Guide on Trust Funds – Part 18
Should trustees amend their existing trust deeds?
Much of the discussion in relation to the determination of trust income including the distribution of that income (whether steamed or otherwise) necessarily involve a consideration of the trust deed. Specifically trustees will look to the deed, for example, for guidance on:
- How the trust income is determined
- Whether gross capital gains can be included in trust income; and
- Whether capital gains and franked dividends can be streamed.
If the trust deed does not allow the trustee to achieve the result they are after, a question arises as to whether the deed should be amended. For example, should a streaming clause be added; or should added flexibility be provided to the trustee in determining the trust income. However, the need for such an amendment should be balanced with the risk of resettling the rusts.
The tax effects of resettling the trust
The tax effects of resettling the trust include:
- Unrealised capital gains will become taxable under either CGT event E1 or E2;
- Carried forward revenue and capital losses will be permanently lost.
Other possible effects may include:
- A balancing adjustment event will occur in relation to depreciable assets (refer to S.40 -295(1) and S.328-215(1) of the ITAA 1997);
- A disposal of trading stock otherwise than in the ordinary course of business will take place (refer to S.70-90 of the ITAA 1997);
- Time based write-offs may be lost (e.g., borrowing expenses, water conservation, lease surrender payments, software development pools and electricity and telephone connection.
Note, the ‘new’ trust would be able to continue to claim the Division 43 building write-off and the deduction is not limited to the entity that incurred the construction expenditure.
Amending the definition of income to include gross capital gains
Where a trust derives a capital gain and it wishes to stream that capital gain, it is generally preferable for the gross capital gain to be included in trust income. This will allow the trustee to stream the capital gain as part of its income distribution (and avoid the need to make a capital distribution).
Where the trust deed contains an income characterisation clause, the trustee will be able to include the gross capital gain in trust income which can then be streamed without the need to make a capital distribution.
Amending the deed to insert a streaming clause
Where a trust derives franked dividends and/or capital gains, an issue may arise as to whether the trust deed provides the trust with a power to stream these type of amounts.
Many modern trust deed contain an explicit streaming clause whereby the trustee can record income of different characters and distribute that income to one or more beneficiaries to the exclusion of other beneficiaries.
When the Tax Laws Amendment (2011 No. 5) Bill 2011 (‘Bill 5”) was released (this was the Bill that ensured that capital gains and franked dividends retained their character for tax purposes when they were streamed) the accompanying explanatory memorandum (‘EM’) made it clear that ‘streaming’ still had to permitted under the trust deed.