Court case raises questions about ATO’s service trust guidance

The recent Federal Court decision in S.N.A Group Pty Ltd v Commissioner of Taxation [2025] FCA 240 is significant for accountants in public practice, particularly those that advise clients in family business groups[MB1] , according to tax specialist and educator John Jeffreys.

In a recent webinar, Jeffreys said the decision clarifies the tax treatment of service fees and inter entity charges within a family-owned corporate group.

“It also highlights how the courts view informal agreements between related entities,” he said.

The dispute arose from a Queensland family run real estate business, a father and son team, who over time built their operations into a group of companies and trusts, collectively called the Coronis Group.

The group restructured in the mid-2000s, establishing two primary operating companies. One company was focused on property sales, selling houses and earning commissions, while the other company was focused on property management, managing rental properties and earning management fees. These companies were called APTR Pty Ltd and SNA Group Pty Ltd.

Importantly, these operating companies did not own certain assets and resources they needed to run their businesses, explained Jeffreys.

“Instead, valuable assets were held by separate entities in the group.”

The rent rolls, for example, were owned by another company acting as trustee for the family trust, PAC Realty Pty Ltd.

The brand name Coronis and its logo were handled through another entity, a company called CLARS Pty Ltd, which acted as trustee for a different trust, the Henry Trust.

“The group was structured so that the operating companies, the ones that dealt with day-to-day sales and rentals, didn't own the intellectual property or employ the main people,” said Jeffreys.

“Those assets were deliberately kept in trust structures. It also allowed the family to channel profits from the trading companies to the trusts and then to family members in a controlled way.”

Each year the operating companies paid fees to the asset holding entities.

Jeffreys said there were significant amounts paid over the 2015 to 2019 period examined in the case, with APTR paying nearly $7 million.

“These fees had the effect of shifting a lot of the operating profit from the two companies into trusts,” he said.

“From a tax perspective, the operating companies claimed these fees as deductions under the general deduction rule in Section 8-1 of the ITAA 1997.

“The trusts receiving the fees would have reported that money as income and presumably distributed it out to the family or other beneficiaries who then paid tax on those distributions.”

Jeffreys noted that this kind of arrangement is a common service trust arrangement that is often seen in professional practices where the service entity charges the trading entity for use of staff and assets.

One of the issues in the case was that the fees were not well documented.

“Initially, back around the time of the restructure, there had been formal written agreements in 2005 and 2006 spelling out how much the operating companies should pay for various licenses and services,” said Jeffreys.

“[However], as the years went on, the operators of the businesses became quite informal in how they managed these inter entity charges, the old agreements were effectively disregarded or allowed to lapse,” said Jeffreys.

“Instead of following a strict formula from a contract each year, they would set the fee informally and an overall sense of what was fair or reasonable for the operating companies to pay.”

This casual approach sparked trouble with the ATO, with the Tax Office noticing that these companies had paid out millions in fees to related entities, wiping out much of their taxable income.

The Commissioner argued that because there was no formal contract obligating SNA or APTR to pay these fees, the payments might not count as incurred, Jeffreys explained.

The Court also examined whether owners in a closely held group can effectively pay themselves and still get a deduction or whether the common control doomed the deduction, he added.

The Federal Court ruled in favour of the real estate group and upheld the appeal.

Justice Logan said it was obvious that the object of incurring the service fees was that two of the entities in the group needed to pay for the assets and expertise which were essential for their gaining or producing assessable income or in carrying on a business for that purpose.

In his concluding comments, Justice Logan also made broader comments directed at the ATO’s approach stating that “great injustices can be visited upon those in small business if the commissioner does not bring to bear at the audit stage an understanding grounded in the realities of commerce”.

Issues concerning ATO’s guidance on the use of service trusts

One of the other issues that this case raises is the “status and veracity of the ATO’s published guidance on the use of service trusts”, said Jeffreys.

Jeffreys said there are two principal documents on this, TR 2006/2 and a website publication called ‘Your service entity agreements’.

The website publication includes safe harbor rules concerning the level of service fees the ATO permits.

The SNA Group case highlights that the degree of documentation that is requested by the ATO in its guidance is not what the court required in this case, said Jeffreys.

While good documentation is still preferable, he said, it suggests that if the ATO raises the issue of non-deductibility of service fees due to the taxpayer not having the level of documentation required by the ATO, the ATO “may be overstepping what the courts require”.

Jeffreys also noted that the ATO guidance refers to publicly available markup rates.

“This publicly available information is almost certainly based on large private or public companies. [However] just because large companies have particular markup rates does not mean small companies should have the same rates,” he said.

“The key issue is whether the service fee is incurred in producing the assessable income of the entity paying the fee. Just because the markup is above industry averages does not translate to the automatic conclusion that the service fee is partially or wholly for a purpose other than the production of assessable income of the entity paying the fee.”

Jeffreys said that in the SNA Group case, it was clear that the two companies paying the service fees had only a small or nil profit.

“The majority of the profit was realised in the two trusts charging the fees. This is directly contrary to the safe harbor position adopted by the ATO in its website guidance,” he said.

“Material on page 14 of that guidance says that if no greater than 30 per cent of the combined profit of the entities is derived by the entity providing the services, there is little risk of being audited.

“That was clearly not the case in the SNA group case. Accordingly, the website guidance needs to be reviewed by the ATO.”