Edited version of private advice

Authorisation Number: 1051912876240

Date of advice: 9 November 2021

Ruling

Subject: Fixed trust

Question 1

Will the Unitholders of the Trust have fixed entitlements to all of the income and capital of the Trust as defined in subsection 995-1 of the Income Tax Assessment Act 1997 Act (ITAA 1997) and subsection 272-5(1) of Schedule 2F to the Income Assessment Act 1936 (ITAA 1936) such that the Trust will be a 'fixed trust' under section 272-65 of Schedule 2F to the ITAA 1936 and section 995-1 of the ITAA 1997?

Answer

No

Question 2

If the answer to Question 1 is 'no' will the Commissioner exercise the discretion in subsection 272-5(3) of Schedule 2F to the ITAA 1936 to deem the Unitholders of the Trust as having fixed entitlements to all of the income and capital of the Trust?

Answer

Yes

Question 3

Is the Trust a 'widely held trust' for the purposes of the former section 160APHD of the ITAA 1936?

Answer

Yes - noting that the parties deal on an arm's length basis and that no related payments are made, the Trust is a widely held trust for the purposes of paragraph 160APHD(c) of the ITAA 1936

Question 4

If the answer to Question 3 is 'yes', are the Unitholders of the Trust capable of becoming 'qualified persons' for the purposes of the former section 160APHP of the ITAA 1936?

Answer

Yes

Question 5

Will the interests of the Unitholders in the capital of the Trust be 'fixed interests' for the purposes of subsection 207-128(2) of the ITAA 1997?

Answer

No

Question 6

If the answer to Question 5 is 'no', will the Commissioner exercise the discretion in subsection 207-128(4) of the ITAA 1997 to treat the Unitholders as having a vested and indefeasible interest in the capital of the Trust?

Answer

Yes - on the basis that the parties are dealing on arm's length basis and that no related payments are made, which means, amongst other things, that there are no arrangements in place that would result in the controllers of the Trust (and their associates) directly or indirectly benefitting from the distribution.

Question 7

Will the interests of the Unitholders in the capital of the Trust be 'fixed interests' under former subsection 160APHL(10) of the ITAA 1936?

Answer

No

Question 8

If the answer to Question 7 is 'no', will the Commissioner exercise his discretion in former subsection 160APHL(14) of the ITAA 1936 to treat the Unitholders as having a vested and indefeasible interest in so much of the corpus of the Trust as is comprised by the trust holding?

Answer

Yes

This ruling applies for the following period:

1 July XXXX to 30 June XXXX

Relevant facts and circumstances

The Trustee

The Taxpayer is a resident of Australian for income tax purposes.

The Taxpayer holds an Australian Financial Services Licence.

The Taxpayer was the first trustee of the Trust and continues to be sole trustee of the Trust.

The Trust

The Trust is a wholesale unlisted unit trust which is an unregistered managed investment scheme under the Corporations Act.

The Trust was established pursuant to the terms of the Trust Constitution (the Constitution).

Regulation of the Trust

Although the Trust is not registered with Australian Securities and Investments Commission (ASIC) as a managed investment scheme under the Corporations Act 2001, the Trustee is required to and does hold an Australian Financial Services Licence in order to act as the trustee.

The Trustee has appointed an entity to perform investment management services in relation to the Trust.

Both the Trustee and this entity are subject to, and must comply with, 'financial services laws' within the meaning of section 761A of the Corporations Act. 'Financial services laws' includes a wide range of provisions, including provisions of other legislation such as the Australian Securities and Investments Commission Act 2001.

All of the Trust's investments and activities are made and conducted on an arm's length basis with arm's length parties.

The Constitution

The salient terms of the Constitution are as follows:

•         The beneficial interest of the Trust is to be divided into units.

•         Each Unit confers an equal undivided interest in the assets as a whole, subject to the Liabilities. The units do not confer an interest in a particular asset.

•         The Trustee may issue Units of a single class or different classes, with different rights.

•         Fractions of a unit may be issued by the Trustee.

•         Conditions required to be satisfied before a Unitholder is able to transfer their units in the Trust.

•         The price of units is governed by the relevant formula in the Constitution.

•         There is an application process for units in the Trust.

•         Units issued against uncleared funds which do not subsequently clear are void.

•         There is a process for the redemption of units in the Trust.

•         The Trustee has to the power to compulsorily redeem some or all of the units of a Unitholder in certain circumstances.

•         Terms govern the valuation of assets, preparation of accounts, audits and reports.

•         The Trustee must determine the 'Distributable Income and the Unitholder entitlement to the Distributable Income is in proportion to their unitholdings.

•         A Unitholder cannot be defeased of any share of the Distributable Income to which they are entitled.

•         Terms govern the keeping of separate accounts and the streaming of income and gains of a particular category or source.

•         The Trustee may at any time distribute any amount of capital to Unitholders on a pro rata basis.

•         The Trustee various powers, including the power to contract, investment and lending powers, power of delegation and the terms of such delegation, the power to appoint and remove the investment manager, the power to underwrite the subscription or purchase of Units. There are restrictions on borrowing and the use of derivatives by the Trustee.

•         Upon termination of the Trust, the Trustee must realise the assets unless it is intended that the assets be distributed pro rata to the Unitholders in specie and to make payment from the assets to meet the Trust's expenses and liabilities.

•         The Constitution may be amended.

Amendments to the Constitution

Since the establishment, no amendments have been made to the Fund Constitution.

The Trustee advises that at this stage it is not proposed that the Constitution be amended or is there any circumstance that the Trustee envisages where an amendment to the Constitution would be required.

Unitholders

Most of the Unitholders are either charitable organisations or not-for-profit organisations which are endorsed for some or all of the relevant tax concessions (such as income tax exempt entity (ITE), deductible gift recipient (DGR) and goods and services tax (GST) concessions and fringe benefits tax (FBT) exemptions) and registered with the Australian Charities and Non-profit Commission.

At least 75% of the units will be held by Unitholders for whom distributions from the Trust will be exempt income of the entity for the purposes section 160APHS of the ITAA 1936.

Associations

The Trust is a member of a wider group:

For the purposes of section 318 of the ITAA 1936:

Other than one individual, there are no associations between the controllers of holding company, subsidiaries and the Trustee.

There are no associations between the controllers of the Trust and the Unitholders (including ultimate beneficiaries), other than Unitholders being recipients of trust distributions.

There are no associations between the controllers of the Trust and entity performing investment services.

There are no associations between the shareholders of entity providing accounting services, the Trustee, the Unitholders or entity performing investment services.

There are no associations between entity performing investment services and the Unitholders (including ultimate beneficiaries) other than the entity performing investment services having an association with a major Unitholder as a wholly owned subsidiary.

The Unitholders and their ultimate beneficiaries have no associations with the holding company (including its subsidiaries and all their shareholders and controllers), or entity provide accounting services (including their shareholders and controllers).

There are associations between certain Unitholders (including ultimate beneficiaries) - which are not material in these circumstances.

The controllers of the Trust will not benefit from the franking credit tax offsets distributed.

None of the shareholders of the holding company or entity providing accounting services will benefit from the franking credit tax offsets distributed by the Trust.

The relationships and transactions between all entities are conducted at arm's length.

Units on issue

There have been no partly paid units issued in the Trust.

There is only one class of unit on issue and there has only been one class of unit on issue since the establishment of the Trust.

The terms of issue for all units issued to all Unitholders are the same.

The units are unlisted.

Unit price

The price of units is determined on the basis of the Trust's net asset value, according to Australian accounting principles. The valuation of the Trust's assets accords with Australian accounting principles.

Redemption of Units and Redemption Price

Where units have been redeemed, the redemption price has been determined in each of case of redemption in accordance with the Constitution. The redemption price is determined on a monthly basis by the Trust's accountant and tax agent, and in all cases in accordance with the formula given in the Constitution.

