14 December 2023
5 min read
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The Commissioner of Taxation (Commissioner) is appealing the Bendel and Commissioner of Taxation [2023] AATA 3074 Administrative Appeals Tribunal (AAT) decision (Bendel decision).
The Bendel decision disagreed with the long-standing Australia Tax Office (ATO) position that a trust's unpaid entitlement to a company beneficiary constitutes a loan under Division 7A of the Income Tax Assessment Act 1936 (ITAA 1936).
Division 7A of the ITAA 1936 operates to prevent private companies from making tax-free distributions of profits to shareholders or their associates in the form of payments, loans or forgiven debts. Specifically, section 109D of the ITAA 1936 applies to unpaid trust entitlements and loans. Section 109D of the ITAA 1936 is a provision that deems a private company to have paid a dividend where a loan is made to an entity, and the loan is not fully repaid by lodgement day of the relevant year.
A loan for the purposes of Division 7A includes:
The Commissioner’s position on Division 7A of the ITAA 1936 is found in TD 2022/11. The ruling provides that where a private company beneficiary holds an Unpaid Present Entitlement (UPE) and has knowledge of the UPE and does not call the UPE for payment, section 109D3(b) of the ITAA 1936 is engaged because there has been a provision of a financial accommodation which is taken to be a loan and thus, a deemed dividend. Importantly, when a deemed dividend is recognised, the taxpayer will not receive the benefits of franking credits.
Division 7A will also be triggered in instances where the trustee satisfies the present entitlement by setting aside an amount from the main trust fund and holding it on a new separate trust (sub-trust) for the exclusive benefit of the private company beneficiary.
Previously, as expressed in Taxation Ruling TR 2010/3 and Practice Statement PSLA 2010/4, sub-trust arrangements did not constitute a financial accommodation which would trigger Division 7A. From 1 July 2022, TR 2010/3 and PSLA 2010/4 were withdrawn and replaced by TD 2022/11 which captures a wider variety of circumstances that would trigger Division 7A.
The matter involves Steve Bendel’s discretionary trust (Trust), which had created income entitlements in favour of its beneficiaries (Steve Bendel and the private company, Gleewin Investments Pty Ltd (Gleewin)) over the 2014-2017 income years. Mr Bendel was the sole shareholder and director of Gleewin.
The Trust had made significant payments to Steve Bendel, but Gleewin failed to call for payment on its entitlements. The ATO deemed the funds that remained in the Trust were UPEs. The ATO determined that Division 7A, specifically section 109D(3) of the ITAA 1936, which expands the meaning of a loan to include financial accommodations, applied. According to the Commissioner, the UPEs were a financial accommodation and thus a loan from Gleewin to the Trust.
Therefore, Gleewin's UPEs were deemed dividends and were included in Gleewin's assessable income by operation of section 44(1) of the ITAA 1936.
Mr Bendel unsuccessfully objected to the amended assessments for the 2014-2017 income years on the basis the UPEs were not loans for the purposes of section 109D(3) and then appealed the objection decision to the AAT.
On 28 September 2023, the AAT (Deputy President O’Loughlin and Senior Member James) found, amongst other things, that a loan within the meaning of section 109D(3) of the ITAA “does not reach so far as to embrace the rights in equity created when entitlements to trust income (or capital) are created but not satisfied and remain unpaid”.
This meant that UPEs did not constitute a loan from a beneficiary to the trust. As such, the balance of an outstanding UPE to Gleewin was not a loan to the Trust and, therefore, should not be assessable as deemed dividends (primary issue).
The Commissioner has appealed the AAT's decision on the primary issue, that the circumstances of Gleewin and the Trust did not engage section 109D(3), to the Federal Court. The Commissioner has stated in his Interim Decision Impact Statement that “until the appeal process is finalised, the Commissioner does not intend to revise the current ATO views relating to private company entitlements to trust income, as set out in Taxation Determination TD 2022/11” and “if a decision is required to be made, any objection decisions made will be based on the existing ATO view of the law”.
The AAT decision also noted that Division 7A implications may still arise under Subdivision EA. Subdivision EA operates in circumstances when the trust, in addition to an UPE, lends money to a corporate beneficiary.
The ATO has flagged the potential for section 100A of the ITAA 1936 to be applied to such arrangements. Section 100A is an anti-avoidance provision, which is triggered in instances where, for the purpose of avoiding tax, a beneficiary is provided a trust distribution, but another entity benefits from the distribution. If applicable, section 100A will make the trustee liable to tax at the top marginal rate.
The Bendel decision is an administrative one, not a judicial one. The ATO is maintaining its position pending the court’s decision. Taxpayers therefore need to be aware of the decision and continue watching this space.
In the interim, we recommend taxpayers to action the following:
If you have any questions about the decision and how the outcome may affect you, please get in touch with a member of our team below.
Disclaimer
The information in this article is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, we do not guarantee that the information in this article is accurate at the date it is received or that it will continue to be accurate in the future.
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