Private ruling: Income Tax
Published: February 2014
Ruling period: Year ending 30 June 2002 | Year ending 30 June 2003 | Year ending 30 June 2004 | Year ending 30 June 2005 | Year ending 30 June 2006 | Year ending 30 June 2007 | Year ending 30 June 2008 | Year ending 30 June 2009 | Year ending 30 June 2010 | Year ending 30 June 2011 | Year ending 30 June 2012 | Year ending 30 June 2013
Date scheme commenced: 1 June 1999

Ruling: Q1: Is the trust entitled to claim carried forward losses accumulated by the mortgagor prior to the mortgagee taking possession of the property and apply these losses against the trust's subsequent profits? | A1: No | Q2: Is the trust entitled to claim carried forward work-in-progress (WIP) costs incurred by the mortgagor in developing the property? | A2: No | Q3: Are the investors presently entitled to their share of the net income for each respective year since the mortgagee took possession of the property? | A3: Yes | Q4: Is the trust liable to pay tax on the mortgagor's share of net income under section 98(1) of the Income Tax Assessment Act 1997 (ITAA 1997)? | A4: No | Q5: Are the trustees personally liable for the mortgagor's tax? | A5: No

Relevant facts and circumstances: Some years ago, a group of investors invested in a mortgage scheme (the scheme). The funds they contributed to the scheme were advanced to a property developer, (the mortgagor company). The mortgagor company was engaged in a project for the development, subdivision and sale of land (the project). A first mortgage was taken over the land that was to be developed and sold. Shortly after the money was advanced the mortgagor company fell into default and the project stalled. The investors became mortgagees in possession of the property. As mortgagees, they decided that they had a better chance of recovering their investment (including interest) if they completed the land development themselves and ultimately sell the developed allotments. The investors, as a group, appointed some of the individual investors to act as trustees. The trustees went about the business of completing the development, organising the marketing and ultimately the sale of the land. They registered the trust for GST, maintained accounting records and lodged business activity statements (BAS). As the land was sold, payments were made to repay the investors their original capital and interest. No payment has been made to the mortgagor company to date. The trustees have not lodged a trust tax return for several years as they received advice that there was no requirement to lodge as the trust was not carrying on a business.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 6 | Income Tax Assessment Act 1997 Section 8-1 | Income Tax Assessment Act 1997 Section 36-15 | Income Tax Assessment Act 1997 Subsection 36-15(7)

Reasons for decision: Detailed Reasoning - Expenses incurred: Section 36-15 of the ITAA 1997 allows a tax loss for a loss year to be deducted in a later income year. That is, if all of the tax loss cannot be deducted, then the undeducted amount is carried forward to the next income year (subsection 36-15(7) of the ITAA 1997). The taxpayer seeking a deduction for a tax loss of an earlier income year must be the same taxpayer that originally incurred that tax loss. Similarly, only taxpayers that have incurred expenses are liable to claim them. The meaning of 'incurred' is not a defined term. The courts have considered the meaning of 'incurred' in relation to various cases, however have not defined the term. The Commissioner has considered various court cases that have addressed the meaning of 'incurred' and set out his view in relation to whether an amount is incurred for the purposes of section 8-1 of the ITAA 1997 in Taxation Ruling TR 97/7. In TR 97/7 we use the courts propositions to help outline the scope of defining a loss or outgoing as being incurred. Paragraph 6 of TR 97/7 lists some general rules, which have been provided by the courts, to assist in determining whether a loss or outgoing has been incurred. Those rules include: (a) taxpayer need not actually have paid any money to have incurred an outgoing provided the taxpayer is definitively committed in the year of income. Accordingly, a loss or outgoing may be incurred within section 8-1 even though it remains unpaid, provided the taxpayer is 'completely subjected' to the loss or outgoing. That is, subject to the principles set out below, it is not sufficient if the liability is merely contingent or no more than pending, threatened or expected, no matter how certain it is in the year of income that the loss or outgoing will be incurred in the future. It must be a presently existing liability to pay a pecuniary sum; (b) a taxpayer may have a presently existing liability, even though the liability may be defeasible by others; (c) a taxpayer may have a presently existing liability, even though the amount of the liability cannot be precisely ascertained, provided it is capable of reasonable estimation (based on probabilities); (d) whether there is a presently existing liability is a legal question in each case, having regard to the circumstances under which the liability is claimed to arise; (e) in the case of a payment made in the absence of a presently existing liability (where the money ceases to be the taxpayer's funds) the expense is incurred when the money is paid. Accordingly, neither the carried forward losses nor any other costs of the mortgagor company have been incurred by the trust in earning the assessable income of the trust and therefore they are not deductible expenses under section 8-1 of the ITAA 1997. | Detailed Reasoning - Present entitlement: A distribution by the trustee of a unit trust is included in the assessable income of a unitholder in the year of income in which the unitholder is presently entitled to a share of the income of the unit trust, rather than the year in which the distribution is received by the unitholder. A beneficiary can become presently entitled to an amount from a trust pursuant to a direct term of the relevant trust deed, or as a result of the trustee of the trust exercising a power under a trust deed to make the beneficiary so entitled (usually by resolution). When a unitholder/investor is presently entitled to the income of the unit trust in each year is a matter of fact. | Detailed Reasoning - Mortgagee in possession: A mortgagee is only personally liable for any debts incurred by it in the course of realising its security and a mortgagee will have the right to charge the mortgagor with proper realisation expenses. You claim that, in effect, the trustees are acting in trust for two different parties: a) The investors (as mortgagees in possession); and b) The mortgagor (or the successor to the mortgagor) However, a mortgagee in possession is not within the statutory definition of "trustee" in section 6 of the Income Tax Assessment Act 1936 . A mortgagee in possession does not act in a trustee capacity and a mortgagee who takes possession does not thereby assume a fiduciary relationship with the mortgagor: Chant v. Deputy Commissioner of Taxation 94 ATC 4733; (1994) 29 ATR 403; Deputy Commissioner of Taxation v. General Credits Ltd [1988] VR 571; 87 ATC 4918; (1987)19 ATR 372. | Detailed Reasoning - Liability for payment of tax: As the mortgagee in possession does not act in a trustee capacity, the trustees are not liable for any tax payable by the mortgagor.