Edited version of your written advice

Authorisation Number: 1013090126932

Date of advice: 20 September 2016

Ruling

Subject: Assessability of capital gain

Questions and Answers:

1. Is the Trust an Australian resident under section 95 of the Income Tax Assessment Act 1936?

Yes

2. Is the Trust exempt from any income tax liability arising from the sale of the residential real property in Country X under Article 4 of the previous Country X double tax agreement which was applicable at the time of sale?

Yes

This ruling applies for the following period:

Year ended 30 June 2007

The scheme commenced in:

1 July 2006

Relevant facts and circumstances

A discretionary trust (the Trust) was established in Country X more than 20 years ago. The Trust is a resident of Country X.

The trustees at the time were Person A, Person B and Person C.

Persons A and B were residents of Country X and Person C was a resident of Australia.

The Trust acquired a residential property just after it was established.

Persons A and B were the main decision makers for the Trust and Person C played no role in the day-to-day activities, management or decision making of the Trust.

The Trust sold the property in the 2006-07 income year for a gain and acquired a replacement property.

At the time of sale Persons A and B, were still residents of Country A, and still had control of the Trust and made the main decisions. Person C was still a resident of Australia and played no role in the day to day activities, management or decision making of the Trust.

The Trustees did not resolve to distribute any capital gains or income of the Trust following the sale of the property.

Relevant legislative provisions

Income Tax Assessment Act 1936 subsection 95(2))

Income Tax Assessment Act 1997 subsection 6-10(5)

Income Tax Assessment Act 1997 section 102-20

International Tax Agreements Act 1953

Reasons for decision

The Trust is a Country X discretionary trust established more than 20 years ago. The trustees at the time were Person A, Person B and Person C:

The Trust acquired a property more than 20 years ago and sold it in the 2006-07 income year for a gain. As the property was sold in the 2006-07 income year, a capital gains tax (CGT) event occurred at that time. Thus we need to consider the income tax law and double tax agreement applicable at the time of sale. The relevant Country X double tax agreement is the preceding Country X double tax agreement (Country X Agreement) as the relevant year is the 2006-07 income year.

Residency status of the Trust

Under subsection 95(2) of the Income Tax Assessment Act 1936 (ITAA 1936), a trust is a resident of Australia in relation to a year of income if:

(a) a trustee of the trust was a resident at any time during the year of income; or

(b) the central management and control of the trust estate was in Australia at any time during the year of income.

We need to consider the relevant trustees at the time the property was sold in the 2006-07 income year. Person A and Person B were Country X tax residents at the time of sale, whilst Person C was an Australian tax resident.

As there was at least one trustee who was an Australian resident in the 2006-07 income year, the Trust was an Australian resident for Australian tax law purposes under paragraph 95(2)(a) of the ITAA 1936.

However, as the Trust was also a Country X resident in the 2006-07 income year, we need to consider the double tax agreement between Australia and Country X (the Country X Agreement).

Residency status of trustees

The Country X Agreement operates to avoid the double taxation of income received by Australian and Country X residents.

Under the preceding Country X Agreement, the definition of ‘person’ is important for the purpose of applying the tie breaker test for dual residents. Under Article 3(j) of the Country X Agreement, the term ‘person’ includes an individual, a company and any other body of persons.

Person C is an individual, and meets the definition of ‘person’ in Article 3 of the Country X Agreement. They are an Australian resident for income tax purposes in their individual capacity.

Article 4 of the Country X Agreement may apply to remove Australia’s taxing right on income.

In the Country X Agreement, Article E provides that:

This Agreement shall apply to persons who are residents of one or both of the Contracting States. [emphasis added]

Article D of the Country X defines the term 'resident' for the purposes of the treaty. It provides that:

For the purposes of this Agreement, a person is a resident of a Contracting State:

(a) in the case of Country X, if the person is a resident in Country X for the purposes of Country X tax; and

(b) in the case of Australia, if the person is a resident of Australia for the purposes of Australian tax.

The combined effect of Article E and Article D is that in order to obtain the benefits under the Country X Agreement the entity in question must be a 'person' who is either a resident in Country X or a resident of Australia under the respective domestic law of the two Contracting States.

Article D specifies that a person is not a resident of a Contracting State if they are 'liable to tax in that State in respect only of income from sources in that State'. Therefore, it is not sufficient that the person have a domestic residence. The person must also be liable to tax in respect of income from all sources in order to attain treaty residence under the Country X Agreement.

Section 4 of the Agreement Act incorporates that Act with the ITAA 1936 and the ITAA 1997 so that those Acts are read as one. Subsection 4(2) of the Agreements Act provides that the Agreements Act overrides the ITAA 1936 and the ITAA 1997 where there are inconsistent provisions (except for some limited provisions).

Applying Article D to Person C, they are deemed to be a resident of Australia in their individual capacity. Even though Person C is a resident of Australia in their non-trustee capacity for purposes of the Country X Agreement, it is the residency status of Person C in their capacity as trustee of the Trust that is relevant for the purposes of the Country X Agreement.

Article D of the Country X Agreement provides that where a person other than an individual is a resident of both countries, it will be deemed to be a resident solely of the country in which its place of effective management is situated.

Person A and Person B, both residents of Country X, were the main decision makers for the Trust. Thus for the purposes of the Country X Agreement, the place of ‘effective management’ has been in Country X at all relevant times. Thus Person C’s residency in their capacity as a trustee was in Country X at all relevant times for the purposes of assessing the Trust to tax in Australia.

As under Article D of the Country X Agreement Person C is a resident solely of Country X in their capacity as a trustee, the Trust is not an Australian resident. Non-residents are taxed only on Australian sourced income including capital gains (subsection 6-10(5) of the ITAA 1997). Accordingly the Trust is not assessable in Australia on the sale of the residential property.