Edited version of your written advice

Authorisation Number: 1012808016344

Ruling

Subject: Income tax - Capital gains tax - Other

Question 1
With respect to the following order made by the Federal Court in 2015:

2(a) Declaration that Trustee A holds the Property on trust for Mrs Z.

Did the order give rise to a taxable CGT event?

Answer

No

Question 2

With respect to the following orders made by the Federal Court in 2015:

2(d) An order that, Trustee B, a registered Trustee in Bankruptcy be appointed Trustee for judicial Sale (the Trustee for Sale) of the Property.

2(e) A declaration that the Property vests in the Trustee for Sale.

Did the orders give rise to a taxable CGT event?

Answer

Yes

Question 3

If any of Orders 2(a), 2(d) and/or 2(e) above gave rise to a taxable CGT event, is Trustee A assessable on the CGT amount in determining the net income of the trust in Order 2(a)?

Answer

No

Question 4

Is Trustee A required to lodge an income tax return for the trust in Order 2(a)?

Answer

No

Question 5

If Trustee A is required to lodge an income tax return for the trust in Order 2(a), how should the cost base by calculated?

Answer

Not Applicable

Question 6

Is Trustee A assessable on any CGT amount that might arise on the subsequent sale by the Trustee for Sale?

Answer

No

This ruling applies for the following period

Year ended 30 June 2015

The scheme commenced in

Year ended 30 June 2015

Relevant facts and circumstances

In 20XX, Mr Z and Mrs Z entered into an agreement on terms which can be summarised as follows:

a) Mrs Z will purchase a Property; and

b) Mrs Z will allow the Property to be placed in the name of Mr Z who agrees to hold it in trust and solely for Mrs Z and in the event of her death, for their child.

In late 20XX, Mr Z signed a contract for the purchase of the Property.

In 20YY, the Trustee in Bankruptcy (Trustee A) was appointed to the bankrupt estate of Mr Z.

Legal proceedings subsequently commenced in the Federal Circuit Court and then, on appeal, in the Federal Court with the issues in dispute primarily concerning the ownership of the Property and claims and charges relating to same.

The Federal Court, in handing down its judgment, affirmed that Mr Z purchased the Property as trustee for Mrs Z and that the Property, in full, is beneficially owned by Mrs Z. The Federal Court consequently found that Trustee A held the Property on trust for Mrs Z.

In 2015, the Federal Court made the following relevant orders (Court Orders):

(2) (a) Declaration that Trustee A holds the Property on trust for Mrs Z.

…

(d) An order that Trustee B, a registered Trustee in Bankruptcy, be appointed Trustee for judicial Sale of the Property.

(e) A declaration that the Property vests in the Trustee for Sale.

…

Relevant legislative provisions

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 section 104-55

Income Tax Assessment Act 1997 Subdivision 115-C

Income Tax Assessment Act 1997 section 115-227

Income Tax Assessment Act 1997 section 115-228

Income Tax Assessment Act 1936 Division 6

Income Tax Assessment Act 1936 section 95

Income Tax Assessment Act 1936 section 97

Reasons for decision

Question 1

Summary

1. A taxable CGT event did not happen when the following order was made by the Federal Court in 2015:


2(a) Declaration that Trustee A holds the Property on trust for Mrs Z.

Detailed reasoning

When considering whether a CGT event has occurred as a consequence of the declaration in order 2(a) of the Court Orders, it is relevant to consider CGT event E1 in section 104-55 of the Income Tax Assessment Act 1997 (ITAA 1997).

CGT event E1 happens if you create a trust over a CGT asset by declaration or settlement.

In this regard, it is considered that CGT event E1 has no application here where the trust is created by order of a court, rather than by the actions of the owner of the Property.

That is, given the court's role, it is impossible to cast the owner in the role of 'you' for the purpose of CGT event E1.

In light of the declaration in order 2(a) of the Court Orders, it is also relevant to consider whether any other CGT consequences may have arisen from the declaration that Trustee A holds the Property on trust, as opposed to Mr Z who initially purchased the Property and held it on trust for Mrs Z.

CGT event A1 happens when a taxpayer disposes of a CGT asset. A taxpayer disposes of a CGT asset when a change of ownership occurs from them to another entity, whether by some act or event or by operation of law (subsection 104-10(2) of the ITAA 1997).

However, a change of ownership does not occur:

(a) if the taxpayer stops being the legal owner of the asset but continues to be its beneficial owner; or

(b) merely because of a change in the trustee.

In the current circumstances, Mrs Z remained at all relevant times the beneficial owner in full of the Property, even though legal ownership vested firstly in Mr Z and, subsequently upon his bankruptcy in 20YY, in Trustee A. It is therefore considered that CGT event A1 did not happen as a consequence of the circumstances specified in order 2(a) of the Court Orders.

CGT event E1 may occur if the effect of the court order might be such as to lead to the conclusion that the Property has been settled on terms of a different trust by reason of being made subject to a charter of rights and obligations pursuant to the orders which is separate from those pertaining to the original trust.

