16 December 2009 will forever be remembered as the date when the Australian Taxation Office (ATO) made the biggest “U-turn” in its history of interpreting the tax law.

On this date, the ATO published TR 2009/D8 which outlined the Commissioner’s view on the application of Division 7A of the Income Tax Assessment Act 1936 (ITAA 1936) to an unpaid present entitlement (UPE) owing from a trust to a corporate beneficiary. The draft ruling, which was finalised as TR 2010/3 and subsequently reissued as TD 2022/11 last year, expressed the view that a UPE owing to a corporate beneficiary represents ‘financial accommodation’ to the trustee and is therefore a ‘loan’ pursuant to section 109D of Division 7A. Prior to 2009, there had been no public pronouncements by the ATO of its shift in interpretation of section 109D.

Understandably, the tax profession had concerns with the ATO’s interpretation, and a joint submission was issued by the major industry bodies in response to TR 2008/D8 (refer footnote 1). It was clear from this submission that there were significant doubts about the ATO’s view that UPEs to corporate beneficiaries should be treated as section 109D loans. Paragraph 2(a)(ii) of the submission states the following:

“The correct juristic analysis of a UPE is that there is no loan by the corporate beneficiary to the trustee. A loan requires an advance and for the beneficiary to make an advance there must first be a payment by the trustee. That is, there is no payment made by a corporate trustee to the beneficiary, and there is no payment by the corporate beneficiary to the trustee and the trustee has not promised to repay any amount to the beneficiary. Given there is no initial payment, there can be no loan. It is submitted that there can be little or no doubt that the UPE of a corporate beneficiary resulting from the distribution decision but not payment of the whole or part of the net income of a trust estate does not fall within the general law meaning of loan. A contrary view has not ever been advanced either judicially or in respected academic writing.”

Fast forward 14 years, the AAT has categorically held that a UPE is not a loan for Division 7A purposes in Bendel v FCT [2023] AATA 3074. This case has been a timely reminder that the ATO is an administrative body and unlike the judiciary and legislature, cannot create new laws.

Facts of the case

The Bendel Group consisted of entities that carried on a suburban accounting and tax agent practice. The relevant entities were the Steven Bendel 2005 Discretionary Trust (2005 Trust) and Gleewin Investments Pty Ltd (Gleewin).

During the 2013 to 2017 years, Gleewin became entitled to the income of the 2005 Trust, which resulted in UPEs owing to Gleewin. The ATO subsequently commenced a review of the Bendel Group for the years in question and issued amended assessments contending that the UPEs comprised loans within the meaning of section 109D(3) of the ITAA 1936. Objections were lodged for the amended assessments which were disallowed by the Commissioner.

The trustee’s contentions

The trustee of the 2005 Trust contended that section 109D(3) does not embrace UPEs to corporate beneficiaries. The critical point made in this submission was that should UPEs be treated as loans, Subdivision EA (and its predecessor section 109UB) of the ITAA 1936 would be rendered redundant.

In simplistic terms, Subdivision EA is invoked if the following conditions are satisfied:

  • a trustee makes a loan to a shareholder or an associate of a shareholder of a private company; and
  • there is a UPE owing to the private company from the relevant trust.

Once Subdivision EA is applicable, the loan to the shareholder or the associate is treated as a Division 7A loan.

In this case, it was submitted that Subdivision EA specifically deals with the situation in which there is a UPE owing to a company. Therefore, a UPE in itself should not be interpreted as being a loan for the purposes of section 109D. The taxpayer made the following comments in its submission:

“9…The plain text of Subdivision EA (including, not least, its heading) shows that it contains the provisions intended to deal with situations involving unpaid present entitlements and that an unpaid present entitlement (whether put on separate trustor not) was not intended to be a loan as defined in s 109D(3).That approach ‘best give[s] effect to the purpose and language of those provisions while maintaining the unity of all the statutory provisions’. The legislative history and extrinsic materials are relevant and support the statutory intention revealed by a proper consideration of the statute itself. That is an orthodox application of established principles for construing a statute.”

“10….However, the legislature did not expand the definition of ‘loan’ to include an unpaid present entitlement. The extrinsic materials, including the media release confirm what is obvious from the statute itself. The legislature deliberately enacted separate section (s 109UB, which was later replaced by Subdivision EA) that expressly provided that the existence of an unpaid present entitlement is not, by itself enough [Emphasis added]. Rather, the legislature included additional requirements that must be satisfied before a loan or dividend is deemed.”

