Broadening the CGT Relief for Separating Couples

Beware the tax man!

In Family Law, it is not a new concept for separating couples to attract CGT exemption (roll‑over relief) when disposing of certain assets to achieve a property settlement. While the transfer of real estate, shares, leases and other assets would normally attract CGT, provided that transfer is to the other spouse, no tax liability will arise.

The requirements for roll-over relief are contained in s126-5 of the Income Tax Assessment Act 1997 (ITAA 97), for individual transferors, and s126-15 of the ITAA 97, for company or trustee transferors.  In its simplest form, it requires that there be a transfer or creation of an asset by an individual, company or trustee to the former spouse because of an order, financial agreement or arbitration award made under the Family Law Act 1975.

It has generally been considered that the roll-over was limited to transactions in which the transferee of the asset was the former spouse in their individual capacity. That is, it does not apply where the transfer is to an entity controlled by the former spouse, not to the former spouse themselves. However, the decision in Sandini Pty. Ltd. & Commissioner of Taxation decided in March 2017 appears to extend the roll‑over relief – or has it? The Commissioner of Taxation appealed the decision which was heard in August. Judgment has not yet been handed down.

The facts of the case can be summarised as follows:

On the 23rd of September 2009 the Family Court ordered, as part of property proceedings between Mr and Ms Ellison, that Sandini Pty. Ltd., as trustee for Karrath Rigging Unit Trust (KRUT), which was wholly controlled by Mr Ellison, transfer 2,150,000 shares in Mineral Resources Ltd. to Ms Ellison.

Following these orders, however, Ms. Ellison provided a written direction to Mr Ellison requiring the shares to be transferred to her family trust. The Commissioner of Taxation later audited Mr Ellison and assessed him for the capital gain made on transferring the shares on the basis that the roll‑over did not apply because, in this case, the shares were not transferred personally to Ms. Ellison but to her family trust.

Sandini Pty. Ltd. issued proceedings in the Federal Court of Australia seeking a declaration that it was entitled to roll‑over relief. In support of this position, three arguments were raised:

  1. Firstly, that the Court order transferred beneficial ownership in the shares to Ms Ellison and, therefore, CGT event A1 happened as a result of the Court order and the requirements of s126-15 of the ITAA 97 were satisfied.
  2. Secondly, in the alternative, Ms Ellison is deemed to have received the shares under s103-10 of the ITAA 97 because they were applied for her benefit and at her direction, again resulting in the satisfaction of the requirements of s126-15.
  3. Thirdly, as a further alternative, the requirements of s126-15 of the ITAA 1997 did not require Ms Ellison to be the transferee, but simply required her to be “involved” in the transaction.

In response, the Commissioner argued that roll-over relief did not apply on the basis that:

  1. A change in beneficial ownership was not enough to trigger CGT event A1 and, therefore, the making of the Court order did not result in a capital gain arising. Instead, there needed to be a change in both legal and beneficial ownership.
  2. Section 103-10 does not operate in the context argued by Sandini, but rather is concerned only with capital proceeds.
  3. The provisions of s126-15 require the transferee to be the former spouse themselves. A transfer to another entity, even if at the direction of the former spouse, does not, therefore, meet the requirements of the section.

The Court held that Mr Ellison could rely on the marriage breakdown roll‑over provisions in respect of the transfer of the shares to the trust. Relevantly, they held that:

  1. The Court order resulted in beneficial ownership of the shares being vested in Ms Ellison and that this was enough, without a change in legal ownership, to trigger CGT event A1. Accordingly, Sandini triggered a capital gain at that time, which was eligible for roll-over relief under s126-15.
  2. Alternatively, s103-10 applied to deem Ms Ellison to have received the shares because they were transferred for her benefit and at her direction, thereby satisfying any requirement of s126-15 that the transfer of the shares be to the former spouse.
  3. Finally, even if transfer of beneficial interest was not enough to trigger CGT event A1, the requirements of s126-15 were nevertheless satisfied on the transfer of the shares to the family trust as Ms Ellison was “involved” as a transferee by reason of her giving the direction that the shares be so transferred.

The decision was considered surprising, with many practitioners having differing views as to whether the decision is correct, and it raises a number of interesting issues.

From a tax perspective, the position that CGT event A1 occurred as a result of the Court order passing beneficial ownership of the property to the person named in the order raises the question of whether a second CGT event occurs when the asset is subsequently transferred pursuant to the Court order. If the transfer is made to the same person as is named in the order, then no second CGT event will occur – the transfer will simply be a change in legal ownership with no change in beneficial ownership and, therefore, will not trigger CGT event A1.[1] However, if the asset is transferred to a different person or entity to that named in the order, as was the case in Sandini, there would, on the face of it, be a second CGT event occurring on the subsequent disposal of the beneficial ownership of the asset from the person named in the order to the person or entity to whom the asset is transferred. As one of the consequences of the roll-over is that the transferee (in this case the person named in the Court order) inherits the transferor’s cost base for the asset, this subsequent transfer could result in a significant, and taxable, capital gain being made. The Court did not consider this issue and caution should therefore be exercised before seeking to replicate this arrangement.

Secondly, there is speculation that the Court’s decision has significantly expanded the scope of the roll-over relief to allow all transfers of property to a family trust to be exempt. However, this may not in fact be the case. The court’s decision that Ms Ellison was “involved” in the transfer seems dependent upon her being named in the Court order as the person to whom the shares were to be transferred. As she was the person entitled to the shares, she was necessarily “involved” when she directed that they be transferred to someone else. If instead of proceeding in this manner the Court order instead simply required that the shares be transferred to her family trust, it would seem, on the Court’s reasoning, that she may not be considered to have been sufficiently “involved” for the purposes of s126-15. The wording of the Court order therefore appears very important in the conclusion made by the Court and the same conclusion may not be able to be made in all circumstances.

As noted above, the Commissioner has appealed the decision with the decision on appeal expected to be handed down in the coming months. In the meantime, taxpayers should be cautious if considering transferring assets to a family trust or company as part of family court settlement as there remains significant risk of this resulting in potentially substantial tax liabilities.

If you are experiencing a relationship breakdown, talk to us about the tax pitfalls to ensure that orders and documents are correctly drafted so tax relief is achieved.

[1]           As it will fall within the exception in s104-10(2) of the ITAA 97.

For more information, please contact:
Briony Hutchens

Briony Hutchens
p.  +61 8 8124 1821
e.  Email me

This communication provides general information which is current as at the time of production. The information contained in this communication does not constitute advice and should not be relied upon as such. Professional advice should be sought prior to any action being taken in reliance on any of the information. Should you wish to discuss any matter raised in this report, or what it means for you, your business or your clients' businesses, please feel free to contact us.

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