Edited version of your written advice

Authorisation Number: 1051435608588

Date of advice: 17 October 2018

Ruling

Subject: Income tax – capital gains – deceased estates

Question 1

Are the dividends assessable to you in the 20XX - XX year?

Answer

No.

Question 2

Can you claim a deduction for the legal expenses that were incurred in defending an action against the will of the deceased?

Answer

No

This ruling applies for the following periods:

Year ending 30 June 20XX

Year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

The deceased passed away in the 20XX-XX year.

The Estate was created in order to report income being earned by The Estate until all the shares/assets had been transferred to the deceased’s partner and bank accounts closed.

As directed by the deceased’s will, ownership of the shares/assets were transferred to the deceased’s spouse during that same year.

The deceased’s spouse owned a number of shares, described as the share portfolio.

The deceased’s spouse and The Estate lodged income tax returns for the 20XX-XX year. The spouse reported the dividends received from the shares they owned, including those from the shares that were inherited from the deceased.

The deceased’s will was contested and the deceased’s spouse went through mediation.

Settlement was reached and judgment/orders were issued that directed that the Plaintiffs (‘Plaintiff A’ and ‘Plaintiff B’) each receive by way of provision out of the notional estate of the deceased, a lump sum payment.

The lump sums were to be paid within 45 days from the date of the orders.

If the payments were not made within 45 days, then interest would accrue and the plaintiff/s could seek an order that the shares in the share portfolio be sold, with the lump sums and interest to be paid to the plaintiffs and any cost subsequently ordered to be paid, of the net proceeds of sale be designated as notional estate of the deceased and to be paid to the plaintiff.

The order also stipulated that the deceased’s spouse could pay the lump sum and any interest, otherwise than from the property to be designated as notional estate of the deceased.

The deceased’s spouse sold shares from the share portfolio.

The deceased’s spouse made a payment to their solicitor’s trust account. This payment was made up of $X that the spouse received from the sale of the shares in the share portfolio together with $Y taken from the spouse’s savings account.

A few days later $W was transferred from the spouse’s solicitor’s trust account to the trust account of the solicitor for Plaintiff A for payment to Plaintiff A, and $V was transferred to the trust account of the solicitor for Plaintiff B for payment to Plaintiff B.

The court order directed that the deceased’s spouse’s costs be paid, or retained, as the case may be, out of The Estate.

Reasons for Decision

Detailed reasoning

Dividend income

Subsection 6-5(2) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of an Australian resident includes ordinary income derived directly or indirectly from all sources, whether in or out of Australia, during the income year.

Dividends paid by a company to a shareholder are included in the shareholder’s assessable income under section 44(1) of the Income Tax Assessment Act 1936 (ITAA 1936).

As the deceased’s spouse was the legal owner of the shares in the year that the deceased died, the dividends paid to the spouse were assessable to the spouse, unless the spouse was holding them on trust for someone else. We do not believe that to be the case.

The court ordered that the spouse pay a lump sum to the plaintiffs within 45 days. If that didn’t happen, the plaintiffs could seek an order that the share portfolio be sold to make the payments.

The court order did not change the ownership of the shares, and therefore who received the dividend income in the XX-XX year. It effectively created a lien over the shares from the date of the order, until the lump sums were paid to the plaintiffs as directed.

At the time The Estate lodged its income tax return for the 20XX-XX year, it was not the legal owner of the shares, and as such the dividends from those shares were not assessable to The Estate.

Deduction for legal expenses

Section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income except where the outgoings are of a capital, private or domestic nature.

In determining whether a deduction for legal expenses is allowable, the nature or character of the expenditure must be considered, that is, whether the legal expenses are incurred for a capital or a revenue purpose (Hallstroms Pty Ltd v. Federal Commissioner of Taxation (1946) 72 CLR 634; (1946) 3 AITR 436; (1946) 8 ATD 190).

The nature or character of the legal expenses follows the advantage that is sought to be gained by incurring the expenses. If the advantage to be gained is of a capital nature, then the expenses incurred in gaining the advantage will also be of a capital nature.

In your case, legal expenses were incurred in defending an action against the will of the deceased.

As such, the legal expenses are of a capital nature and are not deductible under section 8-1 of the ITAA 1997.