advice: 7 October 2016

Ruling

Subject: Consolidations, Trust income and Division 7A

Question 1

Is Company X and Trust Y a consolidatable group for the purposes of section 703-10 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

Question 2

In the event that the trustee fails to exercise its discretion in favour of its Designated Beneficiary (Company X), with the result that income is accumulated would the Commissioner agree that rather than section 99A(4) of the Income Tax Assessment Act 1936 (ITAA 1936) applying, liability would be worked out based on the head company's liability in terms of section 701-1(2) of the ITAA 1997?

Answer

Yes

Question 3

Would Division 7A of the ITAA 1936 have any application to an amount accumulated as between the Trust Y and the Designated Beneficiary (Company X)?

Answer

No

This ruling applies for the following period(s)

1 July 2016 to 30 June 2017

The scheme commenced on

1 July 2016

Relevant facts and circumstances

Trust Y is a discretionary trust. The Trustee of Trust Y is a resident of Australia for taxation purposes and the central management and control of the trust estate is in Australia.

Company X is an Australian resident company and is the designated beneficiary of Trust Y. An eligible beneficiary is any company of trust which is a member of a consolidated group of which the designated beneficiary is the head company.

Additional beneficiaries include any person, corporation, association or body including a person or corporation acting in the capacity of trustee of a trust that is nominated in writing by the Trustee as a beneficiary of the Trust.

All the issued capital in Company X is held by the director and secretary. Company X does not hold ownership interests in any other entities.

Company X and the Trust are to become members of a consolidated group with Company X as the head company. The consolidated group will come into existence before any income is distributed to any beneficiary of Trust Y.

The intention of the trustee is to retain income within the Trust for reinvestment as compared to resolving to distribute the income to the designated beneficiary, an eligible beneficiary or appointing the income to another beneficiary in terms of clause 1.4.1(c) of the Trust Deed. Therefore, at the end of a relevant income year the trustee would refrain from appointing income. This would leave such income undistributed triggering Clause 10 of the Trust Deed and causing such income to be accumulated.

Trust Y and Company X are not entities referred to in section 703-20 of the ITAA 1997.

Company X is not a wholly-owned subsidiary of another qualifying entity or subsidiary of another consolidatable or consolidated group.

Assumption(s)

During the ruling period the Trustee of Trust Y will not nominate any object within the class of 'Beneficiaries' (as defined in the Trust Y Trust Deed) who are not members of the tax consolidated group of which Company X is head company.

Relevant legislative provisions

Income Tax Assessment Act 1936 - Division 6

Income Tax Assessment Act 1936 - Division 7A

Income Tax Assessment Act 1936 - Section 99A

Income Tax Assessment Act 1997 - Division 50

Income Tax Assessment Act 1997 - Section 95

Income Tax Assessment Act 1997 - Section 701-1

Income Tax Assessment Act 1997 - Section 703-5

Income Tax Assessment Act 1997 - Section 703-10

Income Tax Assessment Act 1997 - Section 703-15

Income Tax Assessment Act 1997 - Section 703-20

Income Tax Assessment Act 1997 - Section 703-25

Income Tax Assessment Act 1997 - Section 703-30

Income Tax Assessment Act 1997 - Section 960-135

Reasons for decision

Question 1

Summary

Company X and Trust Y are a consolidatable group for the purposes of section 703-10 of the Income Tax Assessment Act 1997 (ITAA 1997).

Detailed reasoning

Section 703-10 of the ITAA 1997 states that a consolidatable group consists of a single head company and all the subsidiary members of the group.

Head company

Paragraph 703-15(2)(a) of the ITAA 1997 states that an entity is a head company if all the requirements in item 1 of the table are met. The requirements are that:

(1) the entity must be a company (but not one covered by section 703-20) that has all or some of its taxable income taxed at a rate that is or equals the corporate tax rate

(2) the entity must be an Australian resident (but not a prescribed dual resident), and

(3) the entity must not be a wholly-owned subsidiary of another entity that meets the requirements above, or, if it does, it must not be a subsidiary of a consolidatable or consolidated group.

Section 703-20 of the ITAA 1997 precludes certain entities from being members of a consolidatable group. Relevantly, Company X is not a company

• whose total ordinary income and statutory income is exempt from income tax under Division 50 of the ITAA 1997

• that is a recognised medium credit union

• that is an approved credit union and is not a recognised medium credit union, and

• that is a pooled development fund.

Accordingly, as Company X is a company that is not covered by section 703-20 of the ITAA 1997 and its taxable income is taxed at the corporate tax rate, the first requirement is satisfied.

Company X is an Australian resident and consequently the second requirement is satisfied.

Company X is not a wholly-owned subsidiary of another qualifying entity or subsidiary of another consolidatable or consolidated group and consequently the third requirement is satisfied.

Accordingly, Company X meets the requirements of a head company for the purposes of section 703-10 of the ITAA 1997.

Subsidiary member

Paragraph 703-15(2)(b) of the ITAA 1997 states that an entity is a subsidiary member of a consolidatable group if all the requirements in item 2 of the table are met. The requirements are that:

(1) the entity must be a company, trust or partnership (but not one covered by section 703-20 of the ITAA 1997)

(2) a trust must comply with the residency requirements in section 703-25 of the ITAA 1997, and

(3) the entity must be a wholly-owned subsidiary of the head company of the group.

