On 12 May 2026, the Federal Government released the document titled ‘Budget 2026-27: Minimum tax on discretionary trusts’ (the ‘Tax Explainer’) to explain the reasoning behind the proposed 30% minimum tax rate for trusts – and key aspects of how the minimum tax rate will apply.
In seeking to understand how these presently proposed and unlegislated Budget changes may affect operation of discretionary trusts, at this stage, we can only rely on the Tax Explainer and the expressed underlying policy of the changes.
Comments on tax policy context of trust changes
The ‘Tax Explainer’ seeks to justify the announced changes on policy grounds that confuse some concepts. It states:
“The introduction of a 30 per cent minimum rate will mean a fairer rate of tax paid on discretionary trust income, better aligning the tax rate on trust income with the tax rates paid by workers.”
It is not a comparison to the corporate rate that is advanced in the ‘Tax Explainer’.
Also, from the ‘Tax Explainer’:
“… discretionary trusts also allow lower tax rates to be achieved through ‘income splitting’, where trustees of discretionary trusts allocate all or part of their income to others who have a lower marginal tax rate, while often retaining the income.” This seems to refer to issues dealt with by section 100A.
… families with discretionary trusts faced an average tax rate around 4 percentage points lower compared with families with similar incomes who do not use a trust. Note the reference to ‘families’, not individual taxpayers. This invites questions around why Centrelink and other payment benefits to all family members should not also be taken into account in making such a financial comparison (in addition to the tax rates of the ‘workers’). The income from a discretionary trust distributed within a family often excludes the members of the family from such Centrelink and other payment benefits.
This flexibility is not available to individuals without a trust. It seems to be the discretionary nature of a trust that is deemed to be of concern.
… can result in different tax outcomes for people with similar levels of income.” The reference to ‘people’ is an unhelpfully imprecise term. Further, the reference to ‘similar level of income’ does not allow for different circumstances under which that income is earned.
These comments in the ‘Tax Explainer’ feign support of the concept of horizontal equity (without making specific mention), which is defined in paragraph 31 of the (Ralph) Review of Business Taxation in 1999 as:
“Horizontal equity requires that taxpayers in similar situations are taxed in a similar manner and that transactions of similar economic substance are taxed similarly.”
‘Entity tax’ from that ‘Ralph Review’ was advanced on the basis of a company being the appropriate vehicle through which to ‘unify’ the treatment of entities (to advance horizontal equity). John Ralph, the review chair, came from the corporate world. His recommendation for ‘entity taxation’ reflected that outlook.
The entity tax proposal was not implemented because the reasoning wasn’t compelling that companies were the appropriate vehicle through which to so ‘unify’ the treatment of entities. Trusts are/were already flow through entities (unlike companies) and, as such, do not distort the achievement of horizontal equity.
The whole reasoning underlying the imputation system is directed to achieving this horizontal equity (for the most part, the CGT discount is an exception) for the income that is derived through companies – where the lower (than the top 47% tax rate) 30% company tax rate is accepted as appropriate (as an initial tax rate) for corporate business/investment activities (where profits may then be reinvested).
But ‘entity tax’, using companies as the benchmark entity, wasn’t going to maintain horizontal equity with its ‘profits first’ rule, as compared to if the entity’s income/capital flowed directly to/from individuals (as through trusts). That ‘profits first’ rule would have meant that the simple withdrawal of trust capital (a common occurrence in a family situation) may have been assessable to tax, like a dividend from a company.
The new approach under the announced 2026-27 Budget changes seeks not to benchmark against companies but instead against ‘workers’. The 30% tax rate happens to also be the (main) company tax rate but that seems coincidental (maybe contrived) to 30% being the average tax rate adopted for comparison with ‘workers’.
The chosen new approach seeks to avoid the complications of providing for a coherent ‘full’ entity tax regime by just imposing the minimum 30% tax at the trustee level – and leaving taxpayers to deal with the consequences.
The ‘worker-based’ reasoning does not acknowledge that the different circumstances that should inform horizontal equity include that the type of income does not need to be tied to an individual when it is from business or investment. Also, that business/investment income involves risks and other features.
The result is an inconsistency in proposing the minimum 30% tax rate for business/investment income earned through a discretionary trust, where that same business/investment income is accepted where earned through a company – without a minimum tax rate, after franking credits – including where a company may have different share classes that can replicate the discretionary nature of a trust.
Regardless of the inconsistency, it seems to be the discretionary nature of trusts that offends the Government/Treasury – and the ATO, as clearly a prime mover behind the proposed changes from the wording of the ‘Tax Explainer’.
