Edited version of private advice

Authorisation Number: 1052135122268

Date of advice: 30 June 2023

Ruling

Subject: CGT - absolute entitlement

Question 1

Does CGT event E5 in section 104-75 of the Income Tax Assessment Act 1997 (ITAA 1997) happen on the death of the Life Tenant?

Answer

No.

Question 2

Will the Trustee be assessable on any share of the capital gain from a CGT event happening in the XX income year from the sale of securities in XX XX under sections 99 or 99A of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

No.

Question 3

Will the Trustee be assessable on any share of the capital gain from any CGT event on the sale of securities arising in the 20XX income year under sections 99 or 99A of the ITAA 1936 if the trustee resolves prior to XX XX XX to distribute the proceeds from the sale of those securities to the three Residuary Beneficiaries?

Answer

No.

Question 4

Will the Trustee of the Testamentary Trust be assessed and pay tax under sections 99 or 99A of the ITAA 1936 on the net income of the trust estate calculated pursuant to subsection 95(1) of the ITAA 1936 for the year ended XX XX XX?

Answer

No.

This ruling applies for the following periods:

Income year ending 30 June 20XX

Income year ending 30 June 20XX

The scheme commenced on:

XX XX XX

Relevant facts and circumstances

1.       The Deceased) passed away on XX XX XX leaving a will dated XX XX XX (the Will).

2.       The Trustee is the sole trustee.

The Will

3.       Under the Will, the balance of the Estate was bequeathed to the Trustee upon the following trusts:

•                     To sell call in and convert the same into money with the power at his discretion to postpone the sale calling in and conversion of any part thereof during such time as the Trustee shall think fit and out of the proceeds pay the deceased's debts and funeral and testamentary expenses.

•                     To invest the residue of the estate (Residuary Estate).

•                     The Deceased's child daughter, Person A (Life Tenant), was to be paid the net income of the residuary estate during their lifetime.

•                     The Trustee has absolute discretion to apply out of the capital of the residuary estate such part or parts as may be required to relieve any hardship encountered by the Life Tenant in relation to their health and welfare.

4.       The Will provides that, following the death of the Life Tenant, if survived by Person B, the capital of the residuary estate is to be divided into three equal parts be held on trust:

•                     one equal part for the benefit of Person B, for their own use and benefit absolutely

•                     the remaining two equal parts for the benefit of Person C and Person D as tenants in common in equal shares absolutely.

5.       The Will confers upon the Trustee the power to sell or convert into money the whole or any part of the estate as the Trustee may deem advisable, and the discretion to delay such a sale or sales for as long as the Trustee thinks fit.

6.       In accordance with the powers granted under the Will, the Trustee has turned over the assets and invested the proceeds in shares in publicly listed companies, managed funds and other assets. Any resulting capital gains and losses have been taken into account when calculating the net (taxable) income of the trust for the relevant income years.

7.       The Testamentary Trust is a trust created under the Will.

XX income year

8.       The Life Tenant passed away on XX XX XX.

9.       During the period XX XX XX to XX XX XX amounts were paid to the Life Tenant by the Estate, representing monies owed as at XX XX XX and in the XX income year.

10.     Person A was survived by the Residuary Beneficiaries.

11.     At the date of death of the life tenant, the Trust held the following CGT assets (the Trust Fund), all of which were acquired by the Trust following the death of the Deceased:

•                     shares in listed companies

•                     units in listed trusts.

12.     For the majority of the share and unit holdings held on XX XX XX, the number of securities could not be divided equally between the three capital beneficiaries.

13.     The Residuary Beneficiaries advised the trustee their preference was to sell the shares in two tranches, half in the XX financial year and half in the XX financial year, and to receive the cash.

14.     The Trustee held meetings with the Residuary Beneficiaries to advise that shares/units in listed public companies/trusts owned by the Estate would be sold to make cash distributions to the beneficiaries, rather than distributing the shares/units in specie. This was confirmed by email sent by the Trustee's solicitors.

15.     In XX XX the Trustee arranged for the sale of one half of the share portfolio held by the Testamentary Trust.

16.     On XX XX XX the Testamentary Trust received the proceeds from the sale of securities being $X net of brokerage.

17.     The proceeds from the sale of the shares were deposited into the Trustee's solicitor's trust account

18.     The sale of the shares gave rise to net capital gains.

19.     On XX XX XX the Trustee determined that the Trust held the following assets:

•                     The remaining share portfolio

•                     Term Deposits - $X

•                     Cash Management Accounts - $X

•                     Balance at credit of solicitor's trust account.

