Private ruling: Income tax exemption
Date of advice: 31 August 2017
Published: December 2017
Ruling period: Year ended 30 June 2016 | Year ending 30 June 2017 | Year ending 30 June 2018
Date scheme commenced: 1 July 2016

Ruling: Q1: Will providing boats to individuals, in the manner proposed, affect either rulee’s entitlement to income tax exemption under section 50-1 and item 1.1 of the table in section 50-5 of the Income Tax Assessment Act 1997 ? | A1: No

Relevant facts and circumstances: Trustee A is the trustee for the Trust A. Trustee B is the trustee for the Trust B. Trust A and Trust B are registered charities under the Australian Charities and Not-for-profits Commission Act 2012 (ACNC Act), and have been endorsed to access income tax exemption. Trustee A proposes to distribute funds to Trust B, which Trust B will utilise to purchase and distribute a number of boats, following approval of applications, to individuals for use by members of the relevant communities. The purpose of providing the boats is to enable community members’ access to and from their usual residences and their native homelands (Outstations) through areas that are prone to flooding. The Boats will also be used to access Traditional areas in the ocean that are only accessible by boat. It is proposed that a boat will be issued to individual family members within each group but the boats will be available to other family members for access to country. Boats have to be issued to an individual for registration purposes. The Australian Charities and Not-for-Profit Commission (ACNC) provided advice regarding the proposal’s effect on Trust A’s charity status. The ACNC have further advised the ATO that this advice applies equally to Trust B. The Trust A and Trust B have physical presence in Australia; and incur expenditure and pursue their objectives principally in Australia. Relevant clauses from the Trust Deed of Trust A Clause X of the Trust Deed of Trust A states: GUIDELINES In exercising a power under clauses X to X, [Trustee A] must have regard to any criteria and guidelines developed by the Board concerning the paying, applying or setting aside of any amount under those clauses. The criteria and guidelines may include methods for the preparation of material for the payment of Administration Expenses. Relevant clauses from the Trust Deed of Trust B Clause X of the Trust Deed of Trust B states: GUIDELINES In exercising a power under clauses X to X, [Trustee B] must have regard to any criteria and guidelines developed by the Board concerning the paying, applying or setting aside of any amount under those clauses. You have advised that prior to any approvals or distributions for boats, the ‘Conditions of Funding’ in the Guidelines of Trust B will be amended to: ● increase total funding allocations in each year to allow sufficient funding for the total number of boats to be provided each year, ● increase the ‘per application’ funding caps to an amount greater than the value of the boats, or add a specific ‘per application’ funding cap in relation to boat applications, ● include conditions that allow for funding or providing boats for community members to access Outstations, ● include conditions in relation to holding and transfer of ownership, use of the boats for the relevant purpose, ongoing maintenance and maintenance costs, licencing, and safety gear. It is proposed that recipients will need to agree to conditions in the Guidelines, including signing a statutory declaration that the boats will not be used for other than approved purposes.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 50-1 | Section 50-5 | Section 50-47 | Subsection 50-50(1) | Subsection 50-50(2) | Paragraph 50-50(2)(a) | Paragraph 50-50(2)(b) | Section 50-52 | Subdivision 50-B | Taxation Administration Act 1953 Paragraph 426-55(1)(a) in Schedule 1

