What is a joint venture ? How do we create a partnership ? Taxation of trust and many more you can get it at http://www.helpwithassignment.com/

1. Topic 8 – Partnerships and
Trusts
Statutory law – ITAA 36
Chapters 17 and 18

2. What is a partnership?
• Section 995-1 of ITAA 1997 defines a partnership as:
– “an association of persons carrying on business as partners or in
receipt of ordinary income or statutory income jointly, but does
not include a company”
• two limbs to definition:
– association of persons is the general law notion of a
partnership
– second limb treats joint owners of income producing
property are partners for tax but may not be partners for
general law

3. FCT v McDonald
• Partnership of husband and wife owning
investment properties as joint tenants – passive
investments.
• Partnership agreement wife 75% of profit and
husband 25% and in the case of a loss husband
100%.
• Husband claimed a partnership loss. Federal Court
held that if the partners want to vary a normal tax
partnership of a 50/50 arrangement then they must
satisfy the general law definition of a partnership.

4. What is a joint venture?
• Joint ventures do not derive income jointly and
are individually liable for the costs of operating
the joint venture.
• Joint venturers are entitled to their share of the
product of the joint venture which they sell
independently
• each joint venture party can make their own
elections, re - tax treatment
• any election made by partnership is binding on all
partners

5. Who can be a partner?
• Any person can be a partner under general
law
• Under tax law a child under 18 cannot be a
partner

6. How do we create a partnership?
• 2 or more people up to a maximum of 20
• there should be a written partnership agreement
• have a business name registered, ABN and TFN
• joint ownership of assets and liabilities
• partnership bank account
• partnership financial accounts
• proof of capital introduced by partners
• entitlement to share of profits

7. Taxation of partnership income
• partnership does not pay tax – s 91 , ITAA
36
• but must lodge a tax return – s 91
• each partner taxed on share of net
partnership income or loss
• if a loss in the partnership each partner can
claim their share of loss

8. Treatment of special partnership items
• partner’s salary - not an expense to the partnership
but an advance of net income of the partnership –
Re: Scott v FCT
• interest paid to partner on initial capital introduced
is not an expense to partnership – not deductible,
but interest on overdraft using home as security,
deductible or to borrow money to buy into a
partnership deductible - Roberts and Smith v
FCT– TR 95/25)
• superannuation contributions for partners are not
deductible to the partnership

9. Treatment of special partnership items
• the individual partners claim the superannuation as
a tax deduction in their own tax return
• interest on money loaned to the partnership is
deductible to the partnership
• partner’s drawings are not deductible to the
partnership
• partnership income retains it character in the
hands of the partner e.g. exempt income

10. Division 207–B, ITAA 97
• Franked dividends paid to a partnership or the
trustee of a trust.
• The benefit of the imputation credits are received
indirectly by the partners and the beneficiaries.
• The net income of the partnership or trust includes
the value of the imputation credits.
• The partner then obtains the benefit of the
franking credits when distributed to them as a
share of the partnership profit – cash and
imputation credits.

11. Calculation of partnership income
• net income = assessable income less
allowable deductions
• partnership losses are distributed to the
partners
• note impact of exempt income of
partnership on losses
• loss must be reduced by exempt income –
Div 36

12. Partner’s salary
• Partnership not a separate legal entity – made up
of individuals
• Partners cannot be employed by themselves
• IT 2218 - if reasonable Tax office will allow
“salary” as a deduction in calculating partnership
net income if partnership agreement drawn in that
way.
• 22 May 2002, IT 2218 withdrawn – Re Scott v
FCT – salaries put partnership into a loss and
losses used by other partners

13. Partner’s life insurance and
superannuation
• premiums for life insurance are not
deductible to the partnership
• no deduction for superannuation paid by the
partnership for partner
• partner claims the deduction himself

14. Real and effective control of partnership
income
• partners under 18 income is subject to Div
6AA – Income of Minors
• taxed at normal rates if reasonable for work
done
• if not reasonable then it will be taxed at top
marginal rate of income tax – 46.5%

15. Other issues
• Everett assignments – transfer of equitable
interest
• Issues with partnerships
– trading stock – calculated at the partnership
level
– Depreciation – claimed as a deduction at the
partnership level.
– capital gains tax – taken at the individual level

16. Example - CGT
• Bill and Jim establish an accounting partnership
on the basis of a 50% interest each. Bill and Jim
purchase an office to run the practice from, and
the partnership pays rent. Bill and Jim are the
registered proprietors of the real property.
• When the office is sold, any capital gain is
included in the assessable income of the individual
partners – 50% each. Discount of 50% would
apply to each individual.

