It’s a case similar to the movie “The Castle” where the little guy/lady takes up the challenge and fights his/her case on their own against the resources of a larger institution, and in this case, against the Australian Taxation Office (“ATO”).

In essence the original case was about a young woman that was studying at university in 2006 to become a teacher.  The taxpayer here was not “teaching” as yet, but was receiving youth allowance whilst studying at university together with wages earned as a part time retail assistant.  The taxpayer claimed education costs incurred in undertaking her university course, arguing these costs were necessary (by having to attend university) in order to receive the taxable youth allowance.

Initially, this case was heard in the Administrative Appeals Tribunal and the Tribunal found in favour of the ATO.  The taxpayer appealed decision to the Federal Court, and the Federal court held for the taxpayer, agreeing it was necessary for the taxpayer to be enrolled at university and incurring her course costs, in order for her to derive the taxable youth allowance.  The ATO appealed (clearly they didn’t like the umpire’s decision) and the Full Federal Court held once again for the taxpayer.  Still not happy, the ATO appealed to the High Court, and the High Court unanimously held in favour of the taxpayer.  So the little person won this fight in the end.

The ATO has accepted the High Court’s decision, is amending previous tax rulings it issued on the deductibility and is considering how similar types of allowances may be impacted by the court’s decision.

What’s the government’s take on all of this? 

The Assistant Federal Treasurer has stated in a press release the Federal Government will not amend the law to deny a deduction retrospectively.  However the Federal Government will look further into this and decide whether to change the law prospectively.  Stay tuned.

What does it mean for those taxpayers that got youth allowance and lodged previous tax returns without a deduction?

The ATO has announced it will amend income tax assessments for the 2007 through to 2010 tax years to allow a deduction of $550 for each year taxpayers were eligible to claim a deduction for self education costs.  The ATO will write to those taxpayers eligible for this in coming months.  For any taxpayer that has not lodged his or her 2010 tax return, a claim can be made in their 2010 tax return for the relevant education costs incurred whilst deriving their youth allowance.

What are eligible self education costs?

The ATO’s website has a list of what the eligible self education costs would be available to be claimed against the youth allowance, but in summary they would include:

• tuition fees, including fees payable under FEE-HELP (this does not include expenses paid under HECS-HELP)
• FEE-HELP is a loan for eligible fee-paying students enrolled at an eligible higher education provider or Open Universities of Australia
• textbooks, professional and trade journals
• stationery
• photocopying
• computer expenses
• student union fees
• running expenses if you have a room set aside for work-related study purposes – such as the cost of heating, cooling and lighting that room while you are studying in it
• Depreciation on furniture, computers etc used to help with study.

There are investors who see collectables being a valid asset class for a SMSF to invest in, on the basis of the potential capital growth generated by such assets over time and diversification away from other more traditional types of investments.

On the other hand, there has been concerns by some (such as the Australian Taxation Office) that such collectables have been acquired for other purposes, such as allowing the members to get the use of superannuation monies on assets for more personal enjoyment, and not for the “sole purpose” of providing superannuation benefits on their retirement.

The Federal Government established a review into the governance, efficiency, structure and operation of Australia’s superannuation system.  This Super System review was chaired by Jeremy Cooper and is generally known as the “Cooper Review”.  In the final report of the Cooper Review, it recommended collectables and personal use assets should be prohibited as an investable asset class inside SMSF, and for any existing SMSF with such investments, be given five years to dispose of those investments.

In July 2010, the Federal Government issued a press release confirming it would continue to allow SMSF to hold collectables and personal use assets as investments, but that there would be changes to the law and regulations in how these investments were able to be held.

On 1 February 2011, the Assistant Federal Treasurer introduced amending legislation as a first step towards restricting how collectables and personal use assets would be required to be held.  Further regulation will be issued (after consultation) in due course to set out the details of how such collectables are to be held.

It is likely (whilst we wait for the detail) that such collectables and personal use assets will no longer be able to be held at the member’s home and/or business premises, but rather be required to be held in some other form of secure holding, such as non related art galleries, vaults, professional storage facilities etc.  These regulations and changes to how such investments are to be held will also indicate the time frame to which such actions need to be taken to change the holdings.  We will have to wait for this detail to issue in due course.

Governments over the years have attempted to reduce the tax advantages provided by trusts (can you remember when the previous Howard Government considered having trusts pay tax like companies).  But thanks to common sense, the lack of political will by the governments and vocal groups such as Australian farmers, trusts have continued to allow taxpayers to distribute income amongst family members and/or corporate beneficiaries to achieve the lowest level of tax applicable to that trust income.

