Edited version of private advice

Authorisation Number: 1051969007959

Date of advice: 4 April 2022

Ruling

Subject:160APHL(14) discretion - vested and indefeasible interest

All references are to theIncome Tax Assessment Act 1936 unless otherwise specified.

Question 1

Will the Unitholders of the Trust have a vested and indefeasible 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 Income Tax Assessment Act 1997 (ITAA 1936)?

Answer

No.

Question 2

Will the Commissioner exercise the discretion in former subsection 160APHL(14) of the ITAA 1936 to treat the Unitholders of the Trust as having a vested and indefeasible interest in so much of the corpus the Trust as is comprised by the trust holding?

Answer

Yes.

This ruling applies for the following period

Year ended 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

The Trust was established on XX XX XX for the purpose of owning shares in Company A.

No interests in other companies are held by the Trust.

Company B (Trustee Company) is the trustee for the Trust.

The Trustee is an Australian resident for tax purposes, being incorporated in Australia, and thus the Trust is taken to be a resident of Australian for tax purposes.

The directors of the Trustee are Australian residents for tax.

The Trustee Company has no other activities other than operating as trustee of the Trust.

The Trust has a single class of ordinary units. The units on issue held by the following entities (the Unitholders):

The only change in unit holdings since 20XX is the exit by Company C which sold all of its minority unit holdings to Unitholders 1 and 2 equally (X units each) in XX 20XX

The reasoning for Company C transferring its units was:

•                     The Trust is selling the shares it owns in Company A

•                     Before the Buyer could acquire its stake in Company A, it was a necessary precondition to that share sale that Company C exit its unit holding in the Trust.

The total consideration paid by Unitholder 1 and 2 for the purchase of Company C's units was market value.

No partly paid units in the Trust have ever been issued.

No partly paid units are proposed to be issued prior to the end of the ruling period.

No partly paid units have been forfeited due to non-payment of any instalment.

No units have been compulsorily sold or redeemed.

No units have been issued at a discount by the Trustee.

No unit of different classes have ever been issued by the Trustee.

The Trust deed has not been amended.

As at XX XX 20XX had $X of tax losses carried forward

Apart from an interim distribution made to the Unitholders in XX 20XX (in proportion to their unit holdings), no other distributions have been made to the unitholders since 20XX or an earlier income year.

Company A is contemplating the payment of a franked dividend during the 20XX income year of about $X. The Trust would seek to pass the franking credits on to the unitholders if a dividend is paid.

Assumptions

No deductions are contemplated to be claimed or provision made for bad debts or debt/equity swap losses in respect of the 20XX year.

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, no units of different classes will be issued.

•                     No units were or will be reclassified or redeemed.

•                     The rights attached to units already in existence will not be modified.

•                     Units previously were transferred only at the request of a unitholder, and no other transfers of units are proposed.

•                     Units will be issued or redeemed for a price determined on a basis that satisfies the 'savings rule' in former subsection 160APHL(13) of the ITAA 1936.

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

•                     The trustee ensured (or will ensure) that units were (or will be) transferred only 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 deed to defeat the interest, or change the 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 and, 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 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 or 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, 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 trustee in its capacity as trustee for the trust (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.

Relevant legislative provisions

Income Tax Assessment Act 1997 paragraphs 207-150(1)(c) to (h)

Income Tax Assessment Act 1936 former subsection 160APHL(11)

Income Tax Assessment Act 1936 former subsection 160APHL(13)

Income Tax Assessment Act 1936 former subsection 160APHL(14)

Income Tax Assessment Act 1936 former section 160APHM

Income Tax Assessment Act 1936 former section 160APHN

Income Tax Assessment Act 1936 Part IVA

Income Tax Assessment Act 1936 paragraph 177EA(5)(b) of the ITAA 1936.

Income Tax Assessment Act 1936 section 272-35 in Schedule 2F

Reasons for decision

Former section 160APHL(11) provides:

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.

In Dwight v Commissioner of Taxation 92 ATC 4192, Hill J provided at [4202-4203]:

Estates may be vested in interest or vested in possession, the difference being between a present fixed right of future enjoyment where the estate is said to be vested in interest and a present right of present enjoyment of the right, where the estate is said to be vested in possession:

Glenn v Federal Commissioner of Land Tax (1915) 20 CLR 490 at 496 per Griffith CJ, at 501 per Isaacs J. A person with an interest in remainder, subject to a pre-existing life interest, has an interest which is vested in interest, but being a future interest is not yet vested in possession. That person's interest will vest in possession on the death of the life tenant. In the present context the word 'vested' is used in contradistinction to contingent.

