Edited version of private advice

Authorisation Number: 1012648237994

Ruling

Subject: Assessability of capital gain derived from disposal of trust assets

Question 1

Is the Special Disability Trust (SDT) assessable on the capital gain made on the disposal of the investment product?

Answer

No

Question 2

Are the absolutely entitled beneficiaries assessable on the capital gain made on the disposal of the investment product?

Answer

Yes

This ruling applies for the following period

Year ended 30 June 2014

The scheme commenced on

6 January 2014

Relevant facts

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:

• the private ruling application form

• the attachment to the private ruling request

The Special Disability Trust (SDT) was created by Deed.

There was a sole beneficiary of this SDT and all income was assessable in his/her hands for income tax purposes.

The beneficiary died. In accordance with the deed the SDT terminates on his/her death (Clause 1.5 of the Deed).

In accordance with the nominations made, the residual funds of the SDT are returnable to the respective donor trusts.

The residual beneficiaries of those trusts are absolutely entitled to receive these funds after the SDT is terminated.

Funds contributed to the SDT were in the form of cash, and they were invested in a Managed Fund.

Following the death of the sole beneficiary of this SDT, the investment in the Fund was redeemed. Your records indicate that the redemption has resulted in a realised capital gain.

However, the trust paid nursing home fees, and holiday expenses in excess of the income generated from the investments. It means that the beneficiary received capital amounts and some income amounts during the year when she/he was alive.

According to the deed, the trustee has a discretionary power to use the capital amount (if necessary) to meet the beneficiary's daily expense requirements, if the trustee thinks it's reasonable.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 106-50

Income Tax Assessment Act 1997 Section 115-10

Income Tax Assessment Act 1997 Section 115-25

Reasons for decision

When the beneficiary dies the SDT ceases to be a SDT. An implied trust may arise over the assets of the SDT for the benefit of the residual beneficiaries.

According to the trust deed on the death of the SDT beneficiary, the trust assets will vest in the residual beneficiaries nominated in the trust deed, in the proportions specified in the trust deed.

Broadly, the provisions dealing with capital gains and losses treat an absolutely entitled beneficiary as the relevant taxpayer in respect of the asset (section 106-50 of the ITAA 1997). This means that if a CGT event happens in relation to the asset, the ultimate beneficiary (and not the trustee) is responsible for any resulting capital gain or loss. It also means that a CGT event will generally be triggered when a beneficiary becomes absolutely entitled.

If there is a chain of trusts (for example, the beneficiary of the head trust holds their interest on a sub trust for others) then the CGT provisions require absolute entitlement to be tested at the level of each trust in the chain.

If there is absolute entitlement in respect of each trust in the chain then the beneficiary of the sub trust would be entitled to obtain the sub trust's interest in the head trust and, if they did, then they would also be entitled to obtain the assets of the head trust. Having followed absolute entitlement through each trust in the chain it can be said then that for the purpose of the CGT provisions the beneficiary of the sub trust is absolutely entitled to the assets of the head trustee.

A beneficiary of a deceased estate does not have an interest in any asset of the estate (and therefore cannot be considered absolutely entitled to any of the estate's assets) until the administration of the estate is complete. That is, until the assets of the estate have been called in and the deceased's debts and liabilities have been paid.

In your case

Prior to the beneficiary's death, they were the sole beneficiary of the SDT and under the rules for SDT's, all income derived up to the date of his/her death would have been assessable in his/her hands for income tax purposes.

Money for the beneficiaries living expenses can come from both the income derived from investments and from the capital that is held by the trustee. You have stated that there was a debt owing to the Public Trustee as they had provided funds for living expenses that had to be met out of the capital of the trust fund at the time of death.

If some of the expenses for the beneficiary were met out of the capital when she/he was alive, this will have no impact on how any capital gain is assessed where assets are disposed of after the death of the beneficiary. It will only reduce the amount of capital available in the fund to be distributed to the residual beneficiaries.

The CGT event (disposal of units) occurs after the beneficiary's death and there cannot be a liability to pay tax on the gain until this time. After the beneficiary's death there is no longer a SDT and the beneficiary cannot be presently entitled to income derived in the trust, after his/her date of death, nor is his/her deceased estate, as there are residual beneficiaries of the SDT who have absolute entitlement to the assets of that trust.

The trustee has dealt with the assets (disposed of the units in the Managed Fund) to allow for a debt of the SDT to be met and distributed the available amount to the absolutely entitled residual beneficiaries.

According to the trust deed, the donors are the nominated residual beneficiaries and the trust's assets will vest in the residual beneficiaries, in the proportions specified in that trust deed.

You have also stated the residual beneficiaries of the donor trusts are absolutely entitled to receive these funds after the SDT is terminated. Administration of the donor trusts has already been completed and they are only reopened for the purpose of distributing these amounts to the beneficiaries.

The amount being distributed to the ultimate beneficiaries is made up of their share of the capital held by the trust and their share of the capital gain that was derived on the sale of the units by the trustee. This is because under section 106-50 of the ITAA 1997 the capital gains tax provisions apply to the absolutely entitled beneficiary for an act done by the trustee in relation to an asset as if they had done it.

The capital gain has passed through the two trusts to the absolutely entitled beneficiaries and they will have the obligation to pay any tax payable on these amounts in their individual tax returns.

The 50% capital gains discount would apply to the individuals if the units have been owned in the trust for a period of at least twelve months.