Transcript Air Pocket Sessions

Division 7A just got Scarier!
Tim Olynyk
Taxation Partner
Banks Group Pty Ltd
16/12/2009
2
Relevant Documents
1.
TR 2009/D8
2.
TR 2010/3
3.
PSLA 3362 (draft)
WATCH THIS SPACE!
3
ATO View (Historically)

The ATO had always accepted that a UPE was
not a loan.

Separate set of rules were introduced (109UB
and then Subdivision EA) that related specifically
to UPEs’.
4
ATO View

The ATO are (NOW) of the view that in most
instances, UPE’s outstanding to a related party
corporate beneficiary will be re-characterised as
loans.

Why?
 ATO are of the view that a UPE is a form of
financial accommodation.
5
UPE’s created pre – 16 December 2009

Change in position from draft ruling.

The ATO has allowed taxpayers to quarantine pre – 16
December 2009 UPE’s provided the UPE has not
already been converted into a loan.

Accounting treatment of UPE’s is critical to ensure UPE
is not converted to a loan.
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UPE’s created pre – 16 December 2009


When will a UPE have already been converted
into a loan?
Express or implied loan agreement
 Terms of written agreement, terms of Trust
Deed or terms of Resolution Minute are forms
of Express Agreement.
 Accounting Treatment is a form of Implied
Agreement
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UPE’s created pre – 16 December 2009
IMPORTANT


Does the Trust Deed facilitate the trustee
“setting aside” income for beneficiaries?
MOST should but worth checking.
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UPE’s created pre – 16 December 2009


If terms of Trust Deed allow Trustee to pay apply
or set aside income and there is evidence from
the resolution that moneys have been set aside
for the benefit of the beneficiary, this will
represent a UPE rather than a loan – even if
incorrect accounting treatment.
If Resolution is not specific, could open up the
door if accounting treatment is wrong.
9
UPE’s created pre – 16 December 2009

If the UPE is recognised in the liability section of
the trust, it is critical that it be correctly
disclosed as a UPE rather than as a loan (time
to review accounts for disclosure errors!)

Recognition of UPE in Equity section of trust’s
accounts (as a sub-trust) is the ideal but not a
requirement for pre – 16 December 2009 UPE’s.
10
UPE’s created pre – 16 December 2009

Refer Example 1
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UPE’s created pre – 16 December 2009

EXAMPLE 1
 Clause 3 allows trust to “set-aside” income.
 Trust Resolution is silent as to whether
distribution is a UPE or a loan.
 Accounts refer to UPE as a loan.
 Therefore, UPE will be considered to be a
loan under Division 7A.
12
UPE’s created on or after 16 December 2009

Section 109D(3)(b) provides that for the
purposes of Division 7A, a loan includes the
provision of credit or any other form of financial
accommodation.

The ATO are hanging their hat on a UPE being a
form of financial accommodation and thus a
loan.
13
UPE’s created on or after 16 December 2009

ATO acknowledge that a UPE will not represent
a form of financial accommodation where certain
steps are followed:
 There is agreement that the UPE will be held
for the absolute benefit of beneficiary (i.e.
held on sub-trust); and
 There is agreement that a rate of return will
be provided on UPE.
14
UPE’s created on or after 16 December 2009

Terms of UPE need to be agreed between trust
and corporate beneficiary. Para 58 of PSLA
3362 specifies that the agreement must be
evidenced by the end of the year following the
one in which the UPE is first created. Sample
agreement is contained in paragraph 145 of
PSLA 3362.
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UPE’s created on or after 16 December 2009
Paragraph 145 of PSLA 3362 says:
“On 31 July 2010 the Tin Pty Ltd sub-trust invested
$10,000 in the Green Discretionary Trust. Green
Discretionary Trust to pay to the Tin Pty Ltd sub-trust all
the income derived from the $10,000 investment,
payable by the end of each financial year during which
the investment remains in place. The investment is
repayable in full on demand. Annual return on the
$10,000 will be equal to the percentage of the trust net
income calculated using option 2 outlined in paragraphs
51 to 53 of Draft PSLA 3362”.