No recognition is given to the fact that it is the very discretionary feature of a discretionary trust that achieves the asset protection and succession planning acknowledged in the ‘Tax Explainer’. (Hence the controversy over testamentary trusts now playing out.).
But that discretionary feature does not offend horizontal equity. The types of income being considered are not the same between a ‘worker’ and the business/investment of a trust, any more than when compared to the business/investment income of a company.
Nonetheless, the apparent policy intent needs to be taken into account – and, for now, in the absence of legislation is our only further guide in adding to the limited specifics included in the ‘Tax Explainer’ – when trying to project how the proposed trust tax changes may affect the operation of discretionary trusts.
Some practical issues that will arise
The proposed imposition of the minimum 30% tax at the trustee level (from 1 July 2028), together with the proposed abolition of the 50% CGT discount for individuals, partnerships and trusts (from 1 July 2027) will have implications for strategies of making specific trust distributions of capital gains and franked dividends.
Further, the approach of just imposing the minimum 30% tax at the trustee level and leaving taxpayers to deal with the consequences will give rise to various practical issues with which we will need to deal. Below are a few such practical issues that occur to the author now. No doubt there will be more.
Flow through of multiple trusts – the ‘Tax Explainer’ says:
“Individuals and other non-corporate beneficiaries will receive non-refundable tax credits for the tax payable by the trustee, which reduces their income tax payable.”
Such flowed through credits should avoid double taxation – at least for individuals and other ‘non-corporate beneficiaries’.
Will such ‘non-corporate beneficiaries’ include charities? What other ‘legal persons’ exist other than individuals or companies?
But franking credits will not flow through – as the ‘Tax Explainer’ says:
“To ensure the use of refundable franking credits does not undermine the minimum tax:
- trustees that receive franked dividends will be required to use their franking credit to pay the minimum tax; and
- corporate beneficiaries will not receive non-refundable credits for tax payable by the trustee, to avoid them converting these to refundable franking credits to avoid the minimum tax.”
Hence, there are issues around bucket companies. Trust income ($100) taxed at 30% ($30) then distributed ($70) to a company would seemingly incur further tax to the company on that $70 at 30% ($21) or 25% ($17.50) – so total tax of 51%/47.5%.
When then flowed on to individual shareholders of the company, they will seemingly only get franking credits of $21/$17.50. If this is correct, for individual shareholders on the top tax rate (47%), the total effective tax rate on the original trust income would be 63%.
There is a question of whether a trust with losses still be able to flow through all the franking credits (to non-corporate beneficiaries) if there is, say, $1 of income (as now). The ‘Tax Explainer’ says on franking credits:
“… stakeholder views will also be sought on how the trustee uses franking credits that exceed the minimum tax liability …”
Because the credits for the minimum 30% trust tax will not be refundable:
a) trust beneficiaries on lower marginal tax rates will not receive the benefit of those lower rates;
b) trust beneficiaries on higher marginal tax rates will still be taxed at the higher rate(s) with a credit for the 30%;
c) income directed to trust beneficiaries that are non-DGR (deductible gift recipient) tax exempt charities (e.g. churches) will be taxed at the trust level (versus that income now being tax exempt). Even if such non-DGR tax exempt charities are accepted as ‘other non-corporate beneficiaries’ they will not obtain refunds of the minimum trust tax. Tax will therefore apply where previously none did;
d) for franked dividends flowed through a trust to such non-DGR tax exempt charities, a charity currently obtains a refund of the franking credits on its share of the dividend income distributed to it. Those franking credits do not appear to flow through under the proposed changes, instead being applied against the 30% minimum trust tax. Again, tax will apply where previously none did, because non-DGR tax exempt charities will not obtain refunds of the minimum trust tax; and
e) trust beneficiaries will be denied deductions for the application of their trust distributions to DGRs, deductible superannuation and other deductible purposes, where the 30% trust tax applies without refund.
Trust resolutions will need to allow for the minimum 30% trust tax.
Because the minimum 30% trust tax will apply to the trust net income, timing differences between tax and book income will need to be considered when making distributions to different beneficiaries over time.
Trust deed definitions of ‘trust income’ may need revisiting.
There will be the duty and other issues arising from any restructure out of a trust – even with the proposed rollover relief for CGT.
It is unclear if any changes to Division 7A are planned to recognise a reduced tax risk where a company taxed at 30% is owed an amount – as either a loan or an unpaid present entitlement – by a trust that has already also been taxed at 30%. It is arguable that the retention of funds by (within) the trust (e.g. as working capital) in these circumstances should not be a concern.
Present indications are that existing tax treatments will remain in place, so that such changes to Division 7A cannot be assumed.
For more information, please contact Mark West.
