Edited version of your private ruling

Authorisation Number: 1012503093618

Ruling

Subject: Disposal of property

Question 1

Is the deceased considered absolutely entitled to the property A, as against the trustee, for the purposes of the capital gains tax (CGT) provisions of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer:

Yes

Question 2

Is the deceased liable for any capital gain made under section 106-30 of the ITAA 1997 upon the bankruptcy trustee disposing of property A and B?

Answer:

Yes

Question 3

Will any capital gain made on disposal of properties A and B be assessable to the trustee in bankruptcy?

Answer:

No

Question 4

Is the trustee in bankruptcy, required to lodge an income tax return, or make any other report or disclosure to the ATO, in respect of any capital gain made on the sale of properties A and B?

Answer:

No

Question 5

Will the Commissioner exercise their discretion under section 99A(2) of the Income Tax Assessment Act 1936 (ITAA 1936) not to apply section 99A to the rental income derived by the trustee company?

Answer:

Yes

Question 6

If the trustee in bankruptcy were to disclaim their interest in the property pursuant to section 133(1) of the Bankruptcy Act 1966 (BA) at some time after they was appointed, will any income tax liability incurred in relation to the rental income for the period between appointment and disclaiming be voided?

Answer:

Yes

Question 7

If a contract of sale is entered into to dispose of properties A and B, can the trustee in bankruptcy offset any capital gain made upon disposal of the properties against the prior year net capital losses of the deceased in the 20XX financial year?

Answer:

No

Question 8

If a contract of sale is entered into to dispose of properties A and B, can the trustee in bankruptcy offset any capital gain made upon disposal of the properties against the carried forward tax losses of the deceased in the 20XX financial year?

Answer:

No

Question 9

Can the trustee in bankruptcy offset any rental income derived from the property against the carried forward tax losses of the deceased in the financial year in which the deceased became bankrupt?

Answer:

Yes

Question 10

Can the trustee in bankruptcy offset any rental income derived from the property against the carried forward tax losses of the deceased in any year after the financial year in which the deceased became bankrupt?

Answer:

No

Question 11

Is any capital gain arising from the sale of properties A and B properties, after the date of bankruptcy, a provable debt in the deceased's bankruptcy?

Answer:

Invalid - as this question is in respect of the Bankruptcy Act 1966 (legislation not administered by the Commissioner) a ruling cannot be issued.

This ruling applies for the following period

Year ended 30 June 2012

Year ending 30 June 2013

Year ending 30 June 2014

The scheme commenced on

1 July 2011

Relevant facts and circumstances

The arrangement that is the subject of the private ruling is described below. This description is based on the following documents. These documents form part of and are to be read with this description. The relevant documents are:

· your application for private ruling

· copy of trust deed

· copy of amendment to trust deed

Deceased died in 20YY.

The executor obtained a grant of probate.

The executor consented to a substantial judgement against the deceased estate. The judgement represented shortfall under a guarantee that the deceased had provided. A creditor subsequently filed a creditor's petition in the Federal Magistrates court of Australia for the administration of the deceased estate pursuant to Part XI of the bankruptcy act.

Later, the Federal Magistrates Court ordered that the deceased estate be administered pursuant to Part XI of the Bankruptcy Act.

A trustee in bankruptcy to administer the deceased estate was appointed. Since that time, the trustee in bankruptcy has been administering the deceased estate pursuant to Part XI of the Bankruptcy Act.

Pursuant to section 349 of the Bankruptcy Act, the divisible property of the deceased estate vested in the trustee in bankruptcy, from the date of the order.

Among the divisible property was the deceased's legal interest as the sole registered proprietor of an industrial property B. The trustee in bankruptcy is now registered as the owner of the property.

Pursuant to a declaration of trust, Company A (the trustee company) held commercial property A on trust for the deceased. The deceased was the sole beneficiary of the trust. The deceased financed the trustee company to purchase property A.

The trustee company is a company having nominal net assets.

Pursuant to a direction by the deceased to Company A, contained in a supplemental deed, a commercial building was erected on property A.

A lease of the commercial building commenced for a period of years.

The parties to the lease have not agreed to any change in consideration under the lease, other than annual CPI rental increases provided for in the lease.

All rental income has been declared in the deceased's income tax return, rather than the income tax return of the trustee company.