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CRITICAL
DAY
Resolution
Year End
30/06/2010
Finalised
31/08/2010
Need to ensure:
Year End
Year End
30/06/2011
30/06/2012
First “return” required to be paid
- recognised as sub-trust
- terms of UPE documented
17
UPE’s created on or after 16 December 2009

Corporate Beneficiary needs to receive a
commercial rate of return on the investment.

UPE can either be invested by trust separately
(eg separate bank account) or blended into the
working capital of the trust.
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UPE’s created on or after 16 December 2009


If UPE is invested in a separate bank account,
the corporate beneficiary will be required to
receive all returns of income and capital relating
to the bank account.
If UPE is invested in a separate asset, the
corporate beneficiary will be required to receive
all returns of income or capital relating to the
asset.
19
UPE’s created on or after 16 December 2009

If UPE is blended into the working capital of the
trust, there are 2 options the trust has to
determine a suitable rate of return:
 Division 7A benchmark interest rate option; or
 % share of Net Income option.
20
UPE’s created on or after 16 December 2009

Division 7A benchmark interest rate formula:
UPE * Benchmark Rate * Days invested
21
UPE’s created on or after 16 December 2009

Benchmark interest rate option:
 Based on prevailing Division 7A interest rate
 UPE needs to be repaid within 7 years; and
 Doesn’t matter how and when paid off.

No need for Division 7A loan agreement.
22
UPE’s created on or after 16 December 2009

Benchmark interest rate option.
 Return will be assessable to Corporate
Beneficiary as interest; and
 Interest SHOULD be deductible to trust.
23
UPE’s created on or after 16 December 2009

% Share of Net Income formula
UPE
* Net Income * Days Invested
Gross Commercial Assets
24
UPE’s created on or after 16 December 2009

It appears that it doesn’t need to be repaid at the
end of 7 years.

The higher the net income of the main trust, the
higher the return to the corporate beneficiary.
Conversely, if no net income, no return required.
25
UPE’s created on or after 16 December 2009

% Share of Net Income option
 In effect, the corporate beneficiary will be
receiving a cut of the overall net income of the
trust.
 Distribution is not deductible to trust.
26
UPE’s created on or after 16 December 2009

Refer Example 2
27
UPE’s created on or after 16 December 2009

Example 2
 Correct sub-trust has been created.
 Assume book value of assets equals market
value of assets.
 Documentation creating sub-trust was created
on 31 July 2010.
 Benchmark return for 2011 year based on 335
days.
28
UPE’s created on or after 16 December 2009

IMPORTANT - returns must actually be paid
each year to the corporate beneficiary.
Otherwise unpaid return will represent a loan
from sub-trust to main trust and could be subject
to Subdivision EA.
29
UPE’s created on or after 16 December 2009

It appears that the first full year return only
needs to be paid two years after which UPE first
created.

For 2010 UPE’s documented on 30 June 2011:
 2011 return based on 1/365 calculation.
 2012 onwards based on 365/365 calculation.
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UPE’s created on or after 16 December 2009

If ATO are of the view that the UPE is a loan (eg
not accounted for correctly or not documented
correctly), the UPE will be a deemed dividend if
not repaid / put on commercial loan terms by
lodgement due date of corporate beneficiary.
31
Lodgement
due date of
2011 ITR
30/06/2010
30/06/2011
30/06/2012
32
UPE’s created on or after 16 December 2009


If no NDS in corporate beneficiary, may be
preferable for UPE to be re-characterised as a
loan (as amount of deemed dividend will be nil).
Loan could subsequently be forgiven subject to
application of CDF rules.
33
Concluding Comments




Ensure Trust Deed permits holding of funds as
UPE.
Need to account for UPE’s correctly.
Quarantine pre – 16 December 2009 UPE’s as
no rate of return needs to be paid on these.
For UPE’s created on or after 16 December
2009, will need to document agreements and
start paying a rate of return.
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Concluding Comments (cont)




If the return is not actually paid, Subdivision EA
can apply.
UPE’s still better than loans because of timing.
In some instances, it may be preferred that the
UPE is re-characterised as a loan.
WATCH THIS SPACE!!!!!!!!!!!!!!!!!!!!!!!!!!!!!
35
Value adding opportunities



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Review of prior year accounts for pre 16
December 2009 UPE’s.
Review of Trust Deeds.
Drafting of written agreements.
Valuations.
Calculation of returns.
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QUESTIONS
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