Edited version of your written advice

Authorisation Number: 1051335245869

Date of advice: 6 February 2018

Ruling

Subject: Capital gains

Question 1

Does CGT Event E1 in subsection 104-55(1) of the ITAA 1997 happen at the Interim Time as defined in the Trust Deed?

Answer

No

Question 2

Does CGT Event E5 in subsection 104-75(1) of the ITAA 1997 happen at the Interim Time but not the Final Time under the Implementation Deed?

Answer

No

Question 3

Does CGT Event E5 in subsection 104-75(1) of the ITAA 1997 happen after the Interim Time at the Final Time?

Answer

Yes

Question 4

Does CGT Event E7 in subsection 104-85(1) of the ITAA 1997 happen for the Trustee when the Trustee transfers ownership of the Trust Asset to the Beneficiary?

Answer

No

Question 5

Does CGT Event A1 in subsection 104-10(1) of the ITAA 1997 happen for the Trustee when the Trustee sells the Trust Asset at the direction of a Beneficiary after the Interim Time and the Final Time?

Answer

No

Question 6

Does CGT Event A1 in subsection 104-10(1) of the ITAA 1997 happen for the Trustee when the Trustee sells the Trust Asset before the Interim Time and the Final Time?

Answer

Yes

Question 7

At the time of the CGT Event in Question 3 above, will the Trust be a Fixed Trust for the purposes of section 272-65 of Schedule 2F to the ITAA 1936?

Answer

Yes

Question 8

In the event that a capital gain arises to the Trustee in relation to the CGT Events referred to at Questions 1 to 5 above, is the Trustee liable to pay tax in relation to such a capital gain?

Answer

No

Question 9

Will any amount be included in the “net income” of the trust estate within the meaning of subsection 95(1) of the ITAA 1936 as a consequence of the transfer of shares referred to at Question 4, or the sale of the Trust Asset referred to at Question 5 and Question 6, other than as a consequence of a capital gain arising because of a CGT event happening in those questions?

Answer

No

This ruling applies for the following period:

1 July 2015 to 30 June 2016

The scheme commenced on:

1 July 2015

Relevant facts and circumstances

The Trust has been created in connection with a corporate restructure.

The Implementation Deed is the document which sets out how the corporate restructure is to occur.

The terms of the Trust Deed incorporate the terms of the Implementation Deed.

The Trust has one Beneficiary.

The Beneficiary is a foreign resident.

The Trust has one Asset.

The Trust Asset is not taxable Australian property within the meaning of section 855-15 of the ITAA 1997 at the time of the relevant CGT Events.

The Interim Time is the time that the Beneficiary provides the Trustee with confirmation of a certain approval.

The Final Time is the time that the Beneficiary provides the Trustee with certain other information.

A Beneficiary cannot be absolutely entitled to the Asset of the Trust until after the requirements of the Interim Time and the Final Time are satisfied.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 section 70-90

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 section 104-55

Income Tax Assessment Act 1997 section 104-75

Income Tax Assessment Act 1997 section 104-85

Income Tax Assessment Act 1936 subsection 95(1)

Income Tax Assessment Act 1936 section 272-65 of Schedule 2F

Reasons for decision

Question 1

Does CGT Event E1 in subsection 104-55(1) of the ITAA 1997 happen at the Interim Time as defined in the Trust Deed?

Detailed reasoning

CGT event E1 happens if a trust is created over a CGT asset by declaration or settlement – subsection 104-55(1) of the ITAA 1997.

Taxation Determination TD 2012/21 is relevant to the question of the circumstances in which, as a result of changes being made to an existing trust, a new trust comes into existence causing CGT event E1 to happen. This may occur as the result of the exercise of a power of amendment or in some other circumstance in which assets held originally as part of the trust property commence to be held under a separate charter of obligations as a result of a change to the terms of the trust.

Paragraph 27 of TD 2012/21 does discuss the possibility that the exercise of some other discretionary power of a trustee may cause part of the trust property commence to be held under a separate charter of obligations as a result of a change to the terms of the trust. An example of this would be where the exercise of a power of appointment had the result of real estate being held on separate trust (such as in the case of Commissioner of State Revenue v. Lam & Kym Pty Ltd [2004] VSCA 204; 2004 ATC 5058; (2004) 58 ATR 60). [Also refer to Oswal v FCT [2013] FCA 745]

In this case both before and after the Interim Time there will be a continuance of the four essential indicia of a trust as:

● The Trustee will continue as trustee;

● The Trustee will continue to hold the same interest in the Trust Assets;

● The Trust Deed of the Trust will continue to impose the equitable obligation on the Trustee; and

● The Beneficiaries will continue to be the same albeit that the nature of the interest will be changed as between the beneficiaries.