20.     The solicitor's trust account balance at XX XX XX was $X, which included the proceeds from the sale of the shares in XX XX.

21.     After considering the value of the assets held by the Estate, on XX XX XX, the Trustee resolved to make a capital distribution to the three Residuary Beneficiaries of $X ($X each out of the capital of the estate).

22.     On XX XX XX, the capital distributions were paid by the Estate to the three Residuary Beneficiaries from the solicitor's trust account.

23.     The Trustee has not made a choice to be specifically entitled to any of the capital gains under section 115-230 of the ITAA 1997.

24.     As income is not defined under the Will, 'income of the trust estate' is calculated according to ordinary concepts. Accordingly, capital gains are not included when calculating the income of the trust estate.

25.     The Testamentary Trust derived income during the XX financial year and there was income of the trust estate.

26.     The net income of the Testamentary Trust for the year ended XX XX XX comprised franked dividends, capital gains and other income (interest and trust distributions).

XX income year

27.     On XX XX XX a majority of the remaining shares on hand were sold, resulting in an overall capital gain.

28.     The proceeds from sale net of brokerage of $X were deposited into the solicitor's trust account.

29.     Person B, one of the Residuary Beneficiaries, passed away on XX XX XX.

30.     In XX XX the term deposit and cash management accounts were closed and the balances of were transferred to the solicitor's trust account.

31.     The remaining shares held by the trust were sold in XX XX, resulting in an overall capital gain.

32.     The proceeds from sale net of brokerage were deposited into the solicitor's trust account.

33.     In XX XX the Trustee paid a distribution of $X to the Residuary Beneficiaries ($X each) from the solicitor's trust account.

34.     Funds representing the proceeds from the sale of shares sold during the year have been set aside by the Trustee in the solicitor's trust account with a view to distributing the proceeds, which would include the capital gains, to the Residuary Beneficiaries.

35.     It is estimated that for the year ending XX XX XX, expenses will exceed the income derived by the Testamentary Trust. Therefore, the income of the trust estate calculated according to ordinary concepts will be nil.

36.     The Testamentary Trust received franked distributions in the XX income year. There are no expenses incurred in the XX financial year which are directly relevant to the franked distributions.

37.     Due to the net capital gain arising from the sale of securities, the Testamentary Trust will have net income under section 95 of the ITAA 1936 in respect of the XX income year.

38.     The Trustee will not make a choice to be specifically entitled to any of the capital gains under section 115-230 of the ITAA 1997 for the year ending XX XX XX.

Other relevant facts

39.     The Residuary Beneficiaries are all Australian residents for tax purposes.

40.     None of the Residuary Beneficiaries is under a legal disability.

41.     The Will did not indicate that a specific number of assets were to be allocated for each beneficiary.

42.     The trustee has not maintained a written record of assets allocated for each beneficiary.

43.     The Trustee will not make a choice to be specifically entitled to any of the capital gains under section 115-230 of the ITAA 1997.

44.     The Trustee will by XX XX XX prepare a written resolution to advance capital representing all the profits derived from the sale of shares in the XX financial year to the Residuary Beneficiaries.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 104-75

Income Tax Assessment Act 1997 subsection 104-75(1)

Income Tax Assessment Act 1997 subsection 104-75(3)

Income Tax Assessment Act 1997 subsection 104-75(4)

Income Tax Assessment Act 1997 Subdivision 115-Cs

Income Tax Assessment Act 1997 section 115-228

Income Tax Assessment Act 1997 section 115-230

Income Tax Assessment Act 1997 Division 128

Income Tax Assessment Act 1997 Subdivision 207-B

Income Tax Assessment Act 1997 section 207-58

Income Tax Assessment Act 1997 subsection 207-58(1)

Income Tax Assessment Act 1936 section 95

Income Tax Assessment Act 1936 subsection 95(1)

Income Tax Assessment Act 1936 section 99

Income Tax Assessment Act 1936 section 99A

Reasons for decision

All references are to the Income Tax Assessment Act 1997 unless otherwise specified.

Question 1

Detailed reasoning

45.     CGT event E5 happens if a beneficiary becomes absolutely entitled to a CGT asset of a trust (except a unit trust or a trust to which Division 128 applies) as against the trustee (subsection 104-75(1)).

46.     The trustee makes a capital gain if the market value of the asset (at the time of the event) is more than its cost base or a capital loss if that market value is less than the asset's reduced cost base (subsection 104-75(3).

