While trustees of listed trusts, certain licensed widely held trusts and registered MIS have greater certainty on what is required for a trust to be treated as having fixed entitlements, there will likely be an administrative cost for trustees of all other trusts wishing to rely on the safe harbour (if they can rely on it at all). It should be noted that trusts which qualify for AMIT status are deemed to be "fixed trusts" and so uncertainties relating to fixed trust status are resolved by AMIT qualification and the trustee making the appropriate election.
Whether a trust is capable of being a "fixed trust" has been a contentious issue for many years, and clarification of the administrative approach of the Australian Taxation Office (ATO) is much needed. Fixed trust status is important to ensure that, amongst other things, franking credits may be distributed to unitholders and to ensure that certain rollover relief is available. It is also important for being able to deduct trust tax losses and, in certain situations, company tax losses.
The ATO has now published the final Practical Compliance Guideline 2016/16 (PCG 2016/16) setting out the "safe harbour" for determining "fixed trust" status for certain trusts. However, for may trustees, there are limits to the practical utility of the new fixed trust safe harbour and trustees will need to adopt appropriate systems to ensure all conditions are satisfied at all relevant times.
The draft PCG 2016/16
PCG 2016/16 was released in draft form in September 2016, outlining various factors that the Commissioner considered relevant to the exercise of the discretion in the trust loss rules (contained in Schedule 2F of the Income Tax Assessment Act 1936) to treat an interest in the income or capital of a trust as being a "fixed entitlement". Having "fixed entitlements" is important, because this concept is central to whether a trust can be a "fixed trust" for tax purposes.1
Of the 14 "factors" tabled in the draft PCG, each was attributed weight as to whether it would be adverse, neutral or favourable to the exercise of the Commissioner's discretion. However, the majority of factors were given a neutral rating, so the draft PCG has been criticised by some commentators for not providing any real clarity on the concept of "fixed entitlements".
How the new safe harbour in PCG 2016/16 will work
While the final PCG 2016/16 still describes factors the Commissioner considers favourable or unfavourable to the exercise of the discretion, it no longer describes factors having a neutral impact.
More importantly, the final PCG now also provides a "safe harbour" that trustees can rely on to self-assess fixed trust status in certain circumstances. It is the inclusion of this safe harbour that promises greater certainty in an area of law that is notably uncertain, particularly since the Federal Court decision in Colonial First State Investments Ltd v Commissioner of Taxation  FCA 16.
However, the safe harbour does not go so far as to deem trusts having particular characteristics to be fixed trusts. Perhaps this is too ambitious an expectation, given such deemed status has (to date) been limited to trusts that make irrevocable elections into particular tax regimes, namely attribution managed investment trusts and family trusts.
Instead, the safe harbour in PCG 2016/16 essentially provides that trustees of trusts that fall within one of six listed categories can manage the tax affairs of that trust as if the Commissioner had exercised the discretion to treat the beneficiaries as having fixed entitlements to the income and capital of the trust. Qualification for access to the safe harbour is then subject to the trust having met, at all relevant times, all conditions applicable to the category of trust in question.
In all cases (other than for listed trusts), the safe harbour is only available where rights to receive income and capital of the trust as between unit-holders are the same (subject to certain differences on account of fee differentials, issue and redemption prices and exposure to foreign exchange gains and losses).
For trusts other than listed trusts and certain widely held or registered MIS trusts, the conditions also expressly require:
- there be a written instrument of trust;
- that the beneficial interests in the income and capital of the trust are vested and can be expressed as a percentage of the total income and capital of the trust; and
- that the trust is not discretionary nor have beneficiaries in default.
Conditions relevant to registered and unregistered MIS and certain widely held trusts include compliance with relevant provisions of the Corporations Act.
In addition, "single interest holder trusts" (in broad terms, trusts which are wholly owned by an individual, a listed trust or a registered MIS) and all "other trusts" are subject to an anti-avoidance condition. The trustee of these types of trust could not administer it as having "fixed entitlements" to income where there is any arrangement:
- the purpose, or one of the purposes, was to ensure that an individual would have a fixed entitlement that they would not otherwise have;
- to traffic the tax benefit of a tax loss, bad deduction or debt/equity swap deduction; or
- resulting in fraud or evasion.
The safe harbour is good - but can you get there?
The lists of safe harbour conditions set out in the final PCG 2016/16 provide greater certainty than the draft PCG as to what is required for a trust to be treated as having fixed entitlements. This is particularly so for listed trusts, widely held trusts that meet certain Australian financial services licencing requirements with a single class of units and registered MIS' with a single class of units, as the safe harbour conditions that apply to these types of entities do not add to or extend the administrative or compliance obligations of the trustee (in that the conditions that require compliance with corporations laws would be something that trustees would already be doing in the ordinary course), and are otherwise essentially factual matters that should be straight forward to substantiate.
However, there is an administrative cost for trustees of all other trusts wishing to rely on the safe harbour, as they will need to be sure that the trustee has met all conditions relevant to the type of trust in question at all relevant times, and must maintain relevant records to substantiate any determination as to fixed trust status. Note also that the safe harbour will only have application during the period in which the relevant conditions are satisfied, and PCG 2016/16 does not otherwise provide guidance as to what is to happen where a trust has fixed trust status for one period but not the next.
Further, the safe harbour cannot be applied prospectively (ie. they can only be applied to known facts), and the PCG confirms that if a trustee requires certainty, it would need to seek a ruling for any proposed future transactions confirming that the Commissioner would exercise the discretion to treat the trust as having fixed entitlements in the circumstances.
In addition, the PCG is a guideline and not binding on the Commissioner. Therefore any past self-assessment of fixed trust status is subject to scrutiny with respect to compliance with the applicable conditions. These features limit the certainty offered by the safe harbour.
- Proposed changes to Australia's Investment Manager Regime and Attribution Managed Investment Trust Taxation Rules
1Section 272-65 of Schedule 2F Income Tax Assessment Act 1936 provides a trust is a fixed trust if persons have "fixed entitlements" to all of the income and capital of the trust. While beyond the scope of this article, the concept of "fixed entitlements" and the status of a trust as a fixed trust is also relevant to (amongst other things) whether franking credits flow through to trust beneficiaries, ability of a trust to utilise tax losses, availability of CGT rollovers, application of certain value shifting rules, and whether certain gains are exempt gains of a non-resident beneficiary.
Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this bulletin. Persons listed may not be admitted in all states and territories.