The Full Federal Court has dismissed the ATO’s long-standing position that an unpaid present entitlement (UPE) from a trust to a private company should be treated as a loan under the Division 7A deemed dividend rules.
This decision impacts many private groups that have complied with the ATO’s previous guidance.
Key Takeaways from the Decision
- A UPE is not a loan – The court ruled that for something to be classified as a loan under Section 109D(3) of the Income Tax Assessment Act 1936, there must be an obligation to repay the amount, not just an obligation to pay.
- This challenges the ATO’s position since 2010 – The ATO had previously considered UPEs as a form of credit, requiring them to be placed under Division 7A-compliant loan agreements.
- Trust distributions may need review – Although this is unlikely to be the final outcome on the matter, trustees should carefully consider their existing structures and tax affairs prior to implementing any major changes to their trust distribution strategies.
What’s Next?
- Potential High Court Appeal or Legislative Changes – The ATO may apply for special leave to appeal the decision to the High Court. In the event that this is not granted, the ATO may push the Government for a review of the current Division 7A rules which could see new legislation be introduced to align the Division 7A rules with the ATO’s stance on UPEs.
- Uncertainty Around 2024–2025 Tax Years – Given that 2024 tax returns are not yet due, businesses should closely monitor developments before making new UPE arrangements for 2025.
If this case impacts your affairs, please feel free to contact us to discuss your options.