47.     A capital gain or capital loss is disregarded if the assets were acquired before 20 September 1985 (subsection 104-75(4)).

48.     Determining whether or not a CGT event happens on vesting requires a close consideration of the deed. This will include consideration of the effect of vesting on the beneficial interests in the trust, and the nature of the property held on trust.

49.     Law Administration Practice Statement PS LA 2003/12 Capital gains tax treatment of the trustee of a testamentary trust (PS LA 2003/12) sets out the Commissioner's longstanding administrative practice of treating the trustee of a testamentary trust in the same way as a legal personal representative for the purposes of Division 128.

50.     Broadly stated, PS LA 2003/12 explains the ATO's practice is to not recognise any taxing point in relation to assets owned by a deceased person until they cease to be owned by the beneficiaries named in the will (unless there is an earlier disposal by the legal personal representative or testamentary trustee to a third party or CGT event K3 applies).

51.     Accordingly, it is not necessary to consider whether CGT event E5 happens on the death of the Life Tenant as the Testamentary Trust is treated in the same way as a legal personal representative for the purposes of Division 128, and accordingly CGT Event E5 does not happen as the Testamentary Trust is a trust to which Division 128 applies.

52.     However, for the purposes of determining the answers to the next questions on whether the Trustee is assessed on the sale of the shares, the Residuary Beneficiaries do not become absolutely entitled to the shares on the death of the Life Tenant for the below reasons.

53.     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:

10. The core principle underpinning the concept of absolute entitlement in the CGT provisions is the ability of a beneficiary, who has a vested and indefeasible interest in the entire trust asset, to call for the asset to be transferred to them or to be transferred at their direction....

23. If there is more than one beneficiary with interests in the trust asset, then it will usually not be possible for any one beneficiary to call for the asset to be transferred to them or to be transferred at their direction. This is because their entitlement is not to the entire asset.

24. There is, however, a particular circumstance where such a beneficiary can be considered absolutely entitled to a specific number of the trust assets for CGT purposes. This circumstance is where:

•                    the assets are fungible;

•                    the beneficiary is entitled against the trustee to have their interest in those assets satisfied by a distribution or allocation in their favour of a specific number of them; and

•                    there is a very clear understanding on the part of all the relevant parties that the beneficiary is entitled, to the exclusion of the other beneficiaries, to that specific number of the trust's assets.

25. Because the assets are fungible, it does not matter that the beneficiaries cannot point to particular assets as belonging to them. It is sufficient in these circumstances that they can point to a specific number of assets as belonging to them.

54.     Assets are fungible if each asset matches the same description such that one asset can be replaced with another. Assets are fungible if they are of the same type (for example, shares in the same company and with the same characteristics).

55.     Fungible assets form a separate class for the purpose of determining the number and type of assets to which each beneficiary is regarded as being absolutely entitled.

56.     At the date of death of the Life Tenant, the Trust Fund consisted of shares in listed companies and units in listed trusts acquired after 20 September 1985.

57.     The assets of the Trust Fund are fungible assets within their own asset type as they match the same description within their asset class such that one asset can be replaced with another.

58.     For the majority of the share and unit holdings held on the date of death, the number of securities could not be divided equally between the three capital beneficiaries. Only several of the share and unit holdings were divisible by three.

59.     The Will did not indicate that a specific number of assets were to be allocated to each beneficiary.

60.     The Trustee has not maintained a written record of assets allocated for each beneficiary.

61.     As there is more than one type of asset and more than one beneficiary, it is not clear how the assets will be allocated.

62.     Accordingly, the beneficiaries will not be absolutely entitled to any of the Testamentary Trust's assets on the death of the Life Tenant.

Question 2

Detailed reasoning

63.     Subdivision 115-C sets out rules for dealing with the taxable income that relates to capital gains of a trust.

64.     Broadly, Subdivision 115-C operates to:

•                     assess beneficiaries on capital gains to which they are specifically entitled to

•                     where there is an amount of a capital gain to which no one is specifically entitled, beneficiaries are allocated a proportionate share of that part of the gain based on their (adjusted) share of the income of the trust estate

•                     Trustees are similarly allocated a proportionate share of an amount of a capital gain to which no one is specifically entitled - but only to the extent that there is an (adjusted) share of the income of the trust estate to which no beneficiary is presently entitled.

65.     A trustee can generally only be specifically entitled to an amount of a capital gain if they choose to be assessed on the capital gain under section 115-230.