As there will be continuity of the trust relationship both before and after the Interim Time the Trust will not terminate nor will any new trust arise for trust law purposes.

Therefore, it is not considered that the Trust Assets will commence to be held under a separate charter of obligations at the Interim Time and CGT event E1 will not occur at the Interim Time.

Question 2

Does CGT Event E5 in subsection 104-75(1) of the ITAA 1997 happen at the Interim Time but not the Final Time under the Implementation Deed?

Detailed reasoning

CGT event E5 happens if a beneficiary becomes absolutely entitled to a CGT asset of a trust against the trustee despite any legal disability of the beneficiary. This CGT event does not happen if the trust is a unit trust – subsection 104-75(1) of the ITAA 1997.

Draft Taxation Ruling TR 2004/D25 Income tax: capital gains: meaning of the words 'absolutely entitled to a CGT asset as against the trustee of a trust' as used in Parts 3-1 and 3-3 of the Income Tax Assessment Act 1997 (TR 2004/D25) explains the circumstances in which a beneficiary of a trust is considered to be absolutely entitled to a CGT asset of the trust as against its trustee.

The core principal underpinning the concept of absolute entitlement is the ability of the beneficiary, who has a vested and indefeasible interest in the entire trust asset, to call for the asset to be transferred at their discretion. However, if there is some basis upon which the trustee can legitimately resist the beneficiary's call for an asset, then the beneficiary will not be absolutely entitled. This derives from the rule in Saunders v. Vautier (1841) 4 BEAV 115; 49 ER 282 applied in the context of the CGT provisions. The relevant test of absolute entitlement is not whether the trust is a bare trust (paragraph 10 of TR 2004/D25)

TR 2004/D25 provides that the following are regarded as key factors which must be present in order for a beneficiary to establish absolute entitlement to an asset:

● the beneficiary must have an interest in the relevant asset in order to be considered absolutely entitled to it for CGT purposes (paragraph 70)

● the interest a beneficiary has in the trust asset or assets must be vested in possession and indefeasible (paragraph 73)

● one beneficiary has all the interests in a trust asset such that no other beneficiary has an interest in the asset and can (ignoring any legal disability) terminate the trust in respect of that asset by directing the trustee to transfer the asset to them or to transfer it at their direction. (paragraphs 76 - 78).

At the Interim Time, but prior to the Final Time, the Beneficiary is not absolutely entitled to any of the Trust Assets.

As no Beneficiary becomes absolutely entitled to a CGT asset of the Trust at this time, CGT event E5 does not occur at this time.

Question 3

Does CGT Event E5 in subsection 104-75(1) of the ITAA 1997 happen after the Interim Time at the Final Time?

Detailed reasoning

CGT event E5 happens if a beneficiary becomes absolutely entitled to a CGT asset of a trust against the trustee despite any legal disability of the beneficiary. This CGT event does not happen if the trust is a unit trust – subsection 104-75(1) of the ITAA 1997.

The Trust Deed effectively provides that after the Interim Time and the Final Time have passed:

● the Beneficiary becomes absolutely entitled to all of the income and capital of that Trust to the exclusion of all others; and

● the Trustee must act in accordance with the Beneficiary’s direction in respect of the Trust Asset.

As per TR 2004/D25, the Beneficiary of the Trust will be absolutely entitled to the Trust Asset, after the Interim Time and the Final Time have passed as:

● the Beneficiary has an interest in the relevant asset (as per the Trust Deed and paragraph 70 of TR 2004/D25);

● After the Interim Time, the Beneficiary’s interest in the income and capital of the Trust cannot be defeated and are no longer contingent upon any event occurring such that the interest in the trust asset or assets is be vested in possession and indefeasible (as per the Trust Deed and paragraph 73 of TR 2004/D25);

● After the Interim Time, the Beneficiary has all the interests in the Trust Asset and no other beneficiary has an interest in the Trust Asset and can also (ignoring any legal disability) terminate the Trust in respect of that Trust Asset by directing the Trustee to transfer the Trust Asset to them or to transfer it at their direction (as per the Trust Deed and paragraphs 76 – 78 of TR 2004/D25).

Therefore, CGT event E5 happens at the time, after the Interim Time, that the Final Time happens.

Question 4

Does CGT Event E7 in subsection 104-85(1) of the ITAA 1997 happen for the Trustee when the Trustee transfers ownership of the Trust Asset to the Beneficiary?