The deceased has carried forward capital losses and carried forward income tax losses.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 106-50

Income Tax Assessment Act 1997 Section 106-30

Income Tax Assessment Act 1997 Section 104-10

Income Tax Assessment Act 1936 Section 99

Income Tax Assessment Act 1936 Section 99A

Income Tax Assessment Act 1997 Section 36-35

Income Tax Assessment Act 1997 Section 102-5

Bankruptcy Act 1966

Taxation Administration Act 1953 Section 357-55 of schedule 1

Reasons for decision

Detailed reasoning

Question 1

Taxation Ruling TR 2004/D25 discusses the concept of 'absolute entitlement' and states, at paragraph 10, that:

The core principle underpinning the concept of absolute entitlement in the capital gains tax (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.

At paragraphs 21 and 22 of TR 2004/D25 it states;

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).

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

As a 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.

Further, as paragraphs 141-143 of TR 2004/D25 explain:

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.

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.

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.

Based on the information provided (including the trust deed), the deceased, as the sole beneficiary of the trust, is considered to be absolutely entitled to the property A as against the trustee.

Accordingly, an act done by a trustee in relation to an asset is taken to have been done by the beneficiary and therefore, any capital gain made on disposal of the property is considered to be a capital gain made by the beneficiary.

Question 2

Section 106-30 of the Income Tax Assessment Act 1997 (ITAA 1997) advises that the vesting of assets in a trustee under bankruptcy law is ignored for CGT purposes. The effect of this is that the asset is still considered to be owned by the insolvent person, even though the asset is vested in the trustee.

The acts of the trustee in relation to the vested asset are taken to be the bankrupt's acts under subsection 106-30(2) of the ITAA 1997.

When the bankruptcy trustee disposes of the property CGT event A1 will happen (section 104-10 of the ITAA 1997).

Consequently, no disposal takes place on the vesting of the asset to the trustee, but a disposal of the asset by the trustee is considered to be a disposal by the insolvent person.

The liability for CGT on the capital gain on disposal of the property is borne by the insolvent person in the year of income in which the disposal occurred.

Therefore, any capital gain made on the disposal of the properties is assessable to the deceased and they will be required to include this gain in their income tax return for the relevant year.

As the taxpayer is now deceased, the gain will be assessed to their deceased estate.

Question 3

As the bankrupt taxpayer is assessable on any capital gain made on the disposal of the properties (as discussed in question 2), then the trustee will not also be assessable.

Question 4

As the bankrupt taxpayer is required to include any capital gain on the sale of the properties in their income tax return (as discussed in question 2), the trustee is not also required to include this capital gain.

Question 5

Sections 99 and 99A of the Income Tax Assessment Act 1936 (ITAA 1936) govern the taxation of so much of the net income of a trust estate in relation to a year of income to which there is no beneficiary presently entitled. All such income falls initially within the ambit of section 99A of the ITAA 1936. In a limited number of cases, the Commissioner has a discretion to assess the trustee under section 99 of the ITAA 1936 if they of the opinion that it would be unreasonable that section 99A of the ITAA 1936 should apply.

The difference in operation of the two sections is broadly that if section 99 of the ITAA 1936 applies individual rates of tax are attracted but, if section 99A of the ITAA 1936 applies a penal rate of tax is attracted.

Section 99A(2) of the Income Tax Assessment Act 1936 (ITAA 1936) gives the Commissioner a discretion to assess the trustee pursuant to section 99 of the ITAA 1936, rather than section 99A of the ITAA 1936, where the following kinds of trust estates are involved:

1) a trust estate that resulted from a will, a codicil, an intestacy or a court order varying the provisions of a will, a codicil or the operation of the intestacy provisions

2) bankrupt estates, or

3) trust estates that consist of property of a kind referred to in s 102AG(2)(c).

Subsection 99A(3) provides that in forming an opinion for the purposes of subsection 99A(2) the Commissioner is to have regard to certain matters, these are:

(1) the circumstances in which and the conditions, if any, upon which, at any time-

a. property - including money - was acquired by or lent to the trust estate,

b. income was derived by the trust estate,

c. benefits were conferred on the trust estate, or

d. special rights or privileges - irrespective of whether they have been exercised - were conferred on or attached to property of the trust estate.

