ATO interim decision impact statement on Bendel Case - Division 7A

On 28 September 2023, the Administrative Appeals Tribunal (the Tribunal) in Bendel v FCT [2023] AATA 3074 (Bendel) decided that an unpaid present entitlement (UPE) between a corporate beneficiary and trust did not constitute a ‘loan’ under s109D(3) ITAA 1936. However, the Bendel decision challenges the ATO’s established view in TD 2022/11 (and the previous but now withdrawn TR 2010/3 and PS LA 2010/4), which treats these UPEs as loans for the purposes of Division 7A.

Unsurprisingly, the ATO has appealed the Tribunal’s decision, and subsequently released an Interim Decision Impact statement (Interim DIS) regarding Bendel. In the Interim DIS, the ATO states that ‘until the appeal process is finalised, the Commissioner does not intend to revise the current ATO views relating to private company entitlements to trust income as set out in TD 2022/11’.

This means the ATO will not follow the Bendel Decision until the outcome of its appeal to the Federal Court has been decided. They intend to continue to administer the law on the basis of its views in TD 2022/11 that Division 7A does apply to these arrangements.

The ATO has also said it will not finalise objection decisions relating to objections to prior year assessments where the decision turns on whether Division 7A applies to UPE arrangements with private companies.

Division 7A, UPEs and Bendel

Division 7A was introduced to prevent private companies making tax-free distributions of profits to shareholders or their associates, by way of payments, non-commercial loans or debt forgiveness, or in the case of Bendel, unpaid present entitlements between a trust and a related private company.

The main issue in Bendel was whether Division 7A could apply where a private company failed to call for payment of entitlements to income of an associated trust and whether this was considered to be the provision of 'financial accommodation' that may be treated as a loan for the purposes of s109D. This is the ATO’s stated position in TD 2022/11, as well as the withdrawn TR 2010/3 and PS LA 2010/4.

Bendel’s case

In Bendel, the taxpayer controlled a number of entities including discretionary trusts and a private company that was a beneficiary of the trusts. The company became entitled to a share of the income of trust with most of the distributions remaining unpaid. These UPEs were treated by the ATO as loans from the corporate beneficiary to the trust and deemed to be Division 7A dividends pursuant to s109D(3) ITAA 1936.

Tribunal decision

The Tribunal held the UPEs did not constitute loans to the trust within the meaning of s109D(3) of the ITAA 1936 and therefore, were not deemed to be Division 7A dividends.

Of the four issues considered by the Tribunal in Bendel, Issue 1 was the most relevant:

  • Did the corporate beneficiary make a loan within the meaning of subsection 109D(3) to the trust on account of the corporate beneficiary’s UPE with the trust?

On this issue, the Tribunal concluded that:

‘a loan within the meaning of s109D(3) does not reach so far as to embrace the rights in equity created when entitlements to trust income (or capital) were created but not satisfied and remained unpaid. The balance of an outstanding or unpaid entitlement of a corporate beneficiary of a trust, whether held on a separate trust or otherwise, was not a loan to the trustee of that trust. …….The answer to Issue 1 was thus no.’

Application of Tribunal decision

It is important to note, this case only applies where the corporate beneficiary has simply not called for payment of its entitlement from the trust. If the trust has also lent money to other parties, there will still be a Division 7A problem (under Subdivision EA). Similarly, if the company has lent the trust money in addition to the UPE, that will also constitute a Division 7A issue. The decision is only truly applicable in the very simple situation where the only transaction in question is a distribution from the trust to the company which the company has not called for and the trust has reinvested those funds in its own (non-lending) activities.

Interim Decision Impact Statement on Bendel

In its interim DIS, the ATO’s view of the Bendel Decision is that where a trust has distributed an amount to a company and that distribution remains unpaid, the ATO will treat the unpaid distribution as a loan that is subject to Division 7A. The loan arises at some time in the year following the year of distribution. That is, for distributions made at 30 June 2023, the loan will be taken to have been made at some time in the year ended 30 June 2024. 

Who does this apply to?

The interim DIS applies to Trusts with UPEs to companies where the trust has not further on-lent the funds. That is, the trust has invested the unpaid distribution in its business or investment assets and not lent the money to anyone else.

It is to be noted that where the trust has on-lent funds to a shareholder of the private company or their associates, Division 7A will continue to apply, no matter which way the appeal in Bendel goes. This is because the loan from the trust will attract alternative provisions in Division 7A. As such, the suggested actions below may not be strictly applicable (although BDO would recommend contacting your adviser to discuss what action should be taken).

BDO Comment

What action should clients take?

Clients that have UPEs in similar circumstances should consider discussing the following actions with their BDO adviser:

  • For UPEs arising in the 2022 and earlier years – these are likely already being managed under agreements of one variety or another and should continue to be managed under those agreements. If they are not under agreements, please discuss with your adviser, because it is likely that you need to take some action
  • For UPEs arising in the 2023 year – no action is currently required. Financial accommodation is only likely to be taken to be provided some time after 30 June 2023. As such, you have until the lodgement day of the company beneficiary’s 2024 tax return (so at earliest probably 31 October 2024) to make a decision about what to do.

The only other clients who could be affected are those who have previously been issued with amended assessments for deemed dividends under Division 7A in these circumstances. Any client in that situation should contact their adviser about whether they should be lodging an objection.

Should you have any questions regarding the content of this article, contact your BDO tax adviser for further guidance.