What has happened?
The Australian Taxation Office (ATO) has recently released a draft Practical Compliance Guideline (PCG 2016/D16) of the factors the Commissioner will consider whether to treat a trust as a fixed trust.
Why is Fixed Trust Status Important?
The concept of being a “Fixed Trust” or having a “fixed entitlement” to trust income is relevant to a number of important tax provisions including trust loss, CGT, consolidation, franking, beneficiary reporting, superannuation and value shifting.
One of the most important aspects is that fixed trust status is important to enable franking credits to flow through a trust to the beneficiaries. If a structure includes a unit trust which holds shares in a company which may pay franked dividends, fixed trust status can be critically important.
Fixed trust status is also important for trusts which have (or may incur) tax losses as it allows the 50% stake test to be used to determine whether the trust is able to carry forward the tax losses. If a trust does not qualify as a fixed trust it must satisfy the pattern of distributions and control tests which can be more difficult to satisfy.
Another area where the concept of “fixed entitlement” is relevant is for superannuation funds which must hold a “fixed entitlement” to trust income, otherwise the income will be taxed at the top tax rate. The PCG specifies that it does not apply to the “non-arm’s length income” test, which is instead covered by the existing ruling TR 2006/7.
Impact on Managed Investment Trusts (MIT)
Unit trusts which are classified as MITs for tax status and which satisfy the tests of unitholders having clearly defined rights can elect to be an Attribution MIT (AMIT). By making this election, the MIT will automatically have fixed trust status and this PCG will not be relevant.
However, MITs which choose not to elect to be an AMIT may find the PCG helpful in determining whether they will nevertheless be able to be treated as a fixed trust. However, if the MIT is not able to elect for AMIT status because it does not have “clearly defined rights” it may be difficult to meet the requirements of the PCG to be a fixed trust.
Impact on Other Trusts
The PCG may be of most assistance to trusts which do not qualify as a MIT. Such trusts will be able to weigh up the factors outlined in the PCG in order to get an indication as to whether the Commissioner would exercise his discretion to nevertheless treat the trust as a fixed trust. The PCG gives some examples of situations where there would be a favourable impact on the exercise of the discretion such as an unregistered MIS managed by an AFSL holder with a single class of units with redemptions of units at NTA value and where the trustee has never amended the constitution to defeat a beneficiary’s interest in the income or capital of the trust. However, if the trustee had a discretion to redeem units at a price between 90% and 150% of the market value of the units this would have an unfavourable impact on the exercise of the discretion.
What Happens Now?
The draft PCG is currently under consultation and it is understood that a number of the professional bodies are seeking further clarification and examples. A final PCG may be issued sometime in 2017. In the meantime, the draft PCG is not able to be relied on, but may give some comfort to trustees where their circumstances fit the examples in the guidelines that the Commissioner may exercise his discretion to treat the trust as a fixed trust.