Two-tiered company tax rates: corporate beneficiaries should not ‘trust’ they get it right

With seven sitting days left in the current financial year, the Tax Laws Amendment (Enterprise Tax Plan Base Rate Entities) Bill 2017 (the Bill), that proposes to deny the lower 27.5% corporate tax rate to corporate tax entities with less than $25 million of turnover that derive predominantly (80% or more) passive income has not been debated by the Parliament since 12 February 2018. This Bill, if passed and assented to, will apply from 1 July 2017. That is, for the current income year.

As 30 June rapidly approaches taxpayers and their advisors face not knowing whether for the relevant companies a 30% or 27.5% tax rate applies for the 2018 income year. Nevertheless, as Labor supports the Bill, unless there has been a change of policy, it seems a conservative approach is to plan on the basis the Bill receives assent and applies from 1 July 2017.

For family groups with trusts with corporate beneficiaries the company will need to know the character of the trust distribution to determine whether the company pays tax at 27.5% or 30% (assuming that the company meets the turnover threshold).

What should you do by 30 June 2018?

Importantly, on that basis, taxpayers should before 30 June 2018, review and decide that:

  • accounting systems and procedures allow the trust to identify the various types of income (together with associated deductions);
  • the trust deed allows the trust to stream income (beyond franked dividends and capital gains) to beneficiaries;
  • pro forma resolutions include enough information to enable a corporate beneficiary to determine the components of the distribution for company tax rate eligibility; and
  • no new bucket companies are required (for example, taxpayers may wish to structure their arrangements so that some bucket companies pay tax at 27.5% while others at 30% (to utilise historic franking credit balances)).

Remember unpaid present entitlements

For trusts that have large unpaid present entitlements with corporate beneficiaries that are held on sub-trust under PS LA 2010/4, when determining the amount to distribute to the corporate beneficiary, consideration will need to be given to the income from the sub-trust arrangement in addition to the distribution from the main trust when determining the appropriate company tax rate.

For groups with corporate beneficiaries with large unpaid present entitlements, the income from the sub-trust arrangements may be large enough to consider:

  • incorporating a new bucket company to distribute to to access the lower company tax rate; or
  • distributing to the existing bucket company and that company paying tax at 30%.

Watch the maths

Eligibility for the lower company tax rate requires a company to compare “base rate entity passive income” (a gross amount) with assessable income. With respect to distributions from a trust (not being franked dividends or capital gains), the assessable income of the company will include the company’s share of the net income of the trust. Therefore, the trustee will need to identify the deductions that relate to base rate entity passive income (forming part of net income) and, if a deduction cannot be traced to a specific income stream, a reasonable basis for apportionment, for the company to determine whether it satisfies the test for the lower company tax rate.

For example, a family group includes a trust and a company. The company earns $250,000 of active income and the trust earns $850,000 of rent with $100,000 of deductions. If the trust distributes 100% of the income of the trust to the company, the company will have assessable income of $1m (that is, $250,000 + $750,000), but the company will not be eligible for the lower company tax rate as passive income (rent) will be 85% of assessable income. Does the group incorporate a new company so that the trust can distribute only so much income that the first company is eligible for the lower rate and the second company pays 30% on the excess?

If you have any queries in relation to the proposed changes or how they may affect your year-end tax planning, please contact:

Neil Brydges
Special Counsel | Accredited specialist in Tax Law
Sladen Legal
M +61 407 821 157 | T +61 3 9611 0176
Level 5, 707 Collins Street, Melbourne, 3008, Victoria, Australia

Daniel Smedley
Principal | Accredited Specialist in Tax Law
Sladen Legal
M +61 411 319 327 |  T +61 3 9611 0105
Level 5, 707 Collins Street, Melbourne, 3008, Victoria, Australia

For more information please see: