The last 12 months have seen a number of formal publications issued by the Australian Taxation Office (ATO) in relation to trusts. In December 2022, the ATO finalised its long-awaited guidance on trust distributions and what it considers to be a ‘reimbursement agreement’.
By the 30th of June each year, trustees of discretionary trusts are required to determine how any trust income is to be distributed (and ultimately taxed) between the various beneficiaries of the trust. Over the last 10 years, the ATO has become increasingly aware of trustees making distributions where the recipient of the taxable distribution is different to the person who receives the economic benefit. Where this occurs, the distribution may attract a 47% tax rate.
The ATO is concerned with arrangements where:
- A benefit is provided to a person (or entity) other than the beneficiary;
- The provision of that benefit involves complexity or contrivance;
- That benefit could have been provided in a more direct manner; and
- The arrangement results in significant less tax being paid compared to if the benefit had been provided more directly.
The following examples have been highlighted as arrangements which will attract ATO attention:
A trustee distributes to their non-working university aged child for inclusion in their personal income tax return, accessing the lower marginal tax rates. The adult child never receives any money associated with the distribution as it is offset against the costs incurred prior to the child turning 18 (such as private high school fees and family holidays).
The ATO’s view is that the costs of raising a child are to be borne by the parents while the child is under the age of 18. It is acceptable for the trustee to seek reimbursement of costs (including university fees, board and lodging, travel costs etc) incurred after the child has turned 18.
A trustee distributes to their semi-retired parents for inclusion in their personal income tax return, accessing the lower marginal tax rates. Upon receiving the associated money from the trustee, the parents gift the money (net of any tax) to the child or back to the trust.
The ATO may consider that a gift from someone on a lower taxable income (such as an adult child or semi-retired parents) to someone on a higher income to be contrived where it is made in connection with trust distributions, especially if the arrangement is regularly repeated.
Can tax effective distributions still be made?
The ATO has made it very clear that distributions from trusts can still be made to beneficiaries on lower taxable incomes provided that the economic benefit flows to that beneficiary. Where the funds are not passed to the beneficiary straight away, it is the ATO’s view that the beneficiary should earn an appropriate return on the unpaid monies. Trustees are encouraged to maintain appropriate records in relation to costs they occur on behalf of adult beneficiaries or pay the cash directly to the beneficiary and allow them to fund their own expenses (including university fees, phone, entertainment, board and lodging, travel costs etc).
We are expecting to see increased audit activity in this area.
If you have any questions around how the ATO’s views on trust distributions may impact you, please contact Josh Meggs on email@example.com or your Pilot Advisor on 07 3023 1300.