For this article, the focus will be on the particular issues that relate to trusts and not all the requirements that must be satisfied to access the rollover.
Unlike most of the existing rollovers, the new small business tax rollover applies not only to companies but extends to trusts. Given that trusts have been, and continue to be, used for business structures and estate planning, the new small business tax rollover provides more options in restructuring clients’ a airs that were previously not available.
Trust cloning
Legislative changes to the operation of CGT Events E1 and E2 e ective from 31 October 2008 put an end to trust cloning. Trust cloning involved the creation of a second trust that was almost identical to the first trust. Structured correctly, a transfer of assets from the first (original) trust to the second (cloned) trust did not give rise to CGT consequences. Trust cloning remained viable after 2008 only if the CGT liability could be dealt with by using a concession such as small business CGT concessions.
Provided the beneficiaries of the original trust and the cloned trust are so similar that there is ‘no practical change in the individuals who economically benefit’, the rollover relief should be available under the new small business tax rollover. Arguably this condition will be satisfied if the cloning rules applying before 31 October 2008 are met. These rules are set out in the withdrawn TR 2006/4W.
This ruling set out the ATO’s view on the meaning of the words ‘the beneficiaries and terms of both trusts are the same’. These requirements are, in my view, more onerous than the conditions that must be satisfied under the new small business rollover as the current test is no ‘material change’ in those who benefit in economic terms.
Care should be taken in ‘cloning’ a trust as there are trust law, and not just taxation, issues that must be considered. I recommend professional advice be obtained in drafting and settling the clone trust.
FTEs and the alternate ultimate economic ownership test
It is not always possible to satisfy the requirement that there is ‘no practical change in the individuals who economically benefit’; or because of doubts about whether the test can be satisfied, the costs of obtaining advice may be prohibitive. In such cases, there is a ‘safety net’ for discretionary trusts that make a family trust election (FTE).
Despite the terms of the deed, FTEs effectively limit the range of beneficiaries who can receive a distribution from the trust by imposing the penal family trust distribution tax for distribution to beneficiaries outside the family group of the test individual nominated in the FTE.
This means that:
- transfers of asset(s) from one family trust (FTA) to another family trust (FTB) where both FTA and FTB have the same test individual on their FTE will not give rise to a change in the ultimate economic ownership of the asset(s);
- transfers of asset(s) to an entity from a family trust (FT) will not give rise to a change in the ultimate economic ownership of the asset(s) if the ultimate economic ownership of the transferred
asset(s) is held by individuals who are in the family group of the test individual of FT just after the transfer; and
- transfers of asset(s) to a family trust (FT) from another entity will not give rise to a change in the ultimate economic ownership of the asset(s) if the ultimate economic ownership of the transferred asset(s) was held by individuals who are in the family group of FT just before the transfer.
Examples where the alternate ultimate economic ownership test will be satisfied:
- Family Trust A transfers CGT assets to Family Trust B and both Family Trust A and Family Trust B have Mr X as the test individual on their FTE.
- A Co Pty Ltd has 12 ordinary shares on issue. Six shares are owned by Mr X and six shares are owned by Mrs X. A Co Pty Ltd transfers CGT assets to Family Trust B. The test individual of the FTE made by Family Trust B is Mr X.
- Family Trust C has made a FTE with Mr Y as the test individual. The trustee of Family Trust C transfers CGT assets to a partnership between Mr Y and Mrs Y.
No doubt it is obvious that an understanding of the family group of family trusts is critical to access the new small business tax rollover.
The family group consists of the test individual and his/her spouse and their children, grandchildren, and lineal descendants. It also extends to the siblings of the test individual and his/her spouse and the children and lineal descendants of such siblings. The spouse of any individual noted
above is also included in the family group.
The new small business rollover is a welcome tool for advisers in restricting small business clients using trusts. It fills a gap that existed for some time, but a word of warning: trusts are complicated entities and care must be taken so that unintended consequences do not arise from a restructure.
