Trust income: beneficial interest in trust property held for children - applied income

Is the taxpayer, a trustee of a trust, created for the benefit of certain children who will be entitled to a proportional interest in the trust fund only if they attain 18 years of age, liable to be assessed under Division 6AA of the Income Tax Assessment Act 1936 (ITAA 1936) in respect of income, derived from life insurance policy proceeds that devolved to the trust, that were applied to a beneficiary during the income year?

Yes. The trustee is liable to be assessed under Division 6AA of the ITAA 1936 in respect of income, derived from life insurance proceeds that devolved to the trust, that were applied to a beneficiary during the income year, as the income is not excepted trust income.

The taxpayer is the trustee of a trust that was created for the benefit of certain children of a deceased parent. The proceeds of a life insurance policy were paid into the trust as a result of the death of the parent. The trustee invested these proceeds and derived income.

The children will be entitled to a proportional interest in the trust fund only if they attain 18 years of age. The trust deed contains a clause that if any child does not attain 18 years of age, that child's interest will devolve to other beneficiaries when those beneficiaries attain the age of 18.

In the relevant income year, all the children are under 18 years of age. Under the trust, the trustee has discretion to accumulate income or to apply some or all of it for the benefit of the beneficiaries. The trustee applied the income derived for the year towards the maintenance of the beneficiaries.

The beneficiaries of the trust are not 'excepted persons' as defined in subsection 102AC(2) of the ITAA 1936. As the beneficiaries are under 18 years of age, they are prescribed persons for the purposes of subsection 102AC(1) of the ITAA 1936.

Division 6AA of the ITAA 1936 sets out special rules that apply in working out the basic income tax liability on the income of persons who are prescribed persons. A person is a prescribed person if they are not an 'excepted person' as defined by subsection 102AC(2) of the ITAA 1936 and they are under 18 years of age.

Subsection 102AG(1) of the ITAA 1936 provides that Division 6AA of the ITAA 1936 applies to 'so much of the share of the beneficiary of the net income of the trust estate of the year of income' as, in the opinion of the Commissioner, is attributable to the assessable income of the trust estate that is not, in relation to that beneficiary, excepted trust income.

Paragraph 102AA(3)(b) of the ITAA 1936 states that a reference to the 'share of a beneficiary of the net income of a trust estate' shall be read as a reference to a share of a beneficiary of the net income of a trust estate 'in respect of which the trustee of the trust estate is liable to be assessed and to pay tax in pursuance of section 98' of the ITAA 1936. Therefore, the trustee is liable to be assessed under Division 6AA of the ITAA 1936 if: A. the trustee is liable to be assessed and to pay tax in pursuance of section 98 of the ITAA 1936 in respect of each beneficiary's share of the net income of the trust; and B. each beneficiary's share of the net income of the trust is not excepted trust income

Section 101 provides that where a trustee has discretion to pay or apply income of a trust estate to or for the benefit of specified beneficiaries (for example, by paying using the income to pay the beneficiaries' school fees), the beneficiary in whose favour the trustee exercises the trustee's discretion shall be deemed to be presently entitled to the amount paid to the beneficiary or applied for the beneficiary's benefit by the trustee in the exercise of that discretion. In the relevant income year, the trustee applied the income derived for the year towards the maintenance of the beneficiaries. Therefore, under section 101 of the ITAA 1936, each beneficiary is deemed to be presently entitled to the amount of income applied for their benefit.

All beneficiaries are under a legal disability as they are all less than 18 years of age in the relevant year of income.

Accordingly, in the absence of any other provisions, the trust is liable to be assessed and to pay tax pursuance to section 98 of the ITAA 1936.

Subsection 102AG(2A) of the ITAA 1936 was considered by the Commissioner in Taxation Ruling TR 98/4. Paragraph 33 states that subsection 102AG(2A) of the ITAA 1936 requires that the child must, under the terms of the trust, acquire the trust property other than as a trustee when the trust ends. Moreover, the property must pass into the child's estate, should the child die before the trust ends. Accordingly, it is considered that subsection 102AG(2A) of the ITAA 1936 cannot be satisfied where the terms of the trust allow a child's proportional interest in the trust fund to devolve to another beneficiary should the child fail to attain the age of 18.

As subsection 102AG(2A) of the ITAA 1936 is not satisfied, the income derived by the trustee from proceeds of the life insurance cannot be 'excepted trust income' for the purposes of subparagraph 102AG(2)(c)(iv) of the ITAA 1936. Therefore, the trustee is liable to be assessed under Division 6AA of the ITAA 1936 in respect of income derived from life insurance proceeds that devolved to the trust.

Date of Amendment Part Comment 8 August 2014 Facts Removed the word 'a' of the second sentence of the third paragraph Reasons for Decision Inserted the words 'in the opinion of the Commissioner' between the words 'as' and 'is' in the first sentence of the second paragraph. Removed 'section 101 of the ITAA 1936' from the middle of the first sentence of the fifth paragraph and inserted reference to section 101 at the beginning. Inserted 'in whose favour the trustee exercises the trustee's discretion shall be deemed 'in between the words 'beneficiary' and 'to' in the first sentence of the fifth paragraph. The words 'them' and 'their' have been replaced with 'the beneficiary' and 'the beneficiary's.' as gender-specific language was removed from section 101 of ITAA 1936 effective 27/06/2011 and replaced with the words 'beneficiary' and 'beneficiary's'.

Date of Amendment | Part | Comment

8 August 2014 | Facts | Removed the word 'a' of the second sentence of the third paragraph

Reasons for Decision | Inserted the words 'in the opinion of the Commissioner' between the words 'as' and 'is' in the first sentence of the second paragraph.

Removed 'section 101 of the ITAA 1936' from the middle of the first sentence of the fifth paragraph and inserted reference to section 101 at the beginning. Inserted 'in whose favour the trustee exercises the trustee's discretion shall be deemed 'in between the words 'beneficiary' and 'to' in the first sentence of the fifth paragraph.

The words 'them' and 'their' have been replaced with 'the beneficiary' and 'the beneficiary's.' as gender-specific language was removed from section 101 of ITAA 1936 effective 27/06/2011 and replaced with the words 'beneficiary' and 'beneficiary's'.