Recently, the ATO have indicated that trust distributions to adult family members and associated companies are on their radar and they are planning to increase ATO audit compliance activity.
The ATO have released the following tax rulings to provide guidance on taxpayers’ that are risk of increased compliance activity:
- Draft Taxation Ruling TR2022/D1
- Draft Practical Compliance Guideline PCG 2022/D1
- Taxpayer Alert TA 2022/1
These releases have been on the ATO’s agenda for some time now. With their release and off the back of a recent court case on the subject held in the Federal Court (discussed further below), it’s a fair indication that changes are on their way.
Want to know how to mitigate ATO compliance risks. Please contact a Gold Coast Accountant at Crest Accountants, to find out more.
100A Reimbursement Agreement
So what is on the ATO’s radar?
The ATO releases are specifically around what they call “reimbursement agreements” and tax avoidance. This is dealt with under 100A of the Income Tax Assessment Act 1936 and occurs when:
- A benefit is provided to another person
- It’s intended to have the result of reducing someone’s tax liability, and
- It’s entered into outside the course of ordinary family or commercial dealing
In this instance, if it’s deemed to exist, then the trust distribution will be taxed at the top marginal rate of 45% rather than at the beneficiary’s marginal tax rate. As you can appreciate, this could have huge tax implications and requires careful consideration.
Example
- Husband and wife operate a fish & chip shop via a family discretionary trust
- The business is very profitable and if they were to distribute all taxable profits to themselves for the financial year, they would be paying marginal tax of 45% + 2% Medicare Levy.
- Husband’s mother is a self-funded retiree and has no other taxable income in her name so they decide to distribute $18,200 to her which is prima facie tax-free.
- The physical money is not paid to the mother. Instead, it’s used to pay down the husband & wife’s mortgage
- No loan agreement is entered into between the mother and the trust or recognised in the financial accounts of the trust
This is considered to be tax avoidance in the eyes of the ATO and the $18,200 would be taxed at the highest marginal tax rate, potentially along with fines and penalties.
Will the ATO Draft Rulings & Documents pass?
The question on whether or not the ATO’s approach will ultimately be upheld is obviously unknown at this point in time, however in the recent court case held in the Federal Court of Guardian AIT Pty Ltd ATF Australian Investment Trust v Commissioner of Taxation [2021] FCA 1619 (Guardian), the Judge ruled in favour of the taxpayer in relation to the application of 100A with respect to a commercial dealing.
In the Guardian case the Judge ruled that for the section to apply, at the time of the distribution there must have been an agreement which compelled the beneficiary to provide the cash to another party.
The ATO has appealed this decision and the case will go to the Full Federal Court to be heard.
In the event of the ATO losing the above case in the Full Federal Court then we would expect to see changes to the Draft Rulings and Documents as currently provided however to what extent, we do not know.
Even so, it is crucial to effectively tax plan and mitigate the risks of any ATO compliance action.
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