Clarifying Tax Implications for Trust Distributions

The Australian Taxation Office (ATO) has recently released a Draft Taxation Determination, TD 2024/D2, that aims to clarify the application of the exceptions under section 99B of the Income Tax Assessment Act 1936 (ITAA 1936). This draft determination provides crucial guidance on how certain amounts of trust property distributed to Australian resident beneficiaries may be taxed. If you are a trustee or a beneficiary of a trust, especially one with international connections, while this determination is still in draft it sets out the Commissioner’s view with regards to the application of 99B.

What is Section 99B?

Section 99B of the ITAA 1936 is a key provision that requires resident beneficiaries to include in their assessable income any amounts of trust property paid to them or applied for their benefit. However, there are exceptions under subsection 99B(2) that can exclude certain amounts from being taxed. These exceptions are particularly relevant when dealing with international trusts or trusts that hold assets outside Australia.

The Hypothetical Resident Taxpayer Test

At the core of TD 2024/D2 is the concept of the “hypothetical resident taxpayer test.” This concept is applied to determine whether certain exceptions under paragraphs 99B(2)(a) and 99B(2)(b) can be invoked.

Characteristics of the Hypothetical Taxpayer: The ATO clarifies that the only characteristic that should be considered for the hypothetical taxpayer is their Australian residency. This means the hypothetical taxpayer is assumed to be an Australian resident, and no other characteristics, such as their income level, occupation, or specific tax concessions, are relevant.

Circumstances of Derivation: The determination emphasises that when applying the hypothetical resident taxpayer test, the circumstances that led to the derivation of the amount by the trust must be considered. For example, if a non-resident trust sells an asset, the capital gain or loss, as it would apply to an Australian resident, must be considered when determining the tax treatment of the distributed amount.

Source of the Amount: The ultimate source of the amount distributed is also a critical factor. For instance, if a trust acquires a CGT asset using previously untaxed income, the distribution may still be taxable in Australia, depending on the source of the funds used for the acquisition.

Submissions of comments were due by 28 August 2024 and thereafter we expect the ATO to finalise the TD. While we await the finalisation of this TD, the Commissioner has confirmed that if a taxpayer deems the draft TD to apply to their particular circumstances, they will not be penalised if the draft TD turns out to be incorrect.