Edited version of private advice

Authorisation Number: 1052384398109

Date of advice: 9 May 2025

Ruling

Subject: CGT - main residence exemption

Question 1

Can you apply the full main residence exemption to part A of Property A when you dispose of the property?

Answer 1

Yes.

Question 2

Can you disregard any capital gain on Part B of Property A when you dispose of the property?

Answer 2

No.

Question 3

Will the market value substitution rule in subsection 116-30(2) of the ITAA 1997 apply when you dispose of Property A?

Answer 3

Yes.

This ruling applies for the following periods:

Year ending 30 June 20XX

Year ending 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

You purchased XX hectares of land (Property A) in 19XX.

In 19XX, you built a house on Property A.

In 20XX, a fire went through the area and your house burnt down.

The house was your main residence at the time of the fire.

For the purposes of this ruling, Property A consists of:

•                     Part A (the land on which the house previously stood plus adjacent land up to 2 hectares in total)

•                     Part B (the remaining land area of approximately XX hectares)

Property A was used only for private and domestic purposes.

You purchased a new house (Property B) with your spouse in the same year.

You have made the choice to continue the main residence exemption in accordance with section 118-160 of the ITAA 1997 following the destruction of your house at Property A.

You plan to transfer the entirety of Property A to your child within the ruling period for no consideration.

Following the bushfire, Property A has been rezoned as C3 Environmental Management. This rezoning will allow your child to build a house on the land at Property A.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 section 104-20

Income Tax Assessment Act 1997 section 108-5

Income Tax Assessment Act 1997 section 116-30

Income Tax Assessment Act 1997 section 118-110

Income Tax Assessment Act 1997 section 118-120

Income Tax Assessment Act 1997 section 118-125

Income Tax Assessment Act 1997 section 118-140

Income Tax Assessment Act 1997 section 118-160

Reasons for decision

Question 1

Summary

You will receive a full main residence exemption on the transfer of Part A of Property A.

Detailed reasoning

Section 104-10 of the Income Tax Assessment Act 1997 (ITAA 1997) provides that capital gains tax (CGT) event A1 happens if you dispose of a CGT asset. Disposal of a CGT asset occurs when a change of ownership occurs from one entity to another.

Section 108-5 of the ITAA 1997 provides that a CGT asset is:

(a)           (a)any kind of property

(b)           (b)a legal or equitable right that is not property.

Land and buildings are an example of a CGT asset.

Subsection 118-110(1) of the ITAA 1997 provides that a capital gain or capital loss you make from a capital gains tax (CGT) event that happens in relation to a CGT asset that is a dwelling or your ownership interest in it is disregarded if:

(a)           you are an individual; and

(b)           the dwelling was your main residence throughout your ownership period; and

(c)           the interest did not pass to you as a beneficiary in, and you did not acquire it as a trustee of, the estate of a deceased person

Section 118-125 of the ITAA 1997 provides that your ownership period of a dwelling is the period on or after 20 September 1985 when you had an ownership interest in:

(a)           the dwelling; or

(b)           land (acquired on or after 20 September 1985) on which the dwelling is later built

Section 118-120 of the ITAA 1997 specifies that the main residence exemption can extend to adjacent land where:

•                     the same CGT event happens to both the land and the dwelling

•                     the land was 'used primarily for private or domestic purposes in association with the dwelling'

•                     the total combined area for the dwelling and adjacent land is less than two hectares.

Taxation Determination TD 1999/67 Income tax: capital gains: if your land (including land on which your dwelling is situated) exceeds 2 hectares, can you select which 2 hectares the main residence exemption in Subdivision 118-B applies to and, if so, how do you calculate any capital gain or capital loss you make on the remainder of your land? states that you can apply the main residence exemption to whichever area of land you choose in addition to the land on which your dwelling is situated, provided that the total of the land does not exceed two hectares and that a capital gain or loss you make from the land is only disregarded under the main residence exemption if it is used primarily for private or domestic purposes in association with your dwelling.

