Edited version of private advice

Authorisation Number: 1052085505771

Date of advice: 8 February 2023

Ruling

Subject: CGT - main residence exemption

Question

Are the proceeds from the sale of a property by the trustee that passes through to the unit holders under the trust, exempt from capital gains tax under section 118-110 of the Income Tax Assessment Act 1997 (ITAA 1997) on the basis that the property was the main residence of the unit holders?

Answer

No.

This ruling applies for the following period:

Period ended 30 June 20XX

The scheme commences on:

XX X 20XX

Relevant facts and circumstances

Person A and Person B are beneficiaries are unit holders in the X Unit Trust (The Unit Trust). Of the 20 Units on issue, Person A holds XX units and Person B holds XX units.

On X XX 20XX, the trustee entered into a contract for the purchase the Property, in its capacity as Trustee for the Unit Trust.

On the XX X 20XX, the trustee entered into a contract for the sale of the property.

The property is a dwelling for the purposes of section 118-115 of the Income Tax Assessment Act 1997 (ITAA 1997).

The property size is less than 2 hectares.

Throughout this period from XX 20XX to XX the beneficiaries have treated the property as their main residence. That is:

•         the beneficiaries had the intention to occupy the dwelling.

•         the beneficiaries have lived in the property throughout the entirety of the period.

•         the beneficiaries moved their personal belongings into the property.

•         it is the address to which they had their mail delivered during this period.

•         the property has an electricity service connected to it.

The applicants entered into the arrangement of purchasing the property through a unit trust on the advice of their accountant at the time they would be eligible to claim the main residence exemption on the sale of the property.

Key Unit Trust Deed Provisions

The Unit Trust Deed contains the following key provisions relevant to the present matter.

Clause 1.1 definition of "Income or "Income of the Trust

""Income" or "Income of the Trust" subject to contrary provision in this Deed includes all profits or gains taken into account in calculating the Net income of the Trust Fund and exempt income, as defined in s 95(1) of the Income Tax Assessment Act 1936 or the Income Tax legislation, despite the whole or any part of the income of the trust may otherwise constitute capital of the trust."

Clause 1.1 definition of "Net Income of the Trust Fund"

'Net Income of the Trust Fund" shall include, unless the Trustee otherwise determines, the amount of any receipt by the Trustee of money, shares debentures or other securities or any other securities or any other property which is, or the value of which would be included in the amount calculated as the net income of the Trust Fund for accounting Period pursuant to Section 95(1) of the Income Tax Assessment Act 1936 as amended (Commonwealth) or any corresponding provision in the Income Tax Legislation despite the whole or any part of the income of the trust may otherwise constitute the capital of the trust.'

Clause 1.1 definition of 'the Trust Fund'

'The Trust Fund' means:

      I.        The said initial sum paid or to be paid by the Original Unit Holders to the Trustee upon execution hereof, and

    II.        All moneys investments and property for the time being held by the Trustee upon the trusts of the Deed or otherwise subject to the provisions of this Deed, and

   III.        The proceeds of the investments, and

  IV.        All moneys investments and property paid or transferred to and accepted by the Trustee as additions to the Trust Fund, and

    V.        All additions or assertions (if any) to such moneys investments and property, and

  VI.        The accumulations of income hereinafter directed or empowered to be made, and

VII.        All income for the time being held pending distribution. 'The Trustee' includes it successors permitted assigns and other Trustee for the time being hereof whether additional or substituted wherever additional or substituted wherever the context shall so admit or require.

Clause 2.1.3 constitution of the Trust Fund

'The Trustee shall stand possess of the Trust Fund and the income thereof and all further cash accepted by it for the unit holders and otherwise upon the trusts with the powers and subject to the provisions hereinafter expressed concerning the same.'

Clause 2.3.3 Income of the Trust Fund and distribution thereof

'The unit Holders shall be presently entitled to the Net Income of the Trust Fund in portion to the number of units of which they are respectively registered as the holders, subject only to payment of the Trustee's proper expenses.'

Clause 3.2.2 interest of unit holder

'The unit holders shall be presently entitled to the capital of the Trust Fund and may with the unanimous consent of all the unit holders require the Trustee to wind up the Trust and distribute the trust properly or the net proceeds of the trust property.'

Clause 6.2.6 Trustee power to:

'Allow any unit holder to occupy have custody of or use any immovable property or chattels for the time being forming part of the trust Fund...'

Clause 9.1.1 amendment of Trust Deed

'Subject to clause 9.1.3 and with the unanimous consent of the unit holders the Trustee for the time being at any time from time to time by supplemental deed revoke add to or vary all or any of the trusts hereinbefore limited...'

Clause 9.1.3 Fixed Trust

'No variation or declaration under clause 9.1.1 is permitted if it would cause the cause the trust to become a non-fixed trust for the purposes of section 272-65 of Schedule 2F of the Income Tax Legislation.'