The Buy Spread and the Sell Spread for the Trust is estimated to be 0.04% of the Unit Price and the Sell Spread is estimated to be 0.49% of the Unit Price.

The price of units is determined on the basis of the Trust's net asset value, according to Australian accounting principles. The valuation of the Trust's assets accords with Australian accounting principles.

In addition to the payment of the Redemption Price, the Trustee may pay an amount being the 'Redemption Income Entitlement' that may be payable in accordance with of the Constitution. If the Trustee determines that a Redemption Income Entitlement is payable, the redemption proceeds are equal to the redemption price less the Redemption Entitlement Amount. The Trustee has not to date determined a Redemption Income Entitlement in respect of any redemption proceeds paid - no Redemption Income Entitlement has been determined by the Trustee in respect of any of the unit redemptions that have occurred to date.

Trust Distributions

The Trust has made semi-annual distributions to its Unitholders since the establishment.

These distributions have been made to Unitholders on a pro-rata basis according to their unit holding and in accordance with the formula in the Constitution.

The character of receipts and determination of taxable income is in accordance with accepted accounting and tax principles. document.

Distributions of income have been made to Unitholders based on their units held and on a pro rata basis. There have never been any distributions of capital to Unitholders.

Types of Investments

The relationships and transactions between all entities are conducted at arm's length.

Valuation of the Trust

The assets of the Trust are valued on a monthly basis and are based on the unit prices and number of units that the Trust holds in the various investments.

Tax Elections

The Trustee has not made any of the following choices with respect to the Trust:

a)    the choice in subsection 276-10(e)(i) of the ITAA 1997 to be taxed as an 'attribution managed investment trust' under Division 276; and

b)    the choice in section 275-115 of the ITAA1997 (the so-called capital account election).

It therefore has been lodging trust returns on the basis that the provisions of Division 6 of Part III of the ITAA 1936 Act apply.

Assumptions

Throughout the Ruling Period, no powers have been or will be exercised to defeat the interest of any Unitholder, with respect to their Units including:

•         There will only be one class of units - i.e. no units of different classes will be issued.

•         No units will be reclassified. The rights attached to units already in existence will not be modified.

•         Units will only be transferred or redeemed at the request of a Unitholder.

•         Units will be issued or redeemed for a price determined on a basis that satisfies the 'savings rule' in subsection 272-5(2) of Schedule 2F to the ITAA 1936 - i.e. on the basis of the Trust's net asset value, according to Australian accounting principles, at the time of the issue or redemption having regard to paragraph 19 of the PCG 2016/16.

•         No units will be issued or redeemed at a discount.

•         The Trustee will ensure that units will only be transferred for market value.

•         No partly paid units will be issued.

•         No streaming of income or capital will occur.

•         The Trustee will not seek to amend or vary the Trust's Constitution to defeat the interest or change the fixed entitlements of Unitholders to the income and capital of the Trust.

•         In the event the Trust is terminated, all Unitholders will be entitled to the income and capital of the trust in proportion to their unitholding - if requested by a Unitholder, the Trustee will not transfer assets rather than pay cash in satisfaction of amounts owing, as part of winding up the trust, to any that particular unitholder. The Trustee will only transfer to that particular unitholder assets of the Trust to the extent that the market value of the assets is less than or equivalent to their proportional unitholding. The Trustee will not transfer assets to satisfy amounts owing from the redemption of units in the normal course of business.

Throughout the Ruling Period, no arrangement has been on will be entered into which would result in section 272-35 in Schedule 2F of the ITAA 1936 having application, in the trafficking of the tax benefit of a tax loss, bad debt deduction or debt/equity swap deduction, or in fraud or evasion.

Throughout the Ruling Period, in addition to an undertaking that no powers have been or will be exercised to defeat the interest of any Unitholder (as set out above), no arrangement has been or will be entered into which would result in:

•         A 'related payment' under former section 160APHN of the ITAA 1936 being made.

•         A Unitholder having materially diminished risks of loss or opportunities for gain of less than 30% in respect of shares held by the Responsible Entity (refer to former section 160APHM of the ITAA 1936).

•         A Unitholder not being sufficiently exposed to the risk of loss or opportunity for gain in respect of the units in the Trust.

•         The Commissioner making a determination under paragraph 177EA(5)(b) of the ITAA 1936.

•         Any of paragraphs 207-150(1)(c) to (h) of the ITAA 1997 (inclusive) applying.

•         Fraud or evasion.

At least 75% of the units will be held by Unitholders for whom distributions from the Trust will be exempt income of the entity for the purposes section 160APHS of the ITAA 1936.

Relevant legislative provisions

ITAA 1936 former section 160APHD

ITAA 1936 former subsection 160APHL(10)

ITAA 1936 subsection 160APHL(14)

ITAA 1936 former section 160APHP

ITAA 1936 subsection 272-5(1) of Schedule 2F

ITAA 1936 subsection 272-5(3) of Schedule 2F

ITAA 1936 section 272-65 of Schedule 2F

ITAA 1997 subsection 207-128(2)

ITAA 1997 subsection 207-128(4)

ITAA 1997 section 995-1

Reasons for decision

Question 1

Will the Unitholders of the Trust have fixed entitlements to all of the income and capital of the Trust as defined in subsection 995-1 of the Income Tax Assessment Act 1997 Act (ITAA 1997) and subsection 272-5(1) of Schedule 2F to the Income Assessment Act 1936 (ITAA 1936) such that the Trust will be a 'fixed trust' under section 272-65 of Schedule 2F to the ITAA 1936 and section 995-1 of the ITAA 1997?

Summary

The Unitholders as beneficiaries of the Trust do not have fixed entitlements to all of the income and capital of Trust as defined in subsection 995-1(1) of the ITAA 1997 and subsection 272-5(1) of Schedule 2F to the ITAA 1936.

Detailed reasoning

The term 'fixed trust' is defined in subsection 995-1(1) of the ITAA 1997 and section 272-65 of Schedule 2F to the ITAA 1936 to mean a trust in which entities or persons (respectively):

... have fixed entitlements to all of the income and capital of the trust.

The definition of the term 'fixed entitlement' in subsection 995-1(1) of the ITAA 1997 provides that 'an entity has a fixed entitlement to a share of the income or capital of a trust if the entity has a fixed entitlement to that share within the meaning of Division 272 in Schedule 2F to the Income Tax Assessment Act 1936.'

Subsection 272-5(1) of Schedule 2F to the ITAA 1936 defines a 'fixed entitlement' in a trust:

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 addition, subsection 272-5(2) states that:

If:

(a) a person holds units in a unit trust; and

(b) the units are redeemable or further units are able to be issued; and

(c) if units in the unit trust are listed for quotation in the official list of an approved stock exchange - the units held by the person will be redeemed, or any further units will be issued, for the price at which other units of the same kind in the unit trust are offered for sale on the approved stock exchange at the time of the redemption or issue; and

(d) if the units are not listed as mentioned in paragraph (c) - the units held by the person will be redeemed, or any further units will be issued, for a price determined on the basis of the net asset value, according to Australian accounting principles, of the unit trust at the time of the redemption or issue;

then the mere fact that the units are redeemable, or that the further units are able to be issued, does not mean that the person's interest, as a Unitholder, in the income or capital of the unit trust is defeasible.

PCG 2016/16: Fixed entitlements and fixed trusts, explains that a trust is a fixed trust if the beneficiaries have fixed entitlements to all of the income and capital of the trust and confirms that a person will have a fixed entitlement to a share of income or capital of a trust if, under the trust instrument, that person has a vested and indefeasible interest in that share of income or capital. Relevantly, it explains when an interest is defeasible - paragraphs 15 and 16 of PCG 2016/16 define indefeasible interests:

15. An interest is defeasible if it can be defeated by the actions of one or more persons or by the occurrence of one or more subsequent events. An interest of a default beneficiary in the income or capital of the trust is an example of a defeasible interest.

