Edited version of private advice

Authorisation Number: 1052361176910

Date of advice: 12 February 2025

Ruling

Subject: CGT Event

Question 1

For the purposes of section 128-20 of the Income Tax Assessment Act 1997 (ITAA 1997), once the shares are transferred in specie to the Trustees for the Testamentary Trusts, are they taken to have passed to the Primary Beneficiaries on the date the Deceased died?

Answer 1

No.

Question 2

If the answer to question one is no, for the purposes of section 128-20 of the ITAA 1997 are the shares passed to the Primary Beneficiaries on DDMM 20XW?

Answer 2

No.

Question 3

If the answer to question two is no, for the purposes of section 128-20 of the ITAA 1997 are the shares passed to the Primary Beneficiaries on the date when the Executors make an in-specie transfer of the shares to the Trustee for the Testamentary Trusts?

Answer 3

No.

Question 4

Does a CGT event K3 in section 104-215 of the ITAA 1997 happen when the shares in the share portfolio are transferred in-specie to the Testamentary Trusts?

Answer 4

No.

This ruling applies for the following period:

30 June 20XX

The scheme commenced on:

20XV

Relevant facts and circumstances

The Deceased passed away on DDMM 20XV.

When the Deceased died one of their children had been living overseas long term and was a foreign resident at the date of the Deceased's death. That child returned to Australia permanently on DDMM 20XW.

Probate was granted on DDMM 20XV.

The Executors of the Will all resided in Australia at the date of the Deceased's death.

The Deceased's Will directed that the entire Estate be divided into equal shares and that each equal share be held on a separate trust (Testamentary Trust) for one of the Deceased's children, being the Primary Beneficiary.

The beneficiaries of each of the Testamentary Trusts includes other members of the Primary Beneficiary's family such as spouses, children, children's spouses and the siblings.

The Will stipulated that the Executors of the Estate were to be the trustees of the Testamentary Trusts. This changed when the Deeds of Retirement and Name Amendment were subsequently prepared in 20XW, the Primary Beneficiaries became the trustees of each Testamentary Trust.

The terms of the Testamentary Trusts indicate that the Trustee has absolute sole and unfettered discretion to distribute the corpus to any one or more or the beneficiaries.

The 'period of distribution' is the date being seventy-five years from the date of the Deceased's death or an earlier date that the Trustees may appoint.

The Executors of the Estate established that the beneficiaries became presently entitled to the income of the Estate on DDMM 20XW. This is the date that all the liabilities of the Deceased had been paid.

Relevant legislative provisions

Income Tax Assessment Act 1997 subsection 104-215

Income Tax Assessment Act 1997 subsection 128-20

Reasons for decision

Unless otherwise stated, all legislative references are to the Income Tax Assessment Act 1997 (ITAA 1997).

Detailed reasoning

Section 128-20

An asset passes to a beneficiary in an estate if the beneficiary becomes the owner of the asset under the will or in one of the other ways set out in section 128-20:

(1)           A CGT asset passes to a beneficiary in your estate if the beneficiary becomes the owner of the asset:

(a)           under your will, or that will as varied by a court order; or

(b)           by operation of an intestacy law, or such a law as varied by a court order; or

(c)           because it is appropriated to the beneficiary by your legal personal representative in satisfaction of a pecuniary legacy or some other interest or share in your estate; or

(d)           under a deed of arrangement if:

(i)            the beneficiary entered into the deed to settle a claim to participate in the distribution of your estate; and

(ii)            any consideration given by the beneficiary for the asset consisted only of the variation or waiver of a claim to one or more other CGT assets that formed part of your estate.

(2)           A CGT asset does not pass to a beneficiary in your estate if the beneficiary becomes the owner of the asset because your legal personal representative transfers it under a power of sale.

The beneficiaries under the Will of the Deceased are the children of the Deceased. The Will provides that the Estate, which includes the share portfolio, is divided into equal shares to be held in a trust for each of the Deceased's children as the Primary Beneficiary amongst other beneficiaries.

