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Section 100A (S.100A) operates as an anti-avoidance provision within the framework of the Income Tax Assessment Act 1936. Section 100A is designed to address situations where one person receives an economic benefit from a trust while another is made presently entitled to assessable income. This rule comes into play when the present entitlement is linked to an agreement, arrangement, or understanding, and there is an economic benefit provided to someone else, all with the purpose of reducing or deferring income tax.
If S.100A applies, the beneficiary's entitlement to trust income is disregarded, and the trustee is assessed on the beneficiary's share of the trust's taxable income at the highest marginal tax rate.
This provision is particularly relevant in scenarios involving discretionary trusts, where distributions are made to corporate beneficiaries or other non-resident beneficiaries. These scenarios often manifest through reimbursement agreements conducted outside the scope of ordinary family or commercial transactions.
To navigate the complexities of S.100A compliance, it's advisable for trustees to seek advice, especially when dealing with trust distribution resolutions and trust entitlements arising. Adherence to tax law and the careful consideration of net income, trust income, and the trust's net income are critical.
The Australian Taxation Office (ATO) has outlined various low-risk (green zone) scenarios under Section 100A (S.100A) compliance guidelines in the Income Tax Assessment Act. These scenarios relate to trust distributions benefiting an individual, often the controller of a trust, such as 'Mum and/or Dad' in a standard family trust scenario.
The green zone scenarios are categorised as follows:
It's crucial to note all scenarios designated as green-zone operate under the assumption that none of the exclusions of the guidelines are applicable. This necessitates meeting various requirements, including notification and lodgment, among others.
The subsequent discussion centres on a standard family discretionary trust overseen by 'Mum and Dad,' established for the welfare of their family. This family includes: a minor child, an adult child, and grandparents.
If you want to know more about the ATO compliance risk zones, read our article here.
Under Section 100A of the Income Tax Assessment Act 1936, any entitlement a beneficiary derives from a reimbursement agreement is overlooked. Consequently, the net income, which would have been attributed to the beneficiary, is now assessed to the trustee at the top marginal tax rate.
The Practical Compliance Guideline sets out the ATO's compliance approach to trust distributions where section 100A may apply. It employs three color-coded zones to outline the ATO's compliance strategy for arrangements falling within these categories.
If an arrangement falls outside of an exclusion and aligns with the descriptions in the guideline's low-risk zones (the white zone and the green zone), the ATO will not allocate compliance resources to scrutinise the arrangement further, unless it's to verify the arrangement's adherence to the requirements of that specific zone.
Trust distributions earmarked for specific purposes maintain a low-risk status in terms of S.100A compliance, with the ATO committed to refraining from active application of this provision.
The ATO cautions that the benefits which are described in the Green Zone Scenario 1, which involves ordinary family dealings, are restricted to the beneficiary, the beneficiary’s spouse, and their dependants. Any distribution extended to an individual or entity beyond the spouse or dependant of the beneficiary (such as an adult independent child, the trustee of the distributing trust, another trust or company, or a superannuation fund) would not fall under the exemption outlined in Green Zone Scenario 1.
It's crucial to note these limitations align with the ATO's guidance on ordinary family dealings and are part of a compliance approach to ensure transparency and fairness in trust distribution arrangements. The ATO aims to dedicate compliance resources judiciously, focusing on high-risk arrangements while providing practical compliance guidelines for those falling within the low-risk green zone.
For practical year-end tax planning and to optimise taxes, taxpayers are encouraged to consider the ordinary family or commercial dealing exclusion. However, it's advisable to seek further advice, especially in complex scenarios involving multiple family members, corporate beneficiaries, and trust distribution arrangements.
The compliance approach emphasises appropriate documentation and adherence to tax legislation to stay within the low-risk green zone and avoid high-risk arrangements that may attract the ATO's scrutiny.
The Smith Investment Trust (the ‘trust’) is an investment trust established to benefit the Smith family. The beneficiaries of the trust comprise members of the Smith family, Emma, and her spouse, Mark (the controllers of the trust), and their two children, Liam (aged 12) and Ava (aged 20).
Ava is pursuing full-time studies and currently has no spouse or children. She presently resides with her parents and relies on them for financial support. Emma, due to her activities outside the trust (operating a successful online business as a sole trader), falls into the top marginal tax rate. Mark, who works part-time, is subject to a lower marginal tax rate than Emma.
Emma and Mark jointly manage their financial responsibilities and sustain their lifestyle from a shared pool of assets. For the 2023 income year, the trust generated income of $90,000, with a net (taxable) income also amounting to $90,000.