The Australian Taxation Office doesn’t like trusts and have said so for many years.  The ATO believe trusts are used to avoid tax, and conveniently overlook the fact that trusts have existed for hundreds of years, long before Australia even had a tax system.

But there are some winds of change blowing now, with a recent High Court case called Bamford V FC of T, and the Commissioner of Taxation issuing several publications that outline his views of certain aspects of trusts, that will in fact try to reduce some of the advantages trusts have provided up to now.

One of the main issues arising from this case was the basis of how income can and should be distributed by a trust to the beneficiaries. The High Court in its decision has reminded us all that it is important all decisions with respect to the distribution of income out of a trust is in line with that trust’s deed, and that the trustee(s)’ resolutions with regards to distributions must take into account what the trust deed requires and permits for distributions.

What the court did not address (it didn’t get asked to) is the ability for trusts to “stream” income.  Streaming generally refers to the practice of trustees allocating different types of income to the beneficiaries, such as one beneficiary receiving all interest income derived by the trust, whereas another beneficiary may receive all the capital gains.  This is likely to be another matter that the ATO will give attention to in the future, but for the time being, remains unaddressed.

The practice of using corporate beneficiaries to cap the tax payable on income derived by trusts has also come under attention of the Commissioner. It has been common practice over many years for trusts to reflect the distribution to the company as an “unpaid present entitlement”, and rather than distribute monies to the company for that distribution, the trust retain the monies and look to reinvest the monies in other investments and/or business interests of the trust.  Until recently, the Commissioner has neither attached this practice nor stated there was any mischief in such strategies being adopted.

However, it appears the Commissioner has changed his mind about this practice.  The Commissioner has determined that if the distribution is not paid to the company within a reasonable time frame, it would treat the unpaid present entitlement as a loan caught under the private company loan provisions.  As a form of concession, the Commissioner has stated that the ATO will not take any direct action on such unpaid present entitlements that exist up to 30 June 2010. However after this date, the Commissioner will look to apply his new views to those unpaid present entitlements that are created after 30 June 2010.

Given this is such a significant departure by the Commissioner to previous practice, expect at some stage, a test case will be brought before the courts to challenge the Commissioner’s views on this strategy.

So, the question for all of those that have a family or discretionary trust – do you hold or know where you can find a copy of the trust deed?

If not, we would strongly suggest you get onto locating a copy of the trust deed, as everything the trust does going forward must take into account what that trust deed allows it to do.

Over coming months, we will be discussing with those clients that have trusts, the impact of the above changes, and to review the trust deeds of those trusts to ensure they do allow for the sorts off discretions to distribute income in the most appropriate tax efficient way.

Increase in the Tax Free Amounts Received by Children

With the changes in the income tax rates, a reminder of the amounts of investment type income (including family trust distributions) that children can receive without having to pay tax.  The amounts are as follows:

The tax break available to small businesses is in the form of a “one off” additional deduction equal to 50% of the cost of eligible capital purchases. 

The deadline is 31 December 2009.  By this date, the small business must have committed to the purchase of the new capital assets.  You are not required to have the asset installed ready for use – you must however be able to demonstrate you have committed to the purchase – eg have completed an order form/contract with the vendor for the purchase of the asset.

The case involved a student that was in full time university studies.  The student had a part time job to help support herself through her studies as well as received a youth allowance from the Federal Government.

In the student’s tax return, the student claimed costs associated with her university text books and stationery, student administration fees, depreciation on her computer used to help her study and some travel costs incurred, for travel between university and her part time job.  The Tax Office knocked back these deductions, arguing the costs were not incurred by the student to produce her taxable income, or were more to assist her to complete her degree to gain future employment.

The taxpayer disagreed with the Tax Office’s views and the matter was brought before the Court.  In the Full Federal Court (being an appeal by the Tax Office to a single Federal Court judge’s decision previously for the taxpayer), the Court once again sided with the student.

The Court took into account that the Youth Allowance that the student received was fully taxable to the student.  Further, that the student had to pass a number of conditions to be eligible to receive the taxable youth allowance.  Part of these conditions included that the student had to be enrolled in a full time course of eligible study, and continue to be in that full time study whilst receiving the taxable youth allowance.  The Court then agreed with the student’s arguments that in order to continue to be enrolled in her university course, the student would need to incur certain costs to help her with her studies, so that she could successfully pass her subjects and continue to be enrolled in her university course, and therefore continue to receive the taxable youth allowance.

So chalk one up for the taxpayer.