16. Powers in modern trust instruments which cause a beneficiary's interests to be defeasible include:

•         Broad powers to amend the trust instrument.

•         Powers to issue new units after the trust is settled, or to redeem existing units.

•         A power to reclassify existing units so that they do not all have equal rights to receive the income and capital of the trust.

•         A power to classify receipts as being on income or capital account where the units that have been issued do not all have the same rights to receive the income and capital of the trust.

•         A power to appoint a beneficiary's interest in the income or capital of the trust to another beneficiary.

•         A power to settle or appoint any part of the corpus of the trust to a new trust with different beneficiaries.

•         A power to enforce the forfeiture or cancellation of partly paid units due to the non-payment of a call except where such partly paid units would be void ab initio.

For the purposes of subsection 272-5(1) of Schedule 2F to the ITAA 1936, the trust instrument consists of the Constitution and the Offer documents (i.e. First Offer Document and Second Offer Document).

It is accepted that the Constitution (i.e. the trust deed) provides the Unitholders with a vested interest in the income and capital of the Trust. Relevantly, Clause 11 provides that Unitholders will be entitled to 'Income Distributions' based on their pro rata share of units held in the Trust. This includes any distributions of capital to Unitholders.

However, there are various clauses in the Constitution relating to the Trustee's discretions that may cause a beneficiary's interests to be defeasible - including the power to:

• Issue new units - including different classes of units.
• Vary the Constitution.

Therefore, the Unitholders as beneficiaries of the Trust do not have a fixed entitlement to a share of the income or capital of the Trust for the purposes of subsection 272-5(1) of Schedule 2F to the ITAA 1936.

Question 2

If the answer to Question 1 is 'no' will the Commissioner exercise the discretion in subsection 272-5(3) of Schedule 2F to the ITAA 1936 to deem the Unitholders of the Trust as having fixed entitlements to all of the income and capital of the Trust?

Summary

As the Unitholders in the Trust do not have vested and indefeasible interests, pursuant to subsection 272-5(1) of Schedule 2F to the ITAA 1936, subsection 272-5(3) of Schedule 2F to the ITAA 1936 may be considered. The Commissioner considers that it is reasonable to exercise the discretion in subsection 272-5(3) of Schedule 2F to the ITAA 1936 to treat the Unitholders as beneficiaries of the Trust as having fixed entitlements to all of the income and capital of the Trust.

Detailed reasoning

A finding that a trust is a fixed trust for Schedule 2F ITAA 1936 has broad implications (i.e. it applies for income tax purposes generally, relevantly, amongst other things, the nature of the trust for the purposes of section 160APHD of the ITAA 1936 and the application of the qualified persons test in section 160APHP of the ITAA 1936).

Where all of the beneficiaries' interests in the corpus of the trust are not fixed interests, the trustee may request that the Commissioner exercise the discretion to treat beneficiaries' interests as being vested and indefeasible.

A trust can both rely on the savings rule in relation to some trustee powers (the power to issue or redeem units), and request that the Commissioner exercise the discretion in the context of other powers that may defeat a beneficiary's interest (such as in relation to a power to amend).

Savings rule

The 'savings rule' in subsection 272-5(2) of Schedule 2F to the ITAA 1936 provides that the mere fact that a trustee has power to redeem units in a unit trust, or issue further units for the following value does not mean that Unitholders' interests in the corpus of the unit trust are defeasible:

•         where the units are listed for quotation in the official list of an approved stock exchange - the same price as other units are offered for sale on that exchange at the time of the redemption or issue, or

•         where the units are not so listed - a price determined on the basis of the net asset value of the unit trust at the time of the redemption or issue according to Australian accounting principles.

The Commissioner considers that the savings rule is satisfied where further units may be issued or existing units redeemed in any of the following situations (paragraphs 18 and 19 Practical Compliance Guideline PCG 2016/16 Fixed entitlements and fixed trusts):

•         for a price based on a market value of the assets and liabilities of the trust which has been determined by a licensed valuer

•         for a price based on a market value of the assets and liabilities of the trust which has not been determined by a licensed valuer, but which nevertheless is accurate

•         for a price determined by reference to a value of the trust which is sufficiently close to its net asset value (allowing an adjustment for transaction costs)

•         for a price determined by reference to a value of the trust which is sufficiently close to its net asset value (allowing an adjustment for transaction costs), including where accrued distributions are excluded from the net asset value based on a 'unit day's pricing model'

•         for a price based on the volume weighted average price (VWAP) of the units, or

•         in accordance with ASIC Corporations (Managed investment product consideration) Instrument 2015/847, ASIC Class Order [CO 13/655] and ASIC Class Order [CO 13/657] (if relevant), or any other ASIC guidance or relief on the same subject.

Discretion

Subsection 272-5(3) of Schedule 2F to the ITAA 1936 contains a discretion, whereby in cases where beneficiaries do not have a fixed entitlement, the Commissioner may, for the purposes of the Act, treat such beneficiaries as having a fixed entitlement where it is reasonable to do so based upon the factors prescribed in paragraph 272-5(3)(b).

Paragraph 272-5(3)(b) of Schedule 2F to the ITAA 1936 stipulates that the Commissioner may treat a beneficiary as having a fixed entitlement (in cases where in fact beneficiaries do not have a fixed entitlement).

In broad terms, there are four key matters that the Commissioner takes into account in deciding whether to exercise the discretion:

a)    the circumstances in which a beneficiary's interest is capable of being defeated or not vesting.

b)    the likelihood of the interest being defeated or not vesting;

c)    the nature of the trust; and

d)    whether the exercise of the discretion would enable a taxpayer to obtain a tax benefit from a trust with a tax loss in circumstances where the economic loss incurred was not borne by the taxpayer.

Paragraph 55 of PCG 2016/16 outlines factors favourable to the exercise of the Commissioner's discretion:

The Commissioner regards the following factors favourably when deciding whether to exercise the discretion:

• a trustee or manager has never exercised a power capable of defeating a beneficiary's interest to defeat a beneficiary's interest in the income or capital of the trust
• commitments are made in Unitholder agreements, Product Disclosure Statements or other documents with legal consequences that the trustee or manager will not exercise a power capable of defeating a beneficiary's interest at all, or in a way that is adverse to the rights of beneficiaries to receive the income and capital of the trust
• all beneficiaries have the same rights to receive the income and capital of the trust
• the trust instrument can only be amended with the unanimous (100%) approval of all the beneficiaries
• although the trust instrument can be amended without the unanimous approval of beneficiaries, the approval percentage calculated on the current interest or unit holdings of beneficiaries effectively means that all beneficiaries must approve any amendment (for example, where the approval of 75% of Unitholders is required to make the amendment and the smallest unit holding is more than 25% of the units)
• the trust instrument has been amended in accordance with section 601GC of the Corporations Act 2001 (so as to assist with the efficient administration of the trust) but no beneficial interests in the income and capital of the trust are adversely affected
• the beneficiaries whose rights to receive the income and capital of the trust have been adversely affected by the exercise of a power capable of defeating a beneficiary's interest have explicitly consented to that specific act (such as upon the redemption of the interests of an employee not covered by the savings rule upon the cessation of employment)
• the trustee or manager deals with the beneficiaries of the trust on an arm's length basis
• the trust is governed by a foreign law that is similar to Chapter 5C of the Corporations Act 2001, and
• the trust would satisfy the basic and specific conditions (as applicable to the type of trust) for access to a safe harbour.

