What happened?
You may have seen that the ATO recently lost the Bendel case in the Full Federal Court (after it appealed a decision it also lost in the appeals tribunal). This has brought into question an ATO ruling from 2010 that taxpayers have, for the most part, complied with for the last 15 years. If it is found the ATO was incorrect in their interpretation of the law in their 2010 ruling, it may mean taxpayers have potentially been arranging their affairs in such a way that they paid ‘top up’ tax unnecessarily. This ruling has also driven a change in the way many new small businesses have been structured over the past five to ten years.
Division 7A can be complex at the best of times, but put simply, the ATO ruling determined that where a trust makes a distribution of profit to a company, and the cash is not subsequently paid across to the company, what is commonly known as ‘Division 7A’ would be triggered. As a result, many trusts didn’t distribute to a company, instead distributing profit to individuals where a higher tax rate was paid. For trusts that did distribute to a company it meant they had to either pay the cash from the trust to the company within a certain timeframe, or enter into a complying loan agreement between the company and the trust – which had its own tax effects in following years.
If a taxpayer didn’t follow these rules, then the ATO ruling meant that the unpaid entitlement would be considered a deemed dividend (which effectively results in the entitlement being assessed as income with no accompanying franking credit, even though the company has paid the tax). Bendel disputed the ATO’s ruling and was successful – a unanimous decision by the Full Federal Court found the approach taken by the ATO in their longstanding ruling was not what the government had intended in legislating.
What will happen now?
The ATO has applied for special leave to appeal the decision to the High Court. They have also issued a Decision Impact Statement noting that their position has not changed. They have also suggested that if this section does not apply, another section, known as 100A may instead apply to these distributions.
We expect to find out relatively soon whether their application for special leave is accepted. If they are successful, it will likely be some time before the issue is resolved as we wait for the result of the High Court case. However, if the ATO is not successful in their application, it appears the only way for the ATO to get certainty in the result they want is to appeal to Government to legislate. With a federal election looming this seems unlikely, at least in the short term.
Am I affected by this?
For clients of Grenfell Murray, like the vast majority of tax agents, the ATO’s ruling has been applied for the last 15 years to ensure trusts were not subject to hefty penalties, interest and ATO scrutiny. As a result, most trusts would not have been in a position where a deemed dividend was triggered. Instead, they generally entered into Division 7A complying loans, or distributed income to individuals. As a result, these past distributions will be unaffected regardless of the outcome.
However, if your trust retained the cash, or could do so if the opportunity arose, you may be affected by this decision. It may mean that in future years you could benefit from distributing to a company and accessing the lower company tax rate.
What should I do?
We meet or speak to most of our clients with trusts between April and June each year to consider the trust distribution that must be made annually, and prior to 30 June. If your trust retained the cash, or could do so if the opportunity arose, we will discuss your options with you at that time.
Please reach out to us if you have any questions or concerns in relation to this significant case.
Disclaimer
The content provided in this article is for informational purposes only and does not constitute legal or financial advice. While we strive to ensure accuracy, we recommend that readers consult with an appropriate specialist for professional guidance specific to their individual circumstances. The information presented here may not cover all aspects of the employment regulations or tax implications. It is essential to conduct further research and consider seeking personalised advice before making any decisions related to your workers. Grenfell Murray Pty Ltd disclaims any liability arising from reliance on the information contained in this article. Readers should exercise due diligence and verify details independently.
