Edited version of private advice

Authorisation Number: 1052202039574

Date of advice: 8 December 2023

Ruling

Subject: Commissioners discretion - fixed interests

Question

Will the Commissioner exercise his discretion pursuant to former subsection 160APHL(14) of the Income Tax Assessment Act 1936 (Act) to treat the beneficiaries 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's holding?

Answer

Yes.

This ruling applies for the following periods:

1 July 20xx to 30 June 20xx

The scheme commences on:

1 July 20xx

Relevant facts and circumstances

1.    The Trust is an Australian unit trust that was established by deed of trust (Trust Deed).

2.    The units in the trust are not listed on any stock exchange and are not anticipated to be in the foreseeable future.

3.    The Trust is not a Managed Investment Scheme (MIS) under Chapter 5C of the Corporations Act 2001 (Cth) (Corporations Act) and is not a widely held unit trust.

4.    The Trust has net assets invested in various managed fund. Some of those investments may derive income in the form of franked dividends.

5.    The Trust does not hold a controlling interest or decision making control position in the investment in respect of which the franked dividend income will be derived and any such investments have been acquired on arm's length terms.

6.    The types of assessable income derived by the Trustee are limited to passive investment income. The types of assessable income derived will not change during the prospective part of the Ruling Period.

7.    The Trustee is not the holder of an AFSL for the purpose of Part 7.6 of the Corporations Act.

8.    The shares in the Trustee are all ordinary class fully paid shares and are held by the Unitholders in the same percentage ownership of Units.

9.    It is not intended that the ownership or control of the Trustee will change during the Ruling Period.

10.  All Units in the Trust are ordinary units with the same entitlement.

11.  The Unitholders are express discretionary trusts that have made Family Trust Elections pursuant to Schedule 2F to the ITAA 1936.

12.  The Unitholders acquired the Initial Units when the Trust was established. The Unitholders acquired additional Units on dates after establishment.

13.  Some units have been disposed of since establishment, as recorded in the Register of Unitholders.

14.  The Trustee of the Trust does not intend to issue new Units of a separate class in the foreseeable future and has no intention to redeem Units in the foreseeable future.

15.  You have advised that any repurchase of Units satisfies the Saving Rule in former subsection 160APHL(13) of the ITAA 1936.

Assumptions

Throughout the Ruling Period, in respect of the Trust:

•         Only Ordinary Units will be on issue in the Trust.

•         Any further Units in the Trust will be issued, or redeemed (repurchased) in accordance with the savings rule in former subsection 160APHL(13) of the ITAA 1936.

•         The Trustee will not exercise a power capable of defeating a Unitholder's interest to defeat a Unitholder's interest in the income or capital of the Trust.

•         An arrangement has not been, and will not be, entered into which would result in:

­   '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 of 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 shares held by the Trustee 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.

Relevant legislative provisions

Income Tax Assessment Act 1936

former section 160APHD

former section 160APHL

former subsection 160APHL(11)

former subsection 160APHL(13)

former subsection 160APHL(14)

former paragraphs 160APHL(14)(a), (b) and (c)

former subparagraph 160APHL(14)(c)(i) to (c)(iii)

former section 160APHM

former section 160APHN

paragraph 177EA(5)(b)

Income Tax Assessment Act 1997

paragraphs 207-150(1)(c) to (h)

Corporations Act 2001

Chapter 5C

Reasons for decision

Summary

The terms of the Trust Deed 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. However, the Commissioner considers that it is 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.

Detailed reasoning

A "fixed interest" in the trust holding is defined in former subsection 160APHL(11) of the ITAA 1936 as "a vested and indefeasible interest in so much of the corpus of the trust as is comprised by the trust holding." [emphasis added]

(Note: The terms 'corpus' and 'capital' are considered to be synonymous for current purposes.)

Is there an 'interest in so much of the corpus of the trust as is comprised by the trust holding'?

Former section 160APHL of the ITAA 1936 provides that in calculating the extent of a beneficiary's interest, it is necessary to distinguish between the interest of a beneficiary in shares held by a widely-held trust (as defined below), and the interest of a beneficiary in shares held by other trusts.

The Trust is not a 'widely held trust' for the purposes of former section 160APHD of the ITAA 1936.

This necessitates that a 'look through' approach will be required to determine the interest that a beneficiary has in each of the underlying shares in the Trust [refer to paragraphs 4.26, 4.77 and 4.88 of the EM with accompanied the Taxation Laws Amendment Bill (No. 2) 1999.]

Although the method of calculating the interest that a beneficiary has in the trust holding differs as between widely-held trusts and trusts other than widely-held trusts, the beneficiaries of both types of trusts do have an interest in the trust holding.

It is accepted that the Trust Deed provides Unitholders with a vested interest in the capital of the Trust under Clause xx, Clause xx, Clause xx and Clause xx, which effectively provide that the capital of the Trust Fund shall be vested in the Units and that distributions thereof shall be to the Unitholders on a proportional basis.

Further, interests of the Unitholders are not contingent. That is, the Trust is not a discretionary trust or a trust with default capital beneficiaries - such that, no beneficial interest in the capital of the trust is capable of being defeated, partly or wholly, by the exercise of a power of appointment of capital by the Trustee or other donee. The Unitholder's interests in the corpus are proportionate to the number of Units that they hold and can be calculated by reference thereto.

No vested and indefeasible interest

The effect of the High Court's judgement in CPT Custodian Pty Ltd v Commissioner of State Revenue (Vic) ((2005) 60 ATR 371; 221 ALR 196) (CPT Custodian ) is that it is not possible for a beneficiary of the trust to have a Fixed Interest for the purposes of former subsection 160APHL(11) of the ITAA 1936. This is because a trustee's indemnity results in the trustee having an interest in the trust's property.

