Summit - Tax & Business Accountants, Melbourne

Tougher measures for Trusts from the ATO

The ATO delivered a not-so-welcome draft ruling on Division 7A Loans and Trust Entitlements just before Christmas. This ruling may significantly affect trusts and the way they distribute some of their income to their related companies.

Draft ruling TR2009/D8 states that unpaid present entitlements (distributions from the trust to the beneficiary company which are appointed, but not paid) may be considered as a loan from the company back to the trust for Division 7A purposes. Until now, this has not been the case.

Divison 7A of the Tax Act says that a loan from a private company to a shareholder or associate of the shareholder is treated as an unfranked dividend, unless the company and the shareholder have entered into a complying loan agreement and principal is being paid on the loan.

So why the change?

For a while now, the Tax Office has been concerned about trusts distributing income to a company without actually physically paying the money (unpaid present entitlements or UPEs).  In many cases, the money is not paid, because the company simply does not have the cash. It may be tied up in business working capital, committed to assets or even used to buy property within the trust. Having UPEs has been popular as it allows the trust to access the company tax rate on profits, while retaining the profits to fund ongoing activities within the trust.

It has been common for companies to build up a significant number of UPEs, and while the company paid the company tax rate on these amounts, the tax payable was significantly less than it would be if the money had been paid to an individual beneficiary. Hence the reason for the ATO's draft ruling.

The draft ruling is both retrospective and prospective. The key date is 16 December 2009. The ATO says that where a trust had made distributions to a company prior to this date, and maintained them as an unpaid present entitlement, then this ruling interpretation will not apply and you are able to rely on past statements made by the ATO.  So, if you have unpaid present entitlements between your trust and a company you will need to quarantine those that are pre 16 December.  This will need to be clearly recorded inside the accounts of the company and the trust.

It is important to keep in mind that this is currently only a draft ruling and will not be applied until it becomes a final ruling. The Commissioner  has stated the the final ruling will not be made until comments are received (open until the end of the month) and read. However, it is advisable to work on the basis that this draft ruling will domiate, because if it does become  final, trusts who have used corporate beneficiaries to limit tax payable on distributions, but where distributions have not been paid will need to change strategy.  Otherwise, they will face an additional tax liability.

For the moment, we are in a wait and see holding pattern. We recommend that if you do operate a trust and use a corporate beneficiary that you meet for tax planning early this year. If you have any queries, or would like to discuss strategy, please contact our office.

February - not just the temperature that's hot

February is a notoriously bad month for cash flow crisises. The balance between growth and cash flow is always a delicate one. All it takes is for a few customers to slow payment or stop paying you and your cash flow suddenly looks ill. According to the latest Dun and Bradstreet data, business to business payment days have risen to 53.9 days. Large companies are the worst payers, with small companies (traditionally quick payers) also slowing their payment. With further interest rate increases and BAS payments due, more and more companies will start being selective about who they pay and how quickly.

The news isn't much better for companies dealing with consumers either. Further Dun & Bradstreet analysis shows that fourty percent of Australian will need to use their credit card to pay bills. The 18 to 24 age group and families appear to be doing it tougher now than at the height of the credit crunch.

So, what can you do to protect yourself from defaulting customers?

1. Manage your debtors
Set your payment terms and stick to them. Have a follow up process that works. If customers are trying to decide which bills to pay, having someone chasing them for money will help swing that decision in your favour.

2. Plan
Prepare a cash flow analysis. It's as simple as taking a look at the cash requirements of your business. Make sure forecasts aren't too optimistic and measure the performance carefully.

3. Explore
Spend time looking at efficiency. Not so much cost cutting (as you've probably already done that), but at where gains can be made without sacrificing resources.

If you would like further cash flow advice, please call us on (03) 9622 0600 or click here to arrange for a consultation.

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