The trustee decided to allocate the trust income as follows:
The trustee satisfied Mark’s trust entitlement by transferring $69,500 into a bank account jointly held by Emma and Mark.
The ATO has outlined criteria for trust distributions retained by the trustee, deeming them low-risk under S.100A, assuming the ordinary family or commercial dealings exclusion is in play. In the context of Green Zone Scenario 2, addressing retention for less than two years, a trust distribution to an individual beneficiary, like Mum or Dad (the 'controllers' of a trust), not disbursed by the trustee, falls within low-risk Green Zone Scenario 2 if the following conditions are satisfied:
In line with new ATO guidance, trustees are provided clarity on trust entitlements and the present entitlements arising from them. The ATO outlines scenarios involving trust distributions, emphasising the importance of preventing situations that may be perceived as reducing someone's tax liability through strategic fund utilisation. To mitigate high-risk situations, trustees are encouraged to adhere to the principles set out in the practical compliance guideline, particularly when dealing with a corporate beneficiary.
For effective management of funds, trustees should consider factors such as expenses incurred, maintaining adequate working capital, and ensuring funds are genuinely representing the taxpayer's circumstances. Additionally, trustees are cautioned against any perceived tax maneuvers involving beneficiary gifts, especially when extended to other family members.
When managing income over several years, trustees should consider the parents' benefit and plan for the future responsibly. Trustees have unlimited power to make changes, but it's essential to understand the white or green zone guidelines to determine the right trust structure. Allocating a beneficiary's share should match the planned distribution, and if there are disputes, they might involve the federal court.
In the context of trust structures, the idea of commercial dealings is crucial. Trustees must also be mindful of the integrity rule to stay compliant with changing tax regulations.
Green Zone Scenario 3 covers certain scenarios in which a trustee holds onto a trust distribution for two years or longer, including situations with individual beneficiaries such as Mum or Dad. To fall within the low-risk green zone in these cases, certain conditions need to be satisfied:
The beneficiary permits the trustee to hold onto the trust distribution for two years or more. In cases where the distribution is paid out, the beneficiary may lend the funds back to the trustee for the stipulated period.
The trustee must adhere to the working capital condition, using or holding the funds representing the beneficiary's entitlement in specific ways:
However, this provision does not apply if the trustee lends funds to a natural person unless an FTE was made. A loan is considered on 'commercial terms' if it aligns with Division 7A complying loan agreement principles.
It's essential to highlight that the working capital condition is not satisfied if an arrangement confers a benefit (except for a loan under 2(c)) to a person(s) other than the beneficiary, their spouse, or their dependants. For instance, the condition would be unsatisfied if the trustee allowed someone other than the beneficiary or their immediate family to occupy a rental property for less than market value.
The individual and/or their spouse serves as a trustee of the trust or controls the trustee, where control involves the trustee acting in accordance with their wishes or the individual having the power to appoint and remove the trustee. The individual is engaged in the management of a business conducted by the trustee.
When addressing trust distributions to the 'controllers' of a discretionary trust, such as Mum or Dad, it becomes evident that the likelihood of the arrangement falling within the low-risk green zone is higher.
For instance, if a trustee decides to distribute trust income to the controller of a discretionary trust and/or their spouse, the trustee can retain the use of those funds and stay within the low-risk green zone, provided, in essence, that:
However, an arrangement would not qualify for the green zone if a trust distribution is made to an individual controller of a trust (or their spouse), and the funds are held by the trustee and subsequently lent for private purposes or interest-free on-lending. In such cases, the risk of S.100A applying to that distribution significantly increases, especially if the recipient of the loan is on a higher marginal tax rate than the beneficiary, and the arrangement is recurrent. This heightened risk falls within the high-risk category.
It's crucial to note that compliance resources should be dedicated to ensuring that these arrangements align with the low-risk green zone criteria, and ordinary family dealings within the same family group are eligible for exclusions. A trustee should consider the applicable integrity provisions and be cautious of falling into the high-risk category. The arrangement's adherence to the trust deed and the trustee's use of distributable income play a pivotal role in maintaining a low-risk green zone status.
For more insights into ATO compliance risk zones and trust distribution impacts, contact us. We offer expert advice on tax regulations, ensuring compliance with zone criteria. Our team assists in understanding trust structures, compliance guidelines, and optimising tax planning within low-risk parameters.
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Any advice contained in this document is general advice only and does not take into consideration the reader’s personal circumstances. Any reference to the reader’s actual circumstances is coincidental. To avoid making a decision not appropriate to you, the content should not be relied upon or act as a substitute for receiving financial advice suitable to your circumstances.
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