Detailed reasoning

CGT event E7 happens if the trustee of a trust disposes of a CGT asset of the trust to a beneficiary in satisfaction of the beneficiary's interest, or part of it, in the trust capital (section 104-85 of the ITAA 1997). The timing of the event is when the disposal occurs.

At the time that the Trustee transfers ownership of the Trust Asset to the Beneficiary the Beneficiary has already become absolutely entitled to the asset.

Section 106-50 of the ITAA 1997 provides that:

106-50(1)

For the purposes of this Part and Part 3-3 (about capital gains and losses) and Subdivision 328-C (What is a small business entity), from just after the time you become absolutely entitled to a *CGT asset as against the trustee of a trust (disregarding any legal disability), the asset is treated as being your asset (instead of being an asset of the trust).

106-50(2)

This Part, Part 3-3 and Subdivision 328-C apply, from just after the time you become absolutely entitled to a *CGT asset as against the trustee of a trust (disregarding any legal disability), to an act done in relation to the asset by the trustee as if the act had been done by you (instead of by the trustee).

Example:

An individual becomes absolutely entitled to a CGT asset of a trust. The trustee later sells the asset. Any capital gain or loss from the sale is made by the individual, not the trustee.

TR 2004/D25 also relevantly provides that:

Beneficiary is already absolutely entitled

141. A beneficiary that is absolutely entitled to a CGT asset as against the trustee will be the relevant taxpayer if a CGT event happens to the asset. This is the effect of section 106-50 of the ITAA 1997 which provides that an act done by a trustee in relation to an asset is taken to have been done by a beneficiary that is absolutely entitled to the asset.

142. Therefore, the beneficiary (and not the trustee) will be required to account for any capital gain or loss that arises on disposal of the asset in the calculation of their net capital gain or net capital loss and hence their taxable income. This is so regardless of whether the beneficiary has always been absolutely entitled to the asset or they became absolutely entitled to it at some time after the trust commenced.

143. Because the beneficiary is the relevant taxpayer, and the capital gain or loss is included in the beneficiary's income calculations, it is not included in the net income of the trust under section 95 of the ITAA 1936.

144. Also, no CGT event happens when the legal title in an asset to which a beneficiary is absolutely entitled as against the trustee is transferred to the beneficiary.

At the time that the Trustee transfers ownership of the Trust Asset, the Beneficiary has already become absolutely entitled to the Trust Asset. Therefore, CGT event E7 does not happen to the Trustee.

Question 5

Does CGT Event A1 in subsection 104-10(1) of the ITAA 1997 happen for the Trustee when the Trustee sells the Trust Asset at the direction of a Beneficiary after the Interim Time and the Final Time?

Detailed reasoning

Section 104-10 of the ITAA 1997 states that CGT event A1 happens if a taxpayer disposes of a CGT asset and it is because of a change of ownership occurring from the taxpayer to another entity. However, a change of ownership does not occur if you the taxpayer stops being a legal owner of the asset but continues to be its beneficial owner.

As discussed above, at the time that the Trustee sells the Trust Asset, the Beneficiary has already become absolutely entitled to the Trust Asset.

Therefore, CGT event A1 does not happen for the Trustee. Instead, the Beneficiary is the relevant taxpayer and any capital gain or loss from the sale is made by the Beneficiary.

Question 6

Does CGT Event A1 in subsection 104-10(1) of the ITAA 1997 happen for the Trustee when the Trustee sells the Trust Asset before the Interim Time and the Final Time?

Detailed reasoning

As discussed above, a Beneficiary will not become absolutely entitled to the Trust Asset until after the Interim Time and the Final Time.

In the circumstances of a sale of the Trust Asset by the Trustee, the Beneficiary will not be the relevant taxpayer in respect of CGT event A1 of the ITAA 1997 happening. Instead, CGT event A1 will happen to the Trustee.

Question 7

At the time of the CGT Event in Question 3 above, will the Trust be a Fixed Trust for the purposes of section 272-65 of Schedule 2F to the ITAA 1936?

Detailed reasoning

This question relates to the CGT exemption under section 855-40 of the ITAA 1997. Where, it applies, a foreign resident beneficiary can disregard a capital gain they make in respect of an interest in a fixed trust.

For purposes of section 855-40 of the ITAA 1997, a trust will be a fixed trust if entities have fixed entitlements to all the income and capital of the trust: subsection 995-1(1) of the ITAA 1997. ‘Fixed entitlement’ is determined for the purposes of subsection 995-1(1) of the ITAA 1997 with reference to Division 272 of Schedule 2F to the ITAA 1936.

