Edited version of private ruling

Authorisation Number: 1011699061398

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Ruling

Subject: Capital gains tax - deceased estate

Question 1

Will you be able to disregard any capital gain made on the transfer of your ownership interest in a property to your relative?

Answer

No.

Question 2

Are you absolutely entitled to the half interest of a property which you jointly own with your relative as against your relative as trustee?

Answer

No.

This ruling applies for the following period:

Year ended 30 June 2011

The scheme commences on:

1 July 2010

Relevant facts and circumstances

Your parent purchased a property after 20 September 1985 in their name. There was a single dwelling on the property. At the time you and your relative lived in the dwelling with your parent as the family home.

Your parent died on date X. Both you and your relative were living in the dwelling as your main residence and continued to do so, sharing expenses equally.

On date Y the property was transferred into the names of you and your relative as joint owners.

You and your relative decided to demolish the dwelling and to subdivide the land into two lots, Lot 1 and Lot 2. At the time of subdivision the property remained in both of your names. You both recognised that you were holding the property for the benefit of the other in relation to the subdivision.

You decided to construct a dwelling (Unit 2) on Lot 2 and your relative decided to construct a dwelling (Unit 1) on Lot 1.

You each paid your share of the subdivision costs and each paid for the construction of the respective units.

You and your relative each applied for a loan to a bank which granted a single loan as the title of the subject property was registered in joint name of you and your relative.

As the bank granted a single loan, you sought security over Lot 1 to the extent of your relative's half interest therein. Similarly, your relative sought security over Lot 2 to the extent of your half interest therein.

It is proposed that your relative will transfer their half interest in Lot 2 to you and you will transfer your half interest in Lot 1 to your relative. Both these transfers will take place for no additional consideration.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 102-20.

Income Tax Assessment Act 1997 Section 104-10.

Income Tax Assessment Act 1997 Section 108-7.

Income Tax Assessment Act 1997 Section 118-110.

Reasons for decision

You can make a capital gain or capital loss if a CGT event happens to a CGT asset in which you have an ownership interest (section 102-20 of the Income Tax Assessment Act 1997 (ITAA 1997)).

A CGT asset is any kind of property, or a legal or equitable right that is not property. Real estate is a CGT asset.

CGT event A1 happens if you dispose of your ownership interest in a CGT asset. You dispose of a CGT asset if a change of ownership occurs from you to another entity.

When considering the disposal of an asset, the most important element in the application of the CGT provisions is ownership. It must be determined who is the legal owner of the asset.

In the absence of evidence to the contrary, property is considered to be owned by the person(s) registered on the title. In your case, the property in question is currently owned by you and your relative as joint tenants. The property was subdivided into two lots, Lot 1 and Lot 2. Both you and your relative have a 50% interest in both Lots.

Nature of a tenancy in common

Section 108-7 of the ITAA 1997 provides that individuals who own a CGT asset as joint tenants are treated as if they each owned a separate CGT asset constituted by an equal interest in the asset and as if each of them held that interest as a tenant in common.

At common law, tenants in common have an undivided proportionate or fractional interest in property, possessing the property in common and without exclusive possession of any part of it. They have a distinct or separate interest in the property, but that interest is not physically identifiable. In other words, a tenant in common cannot point to a particular part of the property as being theirs. Peter Butt considers the legal nature of a tenancy in common in his textbook 'Land Law' (5th edition, 2006) at pages 213-214.

In your case, you have a distinct one-half share (your CGT asset) in the whole property that you and your relative inherited from your parent. Likewise your relative has a one-half share (their CGT asset) in the whole property. However, those two shares are, as noted previously, undivided or not physically identifiable. Even after subdivision into Lot 1 and Lot 2, you and your sibling each have a distinct or separate interest in Lot 1 and Lot 2 but that interest is not physically identifiable.

You have argued that you will transfer your half interest in Lot 1 on which Unit 1 has been constructed to your relative for no consideration on the basis that your relative is the sole absolutely entitled beneficiary of the resulting 'bare' trust upon which you hold the property. Similarly, your relative will transfer to you their half interest in Lot 2 for no consideration on the basis that you are the sole and absolutely entitled beneficiary of the resulting bare trust upon which your relative holds the property.

