A Critical Examination of the Tax-motivated Use of Discretionary Trusts: Evidence, Identifying Tax Avoidance, and the Efficacy of Legislative Tools

In Australia, discretionary trusts offer immense scope to obtain tax advantages, including in ways that constitute tax avoidance. This article draws on available evidence to critically examine the tax-motivated use of discretionary trusts, from apparently sanctioned income splitting to so-called egregious instances where trusts are used to obtain substantial economic benefits in a tax-free form. It contributes to the literature by drawing on established tax law positions and case law to provide a principled basis to identify when trust arrangements can be regarded as tax avoidant, and by examining the efficacy of the legislative mechanisms for addressing tax avoidance by discretionary trusts. This article seeks to comprehensively identify the court decisions where the main mechanisms – the general anti-avoidance provision in Part IVA and section 100A of the 'Income Tax Assessment Act 1936' (Cth) on reimbursement agreements – have been invoked in trust settings. There appears to be substantial under-utilization of both mechanisms. Based on an analysis of relevant case law, it is argued that secction 100A has strong potential to effectively address tax avoidance in trust settings, and should be used in preference to Part IVA.