Family trust rules are punishing honest mistakes: reform can’t wait

A $13.2 million tax bill for an administrative mistake. That’s what one of Australia’s wealthiest families is now fighting in court. But while the headline-grabbing Thomas case involves big numbers, the issue at stake runs much deeper, and it threatens thousands of ordinary family businesses across Australia.

At the heart of the problem is Australia’s family trust election rules – an anti-avoidance measure introduced in the late 1990s to prevent the trafficking in trust tax losses that provided benefits to a person who did not bear the economic loss. These rules were designed to ensure tax benefits remained within a defined “family group”. But in practice, they’ve become a complex trap, where a simple paperwork error can trigger a family trust distribution tax (FTDT) of 47 per cent, the top marginal rate, with no discretion for the Australian Taxation Office (ATO) to provide relief.

In the Thomas family’s case, accountants inadvertently nominated the wrong individual as the head of the family group. The result? A $13.2 million FTDT bill, despite no tax avoidance, no mischief, and no revenue loss to the government. The ATO had no power to waive or correct the outcome, leaving the Federal Court as the only avenue for resolution.

This is not an isolated problem. CPA Australia has heard from members, including small business accountants, family farmers, and tradespeople, facing devastating liabilities arising from innocent mistakes made years, even decades, ago. The consequences of an error can be severe and disproportionate to the nature of the mistake. With interest compounding daily, a $400,000 FTDT liability from 2004 could now exceed $5 million. For many, that’s the difference between survival and insolvency.

The underlying issue is that family trust elections are inflexible. They can’t easily be amended to reflect intergenerational change, genuine administrative error, or unforeseen events like the death of a test individual. Yet, the ATO’s systems including the tax agent portal don’t consistently record past elections, meaning even diligent advisers can be blindsided.

This is an unsustainable position for taxpayers, their advisers and for the integrity of the system. When honest mistakes attract penalties more severe than deliberate evasion, confidence in the fairness of tax administration suffers.

CPA Australia has called on Treasury and the government to act. We are urging the government to legislate a fairer, more modern framework, one that allows for the correction of genuine errors and provides the ATO with limited discretion to remit FTDT where no tax avoidance has occurred. Introducing a statutory limitation period would also prevent the endless resurrection of historical liabilities that were unforeseeable at the time.

Family trusts remain a cornerstone of Australian business and succession planning. They deserve rules that reflect contemporary practice, not a system that punishes compliance failures from decades past.

While legislative reform remains the preferred and necessary path to addressing the underlying issues, particularly where the current provisions can give rise to tax liabilities that are grossly disproportionate to any distributions or benefits received, CPA Australia welcomes the Taxation Ombudsman’s decision to review the administrative aspects of these family trust provisions.

Without reform, we risk seeing more families – not just the billionaires on the Rich List – but the small businesses that make up the backbone of our economy, dragged into costly litigation for mistakes that should never have been fatal.

Jenny Wong is the tax lead at CPA Australia.