Edited version of private advice

Authorisation Number: 1051621970115

Date of advice: 20 December 2019

Ruling

Subject: Income tax implications in respect of franked distributions

Question 1

Do the qualified person provisions in Division 1A of former Part IIIAA of the Income Tax Assessment Act 1936 (ITAA 1936) (Division 1A) and paragraph 207-150(1)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) apply to you in respect of any franked distribution made by Company A Pty Ltd (Company A) that flows indirectly to you for the years 30 June 2020 to 30 June 2024 (Income Years)?

Answer

No

Question 2

Are you a qualified person for the purposes of Division 1A and paragraph 207-150(1)(a) of the ITAA 1997 in respect of any franked distribution made by Company B Pty Ltd (Company B) to the Estate which flows indirectly to you during the Income Years?

Answer

Yes

Question 3

Are you entitled to a tax offset where you are assessable under Division 6 of the ITAA 1997 on the share of net income from the dividends flowing indirectly to you by Company A and or Company B?

Answer

Yes

This ruling applies for the following periods:

01/07/2019 to 30/06/2024

The scheme commences on:

01/07/2019

Relevant facts and circumstances

1. On XX/XX/XXXX, Mr X passed away.
2. The legal ownership of all of Mr X's assets were subsequently passed onto the Estate.
3. The assets included:

               X ordinary shares in Company A; and

               X ordinary shares in Company B.

4. Company A was incorporated by the late Mr X on XX/XX/XXXX. All of the ordinary shares in Company A were owned by Mr X until the date of his death. Once probate was granted, the ordinary shares were transferred to the Estate.
5. The shares in Company B were acquired by the late Mr X on XX/XX/XXXX by virtue of the vesting of the X Trust (of which the late Mr X was a beneficiary). Once probate was granted, the ordinary shares of Company B were transferred to the Estate.
6. By resolution dated XX/XX/XXXX, in compliance with subsection 249A(2) and section 254H of the Corporations Act 2001, the ordinary shares were split such that Company A and Company B each have X ordinary shares on issue. This splitting was done in accordance with the will for the purposes of the distribution of these assets.
7. On XX/XX/XXXX, probate of the last Will and Testament dated XX/XX/XXXX of Mr X was granted to Mr Y and Mr Z, the executors appointed under the will (the Executors).
8. Clause X of the will for the late Mr X provides for:

               The creation of various testamentary trusts which came into existence upon the death of Mr X, and

               the allocation of 100% of the Realisation Receipts and Other Receipts (Receipts) from the Company A and Company B shares referred to in clause X between the various testamentary trusts. Each entitlement is expressed as a percentage.

9. The Estate and the Trust are trusts for the purpose of the ITAA 1936 and ITAA 1997.
10. The Trust is one of the testamentary trusts referred to in Clause X of the will. The specified beneficiaries of the Trust are Mr Y; Mrs Y and any other children of Mr Y.
11. Mr Y, the Estate, and the Trust are residents for Australian taxation purposes.
12. Mr Y is not under a legal disability for the purpose of Section 98 of the ITAA 1936.
13. The will states that the Trust should vest on XX/XX/XXXX. Vesting for the Trust was extended to XX/XX/XXXX by virtue of a resolution dated XX/XX/XXXX.
14. The Estate and the Trust are non-widely held trusts for the purposes of former Division 1A of the ITAA 1936.
15. The Estate is taken under former section 160APHH of the ITAA 1936 to have acquired the shares at the time the late Mr X acquired them.
16. The qualified person provisions in Division 1A and paragraph 207-145(1)(a) of the ITAA 1997 do not have application to the Estate or the Trust in respect of any franked distribution made either directly or indirectly by Company A during the Income Years.
17. The Estate and the Trust are qualified persons for the purposes of Division 1A and paragraph 207-145(1)(a) of the ITAA 1997 in respect of any franked distribution made either directly or indirectly by Company B during the Income Years.
18. The Executors have determined that the assets of the Estate (including the shares in and/or assets of Company A and Company B) are to be realised via sale and the proceeds are to be distributed to the beneficiaries in accordance with the will.
19. The Estate has not reached the point of full administration and is in the 'intermediate stage of administration'. This is due to fact that the Executors have determined that all assets of the Estate are to be realised via sale before distribution to the beneficiaries and it is expected that there will be various debts payable by the Estate in undertaking this process.
20. The Estate will make an interim distribution of the Receipts to the Trust as outlined in the will for the Income Years.
21. The Estate will be in the intermediate stage of administration at the time that franked dividends are paid by Company A or Company B.
22. As part of the realisation of the Company A and Company B assets, certain underlying assets and businesses owned by Company A or Company B may be sold. Following this, a franked dividend will be paid from Company A and/or Company B to the Estate to facilitate the distribution of the proceeds of such sales to the various testamentary trusts in accordance with the will. This will be done via a distribution of the income of the Estate (inclusive of the franked distributions paid by Company A or Company B) to the testamentary trusts.
23. Due to the quantum of the Estate's assets, no part of the net income of the Estate (including that part that constitutes an interim dividend paid by Company A or Company B) will be required to pay or provide for debts of the Estate.
24. The amounts to be distributed will comprise mainly franked dividends however there is the possibility of small amounts of interest. All of the amounts distributed will be attributable to the Realisation Receipts and distributed in accordance with Clause X of the will.
25. The Estate is not assessable under section 99 or 99A of the ITAA 1936 on the share of income paid as an interim distribution from the Receipts to the Trust for the Income Years.
26. The net income of the Trust for the relevant year is greater than zero.
27. The trustees of the Trust or an associate of the trustees will not have made, be under an obligation to make, nor be liable to make, a related payment in respect of any franked distribution made by Company B to the Estate during the Income Years that flows indirectly to them (via a distribution from the Estate).
28. The franked distribution flowing indirectly to the Trust will not occur in one or more of the circumstances listed in paragraphs (b) to (eb) of subsection 207-150(1) of the ITAA 1997.
29. Mr Z (or an associate of his) will not have made, be under an obligation to make, nor be liable to make, a related payment in respect of any franked distribution made by Company A or Company B to the Estate in the Income Year that flows indirectly to him (via a distribution from the Trust).
30. The Trust has been a family trust within the meaning of Schedule 2F to the ITAA 1936 since at least the earlier of the day before the Company B shares became ex-dividend and the day before the Company A shares became ex-dividend (as that term is defined in former section 160APHD of the ITAA 1936.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 99