Factors adverse to the exercise of the Commissioner's discretion are listed in paragraph 56 of PCG 2016/16 and include:

The Commissioner regards the following factors unfavourably when deciding whether to exercise the discretion:

• a trustee or manager exercises a power to defeat beneficiaries' interests in the income or capital of the trust, however:

-          the nature of the power that is exercised will be important, for example, compulsorily redeeming units where a Unitholder's stake is less than a minimum specified in the trust instrument, and the Unitholder receives the redemption price of those units, is unlikely to preclude the exercise of the discretion

-          where external factors (such as those in the Global Financial Crisis) temporarily affect the ability of the trustee or manager to fund distributions or redemptions, this is unlikely to preclude the exercise of the discretion (for example, a temporary wholesale freezing or deferral of interests)

• there are significantly different beneficiaries of the trust in an income year for which an entity seeks to have a fixed entitlement, than the beneficiaries of the trust in the income year(s) in which the trust made a tax loss, or incurred a bad debt deduction or debt/equity swap deduction
• an arrangement has been entered into which would result in:

a)    section 272-35 having application

b)    the trafficking of the tax benefit of a tax loss, bad debt deduction or debt/equity swap deduction, or

c)    fraud or evasion.

Losses

The concept of a 'fixed entitlement' was originally introduced in the context of the trust loss measures and should primarily be interpreted in that context (in the absence of any express provision or explanatory guidance that indicates a different context is relevant). The trust loss measures are an important integrity measure, removing a structural flaw in the tax system. The concept of a 'fixed entitlement' is fundamental to the structure and effectiveness of the trust loss measures.

The EM to the Taxation Laws Amendment (Trust Loss and Other Deductions) Bill 1997 states (at paragraph 13.13) in respect of the Commissioner's power in subsection 272-5(3) of Schedule 2F to the ITAA 1936 that:

This provision is intended to provide for special circumstances where there is a low likelihood of a beneficiary's vested interest being taken away or defeated and, having regard to the scheme of the trusts loss provisions to prevent the transfer of the tax benefit of losses and other deductions incurred by trusts, it would be unreasonable to treat the beneficiary's interest as not constituting a fixed entitlement.

This indicates that when looking at the facts of a case, in the context of the criteria listed in subsection 272-5(3) of Schedule 2F to the ITAA 1936, unless the context of the provision for which fixed entitlement is required provides otherwise, the Commissioner should always have regard to whether the absence of a fixed entitlement, in these circumstances, could result in the trafficking (or transfer) of the tax benefit of any tax losses.

Paragraph 272-5(3)(a) of Schedule 2F to the ITAA 1936:

The Constitution provides the Unitholders with vested interests in a share of the income that the Trust derives from time to time and a share of the capital of the Trust. Each Unitholder of the Trust does not, however, have a fixed entitlement to the share of income and capital in the Trust.

As a result, paragraph 272-5(3)(a) of Schedule 2F to the ITAA 1936 is satisfied.

Subparagraph 272-5(3)(b)(i) of Schedule 2F to the ITAA 1936:

When examining the circumstances in which a beneficiary's interest is capable of not vesting or being defeated, the Commissioner will have regard to any factor that may affect the defeasance of any beneficiary's interest, including:

•         the number of circumstances of potential defeasance, and

•         the significance of those circumstances.

This includes having regard to:

•         any person who is capable of altering the beneficiary's interest

•         the nature of their relationship to the beneficiary, and

•         any limitation on their capability to so alter that interest.

In relation to the circumstances in which the entitlement is capable of not vesting or the defeasance happening, the following factors are relevant:

•         Issue of units: The Trustee may issue more than one class of units. Units issued against uncleared funds which do not subsequently clear are void. During the Ruling period, only one class of unit has been or will be issued and the units have been or will only be issued for a price determined on the basis of the Net Fund Value or Net Asset Value (according to Australian accounting principles) of the Trust at the time of issue. As such the saving rule in paragraph 272-5(2)(d) would be satisfied.

•         Redemption of units: The Trustee may redeem units with or without the consent of the Unitholders. During the Ruling period, Units have been or will only be redeemed at the request of a Unitholder. The redemption price has been or will be determined on the basis of the Net Fund Value or Net Asset Value (according to Australian accounting principles) of the Trust at the time of redemption. As such, the saving rule in paragraph 272-5(2)(d) of Schedule 2F to the ITAA 1936 would be satisfied.

•         Transfer of units: Units will only be transferred at the request of a Unitholder. The Trustee will ensure that units will only be transferred for market value.

•         Amendment of the Trust Deed: The Trustee may amend the Constitution with the consent of the unitholders or on Trustee's own accord where they consider the change will not materially adversely affect the rights of the Unitholders. no amendments have been made to the Constitution.

The Commissioner accepts that the undertakings given by the Trustee mitigate the circumstances in which the beneficiaries' interests in the income and capital of the Trust can be defeated.

Subparagraph 272-5(3)(b)(ii) of Schedule 2F to the ITAA 1936:

When considering the likelihood of the interest not vesting or being defeated, the Commissioner must form a view as to the probability that the contingency or defeasance will happen. Where the likelihood of the contingency happening is high or the action or event of defeasance occurring is low, this will weigh towards a favourable exercise of the discretion.

Where the trustee or manager of the trust has a particular power to defeat a beneficiary's interest, it is relevant to consider how often, if at all, they have exercised that power over a relevant period.

Any preconditions or caveats that affect the likelihood of a beneficiary's interest not vesting or being defeated are also relevant.

In relation to the likelihood of the entitlement not vesting, or the defeasance happening, the following factors are relevant:

•         The Trustee's behaviour from the time the Trust was settled to the date of this ruling application is relevant. It is noted that defeasible powers contained in the Constitution have not been exercised to defease any of the requisite interests of the Unitholders.

•         In respect of the Ruling period, having regard to the undertakings given, the Trustee has exercised or may exercise its powers under the Constitution such that:

­        There will only be one class of units will be issued.

­        No units will be reclassified. The rights attached to units already in existence will not be modified.

­        Units will only be transferred or redeemed at the request of a Unitholder.

­        Units will be issued or redeemed for a price determined on a basis that satisfies the 'savings rule' in subsection 272-5(2) of Schedule 2F to the ITAA 1936 - i.e. on the basis of the Trust's net asset value, according to Australian accounting principles, at the time of the issue or redemption having regard to paragraph 19 of the PCG 2016/16.

­        No units will be issued or redeemed at a discount.

­        The Trustee will ensure that units will only be transferred for market value.

­        No partly paid units will be issued.

­        No streaming of income or capital will occur.

­        The Trustee will not seek to amend or vary the Trust's Constitution to defeat the interest or change the fixed entitlements of Unitholders to the income and capital of the Trust.

­        In the event the Trust is terminated, all Unitholders will be entitled to the income and capital of the trust in proportion to their unitholding - if requested by a Unitholder, the Trustee will not transfer assets rather than pay cash in satisfaction of amounts owing, as part of winding up the trust, to any that particular unitholder. The Trustee will only transfer to that particular unitholder assets of the Trust to the extent that the market value of the assets is less than or equivalent to their proportional unitholding. The Trustee will not transfer assets to satisfy amounts owing from the redemption of units in the normal course of business.

The Trustee has never exercised these powers under the Deed, and has given an undertaking not to do so for the Ruling period, to defeat a Unitholder's interest in the income or capital of the Trust. Consequently, the Commissioner would accept that the likelihood of the beneficiaries' interests in the income and capital of the Trust being defeated would be low.

