Tax Bites: The temptation of distributing income to a deceased estate or testamentary trust

Section 99A of the Income Tax Assessment Act 1936 results in certain types of undistributed income of a trust estate being taxed at penalty rates (currently prescribed as 45%). However, section 99A provides exclusions for certain types of trust estates (in which case the undistributed income of the trust will be taxed concessionally under section 99 of the Income Tax Assessment Act 1936).

One such type of trust that obtains concessional tax treatment on its undistributed income is a trust created from the will of a deceased person. This could include a deceased estate trust or a testamentary trust.

With regard to the above, the Income Tax Rates Act 1986 states that:

  • The rate of tax payable by the trustee of a deceased estate on undistributed income during the first 3 years of the administration of the estate is based on the ordinary marginal income tax rates available to individuals (with availability of the tax free threshold).
  • The rate of tax payable by the trustee of a deceased estate on undistributed income after the first 3 years of administration of the estate is based on the ordinary marginal income tax rates of an individual taxpayer (without availability of the tax free threshold).
  • The rate of tax payable by the trustee of a testamentary trust on undistributed income is based on the ordinary marginal income tax rates of an individual taxpayer (without availability of the tax free threshold).

With the above in mind, there may be a temptation to distribute income from another trust within the client group to a deceased estate or testamentary trust in order to access those concessional tax rates.

However, the above strategy is not recommended, as subsection 99A(3) of the Income Tax Assessment Act 1936 still gives the Commissioner of Taxation the power to deny access to the concessional tax rates available under section 99 of the Income Tax Assessment Act 1936 where the Commissioner of Taxation believes benefits have been conferred on the trust estate for the purpose of obtaining the concessional tax rates. By applying subsection 99A(3), the full amount of the income derived by the trust could potentially be exposed to penalty tax rates under section 99A.

If you have any further questions, please do not hesitate to contact Tim Olynyk on (03) 9810-0700 or at t.olynyk@banksgroup.com.au.

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