ATO releases impacting private family arrangements – Part A

29 March 2022

Last month the ATO released a new draft ruling and other practical guidance relating to their position on various common trust administration practices and structures used in private family arrangements.

In particular, what is referred to as section 100A reimbursement agreements and the ATO’s administration of unpaid distributions to corporate beneficiaries under Division 7A of the Income Tax Assessment Act 1936.

There is a lot of material to digest which as an initial reaction, contain the first indications from the ATO of their interpretation of these specific laws to a broader application of family arrangements to what was considered up to now as normal ordinary family dealings.

The ATO through these releases imply an onus of proof now expected from taxpayers to demonstrate that adult children beneficiaries receive the benefit of declared distributions and evidence as to reasons for any accompanying arrangements. The releases also cover the ATO’s view on gifting back from children to parents or the trust and in some cases, the ATO are suggesting they may apply their new announced views retrospectively.

Particularly surprising, is the timing of the announcements as to “why now” – in light of a recent 100A case decision in Guardian AIT Pty Ltd ATF Australian Investment Trust v FCT 2021 (Guardian) that was held for the taxpayer which we discussed here. The ATO has since appealed this case. 

From the ATO’s comments, it is likely that they want to share their concerns sooner than later, encourage directed focus amongst taxpayers to contain these arrangements and/or change their behaviours whilst waiting for the outcome of that appeal and the decisions in other cases on 100A which ultimately will shape the finalised ATO’s guidance on 100A.

Although the ATO’s guidance has already been subject to vigorous examination with submissions due on 8 April 2022, we don’t necessarily foresee a change in the ATO’s interpretation of the law until it is tested in the Courts.  Therefore, in the meantime you need to consider immediately the implications of the announcements on your past, present and future trust arrangements and determine whether you fall within the White, Green, Blue or Red Zones of the ATO’s draft Practical Compliance Guideline.

This article will be in issued 3 parts covering these new ATO releases;

Part one: Distributing to Adult Children

Part  two: Distributing to Loss trusts and Corporate beneficiaries

Part three: Overturned draft division 7A ruling on UPEs

Distributing to Adult Children

A history lesson into 100A

You would be forgiven if you haven’t before heard of Section 100A. Or at least didn’t consider it would have any real application to those that administered their trust structures with prudent diligence whilst not entering any complex or contrived structuring.

Section 100A of the Income Tax Assessment Act 1936 was introduced in 1978 to combat bottom-of-the harbour era tax avoidance schemes referred to as “trust stripping” whereby a trust’s profits were stripped out by distributing them to a tax-exempt or loss entity, but payment of such profits was instead resettled to other intended beneficiaries.

100A allows the ATO to impose tax at the highest marginal rate on a trustee (instead of the beneficiaries) when conditions of the provision are met.

It has been largely dormant for over 40 years where the ATO has preferred to use the general anti-avoidance provisions of Part IVA. Accordingly, 100A has only ever been raised in a handful of cases of which involve contrived structures and transactions.

It became apparent around 2014 that the ATO was starting to consider application of 100A beyond the impetus of its original intent. In 2016, the ATO released a ‘Fact Sheet’ setting out situations where they viewed 100A would apply (including the structure tested in Guardian) in which they stated that 100A would not apply to ordinary family or commercial dealings, a term which was not defined.

Since 2016, the ATO announced that they would release further guidance as to their views as to the interpretation of ordinary family or commercial dealings. It has since taken 6 years for them to release a suite of draft documents on the operation of 100A.

In our view, and that shared by the industry, the ATO have taken some contentious positions about when the section will be triggered.

The key elements of 100A

Broadly Section 100A applies when:

  • a beneficiary is made presently entitled to trust income;
  • there was an arrangement that another person (usually another beneficiary or the trustee) gets a benefit attributable to that trust income – this is called a ‘reimbursement agreement’;
  • a purpose of the arrangement was someone paying less tax; and
  • the arrangement was not an ‘ordinary family or commercial dealing’
ATO’s new approach on 100A

The contentious issue is what arrangements would fall within the exception. Interestingly, the ATO has noted there is limited guidance on the meaning of “ordinary family or commercial dealing”.

In the recent announcements the ATO expresses in their view an arrangement is an ‘ordinary family or commercial dealing’ when what has happened can be readily explained by family or commercial objects.

 But in examples contained within the guidance documents released, the ATO has taken the position that a number of arrangements albeit common in a family setting are artificial or contrived and therefore, in their view outside this exception. If what has happened is only explicable by tax reasons, the exception for ‘ordinary family or commercial dealings’ will not apply.