Subparagraph 272-5(3)(b)(iii) of Schedule 2F to the ITAA 1936:

The nature of the trust refers to its basic legal characteristics and its economic function, both actual and intended. The ability of the trustee or manager of the trust to adversely affect the interests of beneficiaries could be limited where:

•         additional responsibilities are placed on the trustee by legislation, most commonly as a registered managed investment scheme under Chapter 5C of the Corporations Act 2001;

•         contractual restrictions limit the trust manager's access to trust assets;

•         the trust is subject to industry regulations, licensing or registration requirements, which are legally enforceable, such as the Australian Securities Exchange (ASX) Listing Rules which are enforceable against listed entities and their associates (sections 793C and 1101B of the Corporations Act 2001);

•         commitments are made in a product disclosure statement, investment memorandum or other document to exercise powers in a particular (restrictive and/or non-adverse) way

•         the trust deed restricts the ability of the trustee to issue and redeem units at anything other than market value or other values approximating net asset value, or

•         the unanimous (100%) approval of the beneficiaries is required prior to the exercise of a power capable of defeating a beneficiary's interest by the trustee or manager.

In relation to the nature of the trust the following factors are relevant:

•         The Trust is a unitised trust; however, the Units are not publicly listed on an approved stock exchange and the Trust is not a managed investment scheme. Therefore, the circumstances and likelihood in which each Unitholder's entitlement is capable of not vesting or the defeasance happening is not reduced in this Trust.

•         The purpose of establishing the Trust is to allow the Unitholders to derive income/profits from the investments made by the Trust. At the date of the ruling application, the Trust has nineteen Unitholders.

•         The Trust is an unregistered managed investment fund whose units are unlisted and are issued pursuant to an information memorandum although it not subject to the disclosure requirements.

•         The Trustee is required to hold an Australian Financial Services Licence in order to act as Trustee of this Trust and therefore subject to Australian financial services regulations.

•         The Trustee has appointed an entity that must comply with, "financial services laws" within the meaning of section 761A of the Corporations Act to perform investment management services in relation to the Trust.

•         The parties are dealing on an arm's length basis.

•         In your ruling application you advised that on self-assessment, the Trust meets the safe harbour conditions applying to category (4) (being the 'unregistered managed investment schemes that satisfy licensing requirements' category).

The Commissioner accepts that in these circumstances the ability of the Trustee to adversely affect the interests of beneficiaries is limited - the parties are dealing on an arm's length basis, there is ministerial oversight of the major unitholder, and regulatory obligations govern the entity engaged to provide investment management services.

Schedule 2F to the ITAA 1936 and tax losses

In relation to the circumstances pertaining to the existence of a tax loss it is noted that:

•         At the date of the ruling application, the Trustee does not forecast a tax loss for the Trust.

•         The Trustee has given undertaking that no arrangements have been or will be entered into that would result in section 272-35 in Schedule 2F of the ITAA 1936 having application, in the trafficking of the tax benefit of a tax loss, bad debt deduction or debt/equity swap deduction, or in fraud or evasion.

•         If there are further units to be issued and/or redeemed, the Trustee will do so satisfying the saving rule in paragraph 272-5(2)(b) of Schedule 2F to the ITAA 1936.

Conclusion

It is accepted that based on the 'trust instrument' of the Trust that for the purposes of subsection 272-5(1) of Schedule 2F to the ITAA 1936, the beneficiaries of the Trust do not have fixed entitlements to any of the income and capital of the Trust.

However, pursuant to paragraph 272-5(3)(b) of Schedule 2F to the ITAA 1936, and after having regard to the requirements of subparagraphs 272-5(3)(b)(i), (ii) and (iii) of Schedule 2F to the ITAA 1936 and submissions from the applicant, it is considered that it would be appropriate that the Unitholders of the Trust should be treated as having fixed entitlements to all of the income and capital of the Trust for the relevant income years.

In summary, as:

•         the trust instrument (being the Constitution and Offer documents) contains powers which have not been and will not be used to defease the interests of the beneficiaries in the income or capital of the Trust - i.e. the circumstances in which the entitlement is capable of not vesting or a defeasance happening are limited having regard to the undertaking given that Trustee will not seek to amend or vary the Trust's Constitution to defeat the interest or change the fixed entitlements of Unitholders to the income and capital of the Trust);

•         the "nature of the trust" is a unit trust established for the purposes of carrying out investment that largely benefits the major Unitholder, which is subject to Ministerial oversight;

•         the likelihood of the entitlement not vesting or a defeasance is low; and

•         there is little likelihood that a tax benefit of the Trust will be transferred (the opportunity to traffic any tax loss appears to be limited).

it would be reasonable for the Commissioner to exercise the discretion under subsection 272-5(3) of Schedule 2F to the ITAA 1936 to treat all of the Unitholders of the Trust as having a fixed entitlement to their share of the income and capital of the Trust for the relevant income years.

Question 3

Is the Trust a 'widely held trust' for the purposes of the former section 160APHD of the ITAA 1936?

Summary

Having regard to the arm's length dealings between the parties and the absence of related payments, the Commissioner accepts that in these circumstances that the Trust is a widely held trust for the purposes of section 160APHD of the ITAA 1936.

Detailed reasoning

Section 160APHD of the ITAA 1936 sets out the meaning of a widely held trust:

widely held trust , at a particular time, means:

(a) a trust that, at that time, is neither a closely held fixed trust nor a non-fixed trust; or

(b) a trust the trustee of which is the subject of a declaration that is in force under regulations made for the purposes of paragraph 160APHR(1)(j); or

(c) a unit trust if, at that time:

(i) at least 75% of the units are held by a person who is, or persons each of whom is, a person referred to in any of paragraphs 160APHR(1)(a) to (j) or a prescribed person in relation to the trust; and

(ii) all of the units carry the same rights; and

(iii) if the units are redeemable, they are redeemable for a price determined on the basis of the trust's net asset value, according to Australian accounting principles; and

(iv) the trust engages only in qualifying activities within the meaning of subsection 160APHR(11).

The Trust satisfies the requirements of paragraph 160APHD(c) of the ITAA 1936:

a)    more than 75% of the units issued in the Trust are held by prescribed persons for the purposes of section 160 APHS of the ITAA 1936 (distributions to the Unitholders will be exempt income of the entity for the purposes of section 160APHS);

b)    all of the units carry the same rights;

c)    units are redeemable for a price determined on the basis of the Trust's net asset value, according to Australian accounting principles - the units cannot be redeemed at a non-asset backed value to the point that the Unitholder's interests in the income or capital of the trust are defeased, including that the valuation of the assets accords with Australian accounting principles; and

d)    The Trust only engages in arm's length investment activities (in accordance with the terms of the Constitution and Offer documents).

The Commissioner notes that, notwithstanding any associations between some of the entities, the parties deal on an arm's length basis and that no related payments are made. As discussed above, the Commissioner takes this to mean, amongst other things, there are no arrangements in place that would result in the controllers of the Trust (and their associates) directly or indirectly benefitting from the distribution (e.g. through a reimbursement agreement).

The Commissioner accepts that in these circumstances that the Trust is a widely held trust for the purposes of section 160APHD of the ITAA 1936.

Question 4

If the answer to Question 3 is 'yes', are the Unitholders of the Trust capable of becoming 'qualified persons' for the purposes of the former section 160APHP of the ITAA 1936?

Summary

In broad terms, to be a qualified person in relation to a dividend, a taxpayer must satisfy both the holding period rule (i.e. the shares must be held at risk during a qualification period around the ex-dividend day: shares are not held at risk if the taxpayer has material diminution of risk - the taxpayer has material diminution of risk if they have a net position, being the sum of long positions and short positions, less than 30%) and the related payments rule.

The Commissioner accepts that the Trust is a widely held fixed trust.

As the dividend that is streamed to the Unitholder would not constitute a 'related payment' for the purposes of paragraph 207-145(1)(a) and former section 160APHN, the Unitholder will be a qualified person if during the qualification period they have held the interest in the shares, excluding the day of acquisition or disposal, for 45 days (as they will not have days of 'materially diminished risks of loss or opportunities for gain' as the Trustee or Unitholder will not enter into arrangements which result in the Unitholder not being sufficiently exposed to the risk of loss or opportunity for gain in respect of the units in the Trust).