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 102-20

Income Tax Assessment Act 1997 Section 102-30

Income Tax Assessment Act 1997 Section 103-10

Income Tax Assessment Act 1997 Section 104-10

Income Tax Assessment Act 1997 Section 106-50

Income Tax Assessment Act 1997 Section 108-5

Income Tax Assessment Act 1997 Section 118-10

Reasons for decision

Capital gains tax provisions

Section 102-20 of the Income Tax Assessment Act 1997 (ITAA 1997) states that a capital gain or capital loss is made only if a capital gains tax (CGT) event happens to a CGT asset. The dwelling is a CGT asset.

Under section 104-10 of the ITAA 1997 CGT event A1 happens if you dispose of a CGT asset.

The sale of the property is a CGT event.

Under section 118-110 of the ITAA 1997 you can disregard a capital gain or capital loss from a CGT event that happens to a CGT asset that is a dwelling or your ownership interest in it if all of the following conditions apply:

•         you are an individual

•         the property is less than two hectares.

•         the dwelling was your main residence throughout your ownership period

•         the ownership interest did not pass to you through a trust or a deceased estate

In most cases the full exemption will apply where an individual or individuals own a dwelling and occupy it as a main residence.

The property is considered to be owned by the person(s) registered on the title.

In this case the company is registered on the title and has the legal interest in the property in their capacity as trustee.

A company is a separate legal entity distinct from its unit holders and officers.

Ordinarily a trust cannot apply the main residence exemption as the entity making the gain must be an individual.

Absolute entitlement

Taxation Ruling TR 2004/D25 Income tax: capital gains: meaning of the words 'absolutely entitled to a CGT asset as against the trustee of a trust' as used in Parts 3-1 and 3-3 of the Income Tax Assessment Act 1997, examines the meaning of the words 'absolutely entitled to a CGT asset as against the trustee of a trust'.

The foundation that supports the concept of absolute entitlement in the CGT provisions is the ability of a beneficiary, who has a secured and unbeatable interest in the entire trust asset, to call for that asset to be transferred to them or to be transferred to someone else at their direction. If there is more than one beneficiary with interests in the trust asset, then it will usually not be possible for any one beneficiary to be absolutely entitled to the asset. In such cases, absolute entitlement can only be established if the assets are fungible. Land is not a fungible asset.

Unit Trust - units in a unit trust

Section 108-5 of the ITAA 1997 specifically identifies units in a unit trust as examples of CGT assets, highlighting the notion that when considering the beneficiary's ownership interest is the units and not the property itself.

Furthermore paragraph 5 of the ruling when covering the notion of units held versus property owned states:

'The scheme of the ITAA 1997 is to treat a unit as the relevant asset for capital gains purposes rather than any asset of the trust, even if the unit holder has an interest in the trust property at general law (see Taxation Determination TD 2000/32). Therefore, the holder of all the units in a unit trust is not subject to the general treatment that applies to those who are absolutely entitled for CGT purposes to the assets of a trust.'

Paragraph 134 of the ruling goes further stating:

'Even though a unit holder in a unit trust may, depending on the terms of the trust, have an interest in the property of the trust (see Charles v. FCT (1954) 90 CLR 598) they are not subject to the treatment that otherwise applies to a person who is absolutely entitled to any asset of the trust for CGT purposes. This is because the scheme of the CGT provisions is to treat the units in the trust as the relevant asset rather than any interest the unit holder might have in the underlying property of the trust (see Taxation Determination TD 2000/32). Therefore, the concept of absolute entitlement is not relevant to the holder of a unit in a unit trust in respect of the assets of the trust.'

Paragraph 135 of the TR 2004/D25 states that even when considering the alternate position where absolute entitlement was possible, raises an issue of an inconsistent outcome whereby the beneficiaries would hold 2 distinct assets for CGT purposes (the units and the underlying trust asset) representing the one thing.

Conclusion

As the company in their capacity as trustee is listed on the title, they would be taken to be the legal owner. One of key requirements under section 118-110 of the ITAA 1997 for the main residence allowable exemption for CGT is the entity concerned is an Individual. As the entity in this case is not an individual, the main residence cannot be applied. Furthermore, the beneficiaries of the unit trust do not own the property in its own right, rather the units in the unit trust as per section 108-5 of the ITAA 1997. This would mean their exemption cannot be transferred or conferred on the basis as the beneficiaries own the units in the trust not the property itself.

The relevant CGT event occurs to the property which is owned by the trust. As discussed above, as no beneficiary is absolutely entitled to the property, the CGT event A1 disposal event will happen to the legal owner which is the trust. The beneficiaries would have a right to occupy the property which would be sufficient to satisfy the definition of ownership interest in section 118-130 of the ITAA 1997. However, the CGT event is not happening to their ownership interest being the right to occupy. It is happening to the dwelling and associated property which is owned by the trust. Therefore, the individual beneficiaries cannot claim the main residence exemption.

As the entity disposing of the trust is not an individual, the trust cannot use the main residence exemption to disregard any capital gains or losses from the disposal of the property.