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The Tax Office hopes to quash a tribunal ruling that cast doubt on how it treated unpaid trust entitlements for the past decade.
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Federal Court hears ATO’s appeal of landmark Bendel decision
26 August 2024
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A full bench of the Federal Court heard arguments last week in the Tax Office’s highly anticipated appeal of the Bendel ruling that threw more than a decade of edicts on the treatment of unpaid present entitlements to companies into doubt.
Over two days of hearings, the Commissioner argued that the AAT had misapplied Division 7A of the Income Tax Assessment Act 1936 to taxpayer Steven Bendel’s corporate trust arrangements.
Counsel for Bendel, meanwhile, argued the division’s definition of a “loan” should not be construed so broadly to include unpaid present entitlements (UPEs) as it would lead to a scenario of “double taxation”.
In September last year, Bendel successfully challenged ATO objection decisions in the AAT arising from an audit of a group of trust entities he used to run a “busy suburban accounting and registered tax agent practice” out of Melbourne.
These included the discretionary trust called 2005 Trust, trustee Gleewin, and corporate beneficiary Gleewin Investments.
When the AAT rejected the ATO’s contention that around $1.5 million of Gleewin Investments’ UPEs were “deemed dividends” and should be taxed under Division 7A, tax experts viewed it as a landmark ruling that made trusts more attractive for tax planning.
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BDO partner Mark Molesworth said it also cast doubt on the position held by the Tax Office since 2009 and threatened to generate thousands of objections to rulings and penalties for some 971,000 trusts in use across the country.
The ATO then appealed the case to the Federal Court in October and said it would not revise its current views until the appeals process was finalised.
In oral arguments before Justices John Logan, Lisa Hespe, and Penelope Neskovcin of the Full Federal Court on Thursday and Friday last week, parties made their case for the correct treatment of the UPEs.
Arguments focused on the interpretation of Division 7A’s subdivisions B – which treats private company payments, loans and debt forgiveness as dividends – and EA – which captures UPEs that are not considered loans for 7A purposes.
The Commissioner, represented by barrister Gregory Davies, said the tribunal erred in concluding EA was the governing provision for UPEs owed to corporate beneficiaries from a trust. It should have spent more time considering section 109D and concluded Bendel’s arrangement was a loan, he said.
Among other things, section 109D defines loans for 7A purposes as “a provision of credit or any other form of financial accommodation”.
The judges, who asked questions throughout the hearing, said “financial accommodation” was a “very amorphous term”. Davies said it should be broadly interpreted to include arrangements like UPEs where trustee retains funds.
He also said subdivisions B and EA could operate concurrently, with section 109D concerned with actions of the corporate beneficiary, specifically whether it has provided a loan or financial accommodation. Subdivision EA, however, was “not concerned with what the corporate beneficiary’s done, it’s directed at what the trustee has done,” he said.
Bendel’s lawyer Andrew de Wijn, instructed by law firm Arnold Bloch Leibler, said the AAT correctly construed “financial accommodation” narrowly.
Unlike a loan, de Wijn said Bendel’s UPEs had no bilateral relationship or obligation to repay.
“The essence of a loan is an obligation of repayment … here there was an obligation to pay, but no obligation to repay,” he said.
“There is no bilateral relationship like in the classic case of credit, where goods are sold with payment due sometime in the future. Here we only have a one-way action, one way action. We have money moving or value moving in one direction, not the other.”
He said that the Commissioner’s contention that subdivision EA could apply concurrently with section 109D was “inescapably an example of double tax”, which goes against section 6-25 of the Income Tax Assessment Act 1997.
“On the Commissioner’s case, the shareholder is taxed, and the trust of the trust includes it in its assessable income, and then it’s taxed on the section 97 to a beneficiary or the trustee, depending on the distributions,” he said.
The court will now deliberate, with a reserved judgment expected in the coming weeks or months.
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