Introduction

These instructions will help you complete the Trust tax return 2010 (NAT 0660). They are not a guide to income tax law. You may need to refer to other publications.

When we refer to 'you' or 'your business' in these instructions, we are referring either to you as the trust that conducts a business or to you as the tax agent or trustee responsible for completing the tax return.

These instructions contain abbreviations for names or technical terms. Each term is spelt out in full the first time it is used and there is a list of abbreviations.

What's new?

Impact of the Bamford decision

The High Court recently handed down its decision in the matters of Commissioner of Taxation v P & D Bamford Enterpises Pty Ltd; Philip and Davina Bamford v Commissioner of Taxation [2010] HCA 10 (Bamford).

The decision settled some basic aspects of the law relating to the taxation of trust income long in contention. Broadly, following Bamford, it is clear that:

• 'Income of the trust estate' takes its meaning from trust law such that if a trust deed, or a trustee acting in accordance with a trust deed, treats the whole or part of a receipt as income it will thereby constitute 'income of the trust estate' notwithstanding that it might otherwise have been received as capital.
• The amount of 'income of the trust estate' to which a beneficiary is presently entitled is ascertained and converted into a percentage of the total 'income of the trust estate' that could have been distributed once the trustee's outgoings were taken into account. The beneficiary is assessed on that same percentage of the whole of the trust's taxable income. This is referred to as the proportionate approach.

The Bamford decision applies to all trusts other than superannuation funds and trusts taxed as companies.

Immediate impact on existing rulings and practices

Notwithstanding the Bamford decision having an immediate impact, existing rulings and practices will continue to apply to the current income year of 2009-10 (in recognition of the fact that trustees and others may have relied upon them in arranging their affairs). However, they will not apply in respect of the 2010-11 and later income years.

The Commissioner recently released a Decision Impact Statement which further outlines the implications of the Bamford decision. See Decision impact statement - Commissioner of Taxation v. Phillip Bamford & Ors; Phillip Bamford & Anor v Commissioner of Taxation.

Non-commercial loans

Tax Laws Amendment (2010 Measures No.2) Bill was introduced into Parliament recently. The non-commercial loan rules prevent private companies from making tax free distributions of profits to shareholders or their associates. These rules also apply where a private company has an unpaid present entitlement from a trust and the trust makes a loan or certain payments to, or forgives the debt of, a shareholder (or their associate) of the private company. In this case, the payments, loans and forgiven debts are treated as dividends.

The changes reduce the scope for private companies to allow company assets to be used for free or at less than their arms length value without paying tax. A range of other amendments will be made to strengthen the non-commercial loan rules.

If enacted, these changes will apply from 1 July 2009. At the time of preparing these instructions, the changes had not become law.

Extending tax file number (TFN) withholding to closely-held trusts

TFN withholding arrangements have been extended to most closely held trusts, including family trusts, to ensure that beneficiaries of these trusts include their share of the net income of the trust in their tax returns.

From the first income year starting on or after 1 July 2010, beneficiaries may provide their TFN to the trustee of the trust prior to receiving a distribution or becoming presently entitled to income of the trust. Where a beneficiary has provided their TFN, the trustee is required to report the TFN and other details to the ATO.

Where a beneficiary does not provide their TFN, the trustee is required to withhold an amount from the distribution (at the top marginal rate plus Medicare levy). This amount will then be remitted to the ATO. When the beneficiary lodges their tax return they will be able to claim a credit for the amount withheld.

Legislation to bring this measure into effect was contained in Act No. 75 - Tax Laws Amendment (2010 Measure No.2) Act 2010, which received royal assent on 28 June 2010.

Entrepreneurs tax offset

Legislation has been recently passed to include an income test into the eligibility criteria for the entrepreneurs tax offset from 1 July 2009. The income test means the amount of entrepreneurs tax offset payable in respect of partnership or sole trader activities, or income from a trust is reduced if an individual's income for entrepreneurs tax offset purposes exceeds the relevant threshold. This reduction will operate in addition to the current eligibility requirements applicable to the entrepreneurs tax offset.