There are also certain clauses contained in the Trust Deed that contain powers that may defease the interests that the Unitholders have in the corpus of the Trust.

In terms of the powers contained in the Trust Deed that may defease a Unitholder's interest in the corpus of the Trust it is noted that:

• Clauses x.x and x.x (Issue of Units) of the Trust Deed effectively provides that the Trustee may issue additional Units of any Class. Clause x.x effectively provides that the Unit price shall be calculated by the Trustee on the basis of the net assets of the Trust Fund calculated in accordance with Australian accounting principles divided by the total number of Units issued prior to the new Units being applied for.

­   This clause in the Trust Deed will satisfy the savings rule in former subsection 160APHL(13) of the ITAA 1936 such that this trustee power will not constitute a defeasible power.

• Clause xx (Repurchase of Units) effectively provides that a Unitholder may request the Trustee to repurchase all or any of the Units they hold. The Repurchase price of each Unit is calculated under Clause xx.x and requires that the assets of the Trust Fund be repurchased by valuing the net assets of the Trust Fund and each Unit held in the Trust in in accordance with Australian accounting principles.

­   This clause in the Trust Deed will satisfy the savings rule in former subsection 160APHL(13) of the ITAA 1936 such that this trustee power will not constitute a defeasible power.

• Clause xx (Amendment of the Trust Deed) of the Trust Deed effectively allows the Trustee, with a 75% majority resolution of the Unitholders to alter, add to, vary or revoke any trust or power or other term or provision of the Trust Deed.

­   Any 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 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 could also permit the amendment of clauses which currently do not contain defeasible powers to do so.

Therefore, it follows that the Unitholders of the Trust 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.

In view of the conclusion above that the beneficiaries (Unitholders) of the Trust 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, the only way that the beneficiaries can have such a vested and indefeasible interest is if the Commissioner exercises the discretion in former subsection 160APHL(14).

No vested and indefeasible interest

Former subsection 160APHL(14) of the ITAA 1936 contains a discretion, whereby in cases where beneficiaries do not have a vested and indefeasible interest in so much of the corpus of the trust as is comprised by the trust holding, the Commissioner may determine that the interest is to be taken to be vested and indefeasible.

The requirements to be satisfied in respect of the discretion are contained in former paragraphs 160APHL(14)(a), (b) and (c) of the ITAA 1936.

In terms of former paragraph 160APHL(14)(a) of the ITAA 1936:

The taxpayer has an interest in so much of the corpus of the trust as is comprised by the trust holding:

As discussed above, it is accepted that the taxpayer has an interest in so much of the corpus of the Trust as is comprised by the trust holding

In terms of former paragraph 160APHL(14)(b) of the ITAA 1936:

Apart from this subsection, the interest would not be a vested or indefeasible interest:

As already noted, above, the effect of the High Court's judgement in CPT Custodian, as well as certain powers contained in the Trust Deed, is that the Unitholders' interest in the corpus of the Trust is defeasible.

In terms of former paragraph 160APHL(14)(c) of the ITAA 1936:

Having regard to the factors prescribed in former paragraph 160APHL(14)(c):

These factors are:

(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.

The circumstances in which the interest is capable of not vesting or the defeasance can happen - former subparagraph 160APHL(14)(c)(i) of the ITAA 1936

The circumstances in which the interest is capable of not vesting or the defeasance can happen have been described, above.

The likelihood of the interest not vesting or the defeasance happening - former subparagraph 160APHL(14)(c)(ii) of the ITAA 1936

In terms of the likelihood of the defeasance happening (in respect of the particular clauses of the Trust Deed discussed above) it is noted that:

•         Clauses x.x and x.x (Issue of Units): The terms of the clauses in the Trust Deed and the Assumptions for the purpose of this Ruling include that any further Units will be issued in accordance with the savings rule in former subsection 160APHL(13) of the ITAA 1936.

•         Clause xx (Repurchase of Units): The wording of the Clause in the Trust Deed and the Assumptions for the purpose of this Ruling include that any Units will be redeemed, in accordance with the savings rule in former subsection 160APHL(13) of the ITAA 1936.

•         Clause xx (Amendment of the Trust Deed): The Assumptions for the purpose of this Ruling include that the Trustee will not exercise a power capable of defeating a Unitholder's interest in the income or capital of the Trust.

The nature of the trust - former subparagraph 160APHL(14)(c)(iii) of the ITAA 1936

In terms of the nature of the trust it is noted that:

• The Trust is a closely-held trust.
• All investments are held in managed investment funds or hybrid securities from Australian Banks.

Any other matter the Commissioner thinks relevant - former subparagraph 160APHL(14)(c)(iv) of the ITAA 1936

In terms of any other matter the Commissioner thinks relevant:

•         The discretion in former subsection 160APHL(14) of the ITAA 1936 pertains 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 EM which accompanied the introduction of former subsection 160APHL(14) of the ITAA 1936 outlined 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 be mindful not to undermine the intended effect of the integrity measures themselves.

•         It is noted that certain Assumptions have been included which are aimed at preventing the purpose of the integrity measures from being undermined, namely:

•         An arrangement has not been, and will not 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 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.

Conclusion

The beneficiaries of the Trust 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 provisions that may constitute defeasible powers (that have not been used to defeat Unitholder's interest in the Corpus of the Trust);

•         the Trustee has 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 connection with the facts.

Therefore, it is appropriate 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.