Income Tax Assessment Act 1936 Former Section 160APHH

Income Tax Assessment Act 1936 Former Section 160APHO

Income Tax Assessment Act 1936 Former Section 160APHD

Income Tax Assessment Act 1936 Former Section 160APHG

Income Tax Assessment Act 1936 Former Section 160APHL

Income Tax Assessment Act 1936 Former Section 160APHM

Income Tax Assessment Act 1997 Subsection 207-35(3)

Income Tax Assessment Act 1997 Section 207-45

Income Tax Assessment Act 1997 Subsection 207-50(4)

Income Tax Assessment Act 1997 Section 207-145

Income Tax Assessment Act 1997 Section 207-150

Corporations Act 2001 Subsection 249A(2)

Corporations Act 2001 Section 254H

Reasons for decision

Question 1

Do the qualified person provisions in Division 1A of former Part IIIAA of the Income Tax Assessment Act (1936) (ITAA 1936) (Division 1A) and paragraph 207-150(1)(a) of the Income Tax Assessment Act (1997) (ITAA 1997) apply to you in respect of any franked distribution made by Company A that flows indirectly to you during the Income Years?

Summary

No. The qualified person provisions in Division 1A and paragraph 207-150(1)(a) of the ITAA1997 do not apply to you in respect of any franked distribution made by Company A that flows indirectly to you during the Income Years.

Detailed reasoning

31. Division 207 of the ITAA 1997 sets out the consequences of an entity receiving directly or indirectly a franked distribution from a corporate tax entity. Generally an entity receiving a franked distribution will be required to include an amount equal to the franking credit in their assessable income and be entitled to a tax offset equal to the same amount.
32. Section 207-150 of Subdivision 207-F of the ITAA 1997 applies where a franked distribution flows indirectly to an entity.
33. Under subsection 207-150(1) of the ITAA 1997, if an entity to whom a franked distribution is made is 'not a qualified person in relation to the distribution for the purposes of Division 1A.' the amount of franking credit received on the distribution is not included in their assessable income, nor can they claim a tax offset equal to the franking credit; and if the distribution flows indirectly through the entity to another entity - subsection 207-35(3) and section 207-45 of the ITAA 1997 do not apply to that other entity.
34. The very wording of section 207-150 of the ITAA 1997 makes it clear that regard is to be had to the rules in Division 1A in determining whether a person is a qualified person for the purpose of these provisions in respect of a franked distribution.
35. Though Part IIIAA of the ITAA 1936 ceased to have application from 1 July 2002, it is necessary to have regard to the rules in Division 1A in determining whether an entity is a qualified person for the purpose of the rules contained in the Imputation System irrespective of whether the distribution is made directly or indirectly to the entity on or after 1 July 2002.
36. Item 25 of Schedule 4 of the Taxation Laws Amendment (No.2) 1999 (93 of 1999) amended Division 1A to apply to shares and interests in shares acquired on or after 1 July 1997 unless an exception occurred.
37. The qualified person provisions of Division 1A applied to shares that were:

               If held directly - acquired on or after 1 July 1997; or

               If held indirectly through a trust - acquired after 3pm on 31 December 1997.