In this instance, based on the available information, the transfer of trustee obligations from Mr Z to Trustee A simply amounted to a change in trustee and as such did not cause a resettlement of this trust to occur nor CGT event E1 to happen (see the note to subsection 104-55(1) of the ITAA 1997 and subsection 960-100(2) of the ITAA 1997).

Taking the above into consideration, it is therefore considered that the declaration contained in order 2(a) of the Court Orders did not cause a CGT event to occur.

Question 2

Summary

CGT event A1 happened when the following orders were made by the Federal Court in 2015:

2(d) an order that Trustee B, a registered Trustee in Bankruptcy, be appointed Trustee for Judicial Sale of the Property.

2(e) a declaration that the Property vests in the Trustee for Sale.

Detailed reasoning

Where the disposal of a CGT asset does not occur under a contract, CGT event A1 happens when the change of ownership occurs, per subsection 104-10(3) of the ITAA 1997.

Order 2(d) of the Court Orders stipulates that Trustee B be appointed Trustee for the judicial sale of the Property. For these purposes, order 2(e) of the Court Orders declares that the Property vests in the Trustee for Sale.

In equity, conversion is the notional change of land into money. Its effect is to turn realty into personalty. The principle is that land directed to be sold and turned into money is considered to be that species of property into which it is directed to be converted.

On the making of the Court Order, the Property vested in Trustee B as appointed trustee for the sale of the Property. The Property Owner's interest was then converted into personalty, that is, into a right to compel due performance of the trust and to share in the proceeds of sale in accordance with the Court Order.

In these circumstances, it is considered that the making of the Court Order effects a disposal of the Property from the Property Owner to the Trustees for Sale by operation of law. Therefore, CGT event A1 happened at the time of the making of the Court Order in 2015.

Question 3

Summary

Trustee A is not assessable on the CGT amount in determining the net income of the trust in Order 2(a).

Detailed reasoning

Division 6 of Part III of the Income Tax Assessment Act 1936 (ITAA 1936) contains rules for assessing the net income of a trust calculated under section 95 of the ITAA 1936.

Under section 95 of the ITAA 1936, the expression 'net income', in relation to a trust estate, means the total assessable income of the trust estate calculated under the Act as if the trustee were a taxpayer in respect of that income and were a resident, less all allowable deductions (except certain defined deductions).

Order 2(a) of the Court Orders declared that Trustee A held the Property on trust for Mrs Z. As previously detailed, CGT event A1 occurred as a consequence of orders 2(d) and 2(e) of the Court Orders which effected a disposal of the Property from the Property Owner to the Trustee for Sale.

Therefore on face value, any capital gain made from the disposal of the Property will form part of the net income of the trust estate.

In accordance with section 97 of the ITAA 1936, where a beneficiary of a trust estate is presently entitled to a share of the income of the trust estate, and is not under a legal disability, the beneficiary's share of the net income of the trust estate will be included in their assessable income.

A beneficiary is presently entitled to the net income of the trust where that beneficiary has an absolute and indefeasible vested interest in the trust income.

However, where the net income of the trust estate exceeds nil and includes a capital gain, Division 6E of the ITAA 1936 will apply. The result of the operation of this Division is that the amount of the assessable income included in a beneficiary's assessable income under subsection 97(1) of the ITAA 1936 is reduced by the amount of the beneficiary's share of the trust's capital gain. The beneficiary's share of the trust's net capital gain is then assessed in accordance with Subdivision 115-C of the ITAA 1997.

In this regard, section 115-227 of the ITAA 1997, which is contained in Subdivision 115-C of the ITAA 1997, relevantly states:

An entity that is a beneficiary or the trustee of a trust estate has a share of a *capital gain that is the sum of:

(a) the amount of the capital gain to which the entity is *specifically entitled….

Section 115-228 of the ITAA 1997 sets out the amount (if any) of a capital gain made by a trust estate 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:

• the beneficiary has received or can be reasonably expected to receive (paragraph (a) of the definition);

• is referable to the capital gain (paragraph (b) of the definition); and

• is recorded in its character as an amount referable to the capital gain in the accounts or records of the trust within 2 months after the end of the income year (paragraph (c) of the definition).

It therefore follows that any capital gain made by Trustee A, in his capacity of trustee of this trust, from the disposal of the Property, will constitute assessable income of Mrs Z on the basis that she will either:

(a) have an absolute and indefeasible vested interest in the trust income and as such be presently entitled to the net income of this trust, and assessable under section 97 of the ITAA 1997; or

(b) if made specifically entitled to the capital gain by the trustee, will receive the entire 'financial benefit' of any capital gain and be assessable under Subdivision 115-C of the ITAA 1997.

