ATO turns screws on popular trusts amid tax evasion claims
Complex trust structures are under renewed scrutiny as the tax office breathes new life into old anti-avoidance laws.
The $2.2 trillion trust sector is under growing scrutiny from the Australian Taxation Office amid concerns that as trusts become increasingly popular, they are being more blatantly used for tax manipulation by individuals and companies.
In the latest cases, involving allegations that arrangements with trusts and companies were being primarily used to avoid tax, the ATO has used anti-avoidance provisions to challenge discretionary distributions by trustees.
The federal government has provided additional funding for the ATO to extend its tax avoidance taskforce to scrutinise wealthy individuals for tax avoidance, Simon Letch
Peter Bobbin, a taxation and superannuation lawyer and consultant with Coleman Greig Lawyers, says: “The ATO has no problems with the reasonable use of discretionary trusts. But anything very complex where some steps are not explainable as ordinary is a problem.”
The ATO has recently launched two high-profile cases involving anti-avoidance measures under section 100A of the Tax Act using previously published rulings and statements about its application, according to tax specialists.
Trusts are the nation’s most used investment and business structures involving anything from a family will to multi-billion-dollar managed investments schemes owning major infrastructure and buildings.
There were more than 900,000 trusts with assets of around $2.2 trillion in the 2019-2020 tax year, according to the ATO, with beneficiaries ranging from the nation’s wealth families to most superannuation fund members. Of these, around 745,000 were discretionary trusts, with about 558,000 reporting assets of $836 billion in that financial year.
“The ATO is intent on breathing new life into anti-avoidance and is also applying other tax anti-avoidance rules that target contrived tax arrangements,” Bobbin says.
“Where appropriate, the ATO will argue that certain tax consequence circumstances are also a sham.”
The latest ATO case, Guardian AIT, and another awaiting an appeal decision, BBlood, both involve alleged anti-avoidance measures and trust distributions that have the sole or dominant purpose of avoiding tax.
The Guardian case involves a “washing machine” arrangement where a trust earns income, distributes it to a beneficiary company in which it owns shares and the income is then returned to the trust as a dividend.
Frank Hinoporos, head of tax at legal firm Hall and Wilcox, says this trust structure made it likely to land in the ATO’s “red zone”, which means it would be closely reviewed because of suspicions that it was intended to unlawfully reduce tax, or that an individual or entity other than the beneficiary was gaining advantage.
The ATO lost the case because there was no evidence of an agreement between the trust and the company that any dividends from the company would return to the trust, despite this happening.
Hinoporos says the court scrutinised advice and recommendations that the taxpayer received from his accountant in connection with the making of distributions as part of year-end tax planning.
He adds: “The outcome in any case involving tax avoidance will depend very much on the facts. This should not be interpreted as a blanket sanction to arrangements like this. So be cautious.”
Mark Molesworth, a tax partner at global consultancy BDO, adds: “An adviser’s intention cannot be imputed to the client unless the client knows of that intention. That is contrary to the ATO’s recently finalised guidance.”
Molesworth says the ATO will need to “rethink and redraft” recently issued guidance on section 100A.
He says: “Unfortunately there is no clear guidance available to trustees concerning the application of the anti-avoidance provisions to the discretionary distributions. Ordinary Australian taxpayers who use discretionary trusts need clearer guidelines on what is acceptable and what is not.”
In Bblood, the ATO successfully argued that section 100A applied because the trust’s structure was too complex to be explainable as “an ordinary commercial or family dealing”. The case is under appeal.
The ATO declined to comment on both cases. But the federal government has provided additional funding for the ATO to extend its tax avoidance taskforce to scrutinise wealthy individuals and private groups for tax avoidance and non-compliance.
Tax investigators can dive deep into a trust’s payments as far back as necessary, rather than being restricted by the current limit of two or four years.
Trusts are popular with families wanting tax-effective structures to hold and manage their assets, including small businesses. They can be set up by a person or couple, who are usually the trustees, to hold assets for their children and other descendants.
The growing use of trusts for estate planning also came under recent court review.
The third high-profile case involves the role of trustees in popular family trusts after a landmark decision found that a trustee of a $23 million fund set up by ageing parents had failed to show “real and genuine consideration for two of their children”. The decision challenged what trustees should consider when making distributions, how they communicate that decision to beneficiaries and possible avenues for aggrieved beneficiaries to challenge their decisions.
Tax specialists claim the lessons for trustees from the most recent cases include:
