On 22 February 2022 the Australian Taxation Office (ATO) released a Draft Taxation Ruling TR 2022/D1 (Draft Ruling) and Practical Compliance Guideline PCG 2022/D1 (Compliance Guideline) about the tax treatment of:

  • trust entitlements arising out of reimbursement agreements; and
  • unpaid present entitlements (UPEs) of trust beneficiaries.

While still in draft form, the Draft Ruling and Compliance Guideline is intended to provide guidance to trustees of family discretionary trusts on the ATO's views on the operation of section 100A of the Income Tax Assessment Act 1936 (s 100A).

What is section 100A?

Section 100A is an anti-avoidance provision which captures arrangements where a beneficiary becomes presently entitled to trust income, but the benefit of that income is received by a person other than the beneficiary. This is generally done for the purposes of reducing a tax liability by income streaming.

Compliance approach

The ATO have provided guidance on when s 100A might apply. The Compliance Guideline provides different arrangements into coloured zones, indicating the ATO's level of concern and the application of s 100A to those arrangements.

The zones have been broken down into White, Green, Blue and Red.

White Zone

The ATO provides the following example for what is a White Zone arrangement. White Zone arrangements apply only to arrangements entered into income years which ended prior to 1 July 2014.

  1. White & Co Pty Ltd is the trustee of The White Trust. Mr. White is the sole director of White & Co Pty Ltd and is a beneficiary of The White Trust.
  2. In income years which ended before 1 July 2014, The White Trust and Mr. White entered into arrangements in relation to entitlements that Mr White was presently entitled to.
  3. The White Trust and Mr. White changed the nature of the arrangements in relation to Mr. White's present entitlements.

If the arrangement falls within the White Zone, the ATO have indicated that it will not be dedicating new compliance resources to consider the application of s 100A to these arrangements.

Green Zone

The ATO provides several examples for Green Zone arrangements.

One example of a Green Zone arrangement is where:

  1. Mr. Green is a beneficiary of the Green Trust and is presently entitled to income from the Trust.
  2. The trustee of the Green Trust makes payment to a joint bank account which Mr. Green holds with Mrs. Green.

Green Zone arrangements will not draw the attention of ATO's compliance resources, other than to confirm the features of the arrangement.

Blue Zone

The ATO has provided details of the features of a Blue Zone arrangement. Such arrangements may be in the Blue Zone if they have one or more of these features, amongst others:

  1. The beneficiary makes a gift of their trust entitlement;
  2. The benefit disclaims their entitlement or forgives or releases the trustee from its obligation to pay their trust entitlement;
  3. The beneficiary's entitlement is satisfied by payments that are sourced from the beneficiary.

Arrangements that fall within the Blue Zone may attract the ATO's attention and be subject to review. However, arrangements within the Blue Zone are likely to attract less attention than those that fall within the Red Zone.

Red Zone

Red Zone arrangements are those where the:

  • beneficiaries' entitlement appears to be motivated by sheltering the taxable net income of the trust from higher tax rates;
  • arrangement that involve elements directed to enabling someone other than the entitled beneficiary to enjoy the economic benefits of the trust's net income.

An example of a Red Zone arrangement is where:

  1. The Trustee of the Red Family Trust derives $100,000 in income for the financial year ending 2023;
  2. Mrs. Red receives payments totalling $100,000 which she applies towards her household expenses. This is recorded as a beneficiary loan to Mrs. Red;
  3. At the end of the financial year, the Trustee resolves to make Mrs. Red's two children presently entitled to $50,000 each;
  4. Mrs. Red's children repay Mrs. Red's beneficiary loan back to the Red Trust.

If an arrangement falls within the Red Zone, the ATO will conduct further analysis on the facts and circumstances of such arrangements. Red Zone arrangements will attract the attention of ATO's compliance resources. If the further analysis conducted by the ATO confirms that the arrangement is high risk, the ATO may proceed with an audit.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.