Edited version of your written advice

Authorisation Number: 1012688213854

Ruling

Subject: Capital gains tax

CGT on the grant

Question 1

Does capital gains tax (CGT) event A1 is subsection 104-10(1) of the Income Tax Assessment Act 1997 (ITAA 1997) happen when Individual A and Individual B grant a life interest in the property to the Fund?

Answer

Yes.

Question 2

Are the capital proceeds under subsection 116-20(1) of the ITAA 1997 received by Individual A and Individual B upon the grant of the life interest in the property the market value of the life interest at the date of the grant?

Answer

Yes.

Question 3

Is the cost base of the property apportioned in accordance with section 112-30(3) of the ITAA 1997?

Answer

Yes.

Question 4

Is the capital gain for Individual A and Individual B the difference between the capital proceeds received for the grant of the life interest and the cost base (without applying any CGT discounts or concessions)?

Answer

Yes.

Question 5

Are Individual A and Individual B entitled to the 50% general discount under Division 115 of the ITAA 1997?

Answer

Yes.

CGT is the life interest is sold or transferred

Question 6

Does CGT event A1 under subsection 104-10(1) of the ITAA 1997 happen to the life estate interest and remainder interest when the Fund, Individual A and Individual B respectively sell or transfer the life estate interest?

Answer

Yes.

CGT if the Life in Being dies

Question 7

Does the estate of the last survivor of Individual A and Individual B acquire the enlarged asset (that is, as a fee simple interest no longer encumbered by the life interest) on the death of the last surviving Life in Being?

Answer

Yes.

Question 8

Do the CGT cost base provisions in Division 110 or 112 of the ITAA 1997 apply to the property on the death of the last surviving Life in Being so there is an uplift in the cost base of the property?

Answer

No.

CGT if the Fund surrenders their life interest

Question 9

Does CGT event A1 under subsection 104-10(1) of the ITAA 1997 occur if the life estate interest is surrendered by the Fund?

Answer

Yes.

Question 10

Do the CGT cost base provisions in Division 110 or 112 of the ITAA 1997 apply to the property on the surrender of the life estate interest so there is uplift in the cost base of the property?

Answer

No, however Individual A and Individual B will need to calculate the cost base for their additional interest.

Rental income

Question 11

Is the rent received for the property for the period commencing at the time that the life interest is granted assessable income of the Fund under section 6-5 of the ITAA 1997?

Answer

Yes.

This ruling applies for the following period

Year ending 30 June 2015

Year ending 30 June 2016

Year ending 30 June 2017

The scheme commences on

1 July 2014

Relevant facts and circumstances

Individual A and Individual B are individuals who jointly own commercial real property.

The property was acquired by the individuals after the 20 September 1985.

The Fund is a regulated complying self-managed superannuation fund (SMSF).

Individual A and Individual B propose to grant a legal life interest in the property to the Fund for a specific period of time that is measured by the joint life of both Individual A and Individual B jointly (Life in Being).

The proposed rights of Fund in relation to the property under the arrangement are referred to in this application as the life estate interest.

The market value of the property has been determined by an independent registered valuer.

The market value of the life estate interest is calculated by reference to the market value of the property multiplied by the life interest factor.

The life interest factor is determined by a table as adopted by the Office of State Revenue.

The consideration payable by the Fund to Individual A and Individual B in return for the life estate interest being granted will be the market value of the life estate interest at the time it is granted.

The arrangement by which the Fund holds its life estate interest will come to an end by mutual agreement of the parties or on the death of the last Life in Being.

During the term of the arrangement the property itself might be sold or otherwise dealt with subject to the mutual consent of Individual A, Individual B and the Fund.

The life estate interest will be registered on title and the mortgage also registered to secure the loan. The rights created under this Deed constitute the creation of a legal life interest rather than an equitable life estate interest.

The property is currently leased to an arm's length unrelated party.

Following the grant of the life interest, all of the rental income and rental expenses will be income of the Fund.

When both of the Life in Being dies all rights in relation to the property will revert to the estate of the last survivor of Individual A and Individual B.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 6-5

Income Tax Assessment Act 1997 Division 110

Income Tax Assessment Act 1997 subsection 104-10(1)

Income Tax Assessment Act 1997 Division 112

Income Tax Assessment Act 1997 section 112-30

Income Tax Assessment Act 1997 subsection 112-30(1)

Income Tax Assessment Act 1997 subsection 112-30(3)

Income Tax Assessment Act 1997 subsection 112-30(4)

Income Tax Assessment Act 1997 subsection 116-20(1)

Income Tax Assessment Act 1997 subsection 116-30(2)

Reasons for decision

The relevant legislation is the Income Tax Assessment Act 1997 (ITAA 1997). All references to legislation are to the ITAA 1997 unless otherwise stated.

CGT on the grant

Question 1

Taxation Ruling TR 2006/14 deals with the capital gains tax consequences of creating life and remainder interests in a property. The grant of a life interest in real property creates an estate which entitles the holder to possession of the real property for the lifetime of the measuring life. Paragraph 85 specifically deals with legal life and remainder interests and states:

Bringing a legal life interest into existence involves a disposal of part of an existing CGT asset in a similar way to the disposal of a percentage interest in it. The part of the original asset that is not disposed of to the life interest owner is the legal remainder interest.

