CGT - Disposal of a trust asset to beneficiaries at less than market value

Is a trust subject to the Capital Gains Tax (CGT) provisions under Division 104 of the Income Tax Assessment Act 1997 (ITAA 1997) on the sale of a trust asset to beneficiaries in order to offset an amount in the beneficiaries' loan account?

Yes. The trust is subject to capital gains tax under Division 104 of the ITAA 1997.

The taxpayer, a family discretionary trust, purchased land in 1997 upon which a block of residential home units was built and offered for sale.

The trust was able to sell all but one of the units. This unit was eventually tenanted by two beneficiaries of the trust who are also directors of the trustee company. A commercial rent was paid to the trust. The rent was accounted for as income in the books of the trust. At the time the unit commenced to be rented, all costs relating to it were transferred from the trading stock account to the income asset account of the trust.

The beneficiaries/tenants of the unit are owed an amount in excess of the cost of the unit, via beneficiary loan accounts. They now wish to reside permanently in the unit and are seeking to transfer the ownership to themselves and offset the price against their loan account.

Although the unit's current market value exceeds its cost, the trust proposes to transfer the unit to the beneficiaries at cost.

An interest in a beneficiary loan account constitutes a capital interest in the trust. The loan account is usually created either when the beneficiary injects working capital into the trust or when there are unpaid income distributions to which the beneficiary is presently entitled. When payments, either in full or in part payment, are made from the loan account to the beneficiary, they are treated as a repayment from corpus.

Section 104-85 of the ITAA 1997 considers the CGT implications of a disposal to a beneficiary which ends a capital interest. This is CGT event E7.

The beneficiary is considered to be disposing of a capital interest, or part of it, with the acquisition of the residential unit, therefore CGT event E7 occurs at the time the unit is purchased by the beneficiary from the trust. Because the market value of the unit is more than its cost base, the trustee will be considered to have made a capital gain on the sale of the unit (subsection 104-85(1) of the ITAA 1997).