Edited version of private advice

Authorisation Number: 1052227449701

Date of advice: 12 March 2024

Ruling

Subject: CGT- Legal vs beneficial ownership

Question

Are you able to claim the main residence exemption for the sale of your property under section 118-110 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

This ruling applies for the following period:

Year ending 30 June 20XX

The scheme commenced on:

XX XX 20XX

Relevant facts and circumstances

In XX 20XX the taxpayer's parents located a property with the intent to purchase a home near their family members.

Their family members decided to assist financially with the purchase of the property.

Without the additional financial support provided by the taxpayer's parent's family members the purchase of the property would not have been feasible.

Upon receiving legal counsel, it was decided to establish a unit trust structure to allow flexibility for an individual to enter or exit the trust easily if necessary.

The unit holder's agreement of the trust was made on XX XX 20XX.

The property was purchased by the trust and registered on XX XX 20XX.

The unit trust issued 10 units to the unit holders.

The taxpayer's parents and the unit holders contributed significant funds at the initial purchase.

The remaining balance required for settlement was obtained via finance.

Each month the unit holders would contribute their proportion of loan repayments into a bank account, which would pay for the loan repayments as and when they occurred.

From the date of settlement in XX 20XX the property was considered the main residence of the taxpayer's parents. They maintained the house and running costs of their home.

In XX 20XX the taxpayer's parents moved into a local residential care facility where they continue to reside.

In XX 20XX the decision was made to sell the property by the taxpayer's parents and the unit holders with the proceeds to be used to facilitate the taxpayer's parents' care.

Due to the slump in the property market the unit holders decided to rent the property for 12 months to cover costs while the market recovered.

In XX 20XX the property is sold.

Throughout its existence the trust refrained from asserting any income or deductions related to the property. All associated expenses were treated as non-deductible.

Key Unit Trust Agreement Provisions

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

Clause 5 Distribution of Profit

"5.1 The Trustee may, in its absolute discretion:

5.1.1 distribute the Net Profits in accordance with Clause 5.2; or

5.1.2 retain the Net Profits as an accretion to Capital.

5.2 The Net Profits will be distributed to each Unitholder on a pro-rata basis according to their Equity."

Clause 10.5 Decisions on Major Policy Matters

"All Major Policy Matters will be determined at a meeting of the Unitholders requiring a majority approval of at least 75% of votes cast by the Unitholders present or represented by a proxy at the meeting."

Clause 10.6 Definition of Major Policy Matter

"A "Major Policy Matter" means:

10.6.3 the transfer, sale, disposal or surrender of the Business or any other substantial Trust Property;"

Clause 22 Entire Agreement

"22.1 This Agreement contains the entire understanding and agreement between the parties as to its subject matter.

22.2 All previous negotiations, understandings, representations, warranties, or commitments in relation to, or in any way affecting, the subject matter of this Agreement are superseded by the Agreement and will be of no force or effect and no party will be liable to any other party in respect of those matters.

22.3 No oral explanation or information provided by any party to another will affect the meaning or interpretation of this Agreement or constitute any collateral agreement, warranty or understanding between any of the parties."

Key Unit Trust Deed Provisions

Clause 22.1 Trustee to have the powers as if absolute owner

"Subject to the provisions of this Deed, the Trustee shall have all the powers over and in respect of the Fund and the Investments which it could exercise as if it was the absolute and beneficial owner."

Clause 22.2 Trustee's power

"Notwithstanding the generality of clause 22.1, the Trustee shall have the power:

(g) to hold, use, purchase, construct, demolish, maintain, repair, renovate, reconstruct, develop, improve, sell, transfer, convey, surrender, let, lease, exchange, take and grant options or rights in, alienate, mortgage, charge, pledge, reconvey, release or discharge or otherwise deal with, encumber, or grant rights over any real or personal property;"

Relevant legislative provisions

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 section 106-50

Income Tax Assessment Act 1997 section 118-110

Reasons for decision

Main residence exemption

Capital Gains Tax (CGT) event A1 happens under section 104-10 of the Income Tax Assessment Act 1997 (ITAA 1997) if you dispose of a CGT asset. You dispose of a CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event or by operation of law.

Section 118-110 of the ITAA 1997 provides a CGT exemption for any capital gain or loss you make from a CGT event that happens to a dwelling or your ownership interest in it if:

•         you are an individual; and

•         the dwelling was your main residence throughout your ownership period; and

•         the interest did not pass to you as a beneficiary in, and you did not acquire it as a trustee of, the estate of a deceased person.

In your case the unit trust owns the property and therefore the main residence exemptions conditions have not been met. In your private ruling application, you contend that although you were the legal owner (as trustee of the unit trust) of the property you held the property in trust for your parents who you state were absolutely entitled to the property.

Absolute entitlement

Draft 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 offers insight into the Commissioner's view on the concept of absolute entitlement.

Absolute entitlement is based on the rule in Saunders v. Vautier (1841) 4 BEAV 115; 49 ER 282. This rule states that if a sole beneficiary's interest in the trust property is vested and indefeasible and they are of age then they can put an end to the trust by directing the trustee to transfer the trust property to them. However, if there is some basis upon which a trustee can legitimately resist the beneficiary's call for an asset, then the beneficiary will not be absolutely entitled as against the trustee to it.

This ruling does not apply to a unit holder in a unit trust in respect of assets of the trust. 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 further states:

"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. It is for this reason that this Ruling does not apply to them."

Paragraph 135 states the alternative view as:

"The alternative view is that a unit holder can be absolutely entitled - provisions such as subparagraphs 104-55(5)(a)(ii) and 104-60(5)(a)(ii) seem to recognise that possibility - and so should be afforded the associated treatment. However, such an outcome would be contrary to the general scheme of the CGT provisions as it could result in a beneficiary holding two assets for CGT purposes (the units and the underlying trust asset) which represent the one thing. The statutory scheme is to treat that interest as being represented by the units on the basis that the units are also assets and, importantly, assets that are traded and that are treated as discrete investment vehicles. It is noted that section 108-5 of the ITAA 1997 specifically identifies units in a unit trust as examples of CGT assets."

Application to your circumstances

It is understood that the original intention for the creation of the trust was for the taxpayer's parents to be able to afford a home close to their children and that they were the only entity receiving the benefit of residing in the property however from a legislative standpoint they never had a vested and indefeasible entitlement to the property.

As stated in clause 22.1 and 22.2 of the trust deed the trustee had all the powers over and in respect of the fund and the investments, which it could exercise as if it was the absolute and beneficial owner. The trustee made the decision not to exercise that power however it was still an option available to them.

The trust deed does not provide any beneficiary with a vested and indefeasible interest in the whole of the property nor does the trust deed authorise any beneficiary alone to call for the property to be transferred to them or be transferred at their sole direction.

As discussed previously when referring to assets within a unit trust, for CGT purposes, the CGT asset is the units of the trust rather than any one particular asset held in trust. 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.

Consequently, section 106-50 of the ITAA 1997 cannot apply to treat the taxpayer's parents as the owner of the property for CGT purposes. As a result, a main residence exemption under section 118-110 of the ITAA 1997 is not allowable in relation to the sale of the property.

We acknowledge that the property was acquired using funds sourced from the taxpayer's parents (as well as the unit holders) and that the property had been their main residence. However, as they were neither the owner of the property or absolutely entitled to it, the requirements for a main residence exemption to be allowed under section 118-110 of the ITAA 1997 are not met.

Where a unit trust disposes of its assets and makes a capital gain, it will be subject to CGT. However, if the asset is held in the trust for 12 months or longer, it is typically eligible for a 50% CGT discount.