CGT event A1 in subsection 104-10(1) happens if a CGT asset is disposed of. If an original owner of real property disposes of a legal life interest to another person CGT event A1 will happen. This is because there is a change of ownership of part of the original asset from the original owner to the life interest owner.

In this case, Individual A and Individual B are granting a legal life interest in the property to the Fund. By creating a legal life interest in the property, Individual A and Individual B are disposing of part of their freehold interest in the property, in a similar way to disposing of a percentage interest in it. CGT event A1 will happen when the life interest is created.

The part of the property that is not disposed of to the Fund is the remainder interest which is held by Individual A and Individual B.

Question 2

The capital proceeds from the disposal of a CGT asset are the total of the money and property you receive, or are entitled to receive, in respect of the event happening under subsection 116-20(1). If the parties are not dealing with each other at arm's length, the value of the property is its market value under subsection 116-30(2)

The life interest will be valued by reference to the market value of the property, determined by an independent valuer, multiplied by the life interest factor prior to the execution of the deed granting the life interest.

The capital proceeds received by Individual A and Individual B on the grant of the life interest in the property to the Fund are the market value of the life interest at the date of the grant.

Question 3

Under subsection 112-30(1) if you acquire a CGT asset because of a transaction and only part of the expenditure you incurred under the transaction relates to the acquisition of the asset, the first element of your cost base and reduced cost base of the asset is that part of the expenditure that is reasonably attributable to the acquisition of the asset.

Subsection 112-30(3) explains that the cost base for the CGT asset representing the part to which the CGT event happened is worked out using the formula:

In this case, as the legal life interest involves the disposal of a part of the existing CGT asset, the cost base will need to be apportioned in accordance with subsection 112-30(3) of the ITAA 1997.

Question 4

A capital gain (or loss) is the difference between what it cost you to get an asset and what you received when you disposed of it. In this case, Individual A and Individual B's capital gain (or loss) will be the difference between the capital proceeds received for the grant of the life interest and the cost base.

Question 5

Division 115 contains the provisions for a discount capital gain. A capital gain from a CGT asset is s discount capital gain only if the entity making the gain acquired the asset at least a year before the CGT event. The discount percentage for an amount of a discount capital is 50% if the gain is made by an individual under section 115-100.

As Individual A and Individual B have owned the property as individuals for more than 12 months they are entitled to apply the 50% discount to the capital gain under Division 115.

CGT is the life interest is sold or transferred

Question 6

CGT event A1 in subsection 104-10(1) happens if a CGT asset is disposed of.

If Individual A, Individual B and the Fund agree to dispose of the property CGT event A1 will happen for Individual A and Individual B in relation to the remainder interest that they have retained.

CGT event A1 will also happen for the Fund in relation to the life interest.

CGT if the Life in Being dies

Question 7 & 8

Paragraph 103 of Taxation Ruling TR 2006/14 states that:

The death of the life interest owner has no CGT consequences for the remainder owner. The remainder owner does not acquire any asset from the life interest owner, their existing interest is merely enlarged. Consequently, no additional amount can be included in the first element of the cost base of the remainder owner's asset.

In this case, when one of the individuals dies their interest (in this case the remainder interest) will pass to the other individual. The surviving individual's new interest in the asset is taken to have been acquired on the deceased's date of death.

When both Individual A and Individual B pass away the Life in Being will come to an end. At this point in time the remainder interest will become enlarged and pass to the deceased estate of the last surviving individual.

As discussed in TR 2006/14, no additional amount can be included in the first element of the cost base. Neither Division 110 nor 112 will apply to uplift the cost base of the property.

CGT if the Fund surrenders their life interest

Question 9 & 10

Paragraph 104 of TR 2006/14 discusses dealings between life interest and remainder owners. It states that:

The transfer of a legal life interest or remainder to the owner of the other interest (commonly called a surrender or release) results in CGT event A1 in section 104-10 happening. The market value substitution rule section in 116-30 may apply to determine the capital proceeds from that event. Also, the market value substitution rule in section 112-20 may apply to determine the cost base of the acquired interest.

If the Fund surrenders the life estate interest CGT event A1 will occur.

There will be no uplift in the cost base of the remainder interest held by Individual A and Individual B under Division 110 or 112. However, if the life estate interest is acquired by Individual A and Individual B they will have acquired an additional interest in the property. This situation was covered in example 9 of TR 2006/14 as set out below:

Example 9: surrender of legal life interest

Hilda owns a legal life interest in a property and Henry owns the legal remainder interest. Hilda agrees to surrender her life interest to Henry for its market value.

173. CGT event A1 will happen at the time the contract between Hilda and Henry was made. Hilda may make a capital gain or loss from the event happening.

174. Henry acquires the life interest for its market value. Henry does not register a merger of the life and remainder interests on the title to the property. Henry sells the property to Hermione.

175. CGT event A1 will happen in respect of the disposal of the life interest and also in respect of the disposal of the remainder.

Rental income

Question 11

In general you acquire a CGT asset when you become its owner. When CGT event A1 happens and an entity disposes of a CGT asset to you, you acquire the asset at the time when the disposal contract is entered into or, if none, when the entity stops being the asset's owner under section 109-5.

Assessable income includes income according to ordinary concepts, which is called ordinary income under section 6-5. Rent is ordinary income.

The Fund will acquire the life interest in the property on the execution of the deed. The life interest in the property will entitle the Fund to any income from the property.

Any rent received for the property from the period commencing at the time that the life interest is granted is assessable income of the Fund.