66.     Section 115-228 outlines when a beneficiary will be regarded as specifically entitled to a trust capital gain (either in whole or in part). A beneficiary is specifically entitled to a capital gain if the following two conditions are satisfied:

•                     Entitlement condition - the beneficiary must have received, or reasonably expect to receive, financial benefits that are 'referable to the capital gain' (reduced by directly relevant expenses).

•                     Recording condition - the beneficiary's entitlement to the amount must be 'recorded in its character' as an amount referable to the capital gain in the accounts or records of the trust.

67.     A beneficiary has received an amount if, for instance, it has been credited or distributed to them or paid or applied on their behalf, or for their benefit.

68.     This does not require an 'equitable tracing' to the actual trust proceeds from the event that gave rise to a capital gain. For example, it does not matter that the proceeds from the sale of an asset were re-invested during the year, provided that a beneficiary receives (or can be expected to receive) an amount equivalent to their share of the net financial benefit

69.     A beneficiary can reasonably be expected to receive an amount if, for example, the beneficiary has a present entitlement to the amount; a vested and indefeasible interest in trust property representing the amount; or, the amount has been set aside exclusively for the beneficiary. In other words, even if the beneficiary is not 'presently entitled' to the trust amount, it is reasonable to expect that the beneficiary will become entitled to it.

70.     The accounts or records of the trust would include the trust deed itself, statements of resolution or distribution statements, including schedules or notes attached to, or intended to be read with them. However, a record merely for tax purposes is not sufficient.

71.     Paragraph 2.64 of the Explanatory Memorandum to the Tax Laws Amendment (2011 Measures No. 5) Bill 2011 (the EM) lists examples of resolutions or trust entitlements would satisfy the requirement of being 'recorded in its character as referable:

•                     Under the trust deed, a beneficiary is entitled to all of the capital gains of the trust.

•                     The trustee resolves to distribute all of the dividends of the trust to a beneficiary.

•                     Under a trust deed that does not include capital gains as income, the trustee resolves to advance capital representing profits from the sale of a property equally to the beneficiaries.

72.     Entitlement to unspecified amounts such as 'the balance' is not sufficient to create specific entitlement as explained in the EM:

2.65 Where a beneficiary is entitled to unspecified amounts (or shares) - such as 'the balance' of trust income, 'all of the trust income', 'half of the trust income' or '$100 of trust income' - this is not sufficient to create a specific entitlement. This is because the entitlements have not been recorded in their character as referable to a capital gain or franked distribution.

•                    This is true even if the beneficiary's entitlement contains amounts referable to capital gains or franked distributions.

•                    Further, it is true even if the beneficiary's entire entitlement is referable to capital gains and/or franked distributions.

73.     Accordingly, a resolution to distribute a specified amount, a percentage or the balance does not create a specific entitlement if there is no reference to a capital gain. However, if the capital gain is clearly referred to in another document, such as the trust accounts, the recording requirement may be satisfied.

Application to your circumstances

74.     The CGT event on the sale of the shares happened in XX XX and gave rise to net capital gains.

75.     The Trustee has not made a choice to be specifically entitled to any of the capital gains under section 115-230 of the ITAA 1997.

76.     As income is not defined under the Will, 'income of the trust estate' is calculated according to ordinary concepts. Accordingly, capital gains are not included when calculating the income of the trust estate.

77.     On the death of the Life Tenant, the capital of the residuary estate was to be divided into three equal parts be held on trust:

•                     one equal part for the benefit of Person B, for their own use and benefit absolutely

•                     the remaining two equal parts for the benefit of Person C and Person D as tenants in common in equal shares absolutely.

78.     The Resolution records a distribution out of the capital of the Estate to the Residuary Beneficiaries on XX XX XX.

79.     After the death of the Life Tenant, the Residuary Beneficiaries advised the Trustee their preference was to sell the shares in two tranches, half in the XX financial year and half in the XX financial year, and to receive the cash.

80.     The Trustee held meetings with the Residuary Beneficiaries to advise that shares/units in listed public companies/trusts owned by the Estate would be sold to make cash distributions to the beneficiaries, rather than distributing the shares/units in specie. This was confirmed by email sent by the Trustee's solicitor's.

81.     On XX XX XX, the Estate received the proceeds from the sale of securities being $X net of brokerage.

82.     The solicitor's trust account balance at XX XX XX was $X, which included the proceeds from the sale of the shares in XX XX.

