Family Trust Election

[Mry]

Some mention has been made of Family Trust Elections, what they are and what they mean. This is an excerpt from some notes in a book of mine dealing with two issues, carry forward losses and imputation credits which people seem to get confused on.

Carry Forward Losses

A trust cannot carry forward losses unless it satisfies the tests contained in the "trust loss measures" located in the income tax act. You can look at them here at Part 23.
A family trust only has to pass one test, a modified version of the income injection test which is that an "outsider" of the family group does not receive or provide a "benefit" to the trust.
The Family Trust Election must have effect in the year that the trust makes the loss.

Imputation Credits

A taxpayer is generally unable to claim imputed credits unless they have held shares "at risk" for more than 30 days. For a beneficiary, "at risk" is defined as being exposed to more than 30% of the risks and opportunities of the trust's shareholding in order to satisfy this rule. While a fixed trust or a HDT (with issued units) allows this, a discretionary trust does not as the beneficiaries have no fixed entitlement and are not exposed. They can claim a 'small shareholder' exemption which allows them to claim no more than $5,000 in imputed credits, but thats about it.
A beneficiary of a trust that has made a family tax election is allowed to claim all the imputed credits paid across as long as the trust satisfies the 45 day rule.

A Family Trust Election restricts the distribution of the profits to people and related entities but generally it isn't too bad since most trusts would distribute only to the restricted group. Any distribution outside the group attracts family distribution tax. An election for a discretionary trust is irrevocable. There is a bit more but I do recommend that you speak to your accountant each year about whether your trust should make a Family Tax Election when you have your trust return prepared.

 

[GreatPig]

Mry,

A couple of points:

A trust cannot carry forward losses

I've heard that this doesn't apply to capital losses, only income losses. Is that correct?

A Family Trust Election restricts the distribution of the profits to people and related entities but generally it isn't too bad since most trusts would distribute only to the restricted group

From what I've read, a widow of the test individual would only remain in the family group as long as she didn't remarry or form a defacto relationship. It seems to me that this could lead to the following situation:

- Husband and wife form a family trust and are the named principal beneficiaries. Husband is test individual for FTE.

- Husband dies, leaving wife as sole principal beneficiary.

- Wife remarries.

Now the wife is the sole principal beneficiary yet outside the family group. Any distributions to her would attract the family distributions tax, which is pretty rough if that's all she has to live on (no guarantee her future husband would be wealthy). Doesn't seem like a good way to plan for your wife's future in the advent of your death. I think this could place a lot of pressure on the wife to either not remarry, or to hide the relationship from the tax office.

If this scenario is correct, then I think I'd be looking for a better-placed test individual - perhaps one of the kids.

GP

 

[Mry]

I'll check on capital losses.

It gets even more fun. The NTAA stated that if you divorce your wife and the court forces you to take money / property out of the trust to give to her as part of the settlement arrangement, because she is no longer a spouse she is not in the family group anymore and the distribution attracts family distribution tax. That's adding insult to injury. I wonder if the ATO got around to fixing that.

 

[ggumpshots]

If imputation credits dont exceed $5000 and losses are not incurred then a family trust election would never be required.

Is that it in a nutshell ,
apart from all the ifs and buts??

 

[GreatPig]

because she is no longer a spouse she is not in the family group anymore and the distribution attracts family distribution tax

Perhaps the answer is to slog out and distribute the divorce settlement before actually getting divorced.

Or nip over to Vegas, remarry, distribute the settlement, then do a quickie redivorce.

GP

 

[coastymike]

GreatPig

The trust loss provisions only relate to revenue losses not to capital losses. These can be carried forward and offset against future capital gains without considering the various provisions or the need to make a family trust election.

 

[GreatPig]

Thanks, Mike.

One more question:

If a private company is fully owned by an HDT which hasn't made an FTE, can revenue losses be carried forward in the company or is it effectively subject to the same trust loss provisions?

GP

 

[coastymike]

GreatPig,

Are you saying that all the shares are owned by the HDT ?

As an aside I never recommend that shares be held by a DT or HDT as you will not be able to access the small business CGT concessions. Not sure if this is the case.

 

[Mry]

Coasty, thanks for the heads up about capital losses. I looked through 3 lots of seminars and the ATO website and couldn't find a thing.

As for companies with losses that have shares owned by a DT, they can lose their ability to carry forward the losses. I'll see what the notes I have say tomorrow.

 

[GreatPig]

Coastymike,

Are you saying that all the shares are owned by the HDT ?

Yes, that's correct.

I never recommend that shares be held by a DT or HDT as you will not be able to access the small business CGT concessions

I don't know anything about that, but I thought it was quite common for family businesses (private companies) to be owned by family trusts.

Cheers,
GP

 

[Mry]

A company can carry forward lossess if it satisfies same owner test. Failing that, it must pass the same business test. But when the shares are owned by a DT, things get more complicated.

The ATO's view is that the same owner test (which requires that 50% of of the company's shares are beneficially owned by the same persons in the loss year, all the intervening years and the loss is recouped) is NOT satisfied as a discretionary trust is not beneficially owned by anyone.

You can attempt to satisfy the same business test but this is gets even more fun. You can only apply the same business test if the same owner test is failed. But if a discretionary trust owns more than 50% of the shares in a company which technically fails the same owner test, it is not really failed since the ownership has not physically changed so you can't apply the same business test since the ownership has not changed. (You are going to want to read that sentence again btw). It is also one of the hardest tests in tax law to satisfy. It is difficult to run a business into the ground and by changing almost nothing at all start generating profits.

If you had a unit trust or a HDT with issued income units, this issue will not be a problem since the ownership of the trust is clear.

 

[GreatPig]

Thanks, Mry.

If you had a unit trust or a HDT with issued income units, this issue will not be a problem since the ownership of the trust is clear.

Hmm... there's something to investigate.

Presumably though, for that to work, at least 50% of the capital in the trust would have had to come from the unit holder when buying the units, as I gather the units only entitle the holder to the income generated by those funds. I'm guessing they'd also have to have units with rights to both capital and income.

So, for example, if I gifted $9,900 to the trust and my wife bought $100 worth of units (with capital and income rights if necessary), I'm guessing she wouldn't effectively "own" more than 50% of the shares in the company, as she would only be entitled to the benefits of 1% of the trust, the other 99% being discretional.

I suppose though, in that scenario, I could give her the $9,900 to buy units with rather than gift it to the trust myself - if I trusted her enough not to run off with it instead.

GP