Previous blogs have talked about the dangers of failing to differentiate between trust and the trust’s settlor (or some other “related” party). This is also the case when it comes to recognising who is entitled to deductions for trust expenditure. A TRA (Taxation Review Authority) decision, since upheld on appeal to the High Court (see Brown v CIR) highlighted the risks when the boundaries of “my trust and me and my company” are blurred. The facts can be summarised as follows:
- taxpayer settles a trust
- the trust borrows money and makes advances to a related accounting practice and a related farming company
- the taxpayer guarantees the accounting company’s borrowings and the accounting company guarantees the farming company’s borrowings
- the taxpayer meets the trust’s interest obligations and claims a tax deduction for this
Perhaps somewhat unsurprisingly the Commissioner of Inland Revenue denied the deductions. This decision was upheld by the TRA, which found that:
- although the taxpayer had indirectly guaranteed the trust’s borrowings, the guarantee had not been called up. Essentially the taxpayer was a volunteer and could not be compelled to meet the trust’s borrowing obligations. For more on loan gurantor’s losses when a guarantee is called upon see QWBA “Loan guarantor’s loss when guarantee is called on — deductibility
- even if there was an obligation to pay, no interest deduction was available as there was no nexus between the taxpayer’s income earning activity and the interest liability incurred by the trust.
The answer may seem self-evident and the decision of no moment. However, this case highlights what may be a more widespread issue than commonly appreciated whereby associated parties incorrectly claim deductions for “trust” expenses for no reason other than an advance was made to meet the expense. You see, you are not your trust, and “your” trust is not you … The decision was subsequently upheld by the High Court in a judgment released on 9 July 2014: Brown v CIR. The High Court holding that there was an insufficient nexus between the payments made by the taxpayer and the income earning process. The taxpayer’s argument that he expected to be reimbursed for his payments and that such reimbursement would be taxable income in the taxpayer’s hands was unsuccessful. An argument that the taxpayer had a right of indemnity from the trust for the interest paid was also unsuccessful. the High Court holding on this point that:
- There was no written agreement between the trust and the taxpayer recording the arrangement
- There was no agreement, written or oral, that the trust would repay the taxpayer
- There was no contractual obligation on the trust to pay the taxpayer the amount of the interest that he had paid on its behalf
- A resolution of the trustees could not create a legally enforceable right on the part of the taxpayer to be reimbursed.
Also see the Australian case Anderson v FC of T 2015, where the differentiation between trustee and personal was obscured. In this case the taxpayer was the trustee of a family trust that owned land that was subdivided in the course of a commercial development project. After the project ran into difficulties, the trustee sold two lots from the project and paid the sale proceeds directly to a mortgagee to whom the trustee had given a personal guarantee. The sales were settled on 13 October 2009 and 18 November 2009. The trustee then retired on 9 December 2009. GST was not returned. The Administrative Appeals Tribunal held that the taxpayer could not escape liability by virtue of having retired as the taxpayer retired as trustee after the sales were settled. An argument that required the taxpayer to be an incapacitated entity (for the purposes of the Australian GST Act), was also unsuccessful as the legislated criteria was not met. Although the mortgagee was in a position to exert pressure – control had not been exerted over guarantees given. The case highlights, both the need for debts to be called up for liability to be crystallised and the fact that trustees remain liable for actions carried out while still a trustee.
-  NZTRA 2
-  NZTRA 3
- Brown v CIR  NZHC 1599
- Anderson v FC of T 2015 ATC ¶10-387;  AATA 167