The decision

The Tribunal was required to answer the following question:

“Did Gleewin make a loan within the meaning of section 109D(3) of the ITAA 1936 to the 2005 Trust on account of the UPEs owing to Gleewin?”

In relation to the interaction between Subdivision EA and section 109D, the following was stated in paragraph 99 and 100:

“[99] The Subdivision EA pathway to a Division 7A assessable dividend was not intended to create a second taxable dividend in addition to a s 109D dividend arising out of the same unpaid present entitlement. Nor is Subdivision EA expressed or intended to operate in a limited way, only taxing those circumstances that fall within its terms which do not otherwise fall within s 109D, for example because the corporate beneficiary is unaware of the UPE and therefore cannot be said to have taken any step that might be said to be a loan attracting s 109D. Section 109B is not a limiting section that prevents Subdivision EA from operating in circumstances where its clear terms are met. Section 109B simply reveals that Subdivision EA is an additional pathway to cause an amount to be taken to be a dividend, an additional pathway to supplement other pathways that on their own do not deliver the intended outcome. Further, that pathway required particular additional circumstances to be present before taxable dividends arose such that not all unpaid present entitlements are to be taken to be dividends.”

“[100] Testing the Commissioner’s construction of the definition of loan in s 109D calls for a search for a discernible criterion that would identify any circumstance where Subdivision EA does not apply when an unpaid present entitlement of a corporate beneficiary exists concurrently with a loan by the trustee to a shareholder (or shareholder’s associate) of that corporate beneficiary. The existence a separate trust reflecting the UPE cannot be that criterion. The extrinsic materials describe this circumstance as one where Division 7A, through Subdivision EA, is to apply when the trustee has made or makes a loan to the corporate beneficiary’s shareholders or their associates. A corporate beneficiary’s knowledge, or lack thereof, of the UPE is not a criterion that could make a difference given it is not expressed to be a limiting factor in Subdivision EA, or anywhere else. There isn’t a discernible criterion in Division 7A to prevent Subdivision EA from operating in accordance with its terms. Because Subdivision EA is specific to a circumstance, when that circumstance is present, Subdivision EA is the lead provision.”

In concluding that the UPE owing to Gleewin was not a loan pursuant to section 109D(3), the Tribunal concluded as follows:

“[101]….the necessary conclusion is that a loan within the meaning of s 109D(3) does not reach so far as to embrace the rights in equity created when entitlements to trust income (or capital) are created but not satisfied and remain unpaid. The balance of an outstanding or unpaid entitlement of a corporate beneficiary of a trust, whether held on a separate trust or otherwise, is not a loan to the trustee of that trust.”

The conclusion reached by the AAT is strikingly similar to comments made by industry bodies 14 years ago in their joint submission. That is, a UPE being a right created in equity does not fall within the general law meaning or section 109D(3) definition of a ‘loan’. Simply put, a UPE owing to a corporate beneficiary should not be treated as a loan for section 109D purposes. Further, the Commissioner’s interpretation of section 109D has the effect of undermining the operation of Subdivision EA. If the Parliament had intended that a UPE to a corporate beneficiary should be within the ambit of section 109D, Subdivision EA would not have been enacted. Until such time that new Division 7A legislation is enacted to specifically include UPEs to companies as 109D loans, the correct statutory interpretation of this section, according to Bendel v FCT, should be that UPEs are not loans for Division 7A purposes.

Where to from here?

Being an AAT decision, the ATO could simply dismiss the case on the basis that a Tribunal decision is not a binding judicial precedent. If the case is appealed, the ATO faces the risk that a higher court could rule against them on this issue. At the same time, the ATO may wish to appeal the case in order to establish credence to their long-standing view on this issue.

Whichever direction Bendel v FCT takes, the ATO will have a challenging time ahead in defending its view as currently stated in TD 2022/11. The case has reminded us that the ATO is not a lawmaker, and its public rulings and determinations are not legal precedents.

1. The Institute of Chartered Accountants, CPA Australia, Taxpayers Australia Inc, National Institute of Accountants, Taxation Institute of Australia, Law Council of Australia, Joint Submission Draft Taxation Ruling TR 2009/D8 Income Tax: Division 7A loans: trust entitlements (19 February 2010).