A ‘fixed entitlement’ to a share of the income or capital of a trust exists if, under a trust instrument, the beneficiaries of the trust have a vested and indefeasible interest in a share of the income of the trust that the trust derives from time to time, or of the capital of the trust (subsection 272-5(1) of Schedule 2F to the ITAA 1936).

PCG 2016/16 - Fixed entitlements and fixed trusts - discusses the meaning of the terms ‘vested’ and ‘indefeasible’ in the context of section 272-5 of Schedule 2F to the ITAA 1936.

The Explanatory Memorandum (EM) to the Taxation Laws Amendment (Trust Loss and Other Deductions) Bill 1997 discusses its ordinary meaning at some length, at paragraphs 13.4 to 13.7:

What is a vested interest?

13.4 A person has a vested interest in something if the person has a present right relating to the thing. Stated simply, a vested interest is one that is bound to take effect in possession at some point in time. A vested interest is to be contrasted with a 'contingent' interest which may never fall into possession. If an interest of a beneficiary in income or capital is the subject of a condition precedent, so that an event must occur before the interest becomes vested, the beneficiary does not have a vested interest to the income or capital since such an interest is instead 'contingent' upon the event occurring.

13.5 In traditional legal analysis, a person can be said to be either 'vested in possession' or 'vested in interest'. A present interest, i.e. one that is being enjoyed, is said to be 'vested in possession'; a future interest, i.e. one which gives its holder a present right to future enjoyment, is said to be 'vested in interest'. A person is vested in possession where the person has a right to immediate possession or enjoyment of the thing in question. In the definition of fixed entitlement, 'vested' includes both vested in possession and vested in interest.

13.6 Because vested interests include future interests, a person can have a vested interest in a thing even though the person's actual possession and enjoyment of the thing is delayed until sometime in the future.

When is a vested interest indefeasible?

13.7 A vested interest is indefeasible where, in effect, it is not able to be lost. A vested interest is defeasible where it is subject to a condition subsequent that may lead to the entitlement being divested. A condition subsequent is an event that could occur after the interest is vested that would result in the entitlement being defeated, for example, on the occurrence of an event or the exercise of a power. For example, where a beneficiary's vested interest is able to be taken away by the exercise of a power by the trustee or any other person, the interest will not be a fixed entitlement.

In the circumstances of the Beneficiary for the purposes of Question 3, the Interim Time and Final Time have happened. CGT event E5 happened after the Interim Time, at the Final Time.

At the time that CGT event E5 in Question 3 happens, the Beneficiary:

● is the Beneficiary of the Trust; and

● has a vested interest in the income and capital of the Trust (as per the Trust Deed).

After the Interim Time, no powers which may defease, in terms of paragraph 16 of PCG 2016/16 will exist in the Trust Deed.

Therefore, the Beneficiary’s interests in the income and capital of the Trust will not be defeasible at the time that the CGT event happens in Questions 3.

As per above, at the time that CGT event E5 happens in Question 3 the Beneficiary of the Trust will have, under a trust instrument, a vested and indefeasible interest in a share of income of the trust that the trust derives from time to time, or of the capital of the trust, such that the Beneficiary will have a fixed entitlement to that share of the income or capital for the purposes of subsection 272-5(1) of Schedule 2F to the ITAA 1936.

As persons will have fixed entitlements to all of the income and capital of the trust, the Trust will be a ‘fixed trust’ for the purposes of section 272-65 of Schedule 2F to the ITAA 1936.

Question 8

In the event that a capital gain arises to the Trustee in relation to the CGT Events referred to at Questions 1 to 5 above, is the Trustee liable to pay tax in relation to such a capital gain?

Detailed reasoning

As discussed above, it is only the time that the CGT event in Question 3 (re CGT event E5) happens that is relevant to answering the current question.

Under section 855-40 of the ITAA 1997, a CGT exemption is available where a capital gain or loss is made by a foreign resident on an interest in a fixed trust and that interest is not taxable Australian property.

Specifically, subsection 855-40(2) of the ITAA 1997 provides that a capital gain a taxpayer makes in respect of an interest in a fixed trust is disregarded if:

● you are a foreign resident when you make the gain;

● the gain is attributable to a CGT event happening to a CGT asset of a trust (the CGT event trust) that is the fixed trust; and

● the asset is not taxable Australian property for the CGT event trust at the time of the CGT event.

The term ‘foreign resident’ is defined in subsection 995-1(1) of the ITAA 1997 as a person who is not a resident of Australia for the purposes of the ITAA 1936.

In this case, the Beneficiary is a foreign resident and the gain has occurred from an E5 CGT event.

When CGT Event E5 happens in Question 3 above, the Trust is a fixed trust (as per Question 7, above).

