Division 6C of the Income Tax Assessment Act (Cth) has long been of concern to the infrastructure sector owing in great part to the restricted investments that may be undertaken by a unit trust before it is treated as a ‘trading trust’, and the unduly wide definition surrounding a ‘public unit trust’. The two reforms to Division 6C needed to encourage private investment in public infrastructure are:
- expand the definition of ’eligible investment business’ to include investment in infrastructure facilities; and
- repeal the ‘twenty per cent rule’ applying to complying superannuation funds.
Division 6C Background
Trusts typically take one of two forms.
- flow through trust - such that unitholders are taxed on the ‘net income’ of the trust on a present entitlement basis, or
- public trading trust (under Division 6C) - such that the trustee is taxed in a similar manner to a company on the ‘net income’ of the trust at the corporate tax rate (currently 30%) .
To be a public trading trust under Division 6C, a unit trust must qualify as both:
- a ‘public unit trust’, and
- a ’trading trust’.
A trust will be a trading trust, inter alia, where at any time during the year of income, the trustee carries on a trading business, which is defined specifically to mean a business that does not consist wholly of ‘eligible investment business’ (EIB).
A trust that solely carries on the following traditional passive activities, being EIB, will not be a public trading trust:
- investing in land for the purpose or primarily for the purpose of deriving rent and/or
- investing in, or trading in, any or all of specifically listed financial instruments, including shares in a company, units in a unit trust.
Generally, a trust will qualify as a public unit trust if at any time during the year it is widely held such that:
- any of its units are listed for quotation on the stock exchange
- any of the units are offered to the public, or
- the units in the trust are held by no fewer than 50 persons, or
- complying superannuation funds or exempt entities, in aggregate, hold units in the trust carrying twenty per cent or more of the beneficial interests in income or capital.
- Eligible Investment Business and Infrastructure Facilities
The problem with the current definition of EIB is that it does not appropriately encompass the types of investment activities which should be acceptable under the Division. The infrastructure investment industry was in its infancy when Division 6C was introduced in 1985. The common law definition of land and rent are no longer relevant to modern day infrastructure, property and related trusts, as the activities of many trusts give rise to income that might not rightly fall within the definition.
Many investors looking to own an infrastructure project and derive services income or nonrental income associated with the ownership of the infrastructure, are required (because of the definition of EIB) to hold the investment through a stapled structure which combines the use of a flow through unit trust and a company. The unit trust holding land and affixed improvements, leases those assets to the company to derive rental income (which is EIB for the unit trust). The company conducting the infrastructure facilities activity derives the infrastructure income (e.g. tolls, transmission charges, availability payments).
The complexity with adopting a stapled structure could be eliminated if the EIB definition was expanded to include investment in infrastructure facilities.
The starting point in consultation about the definition of what would be acceptable ‘infrastructure facilities’ would be the definition contained in Section 93L of the Development Allowance Authority Act 1992 (Cth), which includes seven types of infrastructure facilities, namely:
- Land transport (roads, railway lines)
- Air transport
- Sea Port
- Electricity generation, transmission or distribution
- Gas pipeline
- Water supply
- Sewerage or waste water
An eighth facility that would need to be included would be a ‘social PPP facility’
- Repeal of the twenty per cent rule applying to complying superannuation funds
An investment of twenty per cent or more by complying superannuation funds in a unit trust should not create a public unit trust. This requirement has been rendered obsolete by:
- Superannuation funds being largely taxable, where once they were exempt; and
- Superannuation funds and exempt entities and other Australian taxpayers being provided with refundable franking credits, where at one time they had no entitlement to refundable franking credits.
It makes no sense that Australian complying superannuation funds that typically pay the same or more tax than foreign pension funds or sovereign wealth funds on investments should be treated as ‘exempt entities’ for the purposes of Division 6C, whereas those later investors are generally not.
Whilst we understand it is the expectation that the twenty per cent rule applying to complying superannuation funds will be removed, the timing for such removal continues to slip and bundling it with the Managed Investment Trust review and consultation, risks inaction or further delay.