Bamford – what does it mean and what do you need to do?

Castle Legal has taken some time to examine deeds issued by Castle Corporate over the years (none of which require amendment), provide a brief summary and develop precedent documentation in relation to the decision in the case of Bamford v The Federal Commissioner of Taxation where judgment was handed down in March 2010.

In doing so, we have had the opportunity to consider a number of commentaries in relation to the decision, many of which have been intricate explanations of the niceties of the law and have not dealt with the questions on the lips of many accountants, which are:

  1. Can you explain, in brief terms, what was decided by the High Court in that case?
  2. Where can we obtain guidance and documentation which accords with that decision?

The decision

The High Court dealt with appeals by both Bamford and the Commissioner and, in refusing both appeals, made rulings in regard to two areas:

  1. the meaning of the expression “income of the trust estate” in the opening words of section 97(1) of the 1936 Tax Act, and
  2. the meaning of the words “that share” in relation to the net income entitlement of a beneficiary who is entitled to a share of the net income.

Income of the trust estate

The Court held that when the undefined expression “income of the trust estate” in section 97(1) is contrasted with the defined notion of “net income of the trust estate” in section 95, the term “income of the trust estate” takes its meaning from the general law of trusts. In that regard, Chancery had developed rules apportioning capital and income receipts and outgoings and losses which presumed that, if a trust deed permitted it, the trustee could make that decision. The Court approved a previous judgment in the case of Totledge that a beneficiary under a trust who is entitled to income will ordinarily only be entitled to receive actual payment of the appropriate share of distributable income, the trustee being entitled and obliged to meet revenue outgoings from income before distributing to a beneficiary entitled to income and that section 97(1) “income” and “[tax] net income” are not the same.

Share

The Court, in following the argument of the taxpayer, held that the words “that share” in section 97(1)(a)(i) in relation to the beneficiary’s share of the section 97(1) distributable income as meaning “proportion” rather than “part” or “portion”.

The ATO’s view

As with all of these matters, it is important to note the views of the Australian Taxation Office which were set out in the ATO’s decision impact statement on the case and its Practice Statement issued thereafter. The ATO:

  1. accepts that, if the trust deed permits the trustee to treat the whole or part of a receipt as income of a period, this will constitute “income of the trust estate” in section 97
  2. accepts that, if the trust deed does not permit the trustee to make that decision and the trustee does not have the power to characterise receipts, “income of the trust estate” in section 97 will be determined by the law of trusts
  3. accepts that a trust deed may permit the trustee to decide whether an outgoing is properly charged against the income
  4. accepts that an amount included in the beneficiary’s assessable income under section 97 consists of an unallocated proportionate share of the entirety of the [tax] net income
  5. will not seek to disturb returns for or prior to FYE 30 June 2010 if the taxpayer relied on a view of Div 6 that was reasonably open prior to Bamford
  6. acknowledges that considerable uncertainty remains as to the application of Div 6 in cases where the facts are not identical to those in Bamford, and
  7. does not see Bamford as supporting the view that amounts distributed always retain the character which applied when received by the trustee (streaming).

What to do?

Trust deeds

Fortunately, Castle’s investment in having good quality documents has paid off, and you will be pleased to know that all trust deeds issued by Castle define “income” very flexibly, so that it encompasses either a section 95 definition or an ordinary concepts definition, with the trustee being free to use such interpretation as best suits its purposes.

In relation to deeds acquired from other suppliers, what do accountants need to do?

We have, in preparing this article, only sought to deal with the ramifications of Bamford in relation to discretionary or semi-discretionary (hybrid) trusts.

It will be necessary to consider the deeds relating to discretionary and hybrid discretionary trusts to ascertain whether they need to be amended to take into account the Bamford decision. More especially it will be necessary to ascertain whether the deed defines “income of the trust estate” and, if so, how it is defined (eg by reference to section 95) and whether the trustee has an overriding ability to decide the nature of the income despite any definition.

Not all deeds will need to be updated, and the need to update or not should be professionally decided. With the introduction of CGT in 1985, the majority of well-drawn
deeds would have defined the term by reference to section 95, but only the best deeds (including all of Castle’s deeds) provide that, notwithstanding the definition, the
trustee retains an overriding right to decide on what constitutes “net income”.

It is likely that the majority of trust deeds for trusts which commenced prior to September 1985 will not define trust income at all.

Resettlement

It should be noted that the alteration of the deed may trigger a trust resettlement (a danger alluded to by the ATO in their decision impact statement) with CGT and, possibly, duty consequences.

The ATO has now withdrawn its August 2001 Statement of Principles, thereby creating further confusion as to whether a change to the definition of income will constitute a resettlement. Whilst we wait for the ATO to release a new Statement of Principles, any amendment of the definition of income in a trust deed should be approached cautiously and legal advice should be obtained.

Amend or not

In short, in reviewing deeds in light of Bamford, you can feel confident that Castle’s deeds are well written and define “income” very flexibly. However, with deeds from any other provider, you should look for the following:

  1. the age of the deed
  2. any definition of “income”
  3. whether “income” is defined by referring to general accounting principles, accounting standards or other such measures
  4. any definition which grants the trustee a discretion to make a decision on income determination, and
  5. any definition which excludes capital gains which are dealt with separately in the trust deed.

Once these deeds have been identified, they should be provided to Castle Legal to consider whether amendment is necessary and to consider the capital gains tax consequences of a resettlement upon amendment.

If you wish to vary a deed, our charge for the amendment is $660 (incl GST).