Trusts caught in CGT net

All beneficiaries of a discretionary trust who surrender their interest may now be subject to capital gains tax following the release of anAustralian Tax Office (ATO)ruling.

Under the recent ATO determination, a beneficiary’s interest in a discretionary trust may now be classified as a capital gains tax asset.

The changes were designed specifically to capture those people wishing to renounce their interest in a discretionary trust before claiming social security benefits under new social security means test rules set to be introduced from January 1, 2002.

However,Deloitte Touche Tohmatsuprincipal Craig Holland says there are wider implications of this ruling. He says while the original draft tax determination in September this year made no mention of potentially any wider issues, the final tax determination could now affect anyone who has an interest in a discretionary trust.

Holland says while the ATO may argue that the new ruling was very specific in its design with its firm focus being on social security, it does raise questions of how the ATO will view a capital distribution from a discretionary trust.

“By determining that the CGT asset is the beneficiaries’ interest in the trust, the tax determination potentially provides an exposure to all beneficiaries receiving ostensibly tax-free capital distributions from a discretionary trust,” explains Deloitte partner Geoff Cowen.

Beneficiaries were previously entitled to tax-free distributions. However, in the situation where capital distributions are treated as taxable, beneficiaries would pay their marginal rate of tax which could be as high as the highest marginal rate of 48.5 per cent.

Cowen says the ATO had previously advised that it had not sought to apply CGT to a situation where a beneficiary of a discretionary trust received an ostensibly tax-free capital distribution from the trust.

However in Holland’s opinion, the failure by the government to introduce an entity tax regime may have led to a reassessment of its stance on the taxation of a relinquished interest in a discretionary trust.