The terms and conditions of each Testamentary Trust provide the trustee complete discretion in distributing the income and corpus of the trust fund. In addition to the Primary Beneficiary, the beneficiaries of each of the Testamentary Trusts includes other members of the Primary Beneficiary's family such as spouses, children, children's spouses, and the siblings.

Paragraphs 1 and 4 of Taxation Determination TD 2004/3 Income tax: capital gains: does an asset 'pass' to a beneficiary of a deceased estate under section 128-20 of the Income Tax Assessment Act 1997 if the beneficiary becomes absolutely entitled to the asset as against the trustee of the estate? explain that:

...An asset will 'pass' to the beneficiary of a deceased estate when the beneficiary becomes absolutely entitled to the asset as against the estate's trustee (whether or not the asset is later transmitted or transferred to the beneficiary).

...While it is clear that an asset has passed to a beneficiary once legal ownership of the asset has transferred to the beneficiary, we consider that an asset can pass to a beneficiary prior to transfer if the beneficiary becomes absolutely entitled to the asset as against the trustee. It is considered that there is nothing in section 128-20 of the ITAA 1997 that makes 'passing' dependent upon the acquisition of legal ownership.

Paragraphs 8 to 11 of 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 the trust' as used in Parts 3-1 and 3-3 of the Income Tax Assessment Act 1997 provide the following:

The main CGT provisions to which the concept of absolute entitlement is relevant apply if a beneficiary is (or becomes) absolutely entitled to a CGT asset of the trust as against the trustee (disregarding any legal disability) ...

...The provisions apply separately to each beneficiary and asset of the trust. They require absolute entitlement to the whole of a CGT asset of the trust...

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. This derives from the rule in Saunders v. Vautier applied in the context of the CGT provisions ...

...Under the rule in Saunders v. Vautier, the courts do not regard as effective a direction from the settlor of the trust that purports to delay the beneficiary's full enjoyment of an asset. 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.

One of the implications and consequences of the core principle is that an object of a discretionary trust prior to any exercise of the trustee's discretion in their favour, cannot be absolutely entitled because they do not have an interest in the trust's assets.

Paragraphs 71 and 72 of TR 2004/D25 provide the following explanation:

Clearly a trustee would only be obliged to satisfy a demand from a beneficiary with an interest in the trust asset. Therefore, the beneficiary must have an interest in the relevant asset in order to be considered absolutely entitled to it for CGT purposes.

Discretionary trusts

Because an object of a discretionary trust does not have an interest in the trust assets, they cannot be considered absolutely entitled to any of the trust assets prior to the exercise of the trustee's discretion in their favour.

As the Testamentary Trusts are discretionary trusts, neither a Primary Beneficiary nor any other beneficiary has an interest in the shares in the share portfolio and they will not be absolutely entitled to the shares prior to the exercise of the trustee's discretion in their favour.

For the purposes of section 128-20 the shares in the share portfolio will not pass to the Primary Beneficiaries until they become absolutely entitled to those assets.

CGT event K3

Subsection 104-215(1) provides that:

CGT event K3 happens if you die and a *CGT asset you owned just before dying *passes to a beneficiary in your estate who (when the asset passes):

(a)           is an *exempt entity; or

(b)           is the trustee of a *complying superannuation entity; or

(c)           is a foreign resident.

CGT event K3 happens if a CGT asset owned by a deceased person just before they died passes to a beneficiary in their estate that is a foreign resident when the asset passes.

If the CGT event K3 happens, the time of the event is just before the deceased died which means that any resulting capital gain or loss is accounted for in the final income tax return lodged on behalf of the deceased.

The Primary Beneficiary of one of the Testamentary Trusts established under the Deceased's Will was a non-resident at the time that the Deceased died. The question, therefore, is whether that individual as a beneficiary to the Estate became the owner of shares in the share portfolio under the Will of the Deceased at the time when they were a foreign resident.

As discussed above, the shares in the share portfolio do not pass to any of the beneficiaries to the Estate until they become absolutely entitled to the shares. Consequently, when the shares in the share portfolio are transferred to the trustees of the Testamentary Trusts CGT event K3 will not happen.