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A report commissioned by the Australian Tax Office has found that wealthy people are funnelling money into private trusts and avoiding paying tax to the tune of possibly several billion dollars every year.
Key points:
- The more than $3 trillion in trusts generated at least $340 billion in income
- There may be more than a million trusts in Australia within three years
- The legal mechanism for taxing trusts in Australia dates back to 1922
The report by RMIT University said income from trusts was more than $340 billion in 2013-14, but there is no register of trusts in Australia and failure to lodge tax returns is a key problem.
In 2015-16, there were nearly 850,000 trusts in Australia — one for every 29 people, with assets of more than $3 trillion — and the report predicted there could be more than a million trusts by 2022.
One of the authors of the report, John Glover, a professor of law at RMIT, told the ABC that Australia was behind other countries when it came to the regulation of trusts.
"The largest part of the tax office's information about trusts comes through voluntary lodgement of trust tax returns and that's an inadequate way to proceed," he said.
"A large part of the income lost is because the tax office doesn't know what is going on through current methods of information retrieval.
"We need to cure that by a registry of trusts of the kind they've introduced in Britain in 2017."
He said Australia's law on taxing trusts dated back to the 1920s.
"The mechanism for taxing trusts in Australia is a very old one. It was introduced into the Income Tax Assessment Act 1922.
"Now the rest of the world has moved on, but we still have that very old method of taxing trusts."
The report, "Current issues with trusts and the tax system", said some wealthy Australians and high net wealth individuals were putting money into discretionary trusts to manipulate the tax system so they could pay less tax.
That is because income from trusts is often taxed at the corporate tax rate of 30 per cent, compared to the highest marginal income tax rate of 45 per cent.
But Professor Glover said trusts could also be taxed at lower rates of 15 per cent (for superannuation trusts), 5 per cent, or not taxed at all through the use of complex structures.
This includes multiple trusts within one trust, complex distributions, franking credits used to reduce tax, and the use of "bucket" companies — loss-making companies set up to receive income from trusts.
Income tax shuffle
The report said "income tax shuffles" were used to understate earnings by exploiting differences in the definition of income under tax law and trusts law.
This can occur when a trustee uses deductions from the trust's taxable (net) income to lower the distributable income paid to the beneficiaries.
Income splitting is another tactic used to reduce tax when the trustee makes payments to the beneficiaries with the lowest earnings.
"A conservative estimate indicates that $672 million to $1.2 billion of tax revenue could be sheltered annually," the report found.
"Less conservative estimates suggest the amount of tax sheltered could be several billion dollars which will be further inflated as the corporate tax rate decreases."
In five ATO investigations reviewed by the academics, it was estimated $195 million in tax was avoided on income of $729 million.
One case investigated by the tax office involved an attempt to hide $130 million in income across 14 trusts, with potentially $55 million in tax avoided.
This involved shifting income between trusts and companies in the private group, described by the ATO as a group of entities under the control of an individual and their associates, and the use of franking credits to lower tax.
The report said the ATO was investigating 13 other private groups who used the same tax agent and similar methods.
Professor Glover said the US and Canada taxed income (including capital gains) from trusts at a high marginal tax rate, but trustees could get deductions for income distributed to beneficiaries.
"That is a very sound way of taxing trusts as we see it," he said.
Canada also charges capital gains tax when a property is transferred to a trust, on the sale of a property in a trust, and usually once every 21 years.
New Zealand imposes a 33 per cent tax rate on the trust income of trustees.
Trusts are widely used in Australia for investment, real estate and business purposes to hold property for individuals, families and companies.
The report found 73 per cent of trusts in Australia are discretionary trusts involved in trading or investment. That is in contrast to other countries where they are mostly used for the administration of wills and deceased estates, donations to charities and to provide income for people unable to manage their own affairs.
ATO 'doing the best it can'
The October 2017 report was commissioned by the ATO for internal purposes, but it was released in December following a freedom of information request.
The ATO thanked RMIT for its report but said it did not agree with all the findings or methodologies adopted.
It said that its Tax Avoidance Taskforce had done more than 95 audits and more than 950 reviews of trusts, raised $1.2 billion in taxes and collected more than $467 million over the past six years.
The ATO added there had been two successful convictions for serious tax fraud with another four cases being investigated by authorities.
Professor Glover said the ATO was doing the best it could under existing laws.
"It's the law itself which is deficient," he said.
The Australian Labor Party wants to introduce a minimum 30 per cent tax on distributions from discretionary trusts if it wins the next federal election.
Topics: tax, accounting, consumer-finance, fraud-and-corporate-crime, australia
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