Edited version of private advice

Authorisation Number: 1052298209695

Date of advice: 7 October 2024

Ruling

Subject: CGT - deceased estate

Question 1

Will a capital gains tax (CGT) event occur upon disposal of the property?

Answer

Yes.

Question 2

Can the trustee claim a partial exemption for CGT arising from the sale of the inherited property under section 118-200 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

This ruling applies for the following period:

Year ended 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

Person C (the deceased) is the parent of Person B and Person A.

The deceased resided in their own property (property A) at all times from their late spouses death in 19XX (several decades ago) until their own death in 20XX.

Person B has resided with the deceased in property A at all times since the deceased inherited sole ownership of the property in 19XX (several decades ago).

The deceased and Person B also remained closely involved in the affairs of Person A, whose dependency on alcohol impacted their decision-making abilities.

Person A appointed their sibling (Person B, who was also the trustee of the estate of Person C - 'the deceased') to have Enduring Power of Attorney over their affairs in 20XX (over 10 years ago).

Person A received a sizable inheritance following the death of their relative in mid-20XX (over XX years ago). This inheritance (with other available funds) allowed Person A to purchase a property.

Person A purchased the property mid-20XX (over XX years ago) with settlement occurring shortly after this.

For personal reasons relating to Person A, it was agreed upon the best course of action would be to place the majority of the property ownership (in title only) in the name of the deceased, and Person A would retain a minority outright ownership interest.

Person A used the funds they had received to purchase a property (property B) with the deceased. The contract for sale was executed in mid-to-late 20XX, with settlement occurring a short time later.

The title showed the ownership percentages as tenants in common as follows:

•         The deceased: 99%

•         Person A: 1%.

There was no written agreement/deed between Person A and the deceased evidencing their intentions with the property's ownership structure. As it was a "family agreement", they considered that executing a formal written agreement was unnecessary.

The deceased never resided at property B and did not contribute financially to the purchase nor to the maintenance of the property.

Person A moved into property B as soon as the property settled and continued to reside there for the remainder of their life.

The property is less than two hectares in area.

In early 20XX the deceased passed away leaving a will which appointed person B as executor of the deceased's estate. The deceased's will also provided detailed instructions to direct the administration and distribution of assets and money held in the estate, including property A, property B, some cash, and a number of personal effects.

Clause X of the deceased's will (which is a document that forms part of this private ruling) instructed the estate's executor to hold property B on trust to provide person A with life tenancy at property B as long as they maintain property B to the required standard. The clause also provided for property B to be sold and any gain added to the deceased's residuary estate if person A were to surrender their life interest in property B.

Clause X of the deceased's will provides that the entirety of their estate (after expenses have been paid) is to be distributed to Person A as the sole beneficiary. Clause X provides written confirmation that the unequal distribution of the deceased's estate between their children is the deceased's intention.

Clause X provides that in the event that Person A were to predecease the deceased, person A (and some other named beneficiaries) would receive $x from the deceased's estate, with the remainder being held on trust for the deceased's grandchildren.

The terms of the deceased's will do not permit Person A to receive ownership of the deceased's ownership interest in property B, nor receive the proceeds of selling the property, nor have them applied for their benefit, under any circumstance.

In late 20XX, person A passed away. Person A's will appointed person B as their executor and named them sole beneficiary of their estate. From the date property B was purchased until the date they passed away, person A was the sole contributor to the financial responsibilities (bills, upkeep, etc) of property B.

Apart from the life tenancy, person A received a $x distribution under the terms of the deceased's will, and they did not inherit the deceased's 99% ownership interest in property B.

Following Person A passing away, you placed property B on the market.

In early 20XX property B was sold, with settlement taking place shortly after this.

You have supplied a copy of Person A's will (which also forms part of this private ruling), which does not mention property B forming part of their estate.

In mid 20XX. a decision was made by the State Revenue Office of the Australian state in which property B is situated, to grant a principal place of residence exemption for the property, in relation to Land Tax.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 104-10

Income Tax Assessment Act 1997 Section 118-195

Income Tax Assessment Act 1997 Section 118-200

Reasons for decision

Question 1

Will a CGT event occur upon disposal of property B?

Summary

CGT event A1 will occur for The Trustee for XXX Estate (for Person C's original 99% ownership interest) upon the disposal of property B, as the deceased held the legal and beneficial ownership from the time property B was purchased. Therefore, the Trustee for the deceased Estate (for the deceased) also held the legal and beneficial ownership of the 99% ownership interest in property B up until it was sold.

Question 2

Are you entitled to a partial exemption for capital gains tax arising from the sale of property B under section 118-200 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Summary

The capital gains tax arising from the sale of property B will be reduced under section 118-200 of the ITAA 1997 by the reduction in non-main residence days.