Special disability trusts: changes to the taxation of net income and to the capital gains tax main residence exemption

In the 2009-10 Federal Budget the Government announced changes to the taxation of special disability trusts.

From the 2008-09 income year the unexpended income of a special disability trust will be taxed at the relevant beneficiary's personal income tax rate rather than automatically at the top personal tax rate plus Medicare Levy. Legislation passed in June 2010 to reflect this change. The instructions in this document are relevant for special disability trusts. However, there are some specific requirements to include when completing a trust return for a special disability trust.

From the 2009-10 income year the capital gains tax main residence exemption will be extended to include a residence that is owned by a special disability trust and used by the relevant beneficiary as their main residence. At the time of preparing these instructions, legislation had not been enacted to give effect to this measure.

Managed investment trusts - Government response to the Board of Taxation's Review

In the 2010-11 Budget the Government announced the intention to introduce a new taxation regime for Australian managed investment trusts (MITs) in response to the Board of Taxation's (Board) Report on its review of the tax arrangements applying to MITs. This change will have effect from 1 July 2011.

The new regime will:

• allow MITs to use an attribution method of taxation (in lieu of the existing present entitlement to income method)
• include a 5% de minimis rule to allow MITs to carry forward under and over distributions into the next income year without adverse taxation consequences, and
• allow unit holders to make, in certain circumstances, adjustments (including upward) to the cost base of their unit holdings to eliminate double taxation that may otherwise arise.

As part of this measure, the corporate unit trust rules will be replaced with an arm's length rule to be included in the public trading trust provisions.

This measure will also amend the 20% tracing rule for public unit trusts so that it does not apply to super funds and exempt entities that are entitled to a refund of excess imputation credits.

At the time of preparing these instructions, legislation had not been enacted to give effect to the measure. See New legislation for more information on the progress of the Bill.

Managed investment trusts

Tax Laws Amendment (2010 Measures No.1) Act 2010 implemented changes that allow Australian managed investment trusts (MITs) to make an irrevocable election to apply the capital gains tax (CGT) regime as the primary code for taxing certain disposals of eligible investments. Special rules apply to those trusts that are taxed like companies. The changes take effect from the 2008-09 income year. For more information, see Managed Investment Trusts.

Proposed changes to the definition of a MIT

On 10 February 2010, the Government announced further changes to the definition of a MIT in Subdivision 12-H in Schedule 1 to the TAA 1953. These changes were introduced into Parliament on 26 May 2010 as part of Tax Laws Amendment (2010 Measures No. 3) Bill 2010.

Removal of the capital gains tax trust cloning exception

The Tax Laws Amendment (2009 Measures No. 6) Act 2010 removes the CGT trust cloning exception to CGT events E1 and E2. The amendments will apply to CGT events happening on or after 1 November 2008.

Capital gains tax: Roll-over for certain trusts

The Tax Laws Amendment (2009 Measures No. 6) Act 2010 introduces a CGT roll-over for assets transferred between trusts that satisfy a number of specified requirements with effect from 1 November 2008. As a result of this measure, trustees of certain trusts will be able to defer the CGT consequences of the asset transfer until the receiving trust subsequently deals with the asset. This will allow certain trusts to restructure without immediate CGT consequences. The measure will be accompanied by appropriate integrity rules.

In the 2010-11 Budget the Government announced the intention to place additional limitations on limited capital gains tax (CGT) roll-over for fixed trusts announced in the 2009-10 Budget. This proposed amendment will have effect from 1 November 2008. The 2009-10 Budget measure provided a CGT roll-over for transfers between fixed trusts and with the same beneficiaries. For these purposes a fixed trust is a trust that has no material discretionary elements.

Capital gains tax - extension of roll-over for changes to water entitlements

The Government is extending the capital gains tax (CGT) roll-over for transformation arrangements to any capital gains or losses arising from changes to water entitlements to include pre-transformation transactions. Transformation is the process by which an irrigator permanently changes their right to water against an irrigation infrastructure operator into a statutory licence held by an entity other than the operator. The measure takes effect from the 2005-06 income year with transitional provisions applying until the measure becomes law.

