Tax & Accounting Blog

Unit Trust Compliance and Justified Trust

Business Practices, Business Tax, Corporations, Organisations, Tax, Uncategorized April 29, 2019

Trusts are used extensively in Australia, with the number of trusts projected to hit over 1 million by 2022, a 25% increase from 800,000 in 2014. Used for bona fide business structuring, investment holding, wealth and estate planning as well as superannuation, and fueled by factors such as:

  • The sustained growth and economic clout of financial services in the Australian economy (10% of annual GDP);
  • Ballooning assets under management within superannuation funds (an eye watering $2.7 trillion as of December 2018);
  • Strong inbound investment in alternative assets (particularly in infrastructure, agricultural, property and logistics); and
  • Ostensibly the most sophisticated and complex, yet stable, regulatory and tax environment across the Asia Pacific region;

….unit trusts (numbering 96,000 as of 2014 and deployed predominantly by the asset management industry) will continue to be a fixture for years to come.

Given the significance and magnitude of trust income in Australia, it is unsurprising that trust structures have come under intense scrutiny by the Australian Taxation Office (“ATO”) and its Tax Avoidance Taskforce, focusing on exploitation of trusts for the primary purpose of tax avoidance and evasion.

Certain areas attracting scrutiny include: 

  • Inconsistencies leading to favourable tax treatments such as varying tax positions and re/mischaracterisation of income for the purpose of accessing concessional capital gains treatment or preferential withholding tax rates;
  • Deployment of multiple layers of trust structures with no legitimate commercial reasoning, such as obfuscation of ultimate beneficiaries or, in the case of self-managed super funds (“SMSFs”), circular distributions; and
  • Distributions to superannuation funds (particularly SMSFs) and tax exempt beneficiaries.

How the Justified Trust approach fits into the picture

The ATO employs the Justified Trust approach to attain assurance that taxpayers comply with their tax obligations in a timely fashion and with a greater level of transparency.  This covers:

  • Understanding the taxpayer’s tax governance and risk management framework;
  • Identification of tax risks flagged to the public;
  • Understanding significant and new transactions; and
  • Understanding the discrepancy between tax and accounting numbers.

For trustees and responsible entities, irrespective of whether ancillary functions are outsourced to custodians and fund services providers, this means they must be able to:

  • Demonstrate a strong operational tax governance framework, including assurance around data integrity from third party sources, as well as functioning processes for identifying, assessing and rectifying mischaracterized income streamed to unitholders (where appropriate) and ultimate beneficiaries;
  • Justify tax positions taken in respect of new and significant transactions and oversee how these are then operationalised as part of the fund’s tax framework. For example character and treatment of income arising from certain assets through each stage of said asset’s holding period, as well as interfunding through chains of trusts); and
  • Corroborate historical accounting-to-tax differentials with the relevant documentation and evidence in place.

This adds to an already challenging tax compliance environment for funds and their advisors, particularly for those:

  • Operating as a fund of funds;
  • Investing in a diversified pool of securities; and
  • Making multiple distributions over the course of a year.

A moment of reflection

Taken as a whole, these call into question the adequacy of existing systems, processes and human capital to address the evolving expectations around transparency and governance, both for the investment community, as well as tax and regulatory authorities.

As funds prepare for, and work through, peak reporting season (with the impending financial year end), it is opportune time for teams to document key pain points and gaps arising from the end-to-end execution and fulfilment of their compliance obligations, thus highlighting opportunities to build greater integrity, transparency and efficiencies around recurring processes.


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