Split Asunder! – ATO update guidance on trust splits
On 13 December 2019, the Australian Taxation Office (ATO) released Taxation Determination TD 2019/14 (Determination), which addresses the question of whether, and how, a trust may be split.
Trust splitting refers to the creation of a new trust over assets formerly held by an original trust, resultantly triggering a disposal for capital gains tax (CGT) purposes and the occurrence of CGT event E1 under the Income Tax Assessment Act 1997 (Cth) (which could potentially result in a tax liability).
The creation of the new trust may result in a range of additional taxation problems, including with respect to, amongst other things, loss of pre-CGT status for assets, the treatment of trust losses, ability to pass through franking credits, the treatment of family trust elections, and the disposal of depreciable items and trading stock for income tax purposes.
The Determination was first issued as draft ruling TD 2018/D3, which failed to provide much needed certainty and clarity in relation to the implications of trust splits, as it:
only contained a single example;
noted that arrangements that would trigger the CGT event as a creation of a new trust would exhibit “all or most of” the features in the example (without noting which features and how many of those features are required);
did not address how arrangements implemented with variants of the example provided would be treated for tax purposes;
indicated that the ATO would deem the triggering of a CGT event based on an “expectation” as to what the two trustees will later do after the trust split; and
failed to address other CGT events that could be triggered on a trust split, including CGT events A1, E2 and E5.
While the Determination still contains many of those flaws, it provides a second example whereby changes made to the hypothetical trust do not result in the creation of a new trust.
The ATO distinguished the two examples, saying that the first example that triggers the creation of a new trust involves an arrangement that “puts in place a complete segregation of the obligations, powers and rights of the trustees attached to the different assets they respectively hold”, whereas in the second example, it “cannot be concluded that the assets transferred to [the new second trustee] have been subjected to new personal obligations and new rights annexed to that property.”
It is difficult to draw out those distinctions as the two examples address different fact scenarios. That is, example 2 refers to the trust being administered as one trust and the two trustees being required to work together in relation to:
selection of an accountant for preparation of the trust tax return;
incurring joint expenses;
amending the trust deed; and
determining an earlier vesting date for the trust.
However, the examples do not state that this is not how the trust in example 1 would be administered, save for an “expectation” that the trustees would operate independently due to the relationship breakdown between the siblings.
The only distinction beyond the expectation as to administration is that the right of indemnity (being the right of the trustee to be reimbursed for expenses incurred on behalf of the trust) remains in respect of all assets of the trust in example 2, whereas in example 1, there is an attempt to limit each trustee’s right of indemnity to the assets it holds on the terms of the trust.
The ATO also added further analysis with reference to the Full Federal Court decision in Aussiegolfa Pty Ltd (Trustee) v Commissioner of Taxation [2018] FCAFC 122 and the Supreme Court of South Australia decision in Dyda P/L & Anor v Commissioner of State Taxation [2013] SASC 156 to support their position in the final Determination.
Importantly, while the Determination leaves a lot of issues unresolved (including with regards to the above-named CGT events), the existence of example 2, which evidences the position that a trust split can occur in a succession planning context without triggering a CGT liability, provides significant comfort for those undertaking the more considered and careful trust splitting arrangements, notwithstanding that alternatives to limiting the right of indemnity will need to be considered in order to provide trustees with comfort in relation to asset protection.
The Determination requires careful reading for those looking to undertake a trust split as part of a succession planning exercise. If you have any questions or require help in this area, please contact a member of our team.
Rod Payne
Principal
T: 03 5226 8541
E: rpayne@ha.legal
Paul Gray
Principal
T: 03 5225 5231
E: pgray@ha.legal
