By Domenic Festa (Accredited Tax Specialist and Chartered Tax Adviser)
A common estate plan is to draft the Will to pass the estate to identified beneficiaries (either named persons or testamentary trusts in equal shares). The portion of the estate that passes to those beneficiaries will often contain multiple assets. After the Willmaker passes away, the beneficiaries may agree that each beneficiary takes a certain identified asset or assets. In that instance, the CGT and transfer duty consequences must be considered.
David Johnson holds an estate that comprises the family home, a beachside investment property, and a share portfolio. Each of these assets have a value of approximately $800,000. There is also a small amount of cash and other investments. David has three children – Peter, Bruce and Jenny. His Will is in fairly standard form providing for the estate to pass to his children in equal shares (his spouse had passed away 3 years earlier). There is an unrealised gain in respect of each asset exceeding $400,000. All assets are post-CGT.
After David passes away, his three children decide that Peter was to take the family home, Jenny is the greatest user of the beachside property and would like to take that property, Bruce (a stockbroker) is happy to take the share portfolio.
In order to achieve the children’s objectives requires a transfer of a two thirds interest in each asset (eg in order for Peter to be the sole owner of the family home requires Jenny and Bruce to transfer their one third interest to Peter). The children are advised that the transfer will give rise to a capital gain equal to 2/3 of the unrealised gain (not less than $266,000). Added to their current income, the CGT payable is approximately $40,000 for each asset (totalling around $120,000). In addition, transfer duty is payable on the transfer of each asset (a total of just over $34,000 – no duty is payable on the share portfolio). Total costs to be incurred for the reallocation of assets is $154,000.
Tax Effective Alternative
An alternative to the standard approach outlined above can be implemented in the course of administration of the estate. The alternative can be implemented depending on the terms of the Will, in respect of residue of the estate. It is also available on an intestacy where there is no Will.
The alternative requires specific steps to be implemented by the executor prior to final administration of the estate in accordance with the requirements of the Trusts Act and the Will.
By following these processes the result is the transfers of the two third interests to the children as agreed will be eligible for the following exemptions:
- the transfer duty exemption for transfers to give effect to a deceased estate;
- CGT exemption for assets that pass to a beneficiary and therefore any capital gain is disregarded under Division 128 of the Income Tax Assessment Act 1997.
The above view is supported by rulings of the OSR and the ATO.
The result of adopting the process is no transfer duty is payable on transferring a 100% interest in each asset to the respective beneficiary, and the respective beneficiary acquires that asset with the same cost base as David had when he died.
What about intestacy?
The process has even greater application where a person dies on intestacy.
The process only applies to property that forms part of the residue of an estate. Where a person dies without a Will, the whole of their estate will constitute residue.
The Trusts Act provides sufficient powers for making the reallocation.
It will therefore allow the family of the deceased to decide on the allocation of assets between family members.
What if the estate cannot be equally divided?
In order to satisfy the exemptions for transfer duty and CGT it is necessary for each beneficiary to receive their respective portion of the estate.
Where the estate cannot be equally divided, it is possible to reallocate the assets in such a manner that causes an equal division, leaving a lesser amount that is liable for CGT and transfer duty. By way of explanation, if in the above example the beachside property had a value of $1 million and the share portfolio $600,000, the split may be made by transferring the whole of the share portfolio to Bruce, and a transfer of the beachside property split 80% Jenny/20% Bruce. This would leave a 20% interest remaining to be transferred causing a total CGT liability of around $12,000 and transfer duty of $4000. Notwithstanding the small liability for tax, it results in a saving of over $137,000.
Please contact us to address your taxation issues in the course of estate administration.
NOTE: This article is for general information only and should not be relied upon without first seeking advice from one of our specialist solicitors.