Last man standing issue and allocation of income on redemption

March 18, 2011 − by Unity Fund Services − in News

The Federal Court of Australia has handed down its decision in Colonial First State Investments Limited v Commissioner of Taxation (“Colonial First State case”). This decision considers the tax effect of provisions in the constitution of a unit trust that seeks to allocate part of the taxable income of the trust to a unitholder that redeems units in a trust.

The decision in the Colonial First State case emphasises the importance of the provisions in unit trust deeds that allocate income on redemptions being appropriately drafted. The unit trust’s constitution in the Colonial First State case was not effective in allocating specific classes of taxable income of the trust (eg. capital gains) to redeeming unitholders at the time of redemption.

The decision also raises concerns regarding the status of fixed trusts for Australian tax purposes. Qualifying for fixed unit trust status is important as it allows the unit trust the ability to carry forward tax losses and pass on franking credits to it unitholders.

The Colonial First State case highlights limitations with the current taxation of unit trusts rules. It is anticipated that the proposed MIT attribution regime if enacted with effect from 1 July 2011 should address many of the concerns raised as a result of the decision. The MIT regime allows for greater flexibility and certainty in relation to income attribution between unitholders as well as preserving the fixed trust statue of MITs.

A copy of the decision is available here.