Trust Income Streaming

In this episode Paul Mackenroth of Cleary Hoare in Brisbane will walk you through the ins and outs of trust income streaming. Here is what we learned from our talk with Paul.

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Trust Deed

Legislation doesn’t give the trustee the power to stream. It is the trust deed that does or doesn’t. So if the trust deed doesn’t, then the trustee can’t. To fix this there is no other option but to do a Deed of Variation.

ITAA 97

Subdiv 115-C ITAA97 covers the streaming of capital gains. Subdiv 207-B ITAA97 covers the streaming of franked dividends. Division 6E covers the allocation of the remaining balance of trust income.

Key Terms

The question for streaming is who has a specific entitlement to receive a net financial benefit. Or if not to receive, then there is at least a reasonable expectation to receive.

There are three key terms here: Specific entitlement – Receive or reasonably be expected to receive – Net financial benefit

Specific Entitlement

To stream a capital gain or franked dividend, the beneficiary must have a specific entitlement to that capital gain or franked dividend.

To make a beneficiary specifically entitled, the beneficiary must receive, or reasonably be expected to receive, an amount equal to the net financial benefit. The net financial benefit is the capital gain or franked distribution.

To achieve a specific entitlement, the trustee must record the specific entitlement in its character as such in the accounts or records of the trust.

Receive or Reasonably Be Expected to Receive

The beneficiary must receive an amount equal to their share of the net financial benefit. Or reasonably be expected to receive that amount.

This does not require an equitable tracing. It can be expressed as a formula even though the result of the formula is calculated later.

‘Receive’ means a payment, distribution or credit to the beneficiary.

‘Reasonably be expected to receive’ means a present entitlement set aside exclusively for the beneficiary as a vested and indefeasible interest. This is to cover situations where the exchange of contract happens in one year and settlement in the next.

Net Financial Benefit

The net financial benefit is the financial benefit or actual proceeds of the trust reduced by the trust’s losses or expenses.

For a capital gain the net financial benefit is the trust proceeds less any losses or expenses.

A trust might make a capital gain of $1m from the sale of an asset. When the trust then applies a previous capital loss of $500,000, the net financial benefit is $500,000. The trustee might then stream this net financial benefit to a particular beneficiary. Let’s call him Peter.

For a franked distribution the net financial benefit is the amount of franked distributions less directly related expenses. But it does not apply to gains from the market value substitution rule.

Recorded in its Character

The trustee must record the specific entitlement to the net financial benefit in the accounts or records of the trust.

And they must do this in the trust deed, in trust resolutions and also in the distribution statements. Just recording it in the trust annual return is not enough.

Timing of Resolutions

For the streaming of dividends the trust resolution needs to take place by the end of the income year.

To stream capital gains the trustee has two additional months. For capital gains the trust resolution only needs to take place within two months of the end of the income year.

But it all depends on the deed. If the deed stipulates an earlier date, that is the date.

When Things Go Wrong

What happens when you get the trust resolutions wrong? Let’s say the resolution is too late or no record or bad wording. In that case you might have a beneficiary not specifically entitled or only partially specifically entitled.

The relevant amounts will then flow proportionally to all beneficiaries. But not proportionally in accordance with their share of trust income. But proportionally based on their “adjusted Div 6 percentage”. So you need to calculate a new adjusted Div 6 percentage.

Adjusted Division 6 Percentage

You calculate the adjusted Division 6 percentage by calculating numerator / denominator.

The numerator is the beneficiary’s share of present entitlement to trust income excluding any specific entitlements to capital gains or franked dividends that the beneficiary may have.

The denominator is the total of trust income excluding any specific entitlements any beneficiary might have to capital gains or franked distributions.

So the numerator is about the individual beneficiary’s share of trust income. The denominator is about the total of trust income.

Effective Resolution

The deed dictates what the trustee can or can’t do. So to make an effective resolution to stream trust income, read the deed. This is the most important step. Identify the definition of income, the character of income and the power of trustee under the deed. And determine which beneficiaries can receive trust income.

MORE

Taxation of Trusts Div 6 ITAA36

Family Trust Elections

Trust Structure

Disclaimer: Tax Talks does not provide financial or tax advice. This applies to these show notes as well as the actual podcast interview. All information on Tax Talks is provided for entertainment purposes only and might no longer be up to date. You should seek professional accredited tax and financial advice when considering whether the information is suitable to your or your client’s personal circumstances.

Last Updated on 04 May 2020

Tax Talks spoke to Paul Mackenroth - Senior Associate at Cleary Hoare - for more details.