Section 855-15 of the ITAA 1997 defines taxable Australian property.

In this case, we are advised that the Trust Asset will not be taxable Australian property at the time of CGT Event E5.

All of the requirements of subsection 855-40(2) of the ITAA 1997 have been satisfied, therefore the capital gain of the Beneficiary can be disregarded.

Further, subsection 855-40(3) of the ITAA 1997 provides that a trustee of a trust is not liable to pay tax where the capital gain has been disregarded for the beneficiary under subsection 855-40(2) of the ITAA 1997.

Accordingly, a Trustee is not liable to pay tax in the event that a capital gain arises to the Trustee in relation to the CGT Events referred to at Questions 1 to 5 above.

Question 9

Will any amount be included in the “net income” of the trust estate within the meaning of subsection 95(1) of the ITAA 1936 as a consequence of the transfer of the Trust Asset referred to at Question 4, or the sale of the Trust Asset referred to at Question 5 and Question 6, other than as a consequence of a capital gain arising because of a CGT event happening in those questions?

Detailed reasoning

Subsection 95(1) of the ITAA 1936 defines “net income” in relation to a trust estate to mean:

the total assessable income of the trust estate calculated under this Act as if the trustee were a taxpayer in respect of that income and were a resident, less all allowable deductions, except deductions under Division 393 of the Income Tax Assessment Act 1997 (Farm management deposits) and except also, in respect of any beneficiary who has no beneficial interest in the corpus of the trust estate, or in respect of any life tenant, the deductions allowable under Division 36 of the Income Tax Assessment Act 1997 in respect of such of the tax losses of previous years as are required to be met out of corpus.

In the present circumstances, excluding sections 6-5 and 70-90 of the ITAA 1997, and the capital gains tax provisions, it is considered that there are no other provisions of the ITAA 1936 or ITAA 1997 which might operate to include an amount in the total assessable income of the trust estate as a consequence of the sale or transfer referred to above.

Whether a taxpayer is carrying on a business must be determined on the basis of the facts of each particular case. The factors which the courts have held may be relevant in this regard are summarised in Taxation Ruling TR 97/11 as follows:

● Whether the activity has a significant commercial purpose or character;

● Whether the taxpayer has more than just an intention to engage in business;

● Whether the taxpayer has a purpose of profit as well as a prospect of profit from the activity;

● Whether there is repetition and regularity of the activity;

● Whether the activity is of the same kind and carried on in a similar manner to that of the ordinary trade in that line of business;

● Whether the activity is planned, organised and carried on in a businesslike manner such that it is directed at making a profit;

● The size, scale and permanency of the activity;

● Whether the activity is better described as a hobby, or a form or recreation or a sporting activity.

It is accepted that the Trustee is not in the business of trading the Trust Asset.

Taxation Ruling TR 92/3 states the Commissioner of Taxation’s view on whether profits on isolated transactions are assessable income.

An ‘isolated transaction’ is defined as:

a) Those transactions outside the ordinary course of business of a taxpayer carrying on a business; and

b) Those transactions entered into by non-business taxpayers.

TR 92/3 represents the Commissioner’s application of the High Court’s decision in FC of T v. The Myer Emporium Ltd (1987) 163 CLR 199; 87 ATC 4363; 18 ATR 693.

As is stated at paragraph 6 of TR 92/3, a gain from an isolated transaction will be assessable when both of the following are present:

a) The intention or purpose of entering into the transaction was to make a profit or gain; and

b) The transaction was entered into and the gain was made, in the course of carrying on a business or in carrying out a business operation or commercial transaction.

The intention of the taxpayer is determined by an objective consideration of the facts and circumstances of the case.

Profit-making does not need to be the sole or dominant purpose for entering the transaction. Profit-making must be a significant purpose. The purpose must exist at the time the transaction or operation was entered into.

It is accepted that the Trustee’s intention is not to make a profit. The Trustee is merely transferring or realising the Trust Asset at the direction of Beneficiary, as a step in a broader restructure.

Therefore, the gains made from selling the Trust Asset are not assessable as ordinary income under section 6-5 of the ITAA 1997, neither as income from a conducting a trading business, nor as income from an isolated commercial transaction. Furthermore, as the Trustee is not carrying on a business of trading section 70-90 will have no application to the transfer to the Beneficiary.

Accordingly, no amount will be included in the “net income” of the trust estate within the meaning of subsection 95(1) of the ITAA 1936 as a consequence of the transfer referred to at Question 4, or the sale referred to at Question 5 and Question 6, other than as a consequence of any capital gains arising in relation to the CGT Events referred to in those questions.

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