An interest is said to be defeasible where it can be brought to an end and indefeasible where it cannot. Thus, a beneficiary with an interest which is not contingent but which interest may be brought to an end by the exercise of a power of appointment, would be said to have a vested but defeasible interest...

Clause X of the Trust Deed provides that the trustee shall hold the fund and the income of the fund in trust for the Unitholders in the proportions in which for the time being they hold the Units and upon and subject to the trusts powers terms and conditions contained in the Trust Deed.

The Unitholders have a beneficial interest in the corpus of the Trust vested in them by operation of the Deed. As a result, Unitholders of the Trust have a vested interest in the corpus of the Trust.

Unitholders in the Trust have a beneficial interest in the net income and capital of the Trust vested in them by operation of the Deed. As a result, Unitholders of the Trust have a vested interest in the corpus of the Trust.

The Trust Deed contains a number of clauses where the vested interest of the Unitholders in the corpus of the Trust can be defeased, including:

•                     Clause X, the power to issue additional Units of any class in such manner and at such price as the Trustee shall think fit with approval by Special Resolution of Unit Holders. This will not satisfy the requirements of the 'savings rule' in former paragraph 160APHL(13)(d) of the ITAA 1936.

•                     Clause X - the power to enforce the forfeiture or cancellation of partly paid units due to the non-payment of a call except where such partly paid unit.

•                     Clause X provides that the Trustee may repurchase units. Clause 15.3 provides that 'Units may only be repurchased for a price determined on the basis of the net value of the Fund according to Australian accounting principles at the time of the repurchase.' This will not satisfy the requirements of the 'savings rule' in former paragraph 160APHL(13)(d) of the ITAA 1936.

•                     Clause X - the power to amend the Trust Deed authorised by special resolution of the unitholders (X%). The ability to amend the Trust Deed, whether requiring unanimous approval or not, will constitute a power capable of defeating a beneficiary's interest in the income or capital of the Trust. As noted by Stone J in Colonial First State Investments Ltd v Commissioner of Taxation [2011] FCA 16; (2011) 192 FCR 298; 81 ATR 772; 2011 ATC 20-235 at [106]: 'it follows [from unit holders' ability to amend the Constitution] that the members could vote to terminate the present right to a share of income and capital.' An amendment approved by unitholders could permit the amendment of clauses which currently do not contain defeasible powers to do so.

As a result, the Unitholders do not have an indefeasible interest in the corpus of the Trust.

Question 2

Will the Commissioner exercise the discretion in former subsection 160APHL(14) of the ITAA 1936 to treat the Unitholders of the Trust as having a vested and indefeasible interest in so much of the corpus of the Trust as is comprised by the trust holding?

Summary

Yes.

Detailed reasoning

Former subsection 160APHL(14) allows the Commissioner to determine an interest as being vested and indefeasible if its prescribed conditions are met.

Threshold condition

Former paragraph 160APHL(14)(a) requires the relevant taxpayer to have an interest in the corpus of the Trust.

This condition is met as the Unitholders in the Trust will have an interest in the corpus of the Trust.

Not vested or indefeasible condition

Former paragraph 160APHL(14)(b) requires that the interest in the corpus of the Trust is not vested or indefeasible.

This condition is met as the interests of the Unitholders in the Trust are defeasible.

Factors to have regards to

Paragraph 160APHL(14)(c) provides:

the Commissioner considers that the interest should be treated as being vested and indefeasible, having regard to:

                             i.                the circumstances in which the interest is capable of not vesting or the defeasance can happen; and

                            ii.                the likelihood of the interest not vesting or the defeasance happening; and

                           iii.                the nature of the trust; and

                           iv.                any other matter the Commissioner thinks relevant;

Circumstances in which defeasance can occur

As per the answer to question 1, the Unitholders' interests in the Trust can be defeased in the circumstances stated in paragraph 30.

Likelihood of defeasance

The circumstances in which the interests in the Trust can be defeased will not occur during the Ruling Period in accordance with the Facts and Assumptions forming part of this Ruling.

Nature of the Trust

The Trust is a unit trust with five Unitholders.

Other matters

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 the Taxation Laws Amendment Bill (No. 2) 1999, which accompanied the introduction of former subsection 160APHL(14), outlined the purpose of those 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.

In exercising the discretion, the Commissioner must ensure that the purpose of the integrity measures are not undermined.

The purpose of the integrity measures will not be undermined due to the Facts and Assumptions forming part of this Ruling.

Part IVA contains anti-avoidance rules that can apply in certain circumstances where you or another taxpayer obtains a tax benefit or imputation benefit in connection with an arrangement.

If Part IVA applies the tax benefit or imputation benefit can be cancelled.

We have not fully considered the application of Part IVA to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

Conclusion

The Commissioner will exercise the discretion under former subsection 160APHL(14) 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.