Reasons for decision: Summary: Where distributions of funds or assets adhere with the conditions set out in the Guidelines, amended as proposed, Trust A and Trust B will not breach either the governing rules condition or the income and assets condition in subsection 50-50(2) of the ITAA 1997, and will remain entitled and endorsed for income tax exemption. | Detailed Reasoning - Detailed reasoning: Section 50-1 and item 1.1 of section 50-5 of the ITAA 1997 provide that the ordinary and statutory income of a registered charity is exempt from income tax where the following special conditions are satisfied: ● an entity covered by any item and is a charity is not exempt from income tax unless the entity is registered under the Australian Charities and Not-for-profits Commission Act 2012 (the ACNC Act) (section 50-47); ● an entity covered by item 1.1 is not exempt from income tax unless the entity satisfies one of three criteria in subsection 50-50(1); ● an entity covered by item 1.1 is not exempt from income tax unless the entity complies with all the substantive requirements in its governing rules; and applies its income and assets solely for the purpose for which the entity is established (subsection 50-50(2)); ● an entity covered by item 1.1 is not exempt from income tax unless the entity is endorsed as exempt from income tax under Subdivision 50-B (section 50-52). As discussed in the facts, Trust A and Trust B are both registered charities under the ACNC Act. The Australian Charities and Not-for-profits Commission has reviewed the proposal and confirmed that granting the boats would not have any impact on either entity’s entitlement to registration, so long as: ‘the boats are provided on the condition that they are used solely for the benefit of the disadvantaged community and for the relief of poverty, and not for the non-incidental private benefit of particular individuals.’ Although both entities are currently endorsed for income tax exemption under Subdivision 50-B of the ITAA 1997, an entity’s endorsement may be revoked if it ceases to be entitled to be endorsed (paragraph 426-55(1)(a) in Schedule 1 of the Taxation Administration Act 1953 ). | Detailed Reasoning - The governing rules condition: Paragraph 50-50(2)(a) of the ITAA 1997 requires that an entity covered by item 1.1 in the table in section 50-5 must comply with all the substantive requirements in its governing rules. Paragraphs 18 and 19 of Taxation Ruling TR 2015/1 Income tax: special conditions for various entities whose ordinary and statutory income is exempt (TR 2015/1) explain that an entity’s substantive requirements are those rules that define the rights and duties of the entity, such as those that: ● give effect to the object or purpose of the entity ● relate to the non-profit status of the entity ● set out the powers and duties of directors and officers of the entity ● require financial statements to be prepared and retained ● set out the criteria for admission as a member of an entity ● require an entity to maintain a register of members, and ● relate to the winding-up of the entity. Example 6 in TR 2015/1, together with Appendix 3, discuss making an approved change to the substantive requirements, and the effect of corrective action taken by entities in relation to breaches of the governing rules condition. Subdivision 50-B of the ITAA 1997 sets out that to be entitled to endorsement an entity must meet the special conditions relevant to item 1.1 of section 50-5, including the governing rules condition and the income and assets condition. | Detailed Reasoning - The income and assets condition: Paragraph 50-50(2)(b) of the ITAA 1997 requires that an entity covered by item 1.1 in the table in section 50-5 must apply its income and assets solely for the purpose for which the entity is established. In relation to the term ‘solely’, paragraphs 34 and 35 of TR 2015/1 explain that a strict standard of compliance is required under the ‘solely’ test. Nevertheless, the Commissioner accepts that the income and assets condition will still be satisfied where: ● the misapplication or misapplications are immaterial in amount, and ● there is a one-off misapplication or occasional, unrelated misapplications of part of the income or assets of an entity for a purpose other than the purpose for which the entity is established. The governing rules condition and the income and assets condition are independent special conditions that must be satisfied by the entity. While an entity is in breach of either or both of the special conditions, its ordinary and statutory income will not be exempt from income tax (paragraphs 37 and 38 of TR 2015/1). Paragraphs 189 and 190 of Appendix 3 of TR 2015/1 explain that where corrective action is taken, a breach of an entity’s substantial rules or a misapplication of income or assets is still taken to have occurred, even though the effects of the breach or misapplication have been reversed. An entity will become taxable during the period after a breach up to the date corrective action is undertaken. Clause X of the Trust Deed of Trust A and Clause X of the Trust Deed of Trust B require that when distributing funds or assets (under the relevant distribution clauses), the trustees must have regard to the relevant criteria and guidelines established by the Board. As a result of this clause, Trust B’s Grant Funding Guidelines (the Guidelines) for each year form part of Trust B’s substantive governing rules. Under the current Guidelines, providing the boats would breach the substantive requirements of Trust B’s governing rules and would lead to a loss of Trust A’s and Trust B’s entitlement to income tax exemption. However, through your agent, you have advised that the Guidelines are reviewed each year, and you will amend the ‘Conditions of Funding’ in the Guidelines, prior to providing any boats, to: ● increase total funding allocations in each year to allow sufficient funding for the total number of boats to be provided each year, ● increase the ‘per application’ funding caps to an amount greater than the value of the boats, or add a specific ‘per application’ funding cap in relation to boat applications, ● include conditions that allow for funding or providing boats for community members to access Outstations, ● include conditions in relation to holding and transfer of ownership, use of the boats for the relevant purpose, ongoing maintenance and maintenance costs, licencing, and safety gear. Where distributions of funds or assets adhere with the conditions set out in the Guidelines, amended as proposed, Trust A and Trust B will not breach either the governing rules condition or the income and assets condition in subsection 50-50(2) of the ITAA 1997, and will remain entitled and endorsed for income tax exemption.