17. Changes in a Partnership
• Partnership agreement drafted so that the business
continues when death, retirement or admission of new
partner, otherwise new partnership and tax return.
• Work in progress, depreciating assets, trading stock, bad
debts – how accounted for?
• Work in progress – assessable when sold by former
partner, s 15-50 and deductible by new partner, s 29-95.
• Trading stock – notional disposition in the hands of the
remaining partners at market value.
• Depreciating assets – rollover relief, s 40-340.

18. Taxation of Trusts
Division 6 – Trust Income, ITAA 36,
over half a million in Australia and a
legitimate way to split income.

19. Taxation of Trusts
Definition:
It is the relationship which exists between an
owner of an asset (the trustee) and another
person (the beneficiary) in which the trustee is
obligated to the beneficiary for the benefits of
owning the asset (the trust property).

20. Parties in a trust
SETTLOR -
Gives property - $20 – to the
TRUSTEE -
To hold the property on behalf of the
BENEFICIARIES
In a discretionary trust – members of the
family – very wide scope

21. Establishing a Family Trust
• An appointer is nominated in the trust deed with the role
to appoint the trustee. In effect they can control the trust
by having this power. If the appointer is also a beneficiary
and becomes bankrupt, then the Trustee in bankruptcy may
be able to claim assets of the trust – no asset protection
• The deed of settlement is usually 40 pages in length,
signed by the settlor and trustee. The Corporations Act and
ASIC have no control over trusts.
• The trustee applies for an ABN, TFN and registration for
GST with the ATO. No other registration is required. No
stamp duty is payable

22. Aspects of a trust
1. The assets ‘settled’ can be any type of property.
Settlor usually settles $20 to establish the trust
2. If the settlor retains the power to revoke the trust
or obtain a beneficial interest in the trust income,
the Commissioner may impose additional tax:
s.102 ITAA 1936. Usual for accountant to be the
settlor
3. There may be more than one trustee and the
trustee may be a company. Usual for a company.

23. Aspects of a trust
4. The trust may be created by:
– Will – Testamentary Trust
– Settlement inter vivos - that is, while the
settlor is alive – deed of settlement
– Operation of law - Bankruptcy
5. Although no documentation is necessary
to create a trust, a written trust deed is
normally used – Deed of Settlement

24. Two main types of trusts
1. Fixed trusts: the beneficiary’s right to
income and perhaps corpus is pre-
determined (fixed) by the terms of the
trust deed, e.g. Unit trust
2. Discretionary trusts: any rights to trust
property a beneficiary may have is
dependent on the trustee exercising its
discretion in the beneficiary’s favor.

25. Taxation of trust income
The aim of the ITAA 36:
1. To impose tax on either the beneficiary or the
trustee, if no beneficiary “presently entitled” and
not under a legal disability.
2. The beneficiary is the primary target – the
trustee will pay the tax where the beneficiary
cannot be taxed.
3. Trust a “flow through” structure, not assessed on
its income.

26. Taxation of trust income
The allocation of tax liability for trust income
primarily depends on whether:
1. A beneficiary is presently entitled to the
income; and
2. Whether such a beneficiary is under a
legal disability.

27. Vegners v FCT
• Mr. Vegners distributed income to his former wife
from the family trust that ran his consulting
business.
• Mrs. Vegners received the money but did not
include it in her tax return as she believed it was
from a property settlement. The Federal Court
held that she was liable to pay income tax on the
distribution as she was ‘presently entitled’ to the
distribution even though not aware of the trust.

28. Harmer v FCT
• What is meant by the term ‘presently entitled’ –
1. beneficiary has an interest in the income which
is both vested in interest and possession
2. beneficiary has a present legal right to demand
and receive payment of the income, whether or not
the precise entitlement is ascertained and the
trustee has the funds available.
The issue was who should pay income tax on the
interest earned on money held in trust by
Solicitors pending the outcome of a court case.

29. Harmer v FCT
• The Solicitors were assessed on the income as
trustees pursuant to s 99A and tax at 48.5%.
• Solicitors argued that there were beneficiaries
presently entitled and capable of paying income
tax at their own rates – less than 48.5% (now
46.5%).
• High Court held: no beneficiaries presently
entitled and trustees must pay income tax under
s 99A.

30. Taxation of trust income
Presently entitled
1. The beneficiary must have an immediate right to
receive or demand the trust income or have it
applied according to his or her direction.
2. A beneficiary under a discretionary trust is not
presently entitled until the trustee exercises its
discretion in their favor.
3. A beneficiary who is a non-resident at the end of
the year of income is not presently entitled.

31. Taxation of trust income
Legal disability
1. Beneficiaries who cannot give a valid
discharge to the trustee in respect of
payments made to them.
2. These include minors, undischarged
bankrupts, intellectually impaired persons.

