Discretionary Trust - Deprecation and capital works deductions

A question in relation to the information provided in the below link that i haven't been able to find an answer. The Tax Issues of Using a Trust To Own Your Investment Property

In summary, the example covers a scenario where a discretionary trust holds an IP for beneficiaries:
- rental is $25,000
- less expenses $15,000
- less depreciation and capital works deductions $7,000
- net rent for tax $3,000

Hence, $10,000 is distributed to beneficiaries, however only $3,000 is taxable, as the depreciation and capital works deductions of $7,000 is essentially passed to the entitled/nominated beneficiaries.

My question is as follows:
a. Where there is a high income beneficiary as well as a low income beneficiary in the trust, it is possible to distribute the income of $10,000 to the low income beneficiary, and the $7,000 of depreciation and capital work deductions to the high income earner?
b. If not, i assume the percentage of the depreciation and capital works deductions must align with the income distribution split? e.g. If it were 50/50 distribution between the 2 beneficiaries, will it be equal $5,000 income and $3,500 depreciation and capital works deductions, resulting in $1,500 net rent for tax per beneficiary?

Thanks in advance for any clarification!

 

What is the trust income and taxable income and what does the trustees resolution look like

 

Hi Terry, thanks for the response.

In this scenario, i am assuming the trust only has an IP with an income of $10,000, and a taxable income of $3,000 due to the property deprecation schedule of $7,000 which will all be passed onto the beneficiaries, leaving it with a nil balance.

For scenario (a), trustees resolution will have 100% of trust income distributed to the low income earner, and 100% of the depreciation and capital works deductions distributed to high income earner. I assume the answer will be 'no' this can't be done, but just checking.

For scenario (b), trustees resolution will have 50% of trust income to be equally distributed to both the high and the low income earner. I believe this would be the standard.

However, wanted to confirm if scenario (a) is allowed as obviously scenario (a) will result in an overall better net outcome.

 

Why? This is a discretionary trust?

 

The trust deed will have a definition of 'trust income' and this would probably allow the trustee to classify amounts as income or capital. The depreciation expense could result in the taxable income being $3,000 but the trust income being $10,000 so the trustee could distribute this $10,000 to one or more beneficiaries. Or it may allow the $7,000 to be treated as capital and not income so the trustee might retain this or distribute it to the same or another beneficiary.

 

Apologies, I think I may have over complicated the question, as i was just trying to understand whether trust 'income' can be distributed to one beneficiary and whether 'deprecation and capital allowance' can be distributed to another beneficiary.

With scenario (b), meaning you cannot.

 

Thanks Terry. Will keep that in mind to check all the trust deeds.

 

Trust income can be distributed to beneficiaries. However a trust cannot distribute a outgoing that reduces net trust income.

 

Thanks Paul, that's what I thought. It was only after reading the article above (in my original post) that I got a little confused and just wanted to confirm.

I.e. Quoting from the article. "If the investment property is owned by a discretionary trust, notwithstanding the fact that the trust has distributed the $10,000 in cash to its beneficiaries, the taxable distribution to the beneficiaries will be limited to $3,000, as the trust can essentially pass on the depreciation and capital works deductions to which it is entitled to the beneficiaries."

 

who wrote the article ? phrased incorrectly.

There is one spruiker out there who had a tax article on his website which was a written by a mortgage broker and he was answering responses to the article, confusing GST and CGT and getting every answer incorrect.

 

The accounting value may well be what is physically distributed, or credited to the benefit of the beneficiary. The tax value is what is referred to as net trust income. Proportionate theory (in a simple sense) suggests these remain related. eg If a beneficiary is distributed 50% of trust income then no matter what occurs to that value the beneficiary is entitled to 50%....eg If the ATO disallows the QS deduction then the beneficiary (and not the trustee) will face a higher net trust income subject to personal tax. Where streaming of specific forms of income occur this can also be favourable and complicate matters. eg a trust distributes all non-property capital gains to a non-resident NZ beneficiary then s855-10 ITAA97 may exclude this from net trust income.

So a beneficiary for accounting purposes then isn't for tax purposes.

 

Thanks Terry
I came across this article in the Sept 2016 issue of the Your Investment Property Magazine. The article was written by someone named Eddie Chung.

Below is a link to the article.
The Tax Issues of Using a Trust To Own Your Investment Property

 

For the way the headline reads, the article is very thin on "the tax issues" and delves into topic way beyond the very issue in the headline. It mentions some matters in some detail and omits others. The depreciation matter is a red flag too as it implies a trust accesses a benefit that individuals cannot.

I rate it 1 out of 10.