A recent Full Federal Court decision (Commissioner of Taxation v Bendel [2025] FCAFC 15) unanimously found in favour of a taxpayer has brought into question how the ATO has been incorrectly administering trusts with present entitlements owing to companies.
In 2010, the ATO issued a tax ruling (TR 2010/3) stating the ATO’s view that any Unpaid Present Entitlement (UPE) owing by a trust to a private company, with no further action taken, amounted to a form of ‘financial accommodation’ provided to the trust by that company.
As the definition of a loan for the purposes of Division 7A of the Tax Act includes the provision of financial accommodation, the ATO can treat the UPEs as a loan. The consequence of a private company making a loan to a shareholder or associate is the recipient (in this case the trust) is taxed on a ‘deemed dividend’ being the amount of the loan.
At the time the ruling was issued, there was significant concern from the accounting and tax community. It was believed, and has now been held by the Full Federal Court, that the ATO’s position had no legal basis. The issuance of the ruling and the administration of these rules were considered by many to be an example of overreach by the ATO.
Fortunately, the taxpayer in this case had the courage to challenge the ATO. The Court unanimously decided that in order for a loan to exist under Division 7A, there must be an amount advanced and a requirement to ‘repay’. The Court found that the conferring of a UPE only meant that a trustee had a requirement to pay (not repay) the company and therefore the UPE could not be treated as a loan for Division 7A purposes.
Based on the decision handed down in Bendel, where a trust has an UPE in favour of a company, Division 7A should only apply if value is accessed from the trust resulting in a loan to a shareholder/associate of the company (or other specifically identified transactions entered into by the trust in favour of the shareholder/associate). In that case, Division 7A deems a dividend to arise in the hands of the shareholder / associate and not the trust.
Therefore, the decision in this case should benefit taxpayers in situations where a company has a UPE to income from a trust and the trustee has used the income for its own purposes (eg used in working capital of the trust).
Following the issue of TR 2010/3, most trusts and companies had taken a defensive position and documented the UPE as a formal loan and undertook to repay the company over 7 years. Where these loans are formally documented, Division 7A actually applies as if the funds had been paid by the trust and then lent back to the trust by the company. The decision will not change these positions.
However, the decision should impact tax planning and the related tax compliance for future where a trustee intends to make a company presently entitled to its income.
The ATO has sought leave to appeal to the High Court. The ATO has advised it will not revise its published views until the appeal process is finalised. As any appeal decision may be months away, tax planning for trusts for the year ended 30 June 2025 becomes more complex.
In an ‘Interim’ Decision Impact Statement updated with the application for appeal, the ATO also flagged the use of anti-avoidance provisions such as section 100A to combat any perceived tax avoidance.
In most scenarios, it will be appropriate to wait for the ATO to clarify its position before taking any action.
For further information please contact your usual Exant advisor or our tax specialist, Jamie Towers on the form below or on 07 3218 3900.