Commissioner’s draft guidance on section 100A
The ATO has recently released its draft guidance on its interpretation and how it proposes to administer section 100A of the Income Tax Assessment Act 1936. In particular, the ATO has released a draft ruling, a draft practical compliance guidance (PCG), and a taxpayer alert.
The form of the guidance
Before getting into the specifics about section 100A and the guidance, it is worth quickly explaining these ATO documents. A tax ruling, once finalised, binds the Commissioner so that provided a taxpayer relies on a favourable position, even if incorrect, the Commissioner is bound to that interpretation.
A practical compliance guidance (PCG) on the other hand is not legally binding on the Commissioner, but the ATO does specify that if you follow the guidance in good faith, the Commissioner will administer the law in accordance with the PCG. The ATO’s reputation and limited resources should provide taxpayers with confidence that it is unlikely the Commissioner would renege, but if there are concerns, you can always apply for a private ruling.
A taxpayer alert is an ATO communication or warning putting taxpayers on notice as to what the ATO is targeting to discourage taxpayers from entering into such arrangements and encouraging those who have to voluntarily disclose. Failing to disclose and entering into an arrangement the subject of an alert is likely to receive harsh treatment in terms of penalties. Tax agents can also be referred to the Tax Practitioners Board if advocating that a client pursue an arrangement which falls foul of an alert, with the prospect of facing serious promoter penalties.
Section 100A was introduced in the late 1970s as an anti-avoidance measure targeting trust distributions. Unlike other areas of the tax law that usually provide the Commissioner with four years (sometimes two years), section 100A has an unlimited period of review. The terms of section 100A are broad and there are minimal judicial precedents on it. The Commissioner has been increasingly relying on section 100A since 2010, is looking for test cases and now provides his long-awaited draft guidance. It is somewhat surprising that the guidance has been issued prior to running a test case and prior to the outcome of an appeal following an unfavourable court ruling (favourable for the taxpayer).
Broadly, section 100A will apply where pursuant to a ‘reimbursement agreement’:
- a trustee makes a beneficiary presently entitled to income (and so in the absence of s 100A, that beneficiary would be liable to tax on that income) but that beneficiary is not paid that amount;
- a person other than that beneficiary benefits from that income;
- less tax is imposed than if the other person was made presently entitled to and taxed on that income;
- a purpose of the agreement was to reduce tax for the person other than the beneficiary who was made presently entitled to the income (and like the general anti-avoidance provisions, this is answered by reference to the ‘counterfactual’ or ‘alternative postulate’);
- the agreement was not entered into in the course of an ordinary family or commercial dealing – and in the draft guidance, the Commissioner seems to be adopting a narrow view of these terms.
The PCG provides a risk matrix with a white, green, blue and red zone. White and green are low risk, blue is medium and red is high. Low risk will generally not be subject to ATO compliance activity, medium “may be” and high “will be”. The guidance gives examples of what arrangements fall into each zone.
High risk arrangements involve elements such as where the beneficiary who is made to be presently entitled to income:
- lends or gifts the amounts to another party;
- is issued with units and the amount owed on that issuance is set off against their present entitlement;
- is assessed on amounts much higher than their entitlement;
- has losses that can be used to offset the present entitlement; or
- otherwise falls within the taxpayer alert or examples within the PCG or draft ruling – which is basically where adult children are made to be presently entitled but the parents actually receive the benefit in circumstances where the parents have a higher tax rate than the children (or some variation of that theme).
The guidance is proposed to apply prospectively and retrospectively. But for trust entitlements created prior to 1 July 2022, the ATO will stand by its prior administrative guidance published on the website in 2014 to the extent that guidance is specific enough to apply to the facts in question.
The Federal Court – Guardian
As alluded to above, the Commissioner recently lost a decision in the Federal Court on section 100A before Justice Logan but has appealed. The outcome of that appeal may require an adjustment to the guidance and presumably the Commissioner will wait for that appeal to be determined prior to finalising the guidance.
Very broadly, in that case, a trustee of a trust (Guardian) created an unpaid present entitlement or UPE in favour of the corporate beneficiary by appointing income to that corporate beneficiary without paying it out. That corporate beneficiary was also a wholly owned subsidiary of the trustee of the trust and resolved to pay a dividend up to the trustee of the trust. The trustee’s entitlement to a dividend was used to cancel the UPE owing to the corporate beneficiary. The trustee then paid the proceeds of that dividend as a franked distribution to a non-resident beneficiary. As it was franked, there was no further withholding tax imposed on the trustee. The Commissioner sought to apply s 100A but Justice Logan found that:
- there was no agreement in existence between the non-resident and trustee prior to making the corporate beneficiary presently entitled;
- if there was an agreement, it was an ordinary family or commercial dealing because ‘ordinary’ is used in contradistinction to ‘extraordinary’ and there was nothing extraordinary in using a corporate beneficiary (and neither was there any artificiality);
- there was no requisite purpose to reduce tax.
The Commissioner is appealing to the Full Court but did not let this adverse decision slow down the issuance of the draft guidance.
All arrangements should be reviewed to identify what zone they fall into.
Anything in the high-risk zone should be brought to an end, or at the very least, advice should be sought.
Going forward, it will be important to consider arrangements carefully to ensure they are structured and implemented in a way that does not fall within the high risk or even medium risk zones outlined in the guidance. Arrangements where a dividend payable from a corporate beneficiary to the trustee is set off against an unpaid present entitlement (UPE) is a blue (medium risk) zone feature and should be carefully monitored and considered against the examples within the guidance. Additionally, the outcome of the appeal to the Full Federal Court should also be closely monitored.
Through this draft guidance, the commissioner is saying: just because things have been done one way for a while without being actively challenged does not mean it is ok anymore. Family trusts cannot automatically income split between family members.
 Or if paid, loans it or pays it out to someone else.
For further information regarding the above, please contact the author, or any member of our Tax team.
This information and contents of this publication, current as at the date of publication, is general in nature to offer assistance to Cornwalls’ clients, prospective clients and stakeholders and is for reference purposes only. It does not constitute legal or financial advice. If you are concerned about any topic covered, we recommend that you seek your own specific legal and financial advice before taking any action.