Holding an Asset in Trust

In some cases, an individual may hold a legal ownership interest in a property for another individual in trust. Where the legal and beneficial ownership of an asset is different, a trust situation occurs. In this situation the legal owner is the trustee of the asset.

The CGT provisions do not apply to the legal owner of an asset if the legal owner held it on trust for another person and the other person was absolutely entitled to that asset as against the trustee.

Bare trust and absolute entitlement

A trust is a 'bare trust' where the trustee has no interest in the trust assets other than that existing by reason of the office of trustee and the holding of the legal title, and who never has had active duties to perform or who has ceased to have those duties with the result that in either case the property awaits transfer to the beneficiaries or at their direction.

A person will have difficultly in establishing the requirements for absolute entitlement if one or more other beneficiaries have an interest in the trust asset. This is because the specific trust asset that is held on behalf of a specific beneficiary needs to be identifiable. It is not sufficient for a beneficiary to show they have an undivided interest in the trust asset. Instead, it must be possible to identify a particular asset being held for a particular beneficiary.

In your circumstances, you and your relative each have a distinct or separate interest in Lot 1 and Lot 2 but that interest is not physically identifiable. For this reason, it cannot be said that your relative is the sole absolutely entitled beneficiary of any resulting 'bare' trust upon which you hold the property. Similarly, it cannot be said that you are the sole and absolutely entitled beneficiary of any resulting bare trust upon which your relative holds the property.

Case Law

A case with some similarities but involving a jointly held parcel of shares is Johnson v. FC of T 2007 ATC 2161 (Johnson's case), The taxpayer submitted that, notwithstanding that the shares were registered in joint names, he and his brother always understood that they each held 50% of the shares; the transfer into individual names merely gave effect to the underlying reality and did not amount to a disposal. The mother also gave evidence that it was her intention that each son would take half the number of shares. However it was held that having a one half interest in a parcel of shares did not equate to having exclusive ownership of one half of the total number of shares.

In your case the same principle applies.

CGT Outcome

The CGT outcome in your case parallels that in TD 92/148 which deals with a joint tenancy situation. You will dispose of your 50 per cent share in Lot 2 to your relative, thereby triggering CGT event A1 as there will be a change of ownership - in both beneficial and legal terms - of that 50 per cent share in Lot 2. In a concurrent and separate transaction, you will acquire a 50 per cent share in Lot 1, namely the share in Lot 1 that was previously owned by your relative. The converse applies in the case of your relative. They will dispose of a 50 per cent share in Lot 1 to you (again triggering CGT event A1), and will concurrently and separately acquire a 50 per cent share in Lot 2 from you.

A similar decision was made by the judge in Johnson's case which concluded that no CGT rollover relief was available. The following reasoning was used:

Section 108-7 of the ITAA 1997 provided that individuals who held a CGT asset as joint tenants were treated as if they were tenants in common who each owned a separate CGT asset comprising an equal interest in the asset. In this case, each share was comprised of two assets, one held by each brother. Dividing the parcel in two for the purposes of a transfer to each joint owner effectively required those owners to relinquish ownership of the CGT assets in the shares in the other parcel in return for clear title to the shares in the parcel they were acquiring. As a result, the rearrangement and reallocation of the jointly-owned shares constituted a disposal of CGT assets under CGT event A1 and tax was levied on the capital proceeds (ie the market value of the interest acquired in the shares) less the cost base. This is consistent with the Commissioner's view in Taxation Determination TD 92/148.

Main residence exemption

Taxation Ruling IT 2485 states that where a dwelling is not the sole or principal residence of all joint owners, the exemption provided on disposal (main residence exemption) is available only to the joint owner or each joint owner who occupied the dwelling as his or her sole or principal residence in respect of his or her share in the dwelling. As such, you will not be entitled to disregard any capital gain or capital loss you make on the transfer of your ownership interest in the property that contains the main residence of your relative.

Conclusion

You will not be able to disregard any capital gain made on the transfer of your half interest in Lot 1 to your relative.