How effective are trust distribution resolutions?
A recent Federal Court case has thrown the effectiveness of trust distribution resolutionss into some doubt by not clarifying who should actually pay tax.
A recent case before the full Federal Court has held that a taxpayer was not 'presently entitled' to income of a trust for relevant income years, which meant that they could not be taxed on any of the taxable income from the trust for those years.
The case involved two related trusts which had some tax losses denied by the ATO. As a result, the net income (i.e., taxable income) of the trusts was increased for the 2006 and 2007 income years. The Commissioner issued amendment assessments to a beneficiary of the trust on the basis that they were presently to some of the income of the trust for those years.
The taxpayer objected to the increased assessments and argued that they were not presently entitled to any income of the trusts for those years.
One of the key issues in this case was the way the trustee resolutions had been made for those years. In summary, the resolutions were in two parts:
- Firstly, the trustees of each trust had resolved to distribute certain amounts of trust income to the taxpayer (distribution of income resolution);
- Secondly, the trustees also resolved that should the Commissioner disallow a deduction or include an amount as assessable income of the trust, there would be a deemed distribution of such amounts to a corporate beneficiary (variation of income resolution).
The ATO argued that the variation resolution was not effective because all income of the trust had already been dealt with by the distribution resolution. That is, the ATO argued that the resolutions should be read as separate and sequential.
The Full Federal Court rejected the Commissioner's position, as its view was that the resolutions were interdependent with the result that the taxpayer's entitlement to income under the distribution resolution was contingent since it depended on the occurrence of an event that may or may not take place.
As a result, although the resolution was found to have created an income entitlement in the taxpayer for trust purposes, the taxpayer did not have a vested and indefeasible interest in any income of the trusts as at 30 June and therefore was not presently entitled to any trust income for tax purposes.
Unfortunately, the Court did not consider who should actually be taxed on the relevant taxable income of the trust. In a decision impact statement relating to this case the ATO has indicated that the most likely result is that the trustee should be assessed under section 99A at penalty rates.
This decision muddies the water somewhat when it comes to applying the tax rules to trust distributions. The decision seems to indicate that trustees could draft resolutions that change the outcome in the event of an ATO amendment.
However, the unresolved issue is what happens in terms of the tax and who has to pay it. Also, the case raises the issue of whether original resolutions would be effective if there is no ATO amendment. If not, the risk is that the trustees could be assessed at penalty rates.
Trustees are advised to speak with their tax advisor to find out more information about what type of resolutions should be adopted. For more information, please contact us on 02 9957 4033.
This article is provided for information purposes only and correct at the time of publication. It should not be used in place of advice from your accountant. Please contact us on 02 9957 4033 to discuss your specific circumstances.