The ATO’s position is outlined in the draft Tax Ruling (TR 2022/D1)  and is accompanied by a draft Practical Compliance Guideline (PCG 2022/D1) and a Taxpayer Alert (TA 2022/1).

These can be summarised as follows;

  • the application of section 100A is expanded to arrangements as outlined in the guidance that in the ATO’s view are excluded as ordinary family or commercial dealings;
  • the PCG outlines using a traffic light system to categorise arrangements, into zones of risk;
    • low risk (to which compliance resources will not be dedicated),
    • medium risk (with respect to which the ATO may ask questions), and
    • high risk (to which the ATO will dedicate compliance resources);
  • the arrangements outlined by the ATO are a far broader range of transactions than anticipated particularly concerning as categorised a High Risk Zone to include distributions to adult children where the funds are seen to be applied for the benefit of their parents.

It is this extension to distributions to adult children which is covered by the Taxpayer Alert that has caused major concern amongst families and is the specific focus of Part A of this article. Other scenarios of the ATO’s application of 100A will be covered in our Part B and C of this article.

Why the ATO concern?

The draft Taxpayer Alert says the ATO is concerned about situations where income is appointed to adult children but the ‘parents enjoy the economic benefit of the trust income to meet parental expenses such as the costs of their upbringing, including costs of such as primary schooling and other kinds of ongoing financial support parents would ordinarily provide their children.

The common features of the arrangements the ATO are reviewing include;

  • the Trustees or the directors of a Corporate Trustee, are either one or two individuals who are the parents.
  • income derived by the Trust is used during the year to meet the expenses of the Parents.
  • resolutions of the trustee for the year are made to presently entitle the adult children beneficiaries to a share of the income of the Trust.
  • the entitlements are for substantial amounts but do not generally result in the adult children’s taxable income to exceed the threshold for the top marginal tax rate ($180,000).
  • amounts are not paid to the adult children but rather directed by the children to be paid or applied to the benefit of their Parents.
  • the arrangements the ATO are concerned about are those which are more properly explained by the tax outcomes obtained, including the accessing of tax-free thresholds and lower marginal tax rates of family members, rather than ordinary familial considerations.

We have set out some of examples raised by the ATO below that are most typical amongst families with respect to distributions to adult children.

Key takeaways

  • The items described in the ATO tables help to identify whether there is a risk that section 100A applies to an arrangement.
  • The tables set out an ATO compliance approach with items in the red zone being given a higher priority than blue zone.
  • As to whether 100A legally applies will depend on whether there was a reimbursement agreement at the time the beneficiary was made presently entitled to the trust income.

Next steps

Arguably for many modern family arrangements, the sharing and pooling and even gifting, of assets amongst family members is a normal, regular family transaction.  Doing things for the benefit of the family is something families ordinarily and regularly do. It extends to investment decisions, pooling of investments, across generations with the natural extension to the application of funds in the same way.

There is even case law precedent that supports “a redistribution of family assets including a family business, as between husband and wife is a normal, ordinary, everyday family transaction”.

Nevertheless, whilst we wait for clarity from cases subject to the judicial process the ATO have made their position known which cannot be ignored. The best next steps are:

  • identify the actual level of risk of section 100A applying based on your particular circumstances;
  • identify the best options for dealing with any existing or historical risks;
  • maintain evidence as to how beneficiary entitlements have been satisfied to the specific benefit of that beneficiary;
  • ensure going forward you are fastidious in your administration of your trust ensuring that;
    • the trust has a bank account ;
    • all transactions are conveyed through these accounts ;
    • preferably the trust pays entitlements declared to any beneficiary directly;
    • particularly where a child directs the Trustee to pay for an expense on their behalf that appropriate evidence is maintained such as obligations clearly established in the name of the child such as Uni fees issued to the child, investments in name of the child, home deposits, cars, or other assets or expenses in the name of the child.

In the meantime, please contact your Cooper Partners engagement team if you would like any assistance with implementing any of the above steps.

Michelle Saunders
Managing Director
Head of Strategy

Simeran Cheema
Leader in Advisory Services

Marissa Bechta
Head of Taxation Advisory

Ross Heard
Senior Consultant
Leader in Tax Controversy

This newsletter is current as of 29 March 2022, however, please note that announcements and changes are being made by the Government and the ATO regularly, and we expect that the tax and business-related responses will continue to evolve.  Before acting upon the content of this newsletter, please contact us to discuss how the above applies to your specific circumstances.

This information is general advice only and neither purports, nor is intended to be advice on any particular matter.
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