The recent Federal Court decision of Minerva Financial Group Pty Ltd v Commissioner of Taxation [2022] FCA 1092 (Minerva) signifies that the Federal Commissioner of Taxation (Commissioner) can successfully scrutinise a trustee’s discretion under the general anti-avoidance provisions (Part IVA).

Does this mean that all tax benefits emanating from trustee decisions are now subject to Part IVA? We think “no”. However, Minerva serves as another example of the complexities confronting the taxation of trusts (just when we thought section 100A was enough!)

Part IVA – what is it?

Under Part IVA the Commissioner is empowered to cancel a tax benefit that a taxpayer obtains because of a scheme.

Part IVA applies to any scheme where:

a taxpayer has obtained a “tax benefit” in connection with a scheme; and
having regard to eight matters specified in the legislation, it would be concluded that the person entering the scheme did so for the dominant purpose of enabling the taxpayer to obtain a tax benefit in connection with the scheme.

A “scheme” can be widely or narrowly defined.

In determining the purpose of entering into the scheme, regard must be had to eight factors which are determined objectively. PSLA 2005/24 (the ATO’s practice statement on Part IVA) places the eight factors into three categories, being

“how the scheme was implemented” (first four factors);
“the effect of the scheme” (next three factors); and
“the nature of the connection between the taxpayer and any other person” (final factor)

What happened in this case?

Minerva involved a group of financial services businesses (called the Liberty Group) undertaking a restructure in preparation for an initial public offering (IPO) of stapled securities. The IPO did not go ahead but the restructure did.

Significant to that restructure was the decision to establish all future securitisation trusts under a holding trust (Minerva Holding Trust (MHT)), rather than under the main operating company (Liberty Financial Pty Ltd (LF)), as had been done in the past. The structure (post restructure) is portrayed diagrammatically here:

Although the Commissioner argued that three schemes are subject to Part IVA, it is the second scheme (Second Scheme) and the third scheme (Third Scheme) which may generate concern for tax advisors.

The Second Scheme involved, among other things:

Implementing a series of transactions to ensure that MFGT became the sole ordinary unitholder in MHT;
The trustee of MHT choosing not to exercise its discretion to make any (or any substantial) distribution in respect of the distributable income of MHT to special unitholders of MHT (including LF); and
The trustee of MHT, as the residual income unit holder in the securitisation trusts, lending monies to LF.

The Third Scheme, in summary, comprised points 2 and 3 (above) from the Second Scheme.

The result was that the profits of the businesses earned via the Trust Silo were subject to 10% withholding tax (ultimately distributed as interest income to the foreign resident owner), rather than taxed at 30% via the Corporate Silo (as was the case before the restructure).

Arguments and decision

Although the Second Scheme involved multiple steps, the focus was on the trustee’s discretionary power. This much was acknowledged by the Court – that is, the Commissioner maintained that the failure by the trustee of MHT to make a distribution, or a larger distribution, to LF is a scheme for the purpose of Part IVA.

The taxpayer did not dispute that the steps involved in the Second Scheme generated a “tax benefit” but argued, in respect of the trustee discretion point, that the dominant purpose underpinning the trustee’s decisions was that a greater distribution of income from MHT to LF was not commercially desirable based on “a return on equity metric.”

As is often the case in tax disputes, the evidential burden placed on taxpayers to discharge the Commissioner’s assertions can be onerous. In this instance, no evidence was led to provide clarity on as to how the “return on equity metric” was calculated, what assumptions underpinned the calculation, whether or why that would not be desirable, or how that consideration outweighed the negative consequences of LF not receiving the income.

Accordingly, in determining the manner in which the Second Scheme was implemented, the Court held that:

The applicant was unable to provide any cogent reason, other than the tax benefit, why the decision was taken in each of the relevant years to direct no more than 2% of MHT’s net income to the special unitholders. The applicant submitted that neither LF nor Secure Credit had an “entitlement” to the income from the RIUs and that the power of the trustee of MHT to distribute income to the special unitholders was discretionary. So much, unsurprisingly, was accepted by the Commissioner. But neither factor goes to the relevant question of dominant purpose, objectively viewed.

