Assessable income: tax exempt beneficiary and reimbursement agreement

Is a trustee of a family trust liable to be assessed under section 99A of the Income Tax Assessment Act 1936 (ITAA 1936) as a consequence of the application of section 100A of the ITAA 1936, where trust income is distributed to a tax exempt beneficiary of the trust, in return for services provided by the tax exempt beneficiary to another beneficiary or an associate?

Yes. The trustee is liable to be assessed under section 99A of the ITAA 1936 where trust income is distributed to a tax exempt beneficiary of the family trust, pursuant to a reimbursement agreement as defined in section 100A of the ITAA 1936.

The family trust which derives its income exclusively from interest and dividends was established for the maintenance, education and advancement of family members.

The discretionary beneficiaries of the trust include family members and any school, college or university which the beneficiaries attend.

The trustee entered into an arrangement with a school attended by some of the family trust's beneficiaries.

The school agreed to accept distributions from the family trust in lieu of the equivalent annual fees and other educational costs payable to the school during the year of income.

The school is exempt from income tax under Item 1.4 of the Table in section 50-5 of the Income Tax Assessment Act 1997.

Section 100A of the ITAA 1936 provides that where a beneficiary of a trust estate who is not under a legal disability, is presently entitled to trust income, and that present entitlement is linked either directly or indirectly to a reimbursement agreement, the beneficiary is deemed not to be presently entitled to the income. Trust distributions which fall within section 100A of the ITAA 1936 are assessed to the trustee under section 99A of the ITAA 1936.

Subsection 100A(7) of the ITAA 1936 defines a reimbursement agreement to include, ...the payment of money or the transfer of property to, or the provision of services or other benefits for, a person or persons other than the beneficiary or the beneficiary and another person or persons.

Further, the term 'agreement' is defined in subsection 100A(13) of the ITAA 1936 to include any agreement, arrangement or understanding, whether formal or informal, express or implied, and either enforceable or unenforceable. However, the term does not include any agreement entered into in the course of ordinary family or commercial dealings.

In Federal Commissioner of Taxation v. Prestige Motors Pty Ltd (1998) 82 FCR 195; 98 ATC 4241; (1998) 38 ATR 568, the court said that the wording of the exclusion in subsection 100A(13) was derived from the judgment of Lord Denning in Newton & Ors v Federal Commissioner of Taxation(1958) 98 CLR 1; (1958) 11 ATD 442; (1958) 7 AITR 298, which referred to the application of section 260 of the ITAA 1936, as follows: In order to bring the arrangement within the section one must be able to predicate of it, by looking at the overt acts by which it was implemented, that it was implemented in that particular way so as to avoid tax. If one has to acknowledge that the transactions are capable of explanation by reference to ordinary business or family dealing, the arrangement does not come within the section.

In this case the school which provides educational services to family members has become presently entitled to trust income, arising from the agreement with the trustee to accept discretionary trust distributions, in lieu of payments for school fees and other educational expenses. It is considered that this arrangement goes beyond ordinary family or commercial dealings and is a reimbursement agreement as defined in subsection 100A(7) of the ITAA 1936.

However, the definition of a reimbursement agreement in subsection 100A(7) of the ITAA 1936 is also subject to a purpose test which is outlined in subsections 100A(8) and 100A(9) of the ITAA 1936. Those subsections require that one of the purposes for which the reimbursement agreement was entered into by any of the parties to the agreement, must be the reduction or elimination of a tax liability that would have existed had the reimbursement agreement not been entered into.

If no trust distributions had been made to the school under this arrangement, one or more of the family beneficiaries or the trustee would have been liable for tax on the total net income of the trust. Therefore, it is considered that the arrangement was entered into at least partly for the purpose of reducing the tax liability of family beneficiaries or the trustee.

Thus, it is concluded that the distribution by the trustee, of trust income to the school under the arrangement, was a consequence of a reimbursement agreement as defined.

Accordingly, section 100A of the ITAA 1936 will apply to the above arrangement and due to the operation of subsection 100A(4) of the ITAA 1936 the trustee will be assessed on the trust income distributed to the school under section 99A of the ITAA 1936.

Date of amendment Part Comment 30 January 2015 Facts Substitute reference to paragraph 23(e) ITAA 1936 to section 50-5 ITAA 1997 Reasons for Decision Correct quote from Lord Denning and citations Add reference to subsection 100A(4) in the last paragraph Legislative references Add reference to 100A(4) ITAA 1936 and 50-5 ITAA 1997 Case references Correct citations

Date of amendment | Part | Comment

30 January 2015 | Facts | Substitute reference to paragraph 23(e) ITAA 1936 to section 50-5 ITAA 1997

Reasons for Decision | Correct quote from Lord Denning and citations Add reference to subsection 100A(4) in the last paragraph

Legislative references | Add reference to 100A(4) ITAA 1936 and 50-5 ITAA 1997

Case references | Correct citations