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Distribution of Family Trust income to minors

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A Family Trust allows the distribution of discretionary income to a family group. Distributing income to minors (children under the age of 18) from a Family Trust has allowed a portion of Trust income to be treated as tax free due to the operation of the Low Income Tax Rebate together with Division 6AA.

Division 6AA contains special rules relating to the taxation of the income of children under 18 years of age.

The division relates to ‘unearned’ income i.e. income that is not in the form of salary and wages. Family Trust distributions fall into this category as do interest and dividend income. 

The effect of Division 6AA is to impose special rates of tax on a minor’s unearned income as follows:

  • The first $416 of unearned income is tax-free.
  • The next $891 of unearned income is taxed at 66%.
  • Where unearned income is greater than $1,307, the entire amount of unearned income is taxed at 45%.

The impact of Division 6AA is to tax the unearned income of minors over $416 at 45%. This is equivalent to the top marginal tax rate for Australian individuals and, therefore, removes minors as a tax effective beneficiary of a Family Trust.

The operation of the Low Income Tax Rebate, together with Division 6AA, has increased the amount of unearned income that can be included in a minors return, tax free. This has allowed the distribution to minors from Family Trusts to be increased.

Section 159N of the Income Tax Assessment Act 1936 provides a tax rebate for low-income resident taxpayers. For the year ended 30 June 2011 the Low Income Tax Rebate is $1,500.

With the application of the rebate to the tax payable as calculated under Division 6AA, the amount of net income a Family Trust could distribute to a minor, tax-free, increased from $416 to $3,333. In effect, if a Family Trust was able to distribute to minors, $3,333 per child of the net income of the Family Trust would be tax free. As a result, this has been an attractive tax effective investment solution for many investors.

Unfortunately, following an announcement in the 2011-2012 federal budget and resulting amendments to Section 159N, the Low Income Tax Rebate no longer applies in relation to tax on the unearned income of a minor calculated under the Division 6AA rates. The application date for this change is 1 July 2011 so will impact the 2012 and subsequent financial years.

The reduction in the low income tax rebate for minors means the net income that a Family Trust can distribute to a minor, tax free, is reduced to $416. Consequently, the effectiveness of using a minor as a beneficiary in a Family Trust will be greatly reduced.

For more information in relation to the operation of the new rules, refer to the following page of the Australian Taxation Office website:
http://www.ato.gov.au/content/00282114.htm


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Sources: Written by Tess Cotterill, Associate Director, Wybenga & Partners, Sydney

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