The Board of Taxation (Board) has recently released its report - Review of the Tax Treatment of Bare Trusts and Similar Arrangements. The Board reviewed the current tax arrangements that apply to bare trusts and considered whether, and how, to legislate the current taxpayer practice of looking through such trusts for income tax purposes.
The current bare trust tax treatment
The current taxpayer practice for bare trusts and similar arrangements (including certain traditional custodial and nominee arrangements) is that they are not recognised for income tax purposes. That is, they are generally looked through, while beneficiaries are taken to derive income, incur losses and make capital gains directly, as though no trust exists.
Why is tax reform needed?
The Board is concerned that the general taxpayer practice is not supported by Division 6 of the Income Tax Assessment Act 1936 (as modified by Subdivisions 115-C and 207-B of the Income Tax Assessment Act 1997). The Board states in its report that there is no distinction expressed in Division 6 between bare trusts and other trusts.
Further, the Board is of the view that the current administrative practice has created ongoing uncertainty. This is on the basis that there are differing opinions as to the scope of the practice and the type of arrangements that fall within it. As such, the Board considers that it is now appropriate to legislate this “look-through” approach in order to address these issues.
The Board’s recommendations
The Board recommends that:
- The Government legislate to provide a look through approach for bare trusts, with similar arrangements for certain income tax purposes.
- A characteristics-based approach be used to describe the trusts that will be subject to a look through approach.
- A similar approach to sections 106-50 and 235-820 be used for legislating the income tax consequences of the look-through approach for qualifying trusts. That is, section 106-50 provides that a beneficiary will be treated for CGT purposes as if it owns a CGT asset to which it is absolutely entitled as against the trustee.
- Subject to further consultation, the core characteristics used to identify “bare” trusts (subject to the recommended approach) be the following:
- the trustee has no, or only minor, active duties or powers;
- the beneficiaries are entitled to the benefit of all of the assets and income of the trust; and
- each beneficiary can demand the trustee transfer trust assets to that beneficiary or at their direction.
- Subject to further consultation and consideration, certain features be disregarded when considering whether a trust qualifies for the recommended reform.
- A legislative instrument making power be included in the legislation.
- The ATO provides contemporaneous guidance in the form of a Law Companion Guideline.
- There be exclusions from the look-through treatment for certain purposes and that further consultation be undertaken to identify any other purposes that should be excluded.
- The key recommendation of the Board is to legislate the current “look through” approach. In our view, this recommendation will provide legislative certainty surrounding the income tax treatment of various bare trust arrangements. Specifically, this recommendation will remove the reliance on administrative practices.
- For taxpayers that are involved in bare trusts and similar arrangements, it is important to consider whether or not their arrangements will fall within the Board’s recommendations. That is, whether they will qualify for the look-through approach outlined in the report.
- It should be noted that there have been reviews into the tax treatment of bare trusts in the past and similar recommendations have been put forward. However, there have been no changes to the general taxpayer practice by the Government. As such, it remains to be seen whether the recommendations outlined by the Board will in fact be adopted.