38. Company A was incorporated by the late Mr X on XX/XX/XXXX. All of the ordinary shares in Company A were owned by Mr X until the date of his death. Once probate was granted, the ordinary shares were transferred to the Estate.
39. Clause X of the will provides for:

               The creation of various testamentary trusts which came into existence upon the death of the late Mr X, and

               the allocation of 100% of the Realisation Receipts and Other Receipts (Receipts) from the Company A and Company A shares referred to in clause X of the will between the various testamentary trusts. Each entitlement is expressed as a percentage.

40. The Trust is a testamentary trust created under the will. This Trust is a non-widely held trust for the purposes of Division 1A.
41. Former subsection 160APHG(3) of the ITAA 1936 states:

If the trustee of a trust (other than a widely held trust) acquires, holds, or disposes of, shares or an interest in shares, each beneficiary of the trust (including, if the trust is a discretionary trust, a potential beneficiary) is taken to acquire, hold, or dispose of, as the case may be, an interest in the shares.

42. Consequently the shares are taken to be acquired by the Trust (under former subsection 160APHG(3) of the ITAA 1936) at the same time as the Estate (under former subsection 160APHH of the ITAA 1936) and the late Mr X acquired them, being XX/X/XXXX. Furthermore, former section 160APHG(3) will apply to deem Mr Z (as a beneficiary of the the Trust) to have acquired his interest in the shares at the same time as the Trust;
43. The legal ownership of the assets owned by Mr X was passed onto the Estate at the time he died. The assets included the X ordinary shares in Company A.
44. By resolution dated XX/XX/XXXX, in compliance with subsection 249A(2) and section 254H of the Corporations Act 2001, the ordinary shares were split such that Company A and Company B each have X ordinary shares on issue. This splitting was done in accordance with the will for the purposes of the distribution of these assets.
45. As inferred in the paragraph 4.34 of the Explanatory Memorandum to the Tax Laws Amendment Act (No.2) 1999), the splitting of shares is not considered to be a new acquisition of shares. Further Taxation Determination TD 2000/10 Income tax: capital gains: what are the CGT consequences for a shareholder if a company converts its shares into a larger or smaller number of shares? (TD 2000/10) provides that:

While there is a change in the form of the original shares, there is no change in their beneficial ownership...

46. Based on the facts provided, the shares are taken to be acquired by the Trust at the same time as the Estate and the late Mr X acquired them, being XX/XX/XXXX. Furthermore, former section 160APHG(3) will apply to deem Mr Z (as a beneficiary of the Trust) to have acquired his interest in the shares at the same time as the Trust. As this date is prior to 1 July 1997, the qualified person provisions under paragraph 207-150(1)(a) have no application.

Question 2

Are you a qualified person for the purposes of Division 1A and paragraph 207-150(1)(a) of the ITAA 1997 in respect of any franked distribution made by Company B to the Estate which flows indirectly to you during the Income Years?

Summary

Yes. You are a qualified person for the purposes of Division 1A and paragraph 207-150(1)(a) of the ITAA 1997 in respect of any franked distribution made by Company B to the Estate which flows indirectly to you during the Income Years.

Detailed reasoning

47. The Trust has been a family trust within the meaning of Schedule 2F to the ITAA 1936 since at least the day before either the Company B or Company A shares became ex-dividend (as that term is defined in former section 160APHD of the ITAA 1936.
48. The Trust is a non-widely held trust. Under former subsection 160APHG(3) of the ITAA 1936 a beneficiary of a non-widely held trust is taken to acquire, hold and dispose of an interest in shares held by the trust when the trustee acquires, holds and disposes of shares or an interest in shares.
49. If a beneficiary of a non-widely held trust is to be a qualified person under former section 160APHO of the ITAA 1936, they must hold their interest at risk for not less than 45 days during the primary qualification period where no related payments have been made.
50. Former subsection APHO(3) of the ITAA 1936 states that:

In calculating the number of days for which the taxpayer continuously held the shares or interest, any days on which the taxpayer has materially diminished risks of loss or opportunities for gain in respect of the shares or interest are to be excluded, but the exclusion of those days is not taken to break the continuity of the period for which the taxpayer held the shares of interest.

