In Chadbourne v FC of T [2020] AATA 2441 (Chadbourne) the Administrative Appeals Tribunal (AAT) held that a beneficiary (Taxpayer) of a discretionary trust (Trust) was unable to deduct interest on borrowed funds where the funds borrowed in the Taxpayer’s name were used by the Trust to buy real property and shares.
The Taxpayer and his wife were the ‘Primary Beneficiaries’ of the Trust that was established to hold real property investments. The Primary Beneficiaries were the default beneficiaries in default of appointment of the trustee of the income of the Trust. The Taxpayer was the sole director and shareholder of the corporate trustee and also the appointor and guardian of the Trust.
The Taxpayer borrowed money to allow the corporate trustee to buy certain property investments (apartments) in South Australia. Later the Taxpayer and his wife entered a margin loan facility to that was used to provide the purchase capital for the Trust to make share investments.
In the 2016 and 2017 income years the Taxpayer claimed a deduction for the interest on these loans. He argued that as the loans were in his name, he incurred the interest on those loans, and he had a defeasible half-interest in the income of the Trust as a default beneficiary.
The Commissioner of Taxation (Commissioner) disallowed the interest deduction. In summary, the Taxpayer did not incur the interest in the course of gaining or producing his assessable income, because the terms of the discretionary trust gave the applicant no more than a right to be considered by the trustee of the Trust in relation to the appointment of the trust income. The Taxpayer’s interest in the income of the Trust was a mere expectancy and too uncertain or contingent to be a source of assessable income reasonably expected such that the Taxpayer could not deduct the interest on the loans against the Trust distributions.
Following an unsuccessful objection, the Taxpayer applied to the AAT to review the Commissioner’s decision.
The AAT upheld the Commissioner’s decision. The nature of a discretionary trust (and corporate trustee) was such that the Taxpayer did not own the real estate or shares; it was the corporate trustee as a separate legal entity. It was therefore the trustee of the Trust that derived income from its investments and trading and not the Taxpayer.
The AAT also found that the Taxpayer (as a beneficiary of the Trust) did not have a present entitlement to any of the net income of the Trust. The Trust deed required the trustee to give real and genuine consideration to the exercise of any discretion, and as there were numerous beneficiaries of the Trust, there was no certainty that the trustee would exercise its discretionary power of appointment in favour of the Taxpayer. The Taxpayer therefore only had a mere expectancy in the income of the Trust. For these reasons, the interest did not have sufficient nexus with the income the Taxpayer derived from the Trust.
Chadbourne appears a straight application of the law. The Taxpayer was self-represented in the AAT. One wonders whether the Taxpayer received taxation advice when borrowing the funds used by the Trust to buy the real property and share investments.
If you require advice in relation to your deductions or have any questions in relation to the Chadbourne case, please contact us:
Henri Sheridan
Graduate Lawyer
T +61 3 9611 0194
E hsheridan@sladen.com.au
Neil Brydges
Principal Lawyer | Accredited Specialist in Tax Law
M +61 407 821 157 | T +61 3 9611 0176
E nbrydges@sladen.com.au