Detailed reasoning

To be entitled to a franking credit tax offset under section 207-45 of the ITAA 1997 in relation to a particular distribution, a taxpayer must be a 'qualified person' for the purposes of Division 1A of former Part IIIAA of the ITAA 1936 in relation to the distribution.

The general tests in section 160APHO of the ITAA 1936 do not apply to a taxpayer in respect of an interest in shares held by the taxpayer as a beneficiary of a widely held trust. They provide that:

(1) A taxpayer who has held shares or an interest in shares on which a dividend has been paid is a qualified person in relation to the dividend if:

(a) where neither the taxpayer nor an associate of the taxpayer has made, is under an obligation to make, or is likely to make, a related payment in respect of the dividend - the taxpayer has satisfied subsection (2) in relation to the primary qualification period in relation to the dividend; or

(b) where the taxpayer or an associate of the taxpayer has made, is under an obligation to make, or is likely to make, a related payment in respect of the dividend - the taxpayer has satisfied subsection (2) in relation to the secondary qualification period in relation to the dividend

Under the test in former subsection 160APHP(1) of the ITAA 1936:

A taxpayer who as a beneficiary of a widely held trust has held an interest in shares contained in the trust holding (within the meaning of subsection 160APHL(4)) of the widely held trust is a qualified person in relation to a dividend paid on any of the shares to which a distribution from the trust to the taxpayer is attributable if:

(a) where neither the taxpayer nor an associate of the taxpayer has made, is under an obligation to make, or is likely to make, a related payment in respect of the distribution - during the primary qualification period in relation to the taxpayer in relation to the interest; or

(b) where the taxpayer or an associate of the taxpayer has made, is under an obligation to make, or is likely to make, a related payment in respect of the distribution - during the secondary qualification period in relation to the taxpayer in relation to the interest;

The Explanatory Memorandum to Taxation Laws Amendment Bill (No. 2) 1999 confirms the operation of the qualifies person rule with respect to beneficiaries of a widely held trust:

4.143 A taxpayer who holds an interest in shares as a beneficiary of a widely-held trust on which a distribution has been paid will be a qualified person in relation to any dividend paid on the shares from which the distribution is derived if the taxpayer has held the interest in shares during the relevant qualification period in relation to the interest (i.e. if the taxpayer or associate is under an obligation to make a related payment with respect to the distribution, the secondary qualification period, and if the taxpayer or associate is not under an obligation to make a related payment, the primary qualification period), not counting the day of acquisition or disposal, for 45 days.

4.144 Unlike closely-held trusts, where a trustee of a widely-held trust enters into a position with respect to shares or an interest in shares (relevant shares) which form the property of the trust, the beneficiaries of the trust are not deemed to have entered into a proportionate position with respect to their interests in the relevant shares.

4.145 Therefore, beneficiaries of widely-held trusts do not have to be concerned with whether the trustee of the trust has taken a position with respect to the shares in the trust property. Only positions entered into personally by the beneficiary can materially diminish risk in relation to the beneficiary's interest. Provided the beneficiary personally satisfies the holding period requirements, the beneficiary will be a qualified person.

Where a trustee holds the shares or an interest in shares, both the trustee and the beneficiary must be a 'qualified person' for the beneficiary to be entitled to a franking credit tax offset - noting that former section 160APHL has no application where the trustee is not a qualified person in relation to the dividend (former subsections 160APHL(1) and (2) of the ITAA 1936). For the purpose of determining whether the beneficiary is a qualified person, the rules in former section 160APHL of the ITAA 1936 specify the method for determining the beneficiary's interest in those shares, which is relevant to applying the holding period rule. The operation of these rules depends upon whether the particular trust is a widely held trust or not (as defined in former section 160APHD of the ITAA 1936).

The concept of a 'fixed interest' is relevant to applying the holding period rule and can be a key determinant of whether a beneficiary is a 'qualified person' in relation to a franked distribution by a trustee. For a beneficiary of a trust other than a family trust, deceased estate or employee share scheme trust, the deemed long position under former subsection 160APHL(7) is effectively cancelled by a matching short position - assuming there are no other positions held by the beneficiary, the beneficiary has a long position in only so much of the beneficiary's interest in the shares held by the trust as is a fixed interest.

A beneficiary's interest in the trust holding is a fixed interest to the extent that the interest is constituted by a vested and indefeasible interest in so much of the corpus of the trust as is comprised by the trust holding former subsection 160APHL(11) of the ITAA 1936.

What is a 'trust holding' depends on the type of trust.

•         For a trust other than a widely-held trust, the trust holding is the share, or interest in a share, that has caused dividend income to be included in the assessable income of a beneficiary (former subsections 160APHL(1) and (3) of the ITAA 1936).

•         For a widely-held trust, the trust holding is all the shares and interests in shares that the trustee has held or holds (former subsections 160APHL(2) and (4) of the ITAA 1936).

A beneficiary's interest in the trust holding is that beneficiary's share of the dividend income in relation to that trust holding, expressed as a proportion of the total dividend income received by the trust in relation to that trust holding (see former subsection 160APHL(5) for a trust other than a widely-held trust and former subsection 160APHL(6) for a widely-held trust of the ITAA 1936).

Related payments rule

As discussed above, these rules are designed to apply where the benefit of a dividend is transferred from a taxpayer to another party - as confirmed in the Explanatory Memorandum to Taxation Laws Amendment Bill (No. 2) 1999:

4.97 A taxpayer or associate is taken for the purposes of the provisions to have made a related payment if the taxpayer or associate is under an obligation to pass the benefit of a dividend or distribution to other persons [emphasis added]. The requirement that the benefit be passed on means that if the benefit of the dividend or distribution remains with the taxpayer, there will not be a related payment.

Qualification period

The qualification period is defined in section 160APHD of the ITAA 1936.

Broadly, where the taxpayer is not taken to pass the benefit of the dividend to another person, they will need to satisfy the primary qualification period in respect of the dividend in order to be a qualified person. However, if the taxpayer is taken to pass the benefit of the dividend to another person, they will need to satisfy the secondary qualification period in respect of the dividend in order to be a qualified person.

The primary qualification period is defined in former section 160APHD in relation to a taxpayer's shares or an interest in shares, to mean:

...the period beginning on the day after the day on which the taxpayer acquired the shares or interest and ending:

(a) if the shares are not preference shares - on the 45^th day after the day on which the shares or interest became ex dividend; or

(b) if the shares are preference shares - on the 90^th day after the day on which the shares or interest became ex dividend.

Secondary qualification is defined to mean in relation to a taxpayer in relation to shares or an interest in shares:

(a) if the shares are not preference shares - the period beginning on the 45th day before, and ending on the 45th day after, the day on which the shares or interest became ex dividend; or

(b) if the shares are preference shares - the period beginning on the 90th day before, and ending on the 90th day after, the day on which the shares or interest become ex dividend.

Ex dividend is defined with reference to section 160APHE of the ITAA 1936 to mean:

(1) A share in respect of which a dividend is to be paid, or an interest (other than an interest as a beneficiary of a widely held trust) in such a share, becomes ex dividend on the day after the last day on which the acquisition by a person of the share will entitle the person to receive the dividend.

(2) An interest as a beneficiary of a widely held trust in a share in respect of which a dividend is to be paid becomes ex dividend on the day after the last day on which the acquisition by a person of the interest will entitle the person to receive a distribution from the trust.

Holding period rule

Under the general test, if the shares held by the taxpayer are not preference shares, they are required to hold the shares on which a dividend has been paid for a continuous period of at least 45 days during the primary qualification period (former subparagraph 160APHO(2)(a)(i) of the ITAA 1936). However, if the shares held by the taxpayer are preference shares, they are required to hold the shares on which a dividend has been paid for a continuous period of at least 90 days during the primary qualification period (former subparagraph 160APHO(2)(a)(ii) of the ITAA 1936).

