Filling your (financial) bucket: The role of Bucket Companies in modern-day tax planning
It is sometimes said that ‘the rich get richer and the poor get poorer’. While this article won’t be delving into that particular ethical quandary, it is often of value to consider your financial and personal matters from a tax planning perspective, to ensure you are taking advantage of any passive wealth creation opportunities – including those that may be inherent in the way you choose to structure your business and/or investments.
Below is an overview of the role of the corporate beneficiary or ‘bucket company’ in investment structures.
Income splitting is a thing of the past
The wealth creation structure of choice for ‘everyday’ individuals and families used to be, almost exclusively, the family trust. However, what is commonly known as ‘income splitting’ (ie the practice of taking income earned by a person on a high marginal tax rate and allocating all, or a portion, of that income to an individual beneficiary on a lower marginal tax rate), is no longer a permitted tax planning strategy due to anti-avoidance measures including:
(a) the introduction of penalty tax rates (currently 45%) on ‘unearned/non-excepted income’ of minors (aged under 18 years) over a certain amount (currently $417);
(b) rules relating to personal services income; and
(c) the general anti-avoidance provisions set out in Part IVA of the Income Tax Assessment Act 1936 (Cth) (ITAA 1936).
The use of a corporate beneficiary to receive distributions from a family trust is not to be confused with income splitting – the two issues are conceptually different in material ways from an anti-avoidance perspective. However, there are ‘pressure points’ to consider prior to using a corporate beneficiary as part of an overall tax planning strategy.
Whether the corporate beneficiary is part of a long-term family investment structure or a larger privately-owned corporate group, the differential between Australia’s corporate tax rate (currently 30% for passive investment companies) and the highest individual marginal tax rate (currently 45%) remains the same (approximately 15% or $15,000 on a $100,000 trust distribution). This differential provides an opportunity to defer the taxing point for the relevant individual(s) who, in broad terms, are to benefit from the trust, until the time at which, in general, the corporate beneficiary declares a future dividend.
Individuals may also access the funds distributed to the corporate beneficiary by entering into a loan with the trust that complies with Division 7A of the ITAA 1936 (eg meets the minimum interest rate, minimum interest and principal repayments and loan term requirements).
Utilisation of carried-forward losses
Subject to meeting the rules that govern the availability of carried-forward losses (eg continuity of ownership test), it may be possible for a trust to distribute income to a corporate beneficiary and for that corporate beneficiary to use retained losses resulting in an offset and no tax liability at the corporate level.
The following issues should be considered before implementing a corporate beneficiary:
- the tax rate differential generally applies to the distribution by the trust of ordinary income only (the streaming of capital gains to a corporate beneficiary may not be advisable due to the mechanics of applying the 50% CGT discount and its unavailability to corporates);
- the rules that apply to personal services income may apply to distributions from a business trust that generates income from the personal skills and exertion of an individual who is a trust beneficiary;
- any financial accommodation provided by the corporate beneficiary to an associate (including a trust beneficiary) must be subject to a Division 7A-compliant loan agreement;
- unpaid present entitlements owed by a trust to a corporate beneficiary may trigger Division 7A of the ITAA 1936; and
- the corporate beneficiary must be a ‘beneficiary’ under the terms of the trust deed (this is not automatic and a trust deed variation may be required).
A corporate beneficiary is an entry-level tax planning strategy that is within reach for many ‘everyday’ investors. A high-level understanding of the framework that regulates the nature and extent of a corporate beneficiary’s activities will assist in determining what it may (or may not) be able to offer you as a tax planning strategy.
If you have any questions about this article, please get in touch with the author or any member of our Tax team(s).
This information and the 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.