19 February 2025
The Commissioner of Taxation’s long-standing view that an unpaid present entitlement (“UPE”) created by a trust in favour of a private company is caught by Division 7A has been rejected.
Background
Since 16 December 2009, the Commissioner has enforced his view that a UPE created by a trust in favour of a private company that is not called upon by the company for payment constitutes “financial accommodation” and therefore falls within the extended definition of a “loan” for the purposes of Division 7A.
The Commissioner’s basis for this view was initially set out in Taxation Ruling TR 2010/3 (which was replaced by Taxation Determination TD 2022/11) and until recently had remained untested for more than a decade. This was, of course, until the Commissioner was put to proof on this issue for the first time in Bendel v Commissioner of Taxation [2023] AATA 3074.
The Commissioner lost in the first instance, with the AAT finding in favour of the taxpayer.
The Commissioner then appealed the decision to the Full Court of the Federal Court whilst continuing to administer his interpretation until such time that the issue was decided by the Court (as opposed to the Tribunal).
Federal Court Decision and Implications
This afternoon, the Court handed down its judgment in Commissioner of Taxation v Bendel [2025] FCAFC 15.
Significantly, the Court has upheld the AAT’s decision, rejecting the Commissioner’s view that a UPE that subsists in favour of a private company amounts to a “loan” for Division 7A purposes.
The Court highlighted in this regard that the statutory definition of “loan” in section 109D(3) requires more than the existence of a mere debtor-creditor relationship. It instead requires an obligation to repay an amount, as opposed to an obligation to pay an amount. This is a critical distinction in the context of a UPE.
On the basis that the Court’s decision stands going forward (see further below), this will have major implications for taxpayers given that the decision unequivocally contradicts the Commissioner’s existing view in relation to which many taxpayers have reluctantly been required to comply.
In particular, assuming that the interpretation adopted by the Court stands, existing practices should be able to revert back to the pre-16 December 2009 position.
To this end, if a trust has an unpaid trust distribution in favour of a company, Division 7A should only apply if value is accessed from the trust resulting in a loan in favour of a shareholder/associate of the company (or other specifically identified transactions entered into by the trust in favour of the shareholder/associate). Many specialist tax advisers would take the view that this will restore Subdivision EA to its intended purpose.
It of course remains to be seen if the Commissioner will seek special leave to appeal the decision to the High Court of Australia, or if Treasury will seek to override the decision by way of legislative amendment.
Nonetheless, in the event that the Court’s interpretation is maintained going forward, this will provide various opportunities for private groups adopting trust structures to more tax-effectively use retained earnings in companies to, for instance, fund acquisitions or meet working capital requirements without being burdened by Division 7A compliance.
Cowell Clarke’s specialist Tax & Revenue practice group is well placed to assist you and your clients in navigating the implications and planning issues associated with the recent Full Federal Court decision.
For further information, please contact Peter Slegers, Joshua Pascale, Daniel Marateo or Jackson Jury of our Tax & Revenue team.
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