Taxation Ruling
IT 2466
Income tax : trust distributions of group interest to non-resident beneficiaries : determination of objections
FOI status: May be released
PREAMBLE
This ruling provides guidelines for arrangements designed to provide a non-resident beneficiary with entitlement to interest income derived by a resident trust estate from associated entities. If the arrangements are effective, Australian tax payable on the entitlement is limited to the 10 per cent withholding tax on interest paid to non-residents.
2. Under the arrangements a deduction is claimed by the borrower in the group for the amount of interest paid to the associated trust. The interest income is then distributed to the non-resident beneficiary and 10 per cent interest withholding tax is paid by the trustee. The arrangement is based on the premise that the interest payment to the trust retains the character of interest when it passes into the hands of the beneficiary.
3. A common feature in many of these cases is that the amount applied for the benefit of the non-resident is not paid to the beneficiary but is retained by the trust, being shown in its accounts as owing to the beneficiary or, although paid to the beneficiary, is returned to the trustee, a resident beneficiary or to an associate.
RULING
4. A trustee may, where the trust deed allows,
distribute income by type to particular beneficiaries. The trustee may,
for example, choose to distribute interest income to a non-resident
beneficiary and the accounts may separately identify the income to
reflect this. The non-resident beneficiary, if presently entitled to
interest income, is deemed, in terms of sub-section 128 A(3) of the
Income Tax Assessment Act, to have derived such interest income for the
purposes of Division 11A. If this is the position, it must be accepted
that the arrangement is effective for income tax purposes and Australian
tax in respect of the trust distribution is therefore limited to the
rate applicable to withholding tax on interest payments to
non-residents.
5. However, cases have been encountered where the
arrangements designed to pass group interest to non-resident
beneficiaries have the hallmarks of challengeable tax avoidance schemes
and bring into question both the deductibility of the interest payments
by group borrowers and the status and entitlement of the non-resident
beneficiary in relation to trust interest income. These scheme cases
have generally fallen into one of two categories:
NEW INCOME FLOW
- (i)
- In the first category, the scheme transactions give rise to the
flow of interest income. Interest-bearing loans are made between
associated entities in the group to create the background for a
purported interest payment to a trust estate with a non-resident
beneficiary. Where these intra-group loans and interest payments appear
to be sham transactions or, on the objective facts, transactions entered
into for the purpose of avoiding tax, a deduction claimed by the
associate for the interest payment should be disallowed on the basis
that the arrangement is a sham, that the payment is not incurred for the
purposes described in sub-section 51(1) or that section 260 or Part IVA,
where appropriate, applies to defeat the arrangement.
- Such approaches should be considered in cases where there is no
documentation to support the loan and interest transactions, where the
transactions were part of an artificial round robin not supported by
real funds or where there is no significant commercial justification for
the transactions (other than the avoidance of tax). Even if the interest
payment to the trust with the non-resident beneficiary is not regarded
as a sham and is not caught by section 260 or Part IVA, the purported
distribution by the trustee to the non-resident beneficiary may still
give rise to the application of section 100A or Taxation Ruling No. IT
2344 which deals with purported distributions to non-resident
beneficiaries who, if they exist, are never intended to receive the
benefit of the purported distributions. Where the beneficiaries do not
appear to have had a genuine entitlement, assessments should be made in
accordance with paragraph 5 of IT 2344. Of course, where section 100A
applies assessments should be made under section 99A.
EXISTING INCOME FLOW
- (ii)
- In the second category, the interest flow existed in the previous
year and in the scheme year it is diverted to the trust with the
non-resident beneficiary. The deduction claimed by the borrower for
interest paid should be allowed in these cases if it was previously
allowable under normal assessing guidelines. However, in these cases
also the purported distribution to the non-resident beneficiary should
be considered in accordance with Taxation Ruling No. IT 2344. Where
after such consideration, the non-resident beneficiaries do not appear
to have had a genuine entitlement, the whole of the arrangements under
which the interest income was diverted within the taxpayer group should
be reviewed in the light of Part IVA. In appropriate cases, Part IVA
may possibly apply to include the interest receipt in the assessable
income of the party who would have received it if the diversion
arrangement had not been entered into. Reports on Part IVA cases should
be referred to National Office. Other non-genuine cases should be
assessed in accordance with paragraph 5 of IT 2344. In cases where
present entitlement appears to exist, section 100A should be considered
before it is accepted the arrangements are effective for tax
purposes.
PENALTY
6. Penalty should be imposed and remitted in
accordance with Taxation Rulings No's IT 2012, 2028, 2043, 2141, 2206
and 2312, as appropriate.
DETERMINATION OF OBJECTIONS
7. Where, after consideration of all relevant
factors, it is not possible to be satisfied that the requirements of
section 51 are met, objections against the disallowance of deductions
for interest paid to the group trust should be disallowed. Cases relying
on the application of sections 100A, 260 or Part IVA should be cleared
with National Office before determination. Objections against the
assessments raised on the basis that the trust distributions to
non-residents are not genuine should be determined in accordance with
Taxation Ruling No. IT 2344.
WITHHOLDING TAX PAID
8. In scheme cases assessed in accordance with this
ruling, it will be necessary to refund or credit the amount of
withholding tax paid on interest under the scheme arrangement in any
case where it is established that no liability for the withholding tax
existed. Action to refund or credit withholding tax to a taxpayer
should not be taken until any disputes about that taxpayer's assessments
arising from the disallowance of the scheme have been finally
settled.
RECOVERY
9. Normal recovery action can be instituted on
assessments that disallow the interest claim of the associated borrower.
Recovery action in respect of assessments raised on the basis that the
purported distributions to non-resident beneficiaries are not genuine
should be taken in accordance with Taxation Ruling No. IT
2344.
COMMISSIONER OF TAXATION
18 February 1988
References
ATO references:
NO 86/5015-2
BO Hob J32/1/5
Syd 27/B13/AF.4064/1/1
Parr A.48/5/12
ACT 01/AC 75
Melb VJ 192/100
Bris 5/IT/COR.67W
Adel M.336/1/5 Pt.2
Perth J.36/255
Date of effect:
Immediate
Date orig. memo issued: 26 July 1983
Related Rulings/Determinations:
IT 2344
Subject References:
INCOME TAX AVOIDANCE
TRUSTS WITH NON-RESIDENT BENEFICIARIES
INTEREST WITHHOLDING TAX
Legislative References:
PART III
. DIVISION 6
. DIVISION 11A
PART IVA
PART VII
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