Author: fusion(Newbie)Newbie 19 June 2024
Respectfully, I believe that some of the responses provided by @Bruce4Tax in this thread are incorrect or at least over-simplified. For example:
"If any trust earns taxable income, but does not distribute that income to beneficiaries/unit holders, then any tax is payable by the trust itself - not beneficiaries/unit holders."
This seems incorrect. Under Australian tax law, I believe that beneficiaries/unitholders are generally taxed on their proportionate share of income received by the trustee, regardless of whether the trustee actually distributes that income - see Division 6 of the Income Tax Assessment Act 1936 (especially Section 97).
"An ETF is a form of trust."
This might be true for ETFs established in Australia, but not necessarily for all ETFs established overseas.
To help others grappling with overseas accumulating ETFs, I thought I'd share some information that might be helpful. Please note that I'm not an accountant, tax lawyer or tax expert, so the below is simply my understanding and might not be accurate (and is not advice and should not be relied upon).
1. In the 2000s, Australia had a special tax regime applicable to "Foreign Investment Funds" (FIFs). This regime imposed "accruals taxation" on income and gains accumulating in foreign companies that were not controlled by Australians and foreign trusts, which had a punitive effect on investors in those FIFs (requiring annual payment of tax based on accumulated growth of the FIF, regardless of any distributions to FIF beneficiaries or any disposal of FIF interests by FIF beneficiaries). Fortunately, this FIF regime was repealed in 2010-11. See more information here: https://www.ato.gov.au/forms-and-instructions/foreign-income-return-form-guide/chapter-4-taxation-of-foreign-investment-fund-fif-interests ("Chapter 4 Taxation of foreign investment fund (FIF) interests")
2. According to the ATO's website referenced above ("Chapter 4 Taxation of foreign investment fund (FIF) interests"):
"If you have an interest in a FIF, you will be subject to the tax rules applicable to your circumstances; for example, if you have an interest in a foreign trust, you will be subject to the general tax rules relating to trust income (Division 6 of Part III) and may be subject to the transferor trust provisions (Division 6AAA of Part III). [...]
If you have an interest in a foreign company to which the CFC measures do not apply, you will be subject to the general tax rules relating to dividend income and shares."
3. On this basis, it's clear that if you invest in a foreign company (that is not a Controlled Foreign Company), such as Berkshire Hathaway, then you will only be taxed on any distributions made to you by the company and any CGT events in relation to your shareholding (e.g., if you sell shares), and you will not be taxed on any income received by the company itself. Conversely, if you invest in a foreign trust, then you will generally be taxed on your proportionate share of income received by the trustee (see Section 95AAA of the Income Tax Assessment Act 1936 for an overview of how tax on trust income works), as well as on any CGT events in relation to your interest in the trust (e.g., if you sell units in the trust).
4. A key question, therefore, is whether the accumulating ETFs which are the subject of this thread constitute foreign companies or foreign trusts for Australian tax purposes. On this question, the ATO made a ruling on a particular Ireland-domiciled UCITS Fund back in 2018: https://www.ato.gov.au/law/view/view.htm?docid=PRR/PR20181/NAT/ATO/00001&PiT=99991231235958 (PR 2018/1 "Income tax: tax consequences of investing in the HSBC UCITS Common Contractual Fund"). This ruling is only binding for the particular fund in question (the HSBC UCITS CCF), but it contains helpful analysis, cites relevant case law, and gives an insight into the ATO's thinking. In that ruling, the ATO determined that the UCITS Fund was a trust for Australian tax purposes and therefore Fund unitholders were subject to tax each year on the proportionate share of the Fund's net income to which they are presently entitled, and they become "presently entitled" to the proportionate share of the Fund's net income after the Fund manager has calculated the amount of fees/expenses that need to be paid out of the Fund's gross income for that year (which would presumably occur at least annually and therefore would require unitholders to pay tax annually).
5. In the HSBC UCITS CCF ruling, the ATO seemed to placed significant emphasis on the following provisions of the Fund's Deed of Constitution:
Each Unit represents an undivided co-ownership interest of a Unitholder with the other Unitholders in the Assets of the Fund. Units in the CCF are not shares but serve to determine the proportion of the underlying Assets of the CCF to which each Unitholder is beneficially entitled.
Unitholders are absolutely entitled to the income of the Funds as it arises whether or not a Gross Income Payment is made. No Unit shall confer any specific interest or share in any particular part of the Assets of the Fund.
These provisions seem to largely replicate the effect of a trust under Australian law, and (seemingly) made it easy for the ATO to conclude that the Fund was a trust for Australian tax purposes.
6. It's unclear whether the same analysis and outcome would apply to accumulating ETFs such as the "iShares Core MSCI World UCITS ETF" (SWDA) and the "iShares Core S&P 500 UCITS ETF" (CSPX). I looked closely at CSPX (the prospectus is available on the Blackrock iShares website, and the underlying Constitution is available on the Ireland Companies Registration Office website for €2.50). There are some key distinguishing features between CSPX and the HSBC UCITS CCF:
- CSPX is backed by a segregated Fund maintained by a company named iShares VII plc (incorporated in Ireland), whereas the HSBC UCITS CCF was a collective investment vehicle that was not a company and instead was constituted under contract law and relevant Irish legislation by means of a Deed of Constitution
- iShares VII plc issues shares to CSPX investors, whereas the HSBC UCITS CCF issued units to investors
- nothing in the constitution of iShares VII plc or the Prospectus of CSPX indicates that shareholders have any vested interest in the income received by iShares VII plc (or the segregated Fund maintained by iShares VII plc), whereas the HSBC UCITS CCF Deed of Constitution contained the wording outlined above.
With these distinctions in mind, I think there's a reasonable argument that investing in CSPX is akin to investing in a foreign company and not a foreign trust (and therefore you would only be taxed on any distributions actually paid out to you by CSPX (which are expected to be zero), and on any CGT events relating to your shares), but it's not 100% free from doubt.
7. Until the ATO provides further clarity or the Australian tax legislation is updated: if you want to invest in foreign accumulating ETFs, you probably need to ask a tax expert to review the ETF prospectus and the underlying constitutional documents and form a view as to whether the ETF is more akin to a foreign company or a foreign trust. This might depend on a number of factors and is unlikely to be 100% clear in any case.
Author: Bruce4Tax(Taxicorn)Taxicorn 20 June 2024
"If any trust earns taxable income, but does not distribute that income to beneficiaries/unit holders, then any tax is payable by the trust itself - not beneficiaries/unit holders."
This seems incorrect. Under Australian tax law, I believe that beneficiaries/unitholders are generally taxed on their proportionate share of income received by the trustee, regardless of whether the trustee actually distributes that income - see Division 6 of the Income Tax Assessment Act 1936 (especially Section 97).
Yes - if the trustee passes a minute of distribution, or is compelled to distribute by trust deed e.g. UT. The income is "distributed" whether paid or not.
If the trustee has discretion to distribute, and does not exercise that discretion, or there is no beneficiary presently entitled (e.g deceased estate) the the income is taxed at trust rates within the trust.
See Form T instructions.
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