Unpaid Present Entitlements and Sub-Trusts

Apr 30, 2014

The trustee [“the Trustee”] of a discretionary trust [“the Trust”] will often exercise its discretionary powers as trustee to distribute income of the Trust to an associated private company beneficiary [“the Company”].

Where that distribution is not actually paid to the Company, then this is generally known as an unpaid present entitlement[“UPE”] owed by the Trustee of the Trust to the Company.

Section Three of Taxation Ruling 2010/3 applies to UPEs arising after 16 December 2009.

If the Trust and the Company form part of the same family group, and the Company has knowledge that the funds representing the UPE are being used by the Trustee for the purposes of the Trust (rather than being held and/or used for the Company’s sole benefit), then in not calling for payment of its UPE the Company provides the Trustee with financial accommodation, and by extension makes a loan to the Trustee pursuant to Division 7A of the Income Tax Assessment Act 1936 (Cth).

There can be significant taxation consequences as a result of Division 7A loans.

A UPE owing from a Trust to the Company in the same family group will become a Section Three loan, to which Division 7A applies to the extent that:

Practice Statement 2010/4 provides a practical solution by which Division 7A will not apply to the Section Three loan:

There are specific requirements that must be met in order for a sub-trust to be considered to be in place:

Ordinarily, the Trustee and the Company will want the Trust to continue to have the ability to use the funds representing the UPE, despite those funds having to be held on sub-trust for the sole benefit of the Company.  This is normally achieved through the entry of the Trustee and the Company into a UPE Sub-Trust Investment Agreement, whereby:

If the investment is documented correctly, then despite the funds having been invested in the Trust (the main trust) the ATO will consider that the funds in the sub-trust are held for the sole benefit of the Company beneficiary (and therefore Division 7A will not apply).

At TVP Law we can assist you to put in place an appropriate UPE Sub-Trust Investment Agreement.  Please do not hesitate to contact us to discuss.

The content in this article is intended to provide a general guide to the subject matter only.  Specialist advice should be sought for your specific circumstances.