Trust Y is a trust that is not covered by section 703-20 of the ITAA 1997 and consequently the first requirement is satisfied.

Since Trust Y is a discretionary trust, it must meet the requirements in item 1 of the table in section 703-25 of the ITAA 1997. Pursuant to item 1, it must be a resident trust estate for the purposes of Division 6 of Part III of the Income Tax Assessment Act 1936 (ITAA 1936).

Subsection 95(2) of the ITAA 1936 states that a trust shall be taken to be a resident trust estate if a trustee of the trust estate was a resident at any time during the year of income, or the central management and control of the trust estate was in Australia during the year of income.

The Trustee of Trust Y is a resident for taxation purposes and the central management and control of the trust estate is in Australia. It therefore satisfies the residency requirements in section 703-25 of the ITAA 1997.

Under subsection 730-30(1) of the ITAA 1997, a subsidiary entity is a wholly-owned subsidiary of the holding entity if all the membership interests in the subsidiary entity are beneficially owned by the holding entity. In this case, Trust Y is a wholly-owned subsidiary of Company X. Consequently, the third requirement is satisfied.

Since the three requirements outlined in item 2 of the table in paragraph 703-15(2)(b) of the ITAA 1997 are satisfied, Trust Y is a subsidiary member for the purposes of section 703-10 of the ITAA 1997.

Additional beneficiaries

In this case, the Trust Deed for Trust Y permits the Trustee to include additional beneficiaries (including any person, corporation, association or body, or a person or corporation acting in the capacity of trustee of a trust).

The United Kingdom Court of Chancery Division decision in Re Manisty's Settlement [1973] 2 All ER 1203 held that a power conferred on a trustee to add members to an pre-existing class of objects was valid (ATO Interpretative Decision ATO ID 2005/74 Income Tax Consolidation: Membership and Discretionary Trusts (ATO ID 2005/74)).

Conferring a power on a trustee to nominate any person as an object of a trust, will not result in the conferral of 'interests' or 'rights' on a broad range of persons. This view is confirmed by the New South Wales Supreme Court of Appeal decision in Hartigan Nominees Pty Ltd v. Rydge (1992) 29 NSWLR 405, where at 425 Mahoney J A states:

As I have indicated, a class of possible beneficiaries under a discretionary trust may be wide and may be capable, as in this case, of significant extension. I doubt that it is the duty of a trustee to seek out such persons and inform them of the possibility that, in certain circumstances, they may acquire rights under the trust. I do not think that, for example, where property may be appointed among a group of employees, past, present and future, of a company, the trustee has a duty to seek out and convey information of this kind.

As stated in ATO ID 2005/74, for the purposes of section 960-135 of the ITAA 1997, the mere existence of a power to extend a pre-existing class of objects of a trust will not confer any rights on persons outside of that class, who may at some future point in time be added to that class via the powers conferred on the trustee(s).

Therefore, the fact that the Trust Deed for Trust Y permits the Trustee to include additional beneficiaries does not preclude Trust Y from being a subsidiary member of the tax consolidated group of which Company X is head company.

Conclusion

Since Company X is a head company and Trust Y is a subsidiary member, Company X and Trust Y are a consolidatable group under subsection 703-10 of the ITAA 1997.

Question 2

Summary

In the event that the trustee fails to exercise its discretion in favour of its Designated Beneficiary (Company X), with the result that income is accumulated, the Commissioner agrees that rather than subsection 99A(4) of the ITAA 1936 applying, liability would be worked out based on the head company's liability in terms of Section 701-1(2) of the ITAA 1997.

Detailed reasoning

If a trust is part of a consolidated tax group, the income of the trust is deemed to be income of the head company for the purposes of calculating the head company's income tax liability and for the purposes of calculating the net income of the trust (section 701-1 of the ITAA 1997). Accordingly, for those purposes, the general trust income-assessing rules do not apply to that income during the period of consolidation (section 701-65 of the ITAA 1997).

Therefore, in the event that the trustee fails to exercise its discretion in favour of its Designated Beneficiary (Company X), with the result that income is accumulated, rather than section 99A(4) of the ITAA 1936 applying, liability would be worked out based on the head company's liability in terms of section 701-1(2) of the ITAA 1997.

Question 3

Summary

Division 7A of the ITAA 1936 would have no application to an amount accumulated as between Trust Y and the Designated Beneficiary (Company X).

Detailed reasoning

Where Division 7A of the ITAA 1936 treats a payment, a loan or debt forgiveness from a private company to a shareholder (or shareholder's associate) as a dividend, an amount is included in the shareholder's (or shareholder's associate's) assessable income.

When such a transaction occurs between members of a consolidated group, the single entity rule in section 701-1 of the ITAA 1997 applies. Under the single entity rule, the subsidiary members of a consolidated group are taken to be parts of the head company and not separate entities for the income tax purposes of the group. As a consequence, dealings between members of the same consolidated group will not be recognised for income tax purposes while the single entity rule applies to the consolidated group.

In this case, as Company X and Trust Y will be a consolidated group under section 703-5 of the ITAA 1997, Division 7A of the ITAA 1936 will not apply to an amount accumulated as between Trust Y and the Designated Beneficiary (Company X).