In those circumstances, I agree with the Commissioner’s submission that, viewed objectively, the exercise of the choice in each of the relevant years was driven by the tax benefit of directing income away from LF.

Simply put, there was no “cogent” reason advanced by the taxpayer as to why it only distributed nominal amounts of income from MHT to the special unitholders in the relevant years.

It will be recalled that the Third Scheme was comprised entirely of steps, matters, things, or actions encompassed by the second part of the Second Scheme. Given the Court’s view of the Second Scheme, perhaps unsurprisingly, the Court concluded that a reasonable person would conclude that the Third Scheme was entered into or carried out for the dominant purpose of enabling of obtaining a tax benefit in connection with the scheme.

Interestingly, the taxpayer failed in this case even though, of the eight factors to be considered in a Part IVA analysis for the Second and Third Schemes, five were considered neutral and one was in favour of the taxpayer. It was the manner and timing of the Second and Third Schemes from which the decision was reached in favour of the Commissioner.

Principles

Minerva provides judicial endorsement that a trustee’s discretionary decision-making functions can fall within the ambit of Part IVA and amplifies how third parties can successfully scrutinise a trustee’s discretionary powers to distribute income to certain beneficiaries and to the exclusion of others (as noted in the recent Victorian Supreme Court case of Owies discussed here.)

But that endorsement is not without qualification.

Minerva concerned a specific fact scenario, a complex restructure, and sophisticated entities (located both in Australia and overseas) with a history, before the restructure, of generating profits subject to a higher rate of tax. Accordingly, the context in which the Commissioner was examining the trustee’s discretionary powers in Minerva should not be overlooked.

Furthermore, the taxpayer in Minerva lost because they were unable to provide a “cogent” rationale for why trust income was distributed to one beneficiary and to the exclusion of another.

Trustees distribute income for a range of reasons, and while tax can be one driver, there are many other genuine reasons why income is distributed to one beneficiary to the exclusion of others, including asset protection, succession or retirement planning, or funding lifestyle or investments.

That is, Minerva should not be cause for taxpayers and their advisors to start querying whether setting up a corporate beneficiary and distributing trust income to that beneficiary is now subject to Part IVA. But it may serve as a reminder to carefully watch this space…

Is the exercise of a trustee’s discretion a “choice”?

Part IVA cannot apply where the tax benefit is “attributable to the making of a declaration, agreement, election, selection or choice, the giving of a notice or the exercise of an option (expressly provided for by [the Income Tax Assessment Act 1936 or the Income Tax Assessment Act 1997]”.

It has been suggested that the exercise by a trustee to make a beneficiary presently entitled to income is a choice afforded to it under Division 6 of the Income Tax Assessment Act 1936, subject to the provisions of the trust deed. The alternative view is that the trustee exercises a discretion under the trust deed rather than a choice “expressly provided for” by the income tax legislation.

Other

Minerva is only the second Federal Court case (the other being Guardian AIT, discussed here) that has considered the amended Part IVA which came into effect in 2013 in response to perceived weaknesses in determining a “tax benefit.” Although the taxpayer in Minerva conceded that a “tax benefit” had been obtained, the decision is useful to distilling how the judiciary is interpreting and applying Part IVA.

If you have any questions about the Minerva decision or in respect of Part IVA generally, please contact one of our experts.

Edward Hennebry
Senior Associate
T +61 3 9611 0113 | M +61 405 847 261
E: ehennebry@sladen.com.au

Neil Brydges
Principal Lawyer | Accredited Specialist in Tax Law
M +61 407 821 157 | T +61 3 9611 0176
E: nbrydges@sladen.com.au

Daniel Smedley
Principal | Accredited Specialist in Tax Law
M +61 411 319 327 | T +61 3 9611 0105
E: dsmedley@sladen.com.au

Rob Warnock
Principal Lawyer
T +61 3 9611 0155 | M +61 419 892 115
E: rwarnock@sladen.com.au