32. Taxation of trust income
Scenario 1: Beneficiary presently entitled and
not under a legal disability
• The beneficiary is taxed on his/her share of the
trust income: s.97
• If the beneficiary is a non-resident, his/her share
will be taxed first in the hands of the trustee at the
rates applicable to non-residents - s.98(3)&(4)
• The beneficiary is also taxed on the income but is
allowed a credit for the tax already paid by the
trustee -s.98A(1)

33. Taxation of trust income
Scenario 2: Beneficiary presently entitled but
under a legal disability
1. Trustee is taxed at the rate applicable to the beneficiary:
s.98 The tax is calculated as if the trust income was the
only income of the beneficiary and no deductions were
available.
2. If the beneficiary derives other income, the trust income
is added to that other income and the beneficiary is taxed
on the total. However, the beneficiary is entitled to a tax
credit for any tax paid by the trustee: s.100

34. Taxation of trust income
Scenario 3: No beneficiary is presently
entitled
• Trustee is taxed under s.99A - at the maximum
rate of personal income tax – a flat 45% +
Medicare levy – 1.5%
• Trustee will be taxed under s.99 - taxed at
ordinary marginal rates if the Commissioner
believes it is unreasonable to apply the s.99A rate
- As in the case of a testamentary trust

35. Taxation of trust income
Steps for determining the tax allocation:
1. Determine the net income of the trust.
2. Determine whether any beneficiaries are presently
entitled.
3. Where a beneficiary is presently entitled, allocate the net
income to that beneficiary for assessing purposes under:
 S.97- directly to the beneficiary if there is no legal disability.
 S.98- to the trustee if the beneficiary is under a legal disability
1. Assess the trustee - under s 99 or s 99A - on the residue
of the net trust income not allocated to any of the
beneficiaries.

36. Dwight v FCT
• Deemed statutory present entitlement – under s
95A, introduced in 1980. Where a beneficiary has
a vested and indefeasible interest in trust income
but is not presently entitled, then beneficiary
deemed to be presently entitled.
• Trustee does not pay income tax at the penalty
rate.
• Case concerned money held on trust as security
for costs for a court case in Australia.
• Designed to cover situations where the money is
not actually distributed to beneficiary.

37. Taxation of trust income-other aspects
1. Although the trust is not a separate legal entity it must
lodge an annual return.
2. The distribution to the beneficiary retains the character it
had when derived by the trustee.
3. Trust losses are not distributed to the beneficiary – they
are carried forward and may be offset against future
income derived by the trust.
4. One of the great advantages of trusts is the access to
income splitting however the Commissioner may utilise
Part IVA if the trust was formed for avoidance purposes

38. “Net Income” – Tax and Accounting Issue
• Discrepancy as to what is income for tax and trust law purposes and
for financial accounting purposes
• Income is distinguished from the capital (corpus) of the trust
• If the trust does not have capital then it cannot exist – trustee must
protect the capital
• But, for tax purposes, a capital gain is treated as income – s 6-10, but
this represents the capital of the trust
• Example: receipt of rent from a commercial building but also a
deduction for the capital allowance. The income for trust law income
is higher than the income for tax purposes. Similar situation with a
franked dividend.
• Two approaches – Proportionate view or the Quantum view. The
proportionate view is acceptable.

39. Zeta Force v FCT
• Problem involved the difference between the
accounting income of the trust and the tax law
income of the trust. The difference was a timing
difference on the recognition of income and
deductions – pre-payment of stock.
• Accounting profit - $908,221, tax profit -
$1,335,554. The difference was not distributed to
the beneficiaries. Who should pay tax on the
difference.
• Section 97 contemplates the proportionate view.

40. Zeta Force v FCT
• If the proportionate view is adopted then
each beneficiary is held to have received a
taxable distribution in ‘proportion’ to their
trust law distribution.
• If the ‘quantum’ view is adopted then the
trustee pays tax under s 99A at the top rate,
48.5% (now 46.5%).
• The proportionate view is best.

41. Other Benefits
• Dividends can be distributed to a
beneficiary and carry the imputation credit
as a tax offset.
• Capital gains can be distributed to an
individual beneficiary and the individual
can claim the 50% CGT discount
• Unit trusts taxed in exactly the same way as
discretionary trusts

42. Minor Beneficiaries – Under 18 years
• Division 6AA prevents income being distributed
to minors with little or no income tax being paid
• Division 6AA applies to tax the income
distributed to a minor beneficiary
• If minor an “excepted person” or the income is not
classified as “excepted assessable income” then
penal rates of tax apply

43. Division 6AA – Tax rates for minors
• Tax rates
- $0 – $416 = Nil
- $417 – $1,307 = 66% of the
excess over $416
- Over $1,307 = 45% of the total
amount of income that is not
excepted income

44. Minors (cont)
• Minors receiving income under a
testamentary trust – the trustee pays tax at
the normal marginal rates for an adult, i.e.
first $6,000 tax free
• Minors in employment are taxed at the
normal marginal rates as are minors under
the care of the Social Security Act, s 102AE
and s 102AE, ITAA 36

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