1 Does a capital gains tax (CGT) event occur when a parcel of shares was sold on XX/XX/20XX?
Yes. CGT event A1 happened under section 104-10 of the Income Tax Assessment Act 1997 when the Executor of the deceased estate sold the parcel of shares. Question 2 Are capital gains or losses which arise under section 104-215 of the Income Tax Assessment Act 1997 (ITAA 1997) when the sale proceeds from the sale of the shares owned by the Deceased are gifted under the terms of the Will from the Deceased Estate, disregarded under subsection 118-60(1) of the ITAA 1997, if the beneficiary is endorsed under Division 30 of the ITAA 1997 as a Deductible Gift Recipient (DGR)? Answer No. This private ruling applies for the following period: Year ended 30 June 20XX The scheme commences on: 1 July 20XX
The deceased died on XX/XX/XXXX and was an Australian resident for taxation purpose. The Last Will and Testament of the deceased (the Will) dated XX/XX/XXXX, names the Executor Probate of the deceased's Will was granted on XX/XX/XXXX to the Executor by a Supreme Court indicating the estimated gross value of the deceased's estate is $XXX. The residual beneficiary of the estate is a charitable trust with a Deductible Gift Recipient (DGR) status. The purpose of the charitable trust is to hold the residual assets of the deceased's estate in perpetuity and apply the net income or such other amount to the eligible recipients as per the Will. A copy of the Probate and Will of the deceased was provided. The deceased donated funds to the residual beneficiary up until the deceased's passing. The deceased died possessed of an investment portfolio, including a large share portfolio. An in-specie parcel of shares was sold by the Executor on XX/XX/XXXX. The selling price was above $XXXX. The deceased purchased the parcel of shares after 20 September 1985. Other parcel of shares were sold during the income year ended XX/XX/XXXX.
The first distribution was made to the residual beneficiary on XX/XX/XXXX, in the next income year. This distribution was made from the capital account. Tax Return for the income year ended XX/XX/XXXX has not been lodged for the deceased. The final date of death Income Tax Return for the income year ended XX/XX/XXXX has not been lodged for the deceased. The deceased's estate Trust Tax Returns have not been lodged for the income year ended XX/XX/XXXX to the income year ended XX/XX/XXXX. The residual beneficiary was made presently entitled during the income year ended XX/XX/XXXX by the Executor. A residual amount is held in the estate pending finalisation of the private ruling.
Income Tax Assessment Act 1997 Division 6 Income Tax Assessment Act 1997 Division 30 Income Tax Assessment Act 1997 Division 50 Income Tax Assessment Act 1997 section 104-10 Income Tax Assessment Act 1997 section 104-215 Income Tax Assessment Act 1997 section 115-25 Income Tax Assessment Act 1997 section 118-60 Income Tax Assessment Act 1997 section 128-10 Income Tax Assessment Act 1997 section 128-20 Income Tax Assessment Act 1997 section 995-1
Question 1 Section 102-20 of the Income Tax Assessment Act 1997 (ITAA 1997) provides that a capital gain or capital loss is made only if a CGT event happens to a CGT asset. Assets include shares acquired on or after 20 September 1985. CGT event A1 is the most common CGT event and is described under section 104-10 of the ITAA 1997. CGT event A1 occurs if there is a disposal or part disposal of a CGT asset. Subsection 104-10(2) defines a disposal as: You dispose of a CGT asset if the change in ownership occurs from you to another entity, whether because of some act or event or by operation of the law. However, a change in ownership does not occur if you stop being the legal owner if the asset but continue being the beneficial owner. A capital gain is made if the capital proceeds from the disposal are more than the cost base of the asset. Conversely, a capital loss arises if the capital proceeds are less than the asset's reduced cost base.