Section 118-160 of the ITAA 1997 states that:

(1)           This section applies if a dwelling that is your main residence is accidentally destroyed and a CGT event happens in relation to the land on which it was built without you erecting another dwelling on the land.

(2)           You can choose to apply this Subdivision to the land as if, from the time of the destruction until your ownership interest in the land ends, the dwelling had not been destroyed and were your main residence.

(3)           If you do so, you cannot treat any other dwelling as your main residence during that period, except under section 118-140 (about changing main residences).

Application to your circumstances

You will transfer Property A to your child within the ruling period. On transfer of Property A, CGT event A1 will occur. As the house on Property A was your main residence until its destruction, you have chosen to apply section 118-160 so that the main residence exemption will continue until you transfer Property A.

As the adjacent land was used only for private and domestic purposes, the main residence exemption can be applied to Part A of Property A and you will receive a full main residence exemption on disposal of Part A of Property A.

Question 2

Summary

You can't disregard any capital gain on disposal of Part B of Property A.

Detailed reasoning

In accordance with section 118-160 of the ITAA 1997, the main residence exemption can be applied to the land on which the house stood and adjacent land up to a total of 2 hectares on disposal provided it is used only for private or domestic purposes.

Any area of land that exceeds the 2 hectare limit is not exempt for the purposes of the main residence exemption. You will therefore need to calculate any capital gain or capital loss on that land.

If your selected area of land can be separately valued, you calculate your capital gain or capital loss on the remainder of your land by apportioning the capital proceeds and the cost base or reduced cost base (if applicable) on the basis of the valuation. This is relevant if the value of the remainder of the land is of a greater or lesser value than your selected area of land.

If your selected area of land cannot be separately valued, your capital gain or loss on the remainder of your land may be calculated by apportioning the capital proceeds and the cost base or reduced cost base (if applicable) on an area basis.

Application to your circumstances

CGT event A1 will occur on transfer of Part B of Property A to your child. As no exemption is available for Part B, you can't disregard any capital gain or loss on transfer of Part B. You will therefore need to calculate any capital gain or loss on Part B based on a valuation where applicable or an area basis.

As you have owned Property A for at least 12 months, you are eligible for a 50% discount on transfer.

Question 3

Summary

The market value substitution rule in subsection 116-30(2) of the ITAA 1997 will apply on disposal of Property A.

Detailed reasoning

Section 116-20 of the Income Tax Assessment Act 1997 (ITAA 1997) states that the capital proceeds from a CGT event includes 'the money you have received, or are entitled to receive, in respect of the event happening'.

Subsection 116-30(1) of the ITAA 1997 states that if you received no capital proceeds from a CGT event, you are taken to have received the market value of the CGT asset that is the subject of the event. The market value is worked out at the time of the event.

Modification 1, the market value substitution rule, contained in paragraph 116-30(2)(b) will apply if there are proceeds from the disposal of a CGT asset triggering CGT event A1 and:

•                     some or all of those proceeds cannot be valued; or

•                     those capital proceeds are more or less than the market value of the asset and:

­        you and the entity that acquired the asset from you did not deal with each other at arm's length in connection with the event; or

­        the CGT event is CGT event C2 (about cancellation, surrender and similar endings).

For the market substitution rule under subparagraph 116-30(2)(b)(i) to apply to the proceeds from the disposal of the property, the circumstances of the arrangement need to be considered to determine whether the parties are dealing with each other at arm's length in connection with the event.

Meaning of 'at arm's length'

Section 995-1 defines 'arm's length' as:

In determining whether parties deal at arm's length, consider any connection between them and any other relevant circumstance. It is relevant to consider the nature of any relationship between the parties: Trustee for the Estate of the late AW Furse No 5 Will Trust(at 4015);Granby(at 506).

If the parties are not at arm's length, the inference may be drawn that they did not deal with each other at arm's length Granby (at 506); ACI Operations Pty Ltd (at [225]).

Application to your circumstances

As you will gift Property A to your child for no consideration and you are not dealing at arm's length with them in connection with the disposal, the market value substitution rule will apply. You will be taken to have received the market value of Property A at the time of disposal.

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