Edited version of your written advice

Authorisation Number: 1012745454891

Ruling

Subject: Application of trust capital losses

Question

If the beneficiary is specifically entitled to a capital gain made by the Trust by virtue of capital gains tax (CGT) event E5, in calculating the capital gain the beneficiary is specifically entitled to, can the Trust first apply carried forward capital losses to the capital gain in accordance with subsection 102-5(1) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer:

Yes

This ruling applies for the following period(s)

Year ended 30 June 20YY

The scheme commences on

1 July 20XX

Relevant facts and circumstances

The Trust was established from the estate pursuant to the Last Will and Testament of the deceased.

The purpose of the Trust is to hold X's share of the estate upon trust until they attain a certain age.

The Trust initially consisted of cash only, however over time various investments have been made by the Trust.

As at 30 June 2013, the Trust had carried forward capital losses of $XXX.

You have received an earlier private binding ruling, which confirmed that;

• CGT event E5 (beneficiary becoming entitled to a trust asset) will happen when the sole beneficiary, attains the required age, and

• that the carried forward capital losses of the Trust can be offset against the capital gain made by the trust as a result of CGT event E5.

You have confirmed that when X becomes absolutely entitled to the assets of the Trust, for income tax purposes, the following requirements will have been met;

• they have received, or are expected to receive the net financial benefit of those assets being either the cash realised from sale or an in-specie distribution as they are now absolutely entitled to the Trust assets

• the amount they will be receiving will be the net assets of the Trust which will equate to the market value of the assets which have fluctuated in value over the life of the Trust

• the will which created the Trust meets the description of a record of the Trust as the Trust has recorded that X is expected to receive the benefit referrable to the capital gain made by the Trust when they become absolutely entitled to the assets of the Trust

X will be made specifically entitled to the capital gain made from CGT event E5 happening to the Trust.

The gain to which X will be entitled to will be the net capital gain derived by the Trust at the time of CGT event E5 which will be after the application of capital losses.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 104-75

Income Tax Assessment Act 1997 Subdivision 115-C

Income Tax Assessment Act 1997 Section 115-228

Income Tax Assessment Act 1997 Section 102-5

Income Tax Assessment Act 1997 Section 974-160

Reasons for decision

CGT event E5

Subsection 104-75(1) of the Income Tax Assessment Act 1997 (ITAA 1997) states that CGT event E5 happens if a beneficiary becomes absolutely entitled to a CGT asset of a trust (except a unit trust or a trust to which Division 128 applies) as against the trustee. The time of the event is when the beneficiary becomes absolutely entitled to the asset (subsection 104-75(2) of the ITAA 1997).

Subsection 104-75(3) of the ITAA 1997 provides that the trustee makes a capital gain from CGT event E5 if the market value of the asset (at the time of the event) is more than its cost base. The trustee makes a capital loss if the market value is less than the asset's reduced cost base.

Taxation Ruling TR 2006/14 states, at paragraph 48:

Any capital gain or loss from CGT event E5 happening to the trustee is taken into account in working out the trustee's net capital gain or loss. A net capital gain is included in the net income of the trust in accordance with subsection 95(1) of the ITAA 1936 and taxed in accordance with Subdivision 115-C.

Beneficiary made 'specifically entitled' to a capital gain made by the trust under CGT event E5?

The capital gains tax streaming provisions in Subdivision 115-C of the ITAA 1997 ensure, among other things, that a beneficiary of a trust who is made 'specifically entitled' to a capital gain made by the trustee (a 'trust capital gain') will be assessed on it (rather than the gain being assessed proportionately to the beneficiaries entitled to trust income).

If a trust estate makes a capital gain, section 115-228 of the ITAA 1997 sets out the amount (if any) of that gain to which a beneficiary of the trust is treated as being 'specifically entitled'.

Subsection 115-228(1) of the ITAA 1997 provides that the amount of a capital gain that a beneficiary is 'specifically entitled' to is calculated according to the following formula:

Capital gain × Share of net financial benefit
   Net financial benefit  

where:

'net financial benefit' means an amount equal to the financial benefit that is referrable to the capital gain (after any application by the trustee of losses, to the extent that the application is consistent with the application of capital losses against the capital gain in accordance with the method statement in subsection 102-5(1)).

'share of net financial benefit' means an amount equal to the financial benefit that, in accordance with the terms of the trust:

a) the beneficiary has received, or can be reasonably expected to receive; and

b) is referrable to the capital gain (after application by the trustee of any losses, to the extent that the application is consistent with the application of capital losses against the capital gain in accordance with the method statement in subsection 102-5(1)); and

c) is recorded, in its character as referable to the capital gain, in the accounts or records of the trust no later than 2 months after the end of the income year.

'Financial benefit' is defined to mean anything of economic value, including property and services (section 974-160 of the ITAA 1997). It includes a receipt of cash or property, an increase in the value of units in a unit trust, the forgiveness of a debt obligation of the trust or, any other accretion of value to the trust.

The first two steps discussed in subsection 102-5(1) of the ITAA 1997 about working work out your net capital gain state;

1) Reduce the capital gain you made during the income year by the capital losses (if any) you made during the income year

2) Apply any previously unapplied net capital losses from earlier income years to reduce the amounts (if any remaining after the reduction of capital gains under step 1…)

ATO Interpretative Decision ATOID 2013/33 discusses the 'specifically entitled' concept on the happening of CGT event E5. ATOID 2013/33 confirms that the financial benefit referable to a capital gain made by the trust on CGT event E5 is the asset itself (or the value of that asset) and the absolutely entitled beneficiary is, in accordance with the terms of the trust created by the will, the only one that is expected to receive the asset (and thus that benefit).

Further, ATOID 2013/33 explains that a will which creates the trust meets the description of a record of the trust in which is recorded the financial benefit that the beneficiary is expected to receive in its character as a benefit referable to the capital gain - the will records the beneficiary's absolute entitlement to the asset.

ATOID 2013/33 then states that it follows that the absolutely entitled beneficiary will be regarded as specifically entitled to the capital gain that arose from CGT event E5.

Application to your circumstances

In your case, CGT event E5 will happen when X attains the required age and becomes absolutely entitled to the assets of the trust. The trustee will make a capital gain from the event as the market value of the assets of the Trust, at the time of the event, is expected to be more than its cost base.

X will receive the entire 'financial benefit' of any capital gain made on the happening of the event as they are the sole beneficiary of the Trust and, under the terms of the deceased's will, they are entitled to all the income and capital of the trust on attaining the required age. Further, their 'share of the net financial benefit' (being their absolute entitlement to the assets of the Trust) is recorded in the will of the deceased.

Subsection 115-228(1) of the ITAA 1997 confirms that X's net financial benefit means an amount equal to the financial benefit referable to the capital gain (after any application by the trustee of losses, to the extent that the application is consistent with the application of capital losses against the capital gain in accordance with subsection 102-5(1) of the ITAA 1997).

Accordingly, any capital gain made by the trust under CGT event E5 to which X has been made specifically entitled, can be reduced first by capital losses of the current year, followed by unapplied net capital losses of prior years.