Division 128 of the ITAA 1997 contains rules that apply when an asset owned by a person just before they die, passes to their legal personal representative (LPR) or passes to a beneficiary in a deceased estate. Under section 128-10 of the ITAA 1997, when a person dies, any capital gain or loss from a CGT event that results from a CGT asset the person owned just before dying is disregarded. Relevantly, LPR is defined in subsection 995-1(1) of the ITAA 1997 to mean an executor or administrator of an estate of an individual who has died. Where the deceased's CGT assets are acquired by their LPR or passes to a beneficiary in the deceased's estate, the LPR or beneficiary is taken to have acquired the asset on the day the person died under subsection 128-15(2) of the ITAA 1997. Further, subsection 128-15(3) of the ITAA 1997 provides that any capital gain or capital loss the LPR makes if the asset 'passes' to a beneficiary in the deceased's estate is disregarded.
The table in subsection 128-15(4) of the ITAA 1997 sets out the modifications to the cost base and reduced cost base of the CGT asset in the hands of the LPR or beneficiary. The cost base of the shares will be their market value on the date the deceased passed away in accordance with item 3A of the table at subsection 128-15(4) of the ITAA 1997. Under section 128-20 of the ITAA 1997, an asset passes to a beneficiary in a deceased 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.
(It does not matter whether the asset is transmitted directly to the beneficiary or is transferred to the beneficiary by your legal personal representative) The trustee of a testamentary trust (being a trust created under a will or by the operation of statute, such as intestacy laws) is treated in the same manner as the LPR for the purposes of applying Division 128 of the ITAA 1997: ATO Practice Statement Law Administration PS LA 2003/12 Capital gains tax treatment of the trustee of a testamentary trust . As stated in the PSLA: Broadly stated, the ATO's practice is not to recognise any taxing point in relation to assets owned by a deceased person until they cease to be owned by the beneficiaries named in the will (unless there is an earlier disposal by the LPR or testamentary trustee to a third party of CGT event K3 applies). Application in this situation The deceased passed away on XX/XX/20XX at which time the parcel of shares owned by the deceased was transferred to the Executor of the deceased's estate. For CGT purposes, the Executor is taken to have acquired the shares on the date of the deceased's death as per subsection 128-15(2) of the ITAA 1997.
The Executor sold the parcel of shares on XX/XX/20XX, approximately X months following the date of the deceased's death. The proceeds from the sale of the shares were not transferred to the beneficiary until the next income year on XX/XX/20XX. It is viewed that the sale of the shares on XX/XX/20XX resulted in CGT event A1 occurring pursuant to section 104-10(1) of the ITAA 1997. The Executor disposed the ownership interests in the shares when they were sold and the shares no longer remained as assets of the deceased estate. As the shares were sold to an unrelated third party, they did not 'pass' to the beneficiary under the deceased's Will in the ways set out in section 128-20 of the ITAA 1997. Question 2 Division 128 of the ITAA 1997 contains the rules that apply when an asset owned by a person just before they die, passes to their LPR or to a beneficiary in a deceased estate. Generally, when a person dies, any capital gain or loss from a CGT event involving a CGT asset that the deceased owned at the time of death is disregarded under section 128-10 of the ITAA 1997. An exception to this rule is where CGT event K3 applies.
CGT event K3 in section 104-215 of the ITAA 1997 happens if a CGT asset owned by a deceased person just before they die passes to a beneficiary in their estate that, when the asset passes, is a tax-exempt entity. Under subsection 104-215(3) of the ITAA 1997, CGT event K3 is taken to happen just before the deceased's death. The trustee of the estate must include in the date of death return any net capital gain for the income year when the deceased died (section 104-215 (4) of the ITAA 1997). There is an exception for certain philanthropic testamentary gifts under section 118-60 if the ITAA 1997. An exempt entity is an entity whose ordinary and statutory income is exempt from income tax because of Division 50 of the ITAA 1997 (subsection 995-1(1) of the ITAA 1997). A trust that is a registered charity will only be exempt if it is endorsed as such by the ATO (section 50-52 of the ITAA 1997). Under subsection 118-60(1) of the ITAA 1997, a capital gain or capital loss from a testamentary gift of property is disregarded if the gift would have been deductible under section 30-15 of the ITAA 1997, had it not been a testamentary gift.
