Tightening of testamentary trust concessions
By Geoff Musgrove & Laura Cantillon• 29 April 2020 • 4 min read
In October 2019, the Government prepared exposure draft to the Treasury Laws Amendment (Measures for Consultation) Bill 2019: testamentary trusts. This seeks to amend Division 6AA of the Income Tax Assessment Act 1936 to increase certain tax rates that apply to minors receiving income from testamentary trusts.
The Bill tightens tax concessions available to minors in respect of testamentary trusts. It has the effect that income from assets transferred to a testamentary trust on or after 1 July 2019 will no longer be ‘excepted trust income’ under the legislation and will no longer qualify for the tax concession unless it is income from those assets that were transferred to the trustee from the deceased estate or are an accumulation of such income.
The changes explained
Under the current testamentary trust laws, income from assets that do not form part of the deceased estate can qualify as ‘excepted trust income’.
‘Excepted trust income’ is an exception to the penalty tax regime and is taxed at the ordinary adult rate prescribed at the time. This means that minors, who are the beneficiaries of a testamentary trust, receive considerable tax concessions.
For example, in the 2019-20 financial year, the first $18,200 is tax free at the ordinary adult rate. For a minor for eligible tax income such as income distributed from a family trust, only the first $416 is tax free. Where the eligible tax income exceeds $1,307, tax is payable on the whole of the eligible tax income at the rate of 45%. For excepted trust income distributed from a testamentary trust the first $18,200 distributed to a minor will be tax free
The Government announced during the 2018-19 Federal Budget, that the current testamentary trust regime has led to situations whereby assets unrelated to the deceased estate are being injected into testamentary trusts after the testator has died for the benefit of minor beneficiaries. This has the effect that income unrelated to assets forming part of the deceased estate is considered ‘excepted trust income’ and inappropriately obtains the tax concession.
To prevent such tax avoidance, the Bill imposes more onerous conditions for income of the testamentary trust to be treated as ‘excepted trust income’:
- first, the assessable income must be derived by the trustee of the trust estate from property (which is defined to include money); and
- second, the property must satisfy any of the following requirements:
- the property was transferred to the trustee of the trust estate to benefit the beneficiary from the estate of the deceased person concerned, as a result of the will, codicil, intestacy or order of a court;
- the property, in the opinion of the Commissioner, represents accumulations of income or capital from property that satisfies the first requirement; or
- in the opinion of the Commissioner, the property represents accumulation of income or capital from:
- the property that satisfies the second requirement; or
- property that has already satisfied this requirement.
The purpose of the second condition is to demonstrate that there is a connection between the property from which excepted trust income is derived and the deceased estate that gave rise to the testamentary trust.
What if further assets need to be added to the testamentary trust?
The effect of the Bill is that if further assets are injected into the testamentary trust for the benefit of minor beneficiaries after 1 July 2019, the income derived from those injected assets will be subject to the highest marginal tax rate. Accordingly, if assets are proposed to be injected into the testamentary trust, separate accounts should be set up within the testamentary trust so that the income derived from the injected assets is kept separate to the income derived from the assets of the deceased estate. Minor beneficiaries will be taxed at the highest marginal rate of 45% for eligible taxable income in excess of $1,307 derived from injected assets.
When does the Bill take effect?
The Bill is currently an ‘exposure draft’ so that those interested can contribute comments. The Bill has no legislative effect as it has not yet been read by parliament.
If the Bill is enacted, the changes will retrospectively apply to assets acquired by or transferred to the trustee of the testamentary trust on or after 1 July 2019. This means that income from assets and accumulations held in a testamentary trust before this date will not be affected by the higher marginal tax rate and continue to be regarded as ‘excepted trust income’.
We will monitor the Bill’s progress through parliament.
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