By James Meli - Special Tax Counsel Abbott and Mourly Lawyers
Introduction
In the lead up to calendar year, it is important to remember that various States/Territories impose land tax on land held as at midnight on 31 December or 1 January.
For land held in trusts, it is critical to ensure that trust deeds are up to date so as to avoid any unintended tax imposts, for example:
for discretionary trusts – surcharge land tax if the trust deed does not specifically exclude foreign persons (as relevantly defined); and
for unit trusts with land in NSW – forfeiting the tax-free threshold unless the trust is a fixed trust (as relevantly defined).
Now is the perfect time to discuss these issues and, if necessary, take action before the year-end deadline.
Discretionary Trusts and Foreign Persons
As you may be aware, various duty and land tax surcharge regimes apply to foreign persons. Broadly, a foreign person includes a discretionary trust where any beneficiary of the trust is a foreign person.
An individual is a foreign person unless they are an Australian citizen or permanent resident (the latter also requiring significant physical presence in Australia from year to year and there are special rules in place for New Zealand special category visa holders).
Therefore, if a discretionary trust has foreign person beneficiaries, the trust itself is a foreign person and subject to the relevant surcharges.
In order to avoid this outcome, and subject to the terms of the trust deed, for example:
· a specific power to exclude beneficiaries or a class of beneficiaries; or
· a broad variation power,
foreign persons may be excluded so as to prevent the trust from being a foreign person itself going forward. Whilst generally duty and land tax surcharges apply to residential land and certain residential related interests, it is not always the case.
The Domino Effect - Unit Trusts
It is important to keep in mind that the status of unitholders in a unit trust can have a domino effect on the unit trust itself, for example, where a discretionary trust that is a foreign person (i.e., it has not excluded foreign persons) owns 20% or more of the units in a unit trust with land in NSW, the unit trust is:
· taken to be a foreign person; and
· subject to duty and land tax surcharge.
This can significantly increase both the upfront and ongoing cost of developments or investments and affects not only the foreign person unit holder, but the unit holders as a whole. Therefore, it is important to keep this in mind when establishing a unit trust (especially when you are not the adviser to all unitholders) and when reviewing unit trust structures with land assets.
Fixed Trusts for NSW Land Tax Purposes
In NSW, only fixed trusts are entitled to the tax-free threshold.
The definition of fixed trust for NSW land tax purposes is very particular and even trusts generally understood to be fixed do not qualify in this regard. To ensure fixed trust status for present purposes, unit trust deeds must specifically include overriding requirements that mirror the definition of fixed trust under relevant legislation.
Where an existing unit trust deed does not include these overriding provisions, and again, subject to the terms of the trust deed, it must be varied to insert them. This type of variation is known as a ‘patch’ as it overrides any inconsistent provisions of the unit trust deed and avoids having to adopt a more surgical approach by varying each and every individual provision touching on the issue of fixed trust status.
Although this ‘patch’ approach was initially rejected by the Office of State Revenue (now Revenue NSW), the practice was confirmed by the Court of Appeal of the NSW Supreme Court in Sayden Pty Ltd v CCSR [2013] NSWCA based on ordinary principles surrounding the construction of deeds.
Finally, it is important to keep in mind that whilst varying a unit trust deed to become a fixed trust for NSW land tax purposes will facilitate access to the tax-free threshold at the unit trust level, the benefit of the tax-free threshold may be effectively reversed out at the unit holder level.
The reason for this is that the NSW land tax system operates on the basis of primary and secondary taxpayers.
If the primary taxpayer (the trustee of the unit trust) is eligible for the tax-free threshold, each secondary taxpayer (unitholder) is also liable for land tax on their proportionate share of the unit trust’s land in NSW, together with any other land in NSW they own or are taken to own for present purposes. For example, if a unit trust that was a fixed trust for NSW land tax purposes accessed the tax-free threshold and its sole unitholder was a discretionary trust that had no other land in NSW, the discretionary trust would be assessed to land tax on 100% of the value of the unit trust’s land in NSW and:
· its liability would be determined without the tax-free threshold (as it is ineligible); and
· it will receive a credit for any land tax paid by the unit trust (e.g., any land tax paid on the value of land in NSW over and above the tax-free threshold).
Ultimately, the benefit of the tax-free threshold at the unit trust level can be effectively reversed out at the unit holder level if the unitholder is either:
· ineligible for the tax-free threshold (e.g., a discretionary trust); or
· already over the tax-free threshold.
Next Steps
The next steps are as follows:
In relation to discretionary trusts:
o identify discretionary trusts with land assets;
o review the trust deed to confirm whether it excludes foreign persons;
If not, get in touch with Abbott and Mourly Lawyers.
2. In relation to unit trusts generally (including those with land in NSW)
o identify unit trusts with land assets;
o review the unit register to confirm whether any unitholders are discretionary trusts;
o if so, review the trust deeds of the discretionary trust to confirm whether it excludes foreign persons.
If not, get in touch with Abbott and Mourly Lawyers
3. In relation to unit trusts with land in NSW:
o identify unit trusts with land in NSW;
o review the trust deed to confirm whether it is a fixed trust for NSW land tax purposes.
if not, get in touch with Abbott and Mourly Lawyers
Disclaimer – This article provides general information only. This article is not advice and cannot be relied upon as such. This article outlines high level issues and does not deal with specific variables which may or may not apply to your circumstances or your client’s circumstances (as applicable).