Edited version of private ruling

Authorisation Number: 1011661359736

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Ruling

Subject: Income Tax: Trust - absolute entitlement

Question 1

Is the sole beneficiary of the trust "absolutely entitled" to the trusts' capital gains tax (CGT) assets as against the trustee?

Answer

Yes

Question 2

Will a CGT event be triggered for the trustee and/or beneficiary of the trust, if the beneficiary of the trust elects to have an in-specie transfer of the CGT assets if a decision is made to wind up the trust?

Answer

No

This ruling applies for the following period:

1 July 2101 to 30 June 2011

The scheme commences on:

1 July 2010

Relevant facts and circumstances

The rust was created a few years ago. It is a private inter-vivos trust that was established with the purpose of asset protection. The trust corpus is made up of cash and some post-CGT shares. You stated in your application for private ruling that as trustee you acquired new shares and other CGT assets during the trust administration period.

The beneficiary of the trust (the beneficiary) was born a number of years ago.

In subsequent years, the trustee used the trust capital to invest and acquire several other CGT assets to maximise wealth for the benefit of the beneficiary. The trustee is able to apply such powers until for the remainder of the beneficiaries' life.

The beneficiary has been presently entitled to all income, distributed capital gains and realised capital gains throughout the life of the trust.

You believe that the beneficiary of the trust is absolutely entitled to the income and capital of the trust as per the trust deed.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 95

Income Tax Assessment Act 1997 section 104-55

Income Tax Assessment Act 1997 subsection 104-55(5)

Income Tax Assessment Act 1997 section 104-60

Income Tax Assessment Act 1997 subsection 104-60(5)

Income Tax Assessment Act 1997 section 106-50

Income Tax Assessment Act 1997 subsection 108-5(1)

Reasons for decision

Question 1

Summary

The sole beneficiary of the trust is "absolutely entitled" to the trust's CGT assets as against the trustee.

Detailed reasoning

Subsection 108-5(1) of the Income Tax Assessment Act 1997 (ITAA 1997) defines a CGT asset as any kind of property or a legal or equitable right that is not property.

CGT event E1 happens when a taxpayer creates a trust over a CGT asset by declaration or settlement as provided for by section 104-55 of the ITAA 1997. CGT event E2 happens when a taxpayer transfers a CGT asset to an existing trust as provided for in section 104-60 of the ITAA 1997.

However, subsection 104-55(5) and 104-60(5) of the ITAA 1997 states that CGT event E1 and E2 does not happen if the trust is not a unit trust and the transferor is the sole beneficiary of the trust and is absolutely entitled as against the trustee (ignoring any legal disability) to the asset they transferred.

The facts provided by you in the application for private ruling indicates that the trust is not a unit trust and the transferor is the sole beneficiary of the trust. As explained later in this ruling, CGT event E1 and E2 is not relevant.

Section 106-50 Part 3-1 of the ITAA 1997 states;

If you are absolutely entitled to a CGT asset as against the trustee of a trust (disregarding any legal disability), this Part and Part 3-3 apply to an act done by the trustee in relation to the asset as if you had done it.

Draft taxation ruling TR 2004/D25 (the draft ruling) explains the 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 ITAA 1997.

The draft ruling states that the main CGT provisions to which the concept of absolute entitlement is relevant apply if a beneficiary is or becomes absolutely entitled to a CGT asset of the trust as against the trustee (paragraph 8). The provisions apply separately to each beneficiary and asset of the trust. They require absolute entitlement to the whole of a CGT asset of the trust (paragraph 9).

Paragraph 10 of the ruling explains the core principle as:

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. 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.

The basis of the principle is that a beneficiary is entitled now to that which will be theirs eventually anyway.

Paragraph 11 explains the rule in Saunders v Vautier:

Under the rule in Saunders v. Vautier, the courts do not regard as effective a direction from the settlor of the trust that purports to delay the beneficiary's full enjoyment of an asset. However, if there is some basis upon which a trustee can legitimately resist the beneficiary's call for an asset, then the beneficiary will not be absolutely entitled as against the trustee to it.

The following paragraphs of the draft ruling further states:

20. The most straight forward application of the core principle is one where a single beneficiary has all the interest in the trust estate. Generally, a beneficiary will not be absolutely entitled to a trust asset if one or more other beneficiaries also have an interest in it.

21. A beneficiary has all the interests in a trust asset if no other beneficiary has an interest in the asset (even if the trust has other beneficiaries).

22. Such a beneficiary will be absolutely entitled to that asset as against the trustee for the purposes of the CGT provisions if the beneficiary 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.

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.

Based on the facts provided by you and referring to the deed of trust, the beneficiary is the sole beneficiary in respect of the trust and no other beneficiary has an interest in the trust or trust asset. The beneficiary therefore satisfies the requirement that they have a vested and indefeasible interest in the entire trust estate.

A vested interest is one that is bound to take effect in possession at some time and is not contingent upon an event occurring that may or may not take place. A beneficiary's interest in an asset is vested in possession if they have the right to immediate possession or enjoyment of it.

Because the sole beneficiary in respect of an asset has the totality of the beneficial interests in the asset, they automatically satisfy the requirement that their interest in the asset be vested in possession and indefeasible. Therefore, the sole beneficiary in respect of a trust asset will be absolutely entitled to that asset as against the trustee if the beneficiary 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.

Based on the facts provided, there are no conditions placed on the beneficiary by the trust deed and there are no legal impediments to the beneficiary obtaining immediate possession and enjoyment of the asset. Therefore, based on the Commissioners interpretation of "absolutely entitled to the trust's CGT assets as against the trustee" as per the draft ruling, the sole beneficiary of the trust will be "absolutely entitled" to the trust's CGT assets as against the trustee and will be entitled to terminate the trust.

Question 2

Summary

CGT event will not be triggered for the trustee and/or beneficiary of the trust, if the beneficiary elects to have an in-specie transfer of the CGT assets of the trust if and when a decision is made to wind up the trust.

Detailed reasoning

As stated earlier, section 106-50 Part 3-1 of the ITAA 1997 states;

If you are absolutely entitled to a CGT asset as against the trustee of a trust (disregarding any legal disability), this Part and Part 3-3 apply to an act done by the trustee in relation to the asset as if you had done it.

Broadly, an absolutely entitled beneficiary (rather than the trustee) is treated as the relevant taxpayer in respect of the asset for the purposes of the CGT provisions. Effectively, the trust relationship is ignored and the beneficiary is taken to be the owner of the CGT asset and the relevant taxpayer if a CGT event happens to that asset.

This is further explained in the draft ruling TR 2004/25 in the following paragraphs:

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.

If the beneficiary elects to have the CGT assets of the trust transferred to them and wind up the trust, no CGT event will be triggered to the beneficiary or the trustee of the trust when the legal title in an asset to which the beneficiary is absolutely entitled as against the trustee is transferred to the beneficiary.

Paragraph 144 of the draft ruling states:

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.

Hence, no capital gain or capital loss will arise to the trustee and/or the beneficiary when the sole beneficiary of the trust elects to have an in-specie transfer of the CGT assets of the trust if and when a decision is made to wind up the trust.