A reminder that with 15 May 2014 (being the due date for lodgement of the 2013 FY income tax return for most trusts) fast approaching, it is time to review prior year unpaid present entitlements (UPEs) owing from trusts to private companies and ensure that appropriate documentation is in place prior to that date.
A private company with a UPE owing from an associated trust is deemed to have made a loan to that trust for the purposes of Div 7A of the Income Tax Assessment Act 1936 (ITAA 1936), where the trust makes a payment or loan to, or forgives a debt owing by, a shareholder (or an associate of a shareholder) of the private company. Such a loan from the private company will be deemed to be an assessable and unfranked dividend for the purposes of Div 7A. Div 7A consequences can also arise where there are interposed trusts as a UPE between two trusts can be “financial accommodation” and also a loan for Div 7A purposes – this means that if a company has a UPE in respect of a trust (Trust A), any UPEs of that trust in further “upstream” trusts (Trust B, C etc) may themselves trigger a Division 7A liability.
A deemed dividend will not arise if the deemed Div 7A loan from the trust is repaid or placed on a sub-trust investment arrangement for the sole benefit of the beneficiary, before the earlier of the due date for lodgement of the trust’s income tax return for the year in which the UPE arose, and the actual date of lodgement of the trust’s income tax return (sections 109D(6) and 109XC of the ITAA 1936) – this means that any extension of the lodgement date of a trust’s income tax return will not extend the 15 May payment and documentation obligations summarised below.
The ATO’s Practice Statement PSLA 2010/4 provides guidance on the treatment of UPEs for Div 7A purposes.
This means that:
For UPEs relating to the 2012 FY – accrued interest for the period 15 May 2013 to 30 June 2013 should be included in the trust’s income tax return for the 2013 FY income tax return and paid by the due date of lodgement (15 May 2014). These UPEs should have been placed on sub-trust for the sole benefit of the beneficiary and documented in an investment agreement, by 15 May 2013. The interest paid may be a deductible expense of the main trust depending on whether those funds were used for income earning purposes. The interest is assessable to the private company beneficiary and must be included in the 2013 FY income tax return of the private company beneficiary. If the UPE was not placed on a sub-trust, it would have become a Div 7A loan as at 15 May 2013 and should be paid out or documented in a complying Div 7A (section 109N) loan agreement by 15 May 2014.
For UPEs relating to the 2013 FY – UPEs arising in the 2013 FY should be placed on a sub-trust investment arrangement by 15 May 2014. The resulting interest liability at 30 June 2014 would be deductible if the funds were used by the trust for income producing purposes. The interest liability would need to be included in the trust’s 2014 FY income tax return and paid by the lodgement date (15 May 2015). If not, the UPE would become a Div 7A loan as at 15 May 2014 and would need to be repaid or documented in a complying Div 7A (section 109N) loan agreement by 15 May 2015.
The laws relating to Div 7A and UPEs are extremely complex and require careful consideration and planning in order to avoid inadvertently triggering an unfranked deemed dividend.
If you would like further information regarding Div 7A obligations or assistance preparing sub-trust investment agreements or Div 7A complying loan agreements, please contact:
Principal | Accredited Specialist in Tax Law
T +61 3 9611 0105 | M +61 411 319 327
T +61 3 9611 0110 | M +61 407 478 592