As previously indicated, the concept of an asset passing to a beneficiary is defined in section 128-20 of the ITAA 1997. 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 subdivision 128-20(1) of the ITAA 1997. ATO Interpretive Decision ATO ID 2004/458 Capital Gains Tax: CGT event K3 - assets pass to a tax exempt testamentary trust also confirms this decision reasoning (refer to Note 2: Any capital gain or loss made as a result of CGT event K3 happening may be disregarded if the testamentary trust is a deductible gift recipient: section 118-60 of the ITAA 1997).
The Commissioner has issued Taxation Determination, TD 2004/3, which deals with the question whether an asset 'passes' to a beneficiary of a deceased estate under section 128-20 if the beneficiary becomes "absolutely entitled" to the asset as against the trustee of the estate. According to the ruling, if the estate has been fully administered but legal ownership of an asset has not been transferred to the beneficiary who is entitled to the asset, a sale of the asset by the LPR will give rise to a capital gain in the hands of the beneficiary, rather than in the hands of the LPR. The example in TD 2004/3 states: 6. John bought a block of land after 20 September 1985. John died on 21 June 2002. In his will John appointed his solicitor, Maria, as his executor and trustee of his estate and left the land to his son Peter. 7. Following the period of administration, during which Maria collected in all of John's assets and paid all of his debts, Peter had a vested, indefeasible and absolute interest in the land and was able to direct how it was dealt with. Therefore, he became absolutely entitled to the land and the land 'passed' to him.
8. At Peter's suggestion Maria sold the land and paid the proceeds to Peter rather than transfer the land to him. The capital gain from the sale of the land is made by Peter because at the time it was sold the land had passed to him. The capital gain does not form part of the net income of the trust arising under John's will. 9. Note: Even if Peter was presently entitled to the income of the trust when the land was sold, the net income of the trust estate would not have included the capital gain because Peter was absolutely entitled to the land at that time (section 106-50 of the ITAA 1997). 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 (TR 2004/D25) provided the Commissioner's view on what is meant by absolute entitlement. TR 2004/D25 states at paragraph 10 that:
The core principle underpinning the concept of absolute entitlement on the CGT provisions is the ability of a beneficiary, who has a vested and indefeasible interest in the entire trust asset, to call from the asset to be transferred to them or the be transferred at their direction. The most straight forward application of the core principle is one where a single beneficiary has all the interests in the trust asset. At paragraph 13 of TR 2004/D25 it states that a beneficiary of a deceased estate cannot be absolutely entitled to a CGT asset prior to completion of its administration Application in this situation As noted previously, the parcel of shares owned by the deceased at the time of passing was transferred to the Executor of the deceased's estate. It is clear from the deceased's Will, that the parcel of shares that formed part of the estate was intended to be a testamentary gift to charity through a tax-exempt entity. However, the Executor sold the shares. The sale proceeds were held in the deceased estate and were not distributed to the beneficiary until the following income year.
As the deceased's parcel of shares did not 'pass' to the tax-exempt entity from the deceased estate as per section 128-20 of the ITAA 1997, the conditions of subsection 104-215 of the ITAA 1997 were not met. The CGT event K3 did not occur in this case but rather CGT event A1. We considered the inconvenience and the impacts of Covid-19 on the operations of the Executor. It seems the parcel of shares forming part of the estate was inadvertently sold rather than transferred to the beneficiary. Consideration was also given to whether the beneficiary was absolutely entitled to the parcel of shares as against the trustee. In which case, section 118-60 of the ITAA 1997 may have been applicable to disregard any capital gain or loss arising from the disposal of the parcel of shares.
However, we consider that the disposal of the ownership interest in the parcel of shares was not 'brought about' by the beneficiary, but rather by the Executors of the deceased estate. It cannot be said that the beneficiary was absolutely entitled to the parcel of shares at the time it was sold by the Executors. Unlike the example in TD 2004/3, the beneficiary did not 'direct' how the parcel of shares were to be dealt with. The Executors sold the shares without any communication with the beneficiary until after the parcel of sales were sold. The deceased's philanthropy and generosity to the community is commended. Unfortunately in this case, the Commissioner has no discretion to treat the CGT event under CGT event K3. Therefore, the Executors are unable to disregard any capital gain or loss made on the undistributed sale proceeds from the sale of the parcel of shares.