83.     On XX XX XX, the Trustee resolved to make a capital distribution to the Residuary Beneficiaries which was paid out of the Trustee's solicitor's trust account.

84.     Records of the Trust evidence that the Trustee sold half the shares in the XX income year in order to make the cash distributions to the Residuary Beneficiaries.

85.     It is reasonable to conclude that the distributions received by the Residuary Beneficiaries was paid out of the capital proceeds from the sale of the shares in XX XX and, as a result, the Residuary Beneficiaries received the financial benefits that are 'referable to the capital gain' realised on those shares.

86.     The entitlement to capital of the Residuary Beneficiaries is recorded in the terms of the Will and at the time of the sale of the securities in XX XX, the capital was held for the Residuary Beneficiaries absolutely.

87.     The distribution of capital in the Resolution to the Residuary Beneficiaries was consistent with the terms of the trust.

88.     The Will, together with the records of the Testamentary Trust, is sufficient to evidence that the Residuary Beneficiaries entitlement to the capital gain is recorded in its character in the records of the Testamentary Trust.

89.     The two conditions for the beneficiaries of the deceased's estate to be viewed as being specifically entitled have been met.

90.     As the beneficiaries will be taken to be specifically entitled to all of the capital gains from the disposal of the shares, you won't be assessed under sections 99 or 99A of the ITAA 1936 on those amounts.

Question 3

Detailed reasoning

91.     The answer to question 2 sets out when a trustee would be assessable on taxable income that relates to capital gains of a trust.

Application to your circumstances

92.     The Trustee will not make a choice to be specifically entitled to any of the capital gains under section 115-230.

93.     Funds representing the proceeds from the sale of shares sold during the year ending XX XX XX have been set aside by the Trustee in the solicitor's trust account with a view to distributing the proceeds, which would include the capital gains, to the Residuary Beneficiaries.

94.     The Trustee will by XX XX XX prepare a written resolution to advance capital representing all the profits derived from the sale of shares in the XX financial year to the Residuary Beneficiaries.

95.     Records of the trust evidence that the Trustee sold half the shares in the XX income year in order to make cash distributions to the Residuary Beneficiaries.

96.     As per the answer to question 2, the entitlement to capital of the Residuary Beneficiaries is recorded in the terms of the Will. The capital is held for the Residuary Beneficiaries absolutely.

97.     The Residuary Beneficiaries will be reasonably expected to receive the financial benefits that are 'referable to the capital gain' and their entitlement is recorded in character in the records of the trust.

98.     Accordingly, the Residuary Beneficiaries will be specifically entitled to the capital gains made by the trust in the 2023 income year.

99.     As the beneficiaries will be taken to be specifically entitled to all of the capital gains from the disposal of the shares, you won't be assessed under sections 99 or 99A of the ITAA 1936 on those amounts.

Question 4

Detailed reasoning

100.  Capital gains and franked distributions included in the net income of a trust are brought to tax in accordance with Subdivisions 115-C and 207-B respectively.

101.  Broadly, these subdivisions operate to assess trustees under section 99 or 99A of the ITAA 1936 on a proportionate share of an amount of a capital gain and franked distribution to which no beneficiary is specifically entitled, but only to the extent that there is an (adjusted) share of the income of the trust estate to which no beneficiary is presently entitled.

102.  All other trust income to which no beneficiary is presently entitled is assessed to the trustee under section 99A of the ITAA 1936, unless the Commissioner is of the opinion that it would be unreasonable that section 99A should apply.

103.  The treatment of the net income attributable to the capital gain is outlined in the answer to question 3.

Application to your circumstances

104.  It is estimated that for the year ending 30 June 2023, expenses will exceed the income derived by the trust. Therefore, the income of the trust estate calculated according to ordinary concepts will be nil.

105.  Due to the net capital gain arising from the sale of securities, the Trust will have net income under section 95 of the ITAA 1936 in respect of the income year ending 30 June 2023.

106.  As the beneficiaries will be taken to be specifically entitled to all of the capital gains from the disposal of the shares, you won't be assessed under sections 99 or 99A of the ITAA 1936 on those amounts.

107.  As there is no income of the trust estate, there is no share of income of the trust estate on which you could be assessed under section 99 or 99A of the ITAA 1936.

108.  Accordingly, the Trustee of the Testamentary Trust will not have an assessment under section 99 or 99A of the ITAA 1936 in respect of the net income of the trust for the income year ending 30 June 2023.

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