Ask Ban Tacs Question
My husband and I are updating our wills as both our Adult daughters are no longer dependents. We don’t want to create any unnecessary CGT issues for our children after we pass in relation to testamentary trusts. Our main assets are properties (our PPOR est Value $7M and 5 investment properties approx $5M net). My husband and I are intending to update our will to leave our money to our 2 daughters through 2 testamentary trusts (each daughter will be a trustee of one). What happens if some or all of these property assets are transferred to the trust? eg re the PPOR in order to keep the capital gains tax exemption at Date of death on the PPOR is it best that this asset is excluded from the trust or sold from the estate, as I understand if the home is retained and transferred to the trust and is subsequently sold the cost base will be the cost we bought the property at rather than what it was worth at our date of death (as it is owned by the trust), so our children will have a massive Capital gain.
Similarly if an investment property is retained and transferred to the trust will the children lose the 50% CGT discount (on the sale price less the cost base which we purchased them) as the property is owned by if the property is eventually sold?
Is this correct?
Also re the testamentary trusts is it better for each daughter to have a corporate trustee of the trust or individual?
Answer
Putting your home into a testamentary trust will not interfere with its cost base being reset to market value at your date of death. In the case of misunderstandings like this there is normally some element of truth with something lost in translation. Is it possible you were considering transferring you home into a trust before you die? Certainly, if your home is not owned by you when you die it is almost impossible to have the cost base reset to market value at the date of your death. But even then the trust’s cost base would be the market value at the time you transferred it to the trust, not all the way back to the original purchase price. I have scanned Noel’s book to see if you might have misunderstood something there. Maybe you misunderstood the section on tenants in common but that has nothing to do with testamentary trusts and would only apply to you if your home has not always been covered by your main residence exemption. Another possibility is that you have read the section on inheriting from overseas without realising it is only discussing when an Australian resident inherits from someone who is a non resident. I have checked the section on testamentary trust and it does not go into any detail on leaving your family home in a testamentary trust.
The only way the cost base of a property that is covered by your main residence exemption would go all the way back to the date the property was purchased is if you were living overseas for more than 6 years when you died.
I am assuming none of these properties were purchased pre 20th September 1985.
I will explain, with references, what will happen if you leave the family home in a testamentary trust. I am not sure whether you anticipate that your daughters will continue to live in the home after you die. If so it is absolutely imperative that the house does not go into a testamentary trust because they will have a lot of difficulty covering it with their main residence exemption. Though it will go into the trust with a cost base of the market value at the date of your death if it was still being covered by your main residence exemption.
So here is how it works, with references to the 1997 ITAA for your solicitor
Your home’s cost base is reset to market value at the date of your death as long as you are a resident of Australia or have only been living overseas for less than 6 years. This is a permanent reset, nothing after this can change it. This is in section 128-15(4) https://www.ato.gov.au/law/view/document?DocID=PAC%2F19970038%2F128-15&PiT=99991231235958 Section 128-15 also says there is no CGT event when your house passes to your estate 128-15(1) and when the estate passes it onto a beneficiary 128-15(3). Of course, all these rollovers just move the home across with a cost base at DOD no further uplift. So, you can see this gets the asset across into the testamentary trust without triggering CGT. As a matter of normal practice the ATO will allow the testamentary trust to later pass it onto a beneficiary without triggering CGT but this is a concession, not the law so should not be relied upon and needs some serious consideration if you want your daughters to be able to choose to transfer assets out of the testamentary trust into their own names, possibly to live there and cover with their main residence exemption.
Are you thinking about protecting your daughters’ right to live in the house, to make sure no matter what they have a roof over their head? That is a problem if one of them wants to sell.
Generally, your daughters could not cover their share of the property with their main residence exemption if it is held in a trust, unless that trust is a bare trust, which is a trust where there is only one beneficiary. Section 106-50 https://www.ato.gov.au/law/view/document?docid=PAC/19970038/106-50 You would need to speak to your solicitor about how the trust would be set up. Maybe if the testamentary trusts held your home 50:50 as tenants in common each half would be considered a separate asset and then you could argue that that half was held in trust, that particular daughter was presently entitled and therefore could cover it with her main residence exemption utilising section 106-50.
With the investment properties they are inherited by the estate, testamentary trust or your daughters at your cost base so they come with a CGT liability. If you are going to distribute the properties in specie to your daughters or their testamentary trust but want to estate divided equally, you will need to take into account the likely CGT liability of each property. Further, you will need to provide your daughters with the right CGT records should they ever want to sell. I have attached a spreadsheet that will guide you through that process. A testamentary trust is entitled to the 50% CGT discount but that is likely to be 50% of the maximum tax bracket. If instead the capital gain is distributed to a beneficiary they too would be entitled to the 50% discount, at their personal marginal tax rate. That is providing the beneficiary is not a company or foreign resident. In the case of a company they do not qualify for the 50% CGT discount even though the trust distributing the gain would have. So, it is better for the trust to retain the capital gain and utilise the 50% CGT discount than the company pay full company tax rates but ideally with a nice wide discretionary testamentary trust deed your daughters will find someone, entitled to the 50% CGT discount, in an even lower tax bracket to distribute that gain to.
The only CGT risk of a testamentary trust over your daughters inheriting personally is that the ATO renege on its very generous interpretation of 128-15 and do not allow a rollover if the testamentary trust ever transfers a property into one of your daughter’s personal names. Current practice is the daughter’s cost base is what the cost base was in the hands of the testamentary trust. This cost base would start with market value at DOD for your own home or the price you paid for the rental properties. Technically the law says that the transfer from the testamentary trust to the daughter is a CGT event so the testamentary trust must pay CGT on that transfer at market value even though it has not received any sale proceeds. If the CGT event is triggered then at least your daughter’s start with the market value of the property at the time. The trouble is the most likely reason they would be transferring it out of the testamentary trust is to live in it and cover it with their main residence exemption so the advantage of the uplift in cost base is wasted. Hopefully you can work out what assets are best left direct to your daughters, you need to weigh this up against the benefits of a testamentary trust allowing your daughters to distribute income to their children who are under 18 without it being taxed at the penalty minor rates. Their may also be asset protection benefits that your solicitor can explain in relation to your particular circumstances.
The corporate trustee vs individual trustee is probably a question better answered by your solicitor. My only input would be that the corporate trustee would add an additional cost, in ASIC filing fees, to running the testamentary trust.
