Wash up Capital Gains Tax

Question

Our deceased son left us his 10 acre Gold Coast rental property, which we have retained. Under council laws we are unable to divide the property until around 2020, but we can build a second house on it.
Q. If we lived in the second house as our principal place of residence and continued to rent the smalled house what happens to the Capital Gains Tax if down the track we decide to sell the whole lot? Alternately, do we have to live in the original house as our p.p. of residence to wash up the capital gains tax, and if so for how long?

Answer

I am assuming your son never lived in the property and purchased it after 19th September, 1985. Please let me know if this is not correct.

You inherit the property at your son’s cost base which is probably the price he paid for it plus buying costs and improvements. So if you were to sell today there would be CGT if it has increased in value since he purchased it.

There is very little you can do to eliminate the capital gain to date. Moving your principle place of residence exemption onto the property will only help the CGT to date if it makes less capital gain in the future then it has in the past because the whole capital gain will be apportioned over the whole period of ownership by both you and your son. But reducing the taxable gain on the property by holding it through a period of low capital growth is not worth it.

Moving onto the property is certainly going to help you reduce the CGT on future capital gains. By moving onto the property you can start to accumulate days in the total period of ownership (total period covers you and your son’s ownership) which are exempt from CGT. Note this can only be in regard to 5 acres of the property. The 5 acres must include the land under the house you are living in but other than that you can choose to exempt any portion of the land including several separate sections. With the help of a valuer you can select the portion of the land that has made the greatest capital gain. The idea is to select the area not covered by your main residence exemption as the part of the property that has not gone up in value, maybe because it is worthless anyway or an area that a lot of money has been spent on that has not really increased its value so a small capital gain.

Note if you move your main residence exemption to this property you cannot cover another property with your main residence exemption. But you can move onto the property establish your home there and then move out again and rent the property out, leaving your main residence exemption still over the property for up to 6 years. You can repeat this exercise every 6 years to restart the clock.

Whether you live in the old house or build a new one depends on what you want to do and how the numbers stack up. There is no angle here that is going to reduce your CGT. Just remember if you build a house with the intention of selling it then you will have to charge GST and will not get the 50% CGT discount on any profit.

You could reduce the CGT on the property to nil if you started a business on it and used the property in that business for at least half the period of time between your son’s death and the sale of the property or 7 ½ years which ever is the shortest period. That is providing you qualify for the small business CGT concessions. There is an article about this in our Death and Taxes booklet which is available under the free publications section of this web site.

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