Detailed reasoning

CGT event A1

CGT event A1 happens if you dispose of a CGT asset as per subsection 104-10(1) of the Income Tax Assessment Act 1997 (ITAA 1997).

Subsection 104-10(2) of the ITAA 1997 provides that you dispose of a CGT asset if a change in ownership occurs from you to another entity, whether because of some act or event or by operation of law.

Beneficial Ownership

In the absence of information to the contrary, a property is considered to be legally and beneficially owned by the person/s registered on the title.

It is possible for the legal ownership to differ from the beneficial ownership. Where beneficial ownership and legal ownership of an asset are not the same, there must be evidence that the legal owner holds the property in trust for the beneficial owner.

In exceptional circumstances the Commissioner of taxation may be satisfied that the legal owner held the property on trust for another person (the beneficial owner). In these cases, the beneficial owner, not the legal owner, will be liable for the tax payable on the capital gain.

Evidence of beneficial ownership

For the Commissioner to be satisfied that the legal and beneficial ownership are not the same, we need to see evidence that, at the time the property was purchased, it was put into the name of the legal owner for them to hold on trust for the beneficial owner.

In addition to this, we need to establish that there is no evidence that shows a different intention, or treatment over the time the property was owned.

Creation of a Trust

The creation of a trust falls within the jurisdiction of equity.

According to G. Teh and B. Dwyer, Introduction to Property Law, at paragraph 606:

A trust exists whenever legal title to real or personal property is vested in one person, called a trustee, for the benefit of another person, called a beneficiary.

There may be various kinds of trust: express, constructive, resulting, or implied, and bare.

Express Trusts

An express trust is one intentionally created by the owner of property in order to confer a benefit upon another. It is created by express declaration, which can be effected by some agreement or common intention held by the parties to the trust.

For an express trust to be created it is necessary that there is certainty of the intention to create a trust, certainty of the subject matter of the trust and certainty as to the object of the trust.

While trusts can be created orally, all State Property Law Acts contain provisions derived from the Statute of Frauds that preclude the creation or transfer of interests in land except if evidenced in writing. Therefore, express trusts must be evidenced in writing.

Constructive Trusts

A constructive trust is a trust imposed by operation of law, regardless of the intentions of the parties concerned, whenever equity considers it unconscionable for the party holding title to the property in question to deny the interest claimed by another. The existence of a constructive trust is, however, dependent upon the order of the court, even though that order may operate retrospectively by dating the origin of the trust from some earlier wrongful act.

Therefore, for a finding that a constructive trust exists, there must be an existing court order to that effect.

Resulting or Implied Trusts

A resulting trust, sometimes referred to as an implied trust, is a trust that arises by operation of law in favour of the creator of some prior trust or other interest in certain circumstances. Those circumstances fall into two broad classifications:

•         cases in which a settlor fails to completely dispose of the beneficial interest, or where a surplus arises after the original purpose of a trust has been satisfied or has ceased to exist; and

•         cases in which someone purchases property in the name of another. A trust is presumed in favour of the party providing the purchase money.

Where an individual purchases and pays for a property and retains legal title to it, it is not possible to infer that the property is held on trust for another, as both the legal and beneficial interests remain with the purchaser.

Bare Trusts

A trust is a bare trust where the trustee has no interest in the trust assets other than that existing by reason of the office of trustee and the holding of the legal title, and who never has had active duties to perform or who has ceased to have those duties with the result that in either case the property awaits transfer to the beneficiary or at their direction (see Herdegen & Anor v. Federal Commissioner of Taxation 88 ATC 4995; (1988) 84 ALR 271).

However, it is not the existence of a bare trust that is the crucial concept. It is the establishment of absolute entitlement to the asset by the beneficiary as against the trustee.

The core principle underpinning the concept of absolute entitlement in the CGT provisions is the ability of a beneficiary, who has a vested and indefeasible interest in the entire trust asset, to call for the asset to be transferred to them or to be transferred at their direction. If there is some basis upon which a trustee can legitimately resist the beneficiary to call for an asset, then the beneficiary will not be absolutely entitled to the asset.

Application to your circumstances

Was there an Express Trust?

You do not have any documentary evidence that supports the fact that the deceased held property B in trust for Person A as a beneficiary, and that the deceased had no beneficial interest in property B. Such documents would constitute a declaration of trust and make clear the terms of the trust, and would include a trust deed, correspondence with a conveyancer or real estate agent. The absence of such a document means that an express trust cannot exist.

There was no written agreement/deed between Person A and the deceased regarding the ownership, as it was deemed unnecessary because it was a "family agreement".

Clause X of the deceased's will states that their trustee, Person B was to hold property B in trust with the condition Person A be allowed life tenancy. .

This is not evidence that Person A was the beneficial owner of property B, but rather Person A only had the formal right to live in property B under the terms of the deceased's will.