(2) whether any person, who has at any time, directly or indirectly-

a. transferred or lent any property (including money) to, or conferred any benefits on, the trust estate; or

b. conferred or attached any special right or privilege, or done any act or thing, either alone or together with another person or persons, that has resulted in the conferring or attaching of any special right or privilege, on or to property of the trust estate, whether or not the right or privilege has been exercised,

(3) has at any time, directly or indirectly, done any similar thing in relation to any other trust estate.

(4) such other matters, if any, as he thinks fit.

In this case, the Federal Magistrates Court ordered that the deceased estate be administered pursuant to Part XI of the Bankruptcy Act. From this date onwards, the trustee in bankruptcy, would be liable to taxation on any rental income received from the property.

Based on the information provided, and consideration of the matters listed above, the Commissioner considers it would be unreasonable to apply section 99A to the income derived during the administration of the bankrupt estate. Accordingly, the income of the trust estate will be assessed under section 99 of the ITAA 1936.

Question 6

Paragraph 254(1)(h) of the ITAA 1936 explains that for the purpose of ensuring the payment of tax, the Commissioner shall have the same remedies against attachable property of any kind vested in or under the control or management or in the possession of any agent or trustee, as the Commissioner would have against the property of any other taxpayer in respect of tax.

However, subsection 133(1) of the Bankruptcy Act 1966 (BA) states that:

…the trustee may, notwithstanding that he or she has endeavoured to sell or has taken possession of the property or exercised any act of ownership in relation to it and notwithstanding, in the case of property the transfer of which is required by a law of the Commonwealth or of a State or Territory of the Commonwealth to be registered, that he or she has not become the registered owner of that property, by writing signed by him or her, at any time disclaim the property.

In addition, subsection 133(2) of the BA provides that:

a disclaimer…operates to determine forthwith the rights, interests and liabilities of the bankrupt and his or her property in or in respect of the property disclaimed, and discharges the trustee from all personal liability in respect of the property disclaimed as from the date when the property vested in him or her…

Therefore, it follows that when an effective disclaimer is in place, it would operate to ensure that the trustee in bankruptcy would not be personally liable for any income tax liabilities related to the disclaimed property arising out of any occupation between the date the property vested in them and the date of disclaimer. This is because on disclaiming the property, the property is no longer considered vested in, or under the control of, the trustee in bankruptcy.

Accordingly, the Commissioner shall be deemed to be a creditor of the bankrupt, and in this case, the deceased estate.

Question 7, 8, 9 and 10

Tax losses

Section 36-35 of the ITAA 1997 applies where a taxpayer has incurred a tax loss before becoming bankrupt, or being released from a debt by the operation of a law relating to bankruptcy. It provides that such a tax loss cannot be deducted in any income year subsequent to the bankruptcy or release.

Importantly, this section denies the allowance of a tax loss only in years after the income year in which the bankruptcy or release of debts occurs. There is no restriction on the deductibility of current year pre-bankruptcy losses against current year post-bankruptcy income.

Accordingly, rental income derived from property A and B for the period from the date of bankruptcy to 30 June 20ZZ can be offset against the deceased's carry forward tax losses. However, any carry forward tax losses can not be used to offset any income in future years.

In addition, any carry forward tax losses would not be able to be offset against any capital gain made on disposal of the properties post 30 June 20ZZ, as these losses can only be utilised in the financial year in which the taxpayer becomes bankrupt.

Capital losses

Subsection 102-5(2) of the ITAA 1997 provides that, if during an income year a taxpayer:

· became bankrupt; or

· was released from debts under a law relating to bankruptcy,

any net capital loss made by the taxpayer for an earlier income year is disregarded in calculating the net capital gain of the taxpayer for the income year. It prevents a taxpayer from taking into account a net capital loss made in an earlier income year in working out whether the taxpayer made a net capital gain for the income year or any later income year. However, this section does not require a taxpayer to disregard a capital loss made in the same income year as the taxpayer became bankrupt or was released from debts under a law relating to bankruptcy.

Accordingly, any capital gain made on disposal of either property, pursuant to a contract entered into post 30 June 20ZZ would not be able to be offset against the deceased's prior year capital losses.

Question 11

Invalid - as this question is in respect of the Bankruptcy Act 1966 (legislation not administered by the Commissioner) a ruling cannot be issued. The Commissioner can only provide a ruling on relevant taxation provisions as listed under section 357-55 of schedule 1 of the Taxation Administration Act 1953.