It is considered that, based on the information provided, Trustee A, in his capacity of trustee of this trust, will not be liable to pay tax on any capital gain arising from disposal of the Property. Taking into consideration the application of Division 6 of the ITAA 1936, Division 6E of the ITAA 1936 and Subdivision 115-C of the ITAA 1997, it is considered that any capital gain made from CGT event A1 happening as a result of the disposal of the Property to the Trustee for Sale will be included in Mrs Z's assessable income and therefore not taxable to Trustee A in his capacity as trustee.

Question 4

Summary

Trustee A is not required to lodge an income tax return for the trust in Order 2(a).

Detailed reasoning

Every person must, if required by the Commissioner by notice in the Commonwealth of Australia Gazette (the Gazette), provide a return for a year of income within the period specified in the notice (subsection 161(1) of the ITAA 1936).

For present purposes it is relevant to note that at all times, the trustee of a trust which derives taxable income has been required to lodge an income tax return on behalf of the trust.

Subsection 161(1A) of the ITAA 1936 however provides the Commissioner with the power to exempt an entity from the requirement to lodge an income tax return.

This provision specifically states:

The Commissioner may, in the notice, exempt from liability to furnish returns such classes of persons not liable to pay income tax as the Commissioner thinks fit, and a person so exempted need not furnish a return unless the person is required by the Commissioner to do so.

Until 1 January 2005, this notice was required to be published in the Commonwealth Government Gazette. Since that date, the requirement to public notice in the Gazette has been deemed to be satisfied by the making of a legislative instrument (in accordance with section 56 of the Legislative instruments Act 2003 (Cth)).

The most recent legislative instrument requiring lodgement, Lodgement of returns for the year of income ended 30 June 2014 in accordance with the ITAA 1936, the ITAA 1997, the Taxation Administration Act 1953, the Superannuation industry (Supervision) Act 1993 and the Income Tax (Transitional Provisions) Act 1997, which issued on 4 June 2014, reiterates this power as it provides:

Nothing in this Instrument prevents me or an authorised officer of the Australian Taxation Office from granting an exemption from lodgement, whether conditional or not, for specific returns or classes of returns from time to time.

In Law Administration Practice Statement PS LA 2000/2, the Commissioner has exempted trustees from lodging income tax returns on behalf of 'transparent trusts' and 'secured purchase trusts'. Relevantly, a 'transparent trust' is defined in paragraph 3 of PS LA 2000/2 as:

"… a trust in which the beneficiary of the trust estate has an absolute, indefeasible entitlement to the capital and the income of the trust."

Paragraphs 10 and 11 of PS LA 2000/2 provide further reasons for this exemption as they state:

The beneficiary of a Transparent Trust has an absolute entitlement to the trust property. Because of this, the capital gains tax provisions of the Income Tax Assessment Act 1997 (ITAA 1997), do not recognise a disposal of the legal title by the trustee. (See, for example, subsection 104-10(2) of the ITAA 1997).

Because the beneficiary has an absolute entitlement to the income of the trust, the beneficiary, and not the trustee, will be taxed in respect of that income.

Paragraph 15 of PS LA 2000/2 however notes that:

Whilst this practice statement exempts some trustees from the requirement to lodge a tax return, it does not relieve trustees or beneficiaries from their other taxation obligations, including under Division 6 of Part Ill of the ITAA 1936 or under Subdivision 115-C or 207-B of the ITAA 1997 (though not all trustees have obligations under these provisions ... ). Where an application of these provisions results in a trustee having a liability under section 98, 99 or 99A of the ITAA 1936, it is appropriate that the trustee lodge a return reflecting this. In these cases the exemption provided by this practice statement therefore does not apply and the trustee is required to furnish a tax return on behalf of the trust estate.

As detailed above, it is considered that Trustee A in his capacity as trustee will not have a liability to income tax as a result of the disposal of the Property because any capital gain made will be assessed to Mrs Z as a result of the application of the provisions of Division 6 of the ITAA 1936, or Subdivision 115-C of the ITAA 1997.

It is therefore considered that, based on the facts presented, the current circumstances will fall within those outlined in PS LA 2000/2, and consequently Trustee A, in his capacity as trustee of the Property, will not be required to lodge an income tax return for the income year ended 30 June 2015 in respect of this trust.

Question 5

Trustee A is not required to lodge an income tax return for the trust in Order 2(a), therefore this question is not required to be answered.

Question 6

Summary

Trustee A is not assessable on any CGT amount that might arise on the subsequent sale of the Property by the Trustee for Sale.

Detailed reasoning

As detailed above, it is considered that the Property is disposed of by the Property Owner, to the Trustee for Sale upon making of the Court Orders in 2015.

Therefore any CGT consequences arising from the subsequent disposal of the Property by the Trustee for Sale (and the application of CGT event A1) will not be directly relevant to the CGT event that happened as a result of the disposal of the Property to the Trustee for Sale.

Trustee A, in his capacity as trustee, will therefore not be assessed on any capital gain that might arise on the subsequent sale by the Trustee for Sale.