Lessons from Dalby’s case
Dalby’s case highlights a number of issues for trustees to consider in distributing trust income:
- The Tribunal decision is confined to the specific grounds of objection
One of the key lessons to be learned from Dalby’s case is to be aware that, when applying for a review of an objection decision (i.e., if the ATO has denied a taxpayer’s objection on a particular matter), the taxpayer and the Tribunal are confined to the grounds of the objection unless the taxpayer applies to extend these grounds and the Tribunal agrees to this.
TAX WARNING – Tribunal is also confined to the grounds of objection
The issue that arose in Dalby’s case, in relation to allowing a trust resolution as a ground of objection, has arisen in a number of other cases. Most recently, this issue was dealt with in The Trustee for the Whitby Trust v FCT [2019] AATA 5637, in which the trustee argued:
“…the Tribunal is empowered to stand in the shoes of the Commissioner…and can dispose of the application in accordance with how it sees the law properly applying to the facts as found, and unlike an applicant, is not bound by S.14ZZK of the Administration Act in the same way as an applicant is bound...”
The Tribunal rejected the argument, confirming that the jurisdiction of the Tribunal is limited by the statutes which confer its jurisdiction. In other words, the Tribunal cannot simply resolve a dispute based on how it sees the law applying to the facts. Rather, the Tribunal must decide whether the ATO’s objection decision was correct by taking into account only those arguments initially raised by the taxpayer, or argument(s) raised later in the proceedings if the Tribunal specifically allows it, and not any wider considerations.
- Consider the implications of a post year-end amendment to net (taxable) income
Another issue that is highlighted through Dalby’s case is the importance of considering the implications of a post year-end adjustment to net (taxable) income. In Dalby’s case, the net (taxable) income of the trust was increased by $900,000 because the ATO denied the trust a tax deduction. In this case, whilst the trustee did produce a trust resolution, it was not produced on a timely basis in the legal proceedings, which ultimately meant the Tribunal did not permit it to be introduced as a ground of objection against the trustee assessment. The effect of this disallowance produced the same outcome for tax purposes as if no trust resolution were made, being that the trustee is now facing a significant trustee assessment under S.99A on the basis no beneficiary was presently entitled to trust income for tax purposes.
For this reason, it is recommended that, even if it is believed that a trust has no net (taxable) income or has a tax loss in an income year, it is crucial that the trustee nonetheless prepare a trust resolution to distribute any trust income in the event an adverse adjustment is later made (e.g., a deduction is denied).
- No default beneficiary clause
Although not clear from the facts in Dalby’s case, it can be inferred that the trust deed for the Dalby Trust did not include a default beneficiary clause (i.e., due to the ATO’s position paper not referring to any such clause). It is generally recommended that a clause of this type is included in a trust deed, as it basically ensures that, in the event the trustee does not exercise the power to accumulate or to distribute all or part of the trust income, the clause will automatically create a present entitlement to trust income in favour of named default beneficiaries. Default beneficiary clauses are discussed in further detail below.
In light of the above lessons gleaned from Dalby’s case, it is evident that the trustee, beneficiaries and/or the tax agent and advisers in Dalby’s case would have been well served to:
- prepare an effective trust resolution (and produce this during proceedings on a timely basis);
- consider amending the trust deed (if possible) to include a default beneficiary clause; and
- consider who will pay tax on any increase in the trust’s net (taxable) income.