Under the special test for a beneficiary of a widely held trust, the taxpayer is required to hold an interest in the shares contained in the trust holding as a beneficiary of the trust for a continuous period (of not less than 45 days.

In determining whether the shares or interest in the shares have been held for the requisite number of days, the taxpayer does not count the day on which they acquired the shares or interest in shares, and where there has been a disposal of the shares or interest in shares, they do not count the day on which the disposal occurred (former paragraph 160APHO(2)(a) and subsection 160APHP(1) of the ITAA 1936).

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 or interest (former subsection 160APHO(3) and subsection 160APHP(1) of the ITAA 1936).

A taxpayer is taken to have materially diminished risks of loss or opportunities for gain on a particular day in respect of shares held by the taxpayer, or in respect of an interest held by the taxpayer in shares, 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 (former subsection 160APHM(2) of the ITAA 1936).

Former subsection 160APHJ(5) of the ITAA 1936 provides that the 'net position' of a taxpayer or fund in relation to shares, or in relation to an interest in shares, is calculated by adding the taxpayer's or fund's long position in the relevant shares or interest and short positions in the shares or interest.

Former subsection 160APHJ(3) of the ITAA 1936 provides that a 'short position', in relation to shares or an interest in shares, is a position that has a negative delta in relation to the shares or interest.

Former subsection 160APHJ(4) of the ITAA 1936 provides that a 'long position', in relation to shares or an interest in shares, is a position that has a positive delta in relation to the shares or interest. The subsection confirms that shares or interests in shares are to be treated as a long position (with a delta of +1) in relation to themselves.

The Commissioner accepts that the Trust is a widely held trust. The Commissioner is prepared to exercise the discretion in subsection 207-128(4) of the ITAA 1997 to treat the Unitholders as having a vested and indefeasible interest in the capital of the Trust in these circumstances- such that the Trust will be considered a widely held fixed trust.

Neither the Trustee nor the Unitholder will enter into an arrangement that would result in a 'related payment' for the purposes of paragraph 207-145(1)(a) and former section 160APHN of the ITAA 1936. Consequently, the Unitholder will be a qualified person if during the qualification period they have held the interest in the shares, excluding the day of acquisition or disposal, for 45 days where they did not have 'materially diminished risks of loss or opportunities for gain' (not taking into account the days on which there is a material diminution of risk) - as the Trustee or Unitholder will not enter into an arrangement that results in a material diminution of risk such that they have a net position, being the sum of long positions and short positions, less than 30%, the Unitholder will only have to held the interest in the shares, excluding the day of acquisition or disposal, for 45 days.

Question 5

Will the interests of the Unitholders in the capital of the Trust be 'fixed interests' for the purposes of subsection 207-128(2) of the ITAA 1997?

Summary

The Unitholders as beneficiaries of the Trust do not have fixed entitlements to all of the income and capital of Trust.

Detailed reasoning

As discussed above, although a Unitholder's interest in the capital of the trust is vested, the Constitution contains certain clauses by which a Unitholder's interest in a share of the capital of the Trust may be defeased.

Question 6

If the answer to Question 5 is 'no', will the Commissioner exercise the discretion in subsection 207-128(4) of the ITAA 1997 to treat the Unitholders as having a vested and indefeasible interest in the capital of the Trust?

Summary

As the Unitholders in the Trust do not have vested and indefeasible interests for the purposes of subsection 207-128(2) of the ITAA 1997, subsection 207-128(4) of the ITAA 1997 may be considered. The Commissioner considers that it is reasonable to exercise the discretion in subsection subsection 207-128(4) of the ITAA 1997 to treat the Unitholders as beneficiaries of the Trust as having fixed entitlements to all of the income and capital of the Trust.

Detailed reasoning

As discussed above, where beneficiaries of the trust do not have fixed entitlements to all of the income and capital of trust, the trustee may request that the Commissioner exercise the discretion to treat beneficiaries' interests as being vested and indefeasible, and they can both rely on the savings rule in relation to some trustee powers and request that the Commissioner exercise the discretion in the context of other powers that may defeat a beneficiary's interest.

Savings rule

The special rule in subsection 207-128(3) of the ITAA 1997 is similar to the saving rule in subsection 272-5(2) of Schedule 2F to the ITAA 1936.

The principles that govern the application of the saving rule in subsection 272-5(2) of Schedule 2F to the ITAA 1936 (as discussed above) apply for the purposes of section subsection 207-128(3) of the ITAA 1997.

Discretion

The factors in paragraph 207-128(4)(c) of the ITAA 1997 are identical to those in paragraph 272-5(3)(b) of Schedule 2F to the ITAA 1936, except for the additional factor in subparagraph 207-128(4)(c)(iv) - being any other matter that the Commissioner thinks is relevant.

One of the underlying principles of the imputation system is that the benefits of imputation should only be available to the true economic owners of shares. In substance, the owner of shares is the person who is exposed to the risks of loss and opportunities for gain in respect of the shares (paragraphs 4.2, 4.6 and 4.7 of the Explanatory Memorandum to the Taxation Laws Amendment Bill (No. 2) 1999). Having regard to the underlying principles of the imputation system, it is relevant for the Commissioner to consider whether the exercise of the discretion would allow a person to obtain a benefit from franking credit trading when that person is not the effective owner of the shares.

The Trustee has given the undertaking that throughout the Ruling Period, in addition to an undertaking that no powers will be exercised to defeat the interest of any Unitholder, no arrangement will be entered into which would result in:

•         a 'related payment' under former section 160APHN of the ITAA 1936;

•         a unitholder having materially diminished risks of loss or opportunities for gain of less than 30% in respect of shares held by the Responsible Entity (refer to former section 160APHM of the ITAA 1936);

•         a unitholder not being sufficiently exposed to the risk of loss or opportunity for gain in respect of the units in the Trust;

•         the Commissioner making a determination under paragraph 177EA(5)(b) of the ITAA 1936;

•         any of paragraphs 207-150(1)(c) to (h) of the ITAA 1997 (inclusive) applying; or

•         fraud or evasion.

Relevantly, former section 160APHN deals with the economic benefit of a dividend. Former section 160APHN of the ITAA 1936 gives examples of, but does not limit, what constitutes the making of a related payment by the Trustee in respect of a dividend paid in respect of shares or in respect of a distribution made in respect of an interest in shares - former subsection 160APHN(2) provides:

The taxpayer or associate is taken, for the purposes of this Division, to have made, to be under an obligation to make, or to be likely to make, a related payment in respect of the dividend or distribution if, under an arrangement, the taxpayer or associate has done, is under an obligation to do, or may reasonably be expected to do, as the case may be, anything having the effect of passing the benefit of the dividend or distribution to one or more other persons.

The Commissioner notes that, notwithstanding any associations between some of the entities, the parties deal on an arm's length basis and that no related payments are made. Amongst other things, the Commissioner takes this to mean that trust resolutions to distribute dividends results in the actual payment of dividends to the beneficiary, and where that beneficiary is a charitable organisation etc. the funds are used to further its charitable purpose. Amongst other things, this means that:

•         there are no arrangements in place that would result in the controllers of the Trust (and their associates) directly or indirectly benefitting from the distribution (e.g. through a reimbursement agreement); and

•         there are no arrangements in place that would result in payments from an ultimate beneficiary tax-exempt entity that has received franked distributions on which it has claimed a franking credit tax offset refund finding its way back to the entity that distributed the franked distribution in the first place.

Consequently, it would be reasonable for the Commissioner to exercise the discretion under subsection 207-128(4) of the ITAA 1997to treat all of the Unitholders of the Trust as having a fixed entitlement to their share of the income and capital of the Trust for the relevant income years.