In addition, we consider that this clause in the deceased's will provides that their ownership interest in property B was never intended to pass to Person A, who merely benefited from the life tenancy. Therefore, we consider that the deceased intended to retain the ability to hold and direct the use of property B in accordance with their wishes.

There is also no evidence which shows that Person A's inheritance from their relative was intended to be used to purchase a property to be held by the deceased on Trust for Person A.

Therefore, an express trust cannot exist.

Was there a Constructive Trust?

There has not been an order made by the court to the effect that the property was held in constructive trust and accordingly a constructive trust cannot exist.

Was there a Resulting or Implied Trust?

In mid-20XX Person A received a sizable inheritance following the death of their relative. This inheritance (with other available funds) allowed Person A to purchase a home.

Person A purchased property B in mid-to-late 20XX, with settlement occurring a short time later.

However there has been no evidence provided to confirm that Person A was the sole contributor to the purchase price for property B. Furthermore, the provisions of the deceased's will prevent their ownership interest in property B from passing to person A under any circumstances

Therefore, a resulting or implied trust cannot exist.

Was there a Bare Trust?

In establishing whether Person A was absolutely entitled to property B as against the deceased, it is necessary to consider whether, had Person A predeceased the deceased, property B would have formed part of Person A's estate or would have remained in the deceased's name.

The fact that Person A's will had no mention of the property forming part of their estate, contrasted against the deceased's will which had explicit directions prescribing the use of property B indicate that if Person A had predeceased the deceased the 99% ownership interest in property B would have remained in the deceased's name. As such, Person A was not absolutely entitled to property B as against the deceased.

Therefore, a Bare Trust cannot exist.

Conclusion

Having examined the facts of your case we find that there is no trust relationship in your situation.

Therefore, CGT event A1 will occur for The Trustee for XXX Estate upon the disposal of property B.

Full main residence exemption for dwellings acquired from a deceased estate

Subsection 118-195 of the ITAA 1997 states that if you own a dwelling in your capacity as a beneficiary in a deceased estate, or you owned it as the trustee of a deceased estate, that you are exempt from tax on any capital gain made on the disposal of the property if:

•         The property was acquired by the deceased before 20 September 1985, or

•         The property was acquired by the deceased on or after 20 September 1985 and the dwelling was the deceased's main residence just before the deceased's death and was not then being used for the purpose of producing assessable income, and

•         Your ownership interest ends within 2 years of the deceased's death.

In your case, you have not met the requirements of section 118-195 of the ITAA 1997 as the deceased never lived in the property.

Therefore, you are not entitled to a full main residence exemption. However, you are entitled to a partial exemption for capital gains tax arising from the sale of the inherited property under section 118-200 of the ITAA 1997.

Partial exemption

Section 118-200 of the ITAA 1997 considers eligibility for a partial exemption for deceased estate dwellings when you are not able to apply section 118-195 of the ITAA 1997.

You calculate your capital gain or capital loss using the formula set out in subsection 118-200(2) of the ITAA 1997:

CG or CL amount × Non-main residence days ÷ Total days

non-main residence days is the sum of:

(a)  If the deceased acquired the ownership interest on or after 20 September 1985 - the number of days in the deceased's ownership period when the dwelling was not the deceased's main residence; and

(b)  The number of days in the period from the death until your ownership interest ends when the dwelling was not the main residence of an individual referred to in item 2, column 3 of the table in section 118-195.

total days is:

(a)  If the deceased acquired the ownership interest before 20 September 1985 - the number of days in the period from the death until your ownership interest ends; or

(b)  If the deceased acquired the ownership interest on or after that day - the number of days in the period from the acquisition of the dwelling by the deceased until your ownership interest ends.

This calculation results in the gross capital gain being reduced proportionally by the number of days that a qualifying condition was met. For example, if you sold a dwelling for a $100,000 gain which was owned for 1000 days, and 500 of those days met a qualifying condition in section 118-200 of the ITAA 1997, the calculation would be:

$100,000 × 500 ÷ 1000 = $50,000

In this example, the dwelling qualified for the partial exemption for 50% of the days, and correspondingly, the initial capital gain made upon the sale of the property was reduced by 50%.

Application to your circumstances

The number of non-main residence days will be reduced by the number of days Person A resided in property B after the deceased's date of death as paragraph 118-200(2)(b) of the ITAA 1997 confirms that Person A's life interest in property B qualifies for the partial exemption.

The non-main residence days equates to the number of days in the period from when property B was originally acquired in late 20XX until the deceased's death in early 20XX, along with the number of days between Person A's death in late 20XX until property B was sold in early 20XX.

The total days equates to the number of days from when property B was originally acquired in late 20XX until property B was sold in early 20XX.