Trust crackdown fails to address any real mischief

WHO SHOULD READ THIS

• Anyone with an interest in a non-fixed trust and financial advisors.

THINGS YOU NEED TO KNOW

• Labor has proposed a new tax on non-fixed trust distributions at a flat rate of 30%.

WHAT YOU NEED TO DO

• Consider how that proposed tax might affect the operation of a non-fixed trust.

How trusts ought to be taxed and in particular the income derived by them has resurfaced as a consequence of Labor’s announcements in dealing with perceived inequalities delivered by these structures. Unless you are a ‘farmer’, it would seem that where you have a non-fixed trust in your group you are likely to be categorised as a high net worth tax avoider who is not paying their fair share. To nip this perceived inequality in the bud the proposition put forward by Labor, very broadly, is to tax trust distributions at a flat rate of 30%.

Why, you may ask? It seems unreasonable that a family receiving distributions of income from a non-fixed trust should not benefit from an adult taxpayer’s tax free threshold multiple times. Some of the reasons that may be behind this drive are:

• taxpayers earning a wage are not afforded such flexibility so it should be denied to all
• the fallacy that if you are in business then the corporate rate of tax should be enough – given the recent raft of changes adjusting the corporate rate of tax for small business to less than 30% means this is not true, and
• income needs to be attributable to someone, somewhere without the benefit of ‘running it through’ anywhere.

The ongoing frustration with this type of thinking is the glaring omission to distinguish between the two types of income generally able to be derived at law. That is, income derived as a reward for personal effort and income derived by ownership of property. You cannot change who derives the former (typically an employee) but you can with the latter by changing the ownership of the property from which the income is derived. If the property is owned in a non-fixed trust, then the trustee can appoint that income amongst the beneficiaries as it sees fit and, if in a company, then the directors have the discretion whether or not to pay a dividend and in some cases, which of the shareholders a dividend will be paid to.

This distinction is well settled at law and arguments for income derived from property held in a trust or partnership having to be attributed to particular individuals, regardless of distribution (in the case of a trust) or ownership of the partnership interest (in the case of a partnership) have previously been refused by the Australian courts.

However, it appears that these distinctions are lost in the current debate, which is disappointing given that some of our policymakers had careers in private practice in a past life. It is important to appreciate that the distinction is a clear one at law but also very clear commercially.

A person rewarded for their personal effort is being rewarded just for that. They turn up when told, they perform the duties they are told and with all things being equal if they continue to do those things they will continue to be rewarded on that basis.

Income derived from property is not so easy to derive. It requires a degree of appetite for risk and commercial acumen to bring any number of variables and circumstances to a point that produces an income that exceeds associated expenses. The two are different in law and are different commercially and the current tax treatment reflects those differences.

It is difficult to understand what mischief is being remedied by having all trust distributions taxed at a minimum of 30%. Income derived from personal exertion, even if derived through a trust structure, will always be the income of the person performing the work and not able to be ‘split’ for taxation purposes. Alternatively, where distributions of income derived from trust property are made to family members in circumstances where it was never intended that they would see the benefit of those distributions (i.e., for predominantly tax purposes), the ATO has the power under the tax legislation to address such strategies.

For other individual beneficiaries, how is treating the income that they are entitled to receive in the same manner as every other personal taxpayer, a rip-off of some sort or a rort against the system? One could be forgiven for thinking that the intention is to introduce a tax hike, disguised as a crack down.

Tax reform is required but it needs to be done on a broad and efficient basis and not with knee jerk reactions and easy band aid solutions that continue to surface. Most importantly, such a review should be undertaken with knowledge of what the law currently provides and why and perhaps involving that part of the community that can shed light on its history, its deficiencies and bring meaningful, effective solutions to the table.

This publication covers legal and technical issues in a general way. It is not designed to express opinions on specific cases. It is intended for information purposes only and should not be regarded as legal advice. Further advice should be obtained before taking action on any issue dealt with in this publication.