The Australian Taxation Office releases new guidance material that targets how trusts distribute income. 

Many family groups are set to pay higher taxes (now and potentially retrospectively) as a result of the ATO’s new approach.

This tax legislation contains an integrity rule, section 100A, which is aimed at situations where the income of a trust is appointed in favour of a beneficiary but the economic benefit of the distribution is provided to another individual or entity. If trust distributions are caught by section 100A, then this generally results in the trustee being taxed at penalty rates rather than the beneficiary being taxed at their own marginal tax rates.

ATO redraws the boundaries

The ATO’s latest guidance suggests that the ATO is now willing to use section 100A to attack a wider range of scenarios. For example, the ATO suggests that section 100A could apply to some situations where a child gifts money that is attributable to a family trust distribution to their parents

The ATO’s guidance sets out four ‘risk zones’ – referred to as the white, green, blue and red zones. The risk zone for a particular arrangement will determine the ATO’s response. So let’s delve into these ‘risk zones’.

White zone

Aimed at pre-1 July 2014 arrangements, the ATO will not look into these unless it is part of an ongoing investigation, for arrangements that continue after this date, or where the trust and beneficiaries failed to lodge tax returns by 1 July 2017.

Green zone

Deemed low-risk arrangements and unlikely to be reviewed, ATO suggests that when a trust appoints income to an individual but the funds are paid into a joint bank account that the individual holds with their spouse then this would ordinarily be a low-risk scenario. Or, where parents pay for the deposit on an adult child’s mortgage using their trust distribution and this is a one-off arrangement.

Blue zone

Akin to a default zone, the blue zone covers arrangements that don’t fall within one of the other risk zones. Scenarios may include instances where funds are retained by the trustee, but the arrangement doesn’t fall within the scope of the specific scenarios covered in the green zone.

Red zone

Red zone arrangements will be reviewed in detail. These are arrangements the ATO suspects are designed to deliberately reduce tax, or where an individual or entity other than the beneficiary is benefiting. These may include arrangements where an adult child’s entitlement to trust income is paid to a parent or other caregiver to reimburse them for expenses incurred before the adult child turned 18. Or, where a loan (debit balance account) is provided by the trust to the adult child for expenses they incurred before they were 18 and the entitlement is used to pay off the loan.

Could you be impacted? 

The ATO’s updated guidance focuses primarily on distributions made to adult children, corporate beneficiaries, and entities with losses. However, it is important to remember that section 100A is not confined to these situations. For those with discretionary trusts, it is important to ensure that all trust distribution arrangements are reviewed and to ensure that appropriate documentation is in place.

The new guidance represents a significant departure from the ATO’s previous position, but, unlike the guidance on section 100A, these changes will only apply to trust entitlements arising on or after 1 July 2022.

We will contact clients who might be impacted by the incoming guidance. If you are concerned about your position, please contact us.