The long term use of trusts as an effective tax structure for family business owners is under a cloud following a draft ruling from the Australian Taxation office.

The draft ATO ruling, made on December 16 2009, means funds accumulated in trusts that are not paid to private company beneficiaries, otherwise known as unpaid present entitlements, will largely be considered as loans from the private company beneficiary to the trust. That would therefore be subject to further tax as a deemed dividend, which could be taxed at a rate of up to 46.5 per cent.

This reversed a previous ATO ruling on the common practices of trusts distributing, but not paying, distributions to associated private companies. If ultimately accepted, it will further limit the major role trusts have in family businesses or holding investments. Consequently, this my boost the role of companies and self managed super funds as alternative wealth accumulation vehicles. Trusts have continued to be used to divert trust income among tax-preferred beneficiaries, often related private companies.

For many SMEs and family businesses, it could mean the need to completely rethink the role of trusts and perhaps rearrange their business and invetsment structures.

Businesses should hold steady until the draft is finalised. It will take some time to digest the practicalities of the ATO's new interpretation and in the meantime it may be that the Henry review of tax will bear on related issues.

Don Blackwell - Director