Edited version of your written advice

Authorisation Number: 1012856569358

Ruling

Question 1

Will the Commissioner exercise his discretion to assess the Trustee on the income of the estate under section 99 of the Income Tax Assessment Act 1936 for the 2014-15 financial year?

Answer

Yes.

Question 2

Do the costs associated with subdividing Area A, form part of the cost base for the land?

Answer

Yes.

Question 3

Does the additional funds paid to Beneficiary X under the Terms of Settlement form part of the cost base of the land?

Answer

No.

Question 4

Does the value of the debt owed by Entity Y which was forgiven under the Terms of Settlement form part of the cost base of the land?

Answer

No.

This ruling applies for the following period

Year ended 30 June 2015.

The scheme commences on

1 July 2014.

Relevant facts and circumstances

Taxpayer W and Taxpayer Z purchased as joint tenants.

Taxpayer W died and Taxpayer Z became the sole owner of the land by survivorship.

Taxpayer Z made their child, Beneficiary X, a joint owner of land titles to ensure Beneficiary X would become sole owner on Taxpayer Z's death. This was a gift to Beneficiary X.

Taxpayer Z died during the 2012-13 financial year leaving a will. Taxpayer Z had children and grandchildren.

Under the will:

• Beneficiary X was to receive the land of which they were a joint owner

• Beneficiary X was to have access to the other land owned by Taxpayer Z

• specific bequests were made to the other children

• the rest and residue of the real and personal estate ('the residue') was to be sold, called in and converted into money and after payment of debts, funeral and testamentary expenses and any taxes or duties payable as a result of Taxpayer Z's death were to be divided into parts or shares. The parts were to be distributed as follows:

- one part to Beneficiary X

- two parts to each of the other children

- the remaining parts to be divided into parts per stirpes for grandchildren or, if a child of Taxpayer Z did not have a child, that child would receive a part.

• Beneficiary was appointed controller of Entity Y.

During the 2013 calendar year, Beneficiary X made a testator's family maintenance claim against the Estate seeking:

• the transfer to them of Area A

• a permanent easement allowing him access over Area

• a larger share of the residue

During the 2014 calendar year, Beneficiary X's claim was settled. As part of the Terms of Settlement

• a portion of Area A was carved off by subdivision and transferred to Beneficiary X

• Beneficiary X surrendered their claims for the balance of Area A, the easement over Area B and their claim for a larger share of the residue

• Beneficiary was to be paid an additional funds in priority out of the residue after the estate costs were paid, and

• a liability Entity Y owing to Taxpayer Z was forgiven.

During the 2014-15 financial year the Estate entered into a contract for the sale of the balance of the land.

No distribution was made to any beneficiaries during the 214-15 financial year.

Relevant legislative provisions

Income Tax Assessment Act 1936 section 99

Income Tax Assessment Act 1936 section 99A

Income Tax Assessment Act 1997 section 110-25

Reasons for decision

Taxation of trust income

Generally, if no beneficiary of a trust estate is presently entitled to the net income of the estate, the trustee is assessed under section 99A of the ITAA 1936.

Section 99A of the ITAA 1936 does not apply in the following circumstances

• the trust resulted from a will

• the trust is a bankrupt estate, or

• the trust is a trust that consists of property referred to in paragraph 102AG(2)(c) of the ITAA 1936

and the Commissioner forms the opinion that it would be unreasonable to apply section 99A of the ITAA 1936 in such circumstances.

In your case, Taxpayer Z passed away in the 2012-13 financial year. A claim was made against the Estate which was not settled until the 2014 financial year. A contract was entered into in the 2014-15 financial year for the sale of the balance of the land but will not be complete until after the 2014-15 financial year.

In considering the facts of this case, the Commissioner is of the opinion that it would be unreasonable that section 99A of the ITAA 1936 should apply in relation to the trust estate. The Commissioner has exercised his discretion that section 99A of the ITAA 1936 does not apply for the 2014-15 financial year.

Cost base of land

Subdivision costs

Section 110-25 of the ITAA 1997 sets out the five elements that make up the cost base of an asset for CGT purposes. Subsection 110-25(5) of the ITAA 1997 states that the fourth element of an asset's cost base includes any capital expenditure the taxpayer incurred to increase or preserve the asset's value.

In this case, the Estate has incurred expenses in subdividing Area A so that a portion of the land was placed onto a separate title. The title was then transferred to Beneficiary X.

The expenditure incurred preserved the value of the remaining land as it allowed them to be included in the contract for sale.

The expenditure incurred to preserve the value qualifies as part of the fourth element of the land's cost base. These costs would need to be apportioned across the subdivided assets.

Additional funds paid to Beneficiary X under the Terms of Settlement

Under the Terms of Settlement, Beneficiary X will receive additional funds in priority out of the residue after the Estate costs are paid.

As stated above, the fourth element of an asset's cost base included any capital expenditure incurred to increase or preserve a CGT asset's value.

In Smith v. Commissioner of Taxation [2006] AATA 1072 the taxpayer was the sole owner of an investment property. The taxpayer and his spouse separated and a under a consent order of the Family court of Australia the taxpayer was required to pay his wife the sum of $230,000. If he failed to pay the sum, the property was to be sold and his wife paid from the proceeds. The taxpayer paid a cash settlement to his former wife and claimed the $230,000 as being incurred to preserve the value of a CGT asset (the investment property). The AAT held that whilst the cash payment to the former wife allowed the taxpayer to retain ownership of the investment property, the payment was made to comply with the terms of the consent order and not to preserve the value of the investment property.

Similarly, the payment to Beneficiary X could not be said to establish, preserve or defend the title of the Estate to the land. The payment will be made to comply with the Terms of Settlement to which the Executors of the Estate have consented to. Whilst it settled Beneficiary X's claims over the land, the payment is part of a redistribution of the residue of the Estate and not expenditure to increase or preserve the value of the land.

The fifth element of the cost base of a CGT asset includes capital expenditure to preserve or defend the ownership of or rights to the asset. Whilst the action taken by Beneficiary X required the Estate to defend the ownership of a portion of the land, again the payment to Beneficiary X is essentially a redistribution of the beneficiaries existing entitlements under Taxpayer Z's will. It is not considered to be a capital cost in preserving or defending the ownership of the property.

Trust debt forgiven under the Terms of Settlement

The Trust owed a debt to Taxpayer Z. Beneficiary X controls the Trust and the debt was forgiven by the Estate under the Terms of Settlement.

A debt owing to the Estate is a CGT asset. Had the debt 'called in' by the Executors the proceeds would form part of the residue, been divided and distributed as per Taxpayer Z's will.

The forgiveness of the debt is essentially a redistribution of the beneficiaries' entitlements under the will. As such, the forgiveness of the debt is not considered have been incurred in preserving or defending the ownership of the property.