51. Former section 160APHM of the ITAA 1936 states that a taxpayer has materially diminished risks of loss or opportunities for gain on a particular day if the taxpayer's net position on that day in relation to the shares or interest has less than 30% of those risks and opportunities.
52. Your interest in the relevant shares held by the executor of the deceased estate will be determined under former subsection 160APHL(5) of the ITAA 1936. The net position is calculated by adding the sum of the taxpayer's long positions (+ deltas) and the sum of the taxpayer's short positions (- deltas). Former subsection 160APHL(7) provides for the taxpayer's interest determined under former section 160APHL(5) to have a long position with a delta of plus one in relation to itself. As the Trust is a family trust, under paragraph (a) of former subsection 160APHL(10) of the ITAA 1936 you will not be taken to have acquired either a short position equal to the beneficiary's long position under former sub-section 160APHL(7) or a long position equal to so much of the taxpayer's interest in the trust holding as is a fixed interest.
53. Consequently, in the absence of any other long or short positions, you will be taken to have held the relevant interest in the shares at risk.
54. Therefore, you, as a beneficiary of the Trust, will be a qualified person under former section 160APHO of the ITAA 1936 in relation to the dividend paid.

Question 3

Are you entitled to a tax offset where you are assessable under Division 6 of the ITAA 1997 on the share of net income from the dividends flowing indirectly to you by Company A and or Company B?

Summary

Yes. You are entitled to a tax offset where you are assessable under Division 6 of the ITAA 1997 on the share of net income from the dividends flowing indirectly to you by Company A and or Company B.

Detailed reasoning

55. Subdivision 207-A of the ITAA 1997 deals with franked distributions received by entities other than:

a.    A partnership or trustee to whom a franked distribution is made (except a partnership or trustee that is a corporate tax entity, or a trustee of a trust that is a complying superannuation entity, when the distribution is made); or

b.    an entity to whom a franked distribution flows indirectly.

56. Under section 207-20 of the ITAA 1997:

207-20(1) If an entity makes a franked distribution to another entity, the assessable income of the receiving entity, for the income year in which the distribution is made, includes the amount of the franking credit on the distribution. This is in addition to any other amount included in the receiving entity's assessable income in relation to the distribution under any other provision of this Act.

207-20(2) The receiving entity is entitled to a tax offset for the income year in which the distribution is made. The tax offset is equal to the franking credit on the distribution.

57. Section 207-45 of the ITAA 1997 deals with tax offsets where the distribution flows indirectly to an entity. Section 207-45 of the ITAA 1997 states that:

An entity to whom a *franked distribution *flows indirectly in an income year is entitled to a *tax offset for that income year that is equal to its *share of the *franking credit on the distribution, if it is:

a)    an individual; or

b)    a *corporate tax entity when the distribution flows indirectly to it; or

c)    the trustee of a trust that is liable to be assessed on a share of, or all or a part of, the trust's *net income under section 98, 99 or 99A of the Income Tax Assessment Act 1936 for that income year; or

d)    the trustee of a *complying superannuation fund, a *non-complying superannuation fund, a *complying approved deposit fund, a *non-complying approved deposit fund or a *pooled superannuation trust in relation to that income year.

58. Under subsection 207-50(3) of the ITAA 1997 a franked distribution flows indirectly to a beneficiary of a trust in an income year if, and only if:

(a) during that income year, the distribution is made to the trustee of the trust, or *flows indirectly to the trustee as a partner or beneficiary because of a previous application of subsection (2) or this subsection; and

(b) the beneficiary has this amount for that income year (the share amount ):

(i) a share of the trust's *net income for that income year that is covered by paragraph 97(1)(a) of the Income Tax Assessment Act 1936; or

(ii) an individual interest in the trust's net income for that income year that is covered by section 98A or 100 of that Act;

(whether or not the share amount becomes assessable income in the hands of the beneficiary); and

(c) the beneficiary's *share of the distribution under section 207-55 is a positive amount (whether or not the beneficiary actually receives any of that share).

59. As the distribution is made to you it is taken under subsection 207-20(1) of the ITAA 1997 to have been made indirectly thereby satisfying the requirement under subsection 207-45(a) of the ITAA 1997 for that income year. Therefore in the event that you are assessed on the franked distribution as the ultimate recipient you will be entitled to a franking credit under section 207-45 of the ITAA 1997.
60. Section 207-150 of the ITAA 1997 will not impact on your entitlement to the tax offset as none of the circumstances listed in paragraphs (b) to (eb) of this section will occur. The qualified person rule in paragraph 207-150(1)(a) of the ITAA 1997 has no application in respect to the Company A shares as per question 2. The qualified person rule in paragraph 207-150(1)(a) of the ITAA 1997 has been satisfied in respect to the Company B shares as per question 3. For these reasons the entitlement to the tax offset will not be limited under subsection 207-150(1) of the ITAA 1997.