Currently, pre-transformation changes could trigger immediate CGT liabilities for parties dealing with water entitlements. Operators may undertake pre-transformation transactions to ensure irrigators are treated equitably during the transformation process. This measure will enable taxpayers to defer any CGT consequences arising from the replacement of their water entitlements with one or more different water entitlements.

Capital gains tax treatment for earnout arrangements

In the 2010-11 Budget the Government announced that it will allow all payments under a qualifying earnout arrangement to be treated as relating to the underlying business asset. The measure will take affect once the legislation is passed, with transitional provisions available in certain cases from 17 October 2007. Earnout arrangements structure the sale of business or business assets to manage uncertainty about the value of the business. The current tax treatment can result in anomalous outcomes for taxpayers where the actual payments under the earnout right differ from the amounts estimated at the start of the arrangement.

Capital gains tax - aligning scrip for scrip roll-over requirements with the Corporations Act 2001

In the 2010-11 Budget the Government announced the intention to make it easier for takeovers and mergers regulated by the Corporations Act 2001 to qualify for a scrip for scrip roll-over, with effect from 6 January 2010. Currently, the requirements of the roll-over can be inconsistent with the requirements in the Corporations Act 2001. As a result, a merger that meets the requirements of the Corporations Act 2001 may not qualify for the roll-over. This measure will remove this inconsistency.

Deductions for political contributions and gifts

From 1 July 2008 only individuals can deduct contributions and gifts to political parties and independent members and candidates, and the individual claiming the deduction must not have made the contributions or gifts in the course of carrying on a business.

Taxation of financial arrangements (TOFA)

New rules have been introduced, the TOFA rules, which modernise the tax treatment of gains and losses on financial arrangements. The key provisions of the TOFA rules are found in Division 230 of the ITAA 1997 which generally provides for:

• methods of taking into account gains and losses from financial arrangements, being accruals and realisation, fair value, foreign exchange retranslation, hedging, reliance on financial reports and balancing adjustment, and
• the time at which the gains and losses from financial arrangements will be brought to account.

Which trusts are affected?

The TOFA rules will apply to the following trusts:

• authorised deposit-taking institutions, securitisation vehicles and financial sector entities with an aggregated annual turnover of $20 million or more
• managed investment schemes or entities with a similar status under foreign law relating to corporate regulation with assets of $100 million or more
• any other trust which satisfies one or more of the following
• an aggregated turnover of $100 million or more
• assets of $300 million or more
• financial assets of $100 million or more.

A trust that does not meet these requirements can elect to have the TOFA rules apply to it.

When will the TOFA rules affect a trust's tax return?

The TOFA rules will apply to financial arrangements that an affected trust starts to have in its first income year commencing on or after 1 July 2010. The TOFA rules will also apply to all qualifying securities that a trust acquires or starts to have in that or later income years (provided the qualifying security has a remaining life of at least 12 months). However, a trust can elect to have the TOFA rules apply a year early, so that it applies to financial arrangements they start to have in their income year commencing on or after 1 July 2009.

This means that the TOFA rules will not affect a trust's net income for 2009-10 or how a trust's 2010 income tax return is completed unless the trust makes an election for the TOFA rules to apply to its financial arrangements early.

Transitional election for existing financial arrangements

Although the TOFA rules generally apply only to new financial arrangements, an affected trust can make a further election to have the TOFA rules apply to its existing financial arrangements. Where this election is made, the rules will also apply to financial arrangements that were entered into before the time that the TOFA rules first apply to the trust if those financial arrangements are held at that time.

A trust must provide a transitional election for existing financial arrangements to the Commissioner by the following dates:

Income year that the TOFA rules first apply to the trust's financial arrangements	Date transitional election must be made by:
2009-10	lodgment date of trust's 2009 tax return
2010-11	lodgment date of trust's 2010 tax return
2011-12*	lodgment date of trust's 2011 tax return

* This may apply to trusts with a substituted accounting period that have an early balance date.

Elections under the TOFA rules are irrevocable, and therefore should be carefully considered before being made.