Question 7

Will the interests of the Unitholders in the capital of the Trust be 'fixed interests' under former subsection 160APHL(10) of the ITAA 1936?

Summary

The terms of the Constitution do not provide the Unitholders with a vested and indefeasible interest in so much of the corpus of the Trust as is comprised by the trust holding, for the purposes of former subsection 160APHL(11) of the ITAA 1936.

Detailed reasoning

Broadly, shares acquired by a discretionary trust (non-fixed trust) would fail the 45 day rule, 160APHL(10) of the ITAA 1936 provides that where the trustee has made a family trust election, there is no deemed short position - this means that in the absence of any positions taken by the trustee to reduce the risk of holding the shares, the only position the beneficiary would normally be a deemed long position under former subsection 160APHL(7) and consequently franking benefits can pass through to the beneficiaries in this situation:

160APHL(10) Additional positions of the taxpayer.

If:

(a) the trust is not a family trust within the meaning of Schedule 2F; and

(b) the trust is not a trust for the purposes of this Act merely because of the reference to executors and administrators in paragraph (a) of the definition of trustee in subsection 6(1); and

(c) the taxpayer's interest in the relevant share or the relevant shares is not an employee share scheme security;

the taxpayer has, in addition to any other long and short positions (including the positions that the taxpayer is taken to have under subsection (8)) in relation to the taxpayer's interest in the relevant share or relevant shares, a short position equal to the taxpayer's long position under subsection (7) and a long position equal to so much of the taxpayer's interest in the trust holding as is a fixed interest.

160APHL(11) A vested and indefeasible interest constitutes a fixed interest.

For the purposes of subsection (10), the taxpayer's interest in the trust holding is a fixed interest to the extent that the interest is constituted by a vested and indefeasible interest in so much of the corpus of the trust as is comprised by the trust holding.

Relevantly, as it is the case here, a unit trust with unrelated investors would not be in the position to make the requisite family trust elections to facilitate the passage of imputation credits to the beneficiaries of the trust.

Question 8

If the answer to Question 7 is 'no', will the Commissioner exercise his discretion in former subsection 160APHL(14) of the ITAA 1936 to treat the Unitholders as having a vested and indefeasible interest in so much of the corpus of the Trust as is comprised by the trust holding?

Summary

The Commissioner considers that it would be reasonable to exercise the discretion in former subsection 160APHL(14) of the ITAA 1936 to treat the Unitholders as having a vested and indefeasible interest in so much of the corpus of the Trust as is comprised by the trust holding for the Ruling Period.

Detailed reasoning

The Discretion in former subsection 160APHL(14) is relevant where a Trustee distributes a Franked Distribution to Beneficiaries. In order to be eligible for the Franking Credit Tax Offset the Beneficiaries are required to have Fixed Interests in the corpus of a Trust. This requirement derives from the Holding Period Rule and Related Payments Rules.

Where beneficiaries do not have a vested and indefeasible interest in so much of the corpus (capital) of the trust as is comprised by the trust holding (being the trustee's ownership of shares) pursuant to former subsection 160APHL(11) of the ITAA 1936, they can only have such a vested and indefeasible interest if the Commissioner exercises the discretion in former subsection 160APHL(14) of the ITAA 1936.

Pursuant to former subsection 160APHL(14) of the ITAA 1936, where beneficiaries do not have a fixed interest, the Commissioner may, for the purposes of the Act, treat such beneficiaries as having a fixed interest where it is reasonable to do so based upon the factors prescribed in paragraph 160APHL(14)(c) of the ITAA 1936 - the Commissioner may treat a beneficiary as having a fixed interest (in cases where in fact beneficiaries do not have a fixed interest) having regard to:

a)    the circumstances in which the entitlement is capable of not vesting or the defeasance can happen; and

b)    the likelihood of the entitlement not vesting or the defeasance happening; and

c)    the nature of the trust; and

d)    any other matter the Commissioner thinks relevant.

The first three factors are the same as those applying in the discretion in subsection 272-5(3) of Schedule 2F to the ITAA 1936 to deem a fixed entitlement to the income and capital of a trust, as discussed above.

Any other matter the Commissioner thinks relevant

The discretion in former subsection 160APHL(14) of the ITAA 1936 relates to the utilisation of a tax offset for a share of the franking credit on a franked distribution.

It was introduced as a part of integrity measures aimed at defeating franking credit trading schemes. The Explanatory Memorandum to Taxation Laws Amendment Bill (No. 2) 1999 which accompanied the introduction of former subsection 160APHL(14) of the ITAA 1936 outlines the purpose of the integrity measures:

4.6 One of the underlying principles of the imputation system is that the benefits of imputation should only be available to the true economic owners of shares, and only to the extent that those taxpayers are able to use the franking credits themselves: a degree of wastage of franking credits is an intended feature of the imputation system.

4.7 In substance, the owner of shares is the person who is exposed to the risks of loss and opportunities for gain in respect of the shares. However, franking credit trading schemes allow persons who are not exposed, or have only a small exposure, to the risks and opportunities of share ownership to obtain access to the full value of franking credits, which often, but for the scheme, would not have been used at all, or would not have been fully used. Some of these schemes may operate over extended periods, and typically involve a payment related to the dividend which has the effect of passing its benefit in economic terms to a counterparty. The schemes therefore undermine an underlying principle of imputation.

As such, when considering the exercise of the discretion in former subsection 160APHL(14) of the ITAA 1936, the Commissioner must bear in mind the intended effect of the integrity measures.

In relation to the likelihood of the intended effect of the integrity measures being undermined the following factors are relevant:

•         The transactions between all entities are conducted at arm's length.

•         In respect of the Ruling period ending 30 June 2025, the Trustee has given the undertaking that that the Trustee or Unitholders have not entered and will not enter into an arrangement that would result in:

­        a 'related payment' under former section 160APHN of the ITAA 1936;

­        a Unitholder having materially diminished risks of loss or opportunities for gain of less than 30% in respect of shares held by the Trustee (refer to former section 160APHM of the ITAA 1936);

­        a Unitholder not being sufficiently exposed to the risk of loss or opportunity for gain in respect of the shares in the Trust as explained by ATO Interpretative Decision ATO ID 2014/10;

­        the Commissioner making a determination under paragraph 177EA(5)(b) of the ITAA 1936;

­        any of paragraphs 207-150(1)(c) to (h) of the ITAA 1997 (inclusive) applying; or

­        fraud or evasion.

Consequently, the Commissioner would accept that the likelihood of the integrity measures being undermined would be low.

Conclusion

The Unitholders do not have a vested and indefeasible interest in so much of the corpus of the Trust as is comprised by the trust holding, for the purposes of former subsection 160APHL(11) of the ITAA 1936.

However, pursuant to the requirements of former subparagraphs 160APHL(14)(c)(i), (ii) and (iii) of the ITAA 1936 it is considered appropriate that the Unitholders should be treated as having a vested and indefeasible interest in so much of the corpus of the Trust as is comprised by the trust holding.

Relevantly:

•         the Trust Deed contains clauses that may constitute a defeasible power e.g. the power to issue new units and to vary the Constitution (that have and will not been used to defeat Unitholder's interest in the corpus of the Trust);

•         the Trustee has given the undertaking that they have not, and will not, exercise a power capable of defeating a Unitholder's interest to defeat a Unitholder's interest in the capital of the Trust;

•         the likelihood of defeasance is low; and

•         there is little likelihood that a franking credit trading scheme exists in these circumstances.

Therefore, it would be reasonable for the Commissioner to exercise the discretion under former subsection 160APHL(14) of the ITAA 1936 to treat the Unitholders as having a vested and indefeasible interest in so much of the corpus of the Trust as is comprised by the trust holding during the Ruling Period.