THE BAMFORD CASE - the High Court decides (and quickly!)

In a decision handed down on 30 March 2010, the High Court has dismissed the appeal by the Commissioner of Taxation against the decision of the Full Federal Court in the Bamford case. The case involved consideration of key aspects of s97 ITAA36, the provision which determines, in the majority of instances, the extent to which beneficiaries are assessable on trust distributions.

For the purposes of s97, a beneficiary's proportionate entitlement to a share of the "income of the trust estate" is established by the trustee and then that share (or proportion) is applied to the net income (taxable income in accordance with s 95) in order to ascertain the amount of assessable income of the beneficiary. At issue in the Bamford case was the Commissioner's contention that the term "income of the trust estate" in s97 referred only to income according to ordinary concepts.

The view of the lower courts and the majority of practitioners and commentators was that the term "income of the trust estate", in the context of s97,reflected a trust law concept. This interpretation has been confirmed by the High Court.

In Bamford, the trust deed gave the trustee the discretion to treat capital gains as income and therefore, having accounted for a capital gain in that manner in accordance with the requirements of the deed, the relevant amount was considered income for trust purposes. This situation was reflected in determining the "income of the trust estate" when the provisions of s97 were applied. If the capital gain had been excluded from income for trust purposes, it would not have been possible to effect a distribution of that gain as the "income of the trust estate" would have been nil.

Implications

The decision provides certainty that the expression "income of the trust estate" in s97 is based on trust law and therefore adherence by the trustee to the provisions of the trust deed will be vitally important in order to correctly apply s97 when establishing the extent to which beneficiaries are considered to be assessable in respect of distributions. The High Court's interpretation should be of particular comfort to trustees with deeds which define "income of the trust estate" as being the "taxable income as calculated in accordance with s95 ITAA36" as it would now appear that, with appropriate care exercised by the trustee, clauses of that type should achieve the desired objective.

A less publicised aspect of the appeal was that of the taxpayer, in respect of a different income year, who argued that the "share" of the income of the trust estate referred to in s97 should be determined as a fixed sum in accordance with the resolution of the trustee, and that the fixed sum would not be altered in the event of a subsequent increase in the net income of the trust (in Bamford it was argued by the taxpayer that any such residual increase would accrue to a "default" beneficiary). The argument adopted by the taxpayer has been popularly known as the "quantum approach" to the assessment of trust beneficiaries.

The High Court's interpretation of the law was consistent with that of the lower courts, to the effect that the term "share" in s97 is a proportion, or a percentage, rather than a fixed or defined sum, which has been popularly known as the "proportionate approach."

Implications

Whilst trustee resolutions might be framed in dollar terms, those amounts merely represent proportions or shares of the trust income to which beneficiaries have been made presently entitled.

There will be limited circumstances in which any subsequent increase in net income of a trust will be dealt with other than by way of a proportionate increase in taxable amount attributable to each beneficiary. Whether any other outcome can be achieved will be largely determined by the definition of "income of the trust estate" adopted in the deed and the way in which the distribution resolution of the trustee is framed.

We will provide further comment on the Bamford decision in subsequent Taxpayers Australia publications.