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In this video, John Jeffreys, Tax Counsel, discusses the recent decision in a case that examined the effect of trust distribution minutes where the ATO made significant adjustments increasing the taxable income of the trust after year end. Who was to be assessed on the extra taxable income?
And now I want to go on and talk about Trust Distributions. And there is a recent case called Donkin, which is of interest, and I do recommend that you read the notes on this because it's an important issue particularly at this time of the year in relation to the way trust distribution minutes are made.
Now the issue in this case was whether increased amounts of net income, and here I'm talking about taxable income. Whether increased amounts of the taxable income of a trust should be assessed to a default beneficiary, which was a corporate beneficiary, or to the beneficiaries that originally were presently intitled to the income of the trust in the same proportions that those beneficiaries originally received that income. So the situation here, sorry I'll just go to that in a moment, now the taxpayer lost the case, and the commissioner won by saying that those proportions which were originally given in the trust distribution minute are the ones that should be used. And there was a question also here of penalties, again, 50% penalties, and should they be applied and in this case the tribunal decided that those penalties should not apply. And so that's interesting also.
So let's look at the facts of the case. This actually involved an accountant and an accounting firm at least that's was where the source of the money came from. So there was an accounting firm called Strategic Accounting Advisers Trust which I assume was a unit trust and its sole beneficiary was Joshline Family Trust. And the Joshline Family Trust then distributed its income to five individual beneficiaries at various times over the course of about four years. Now the balance beneficiary or the residual beneficiary was the trustee itself in its own right. And we'll look at the minute in a moment, which is the important part of the case. So this is what's happened, so originally there was these distributions to these individuals.
Now on the next slide we show you what they originally were, and then what the tax office changed the assessable income to be. So originally, take 30 June 2010, the taxable income of the trust as first returned was $81,958. The tax office came along and then made adjustments by denying some fairly significant tax deductions. Now we're not told what those tax deductions were and any of the information behind them, but it's just simply an accepted fact that those adjustments were correct. And the tax office made them. So you can see there that the new taxable income has increased to $377,912 on the 30th of June 2010 and so on in the other years there are also quite significant increases.
So the debate in this case was the question of, with this extra assessable income, who gets taxed on it? Does it get taxed to those individuals in the same proportions that they originally received, or does that excess get taxed to the corporate beneficiary in accordance with the distribution minute, which we're just about to go through?
Now this is an example of one of the distribution minutes and I've set it out here in full and I'm going to read it in full because it's important to understand the process that has been gone through by the trustee and the legal advisor to the trustee. So first of all, there is the determination of the trust law income. Okay, now I emphasise there the trust law income, not the taxable income of the trust. That can later be said to be that, but the first duty that a trustee has, when they're determining their trust distribution for a particular year, is to work out what is the trust law income of that trust. Now the way that has to be done, and the only way it can be done, is by referring to the deed of that trust to work out how the trustee, in respect of that particular trust, is given the powers to determine what is in, and what is out, of the trust law income. I know many accountants will simply default to the assessable income or the taxable income under Section 95 of the 1936 Act. And some deeds indeed do that, but you can't take that just as an assumption. The proper way to do it is first of all to determine what is the trust law income of the trust, and that's what they're doing here. So under the heading "Determination of income it was resolved that, in exercise of the power under Clause 6.5, (so that's good, they've gone to the deed and they've actually read the clause that gives the trustee the power to do this) in the definition of income in Clause 1 of the Trust Deed, the trustee determines that the income of the Trust for the year ending 30 June 2012 comprises all those amounts being income for purposes of the accounting records of the trust (now so the accounting records, okay), less the expenses and outgoings of the trust for the year ending 30 June 2012 attributed to those amounts for the purposes of the Accounting Records (in each case whether recorded in the Accounting Records) by or after 30 June 2012.
So I'll just stop there for a moment. So what's happened here is that the trustee has said: Okay, what is my trust law income for this year that I can distribute, and they would have been given certain powers, now what they've done is they've decided to say, basically, that it's what's in the accounting, not taxable income, what's in the accounting profit and loss. And that's a very valid thing to do. So just appreciate that to start off with, is that the trust law income, for this trust, is deemed to be the accounting profit if you like. That's my short-hand term for describing what they're saying. Now the next step in the process is having determined that accounting profit, how do I as a trustee distribute that to whomever I want to distribute it to.