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Pre-CGT company assets after death of the original shareholder retain their pre-CGT status in the hands of the beneficiary.
Pre-CGT Company Assets After Death
What happens to pre-CGT company assets when the original shareholder dies and the pre-CGT shares pass on to a new beneficiary / heir? Do the assets and shares lose their pre-CGT status just as any other pre-CGT assets held in individual names?
This is just one of the questions Paul Mackenroth of Cleary Hoare in Sydney will discuss with you in this episode. Here is what we learned but please listen in as Paul explains all this much better than we ever could.
To listen while you drive, walk or work. Just access the episode through a free podcast app on your mobile phone.
Pre-CGT Company Assets After Death
So you have a pre-CGT company that holds pre-CGT assets. The original sole shareholder dies and their heir receives all shares from the estate. What happens to the pre-CGT status of the shares and company assets?
The answer might vary for shares and the underlying company assets. Shares and company assets might run with a different CGT status going forward. You need to look at the shares and each company asset separately.
Pre-CGT Shares
Pre-CGT shares held in individual names act like any other CGT asset held in individual names. Once the original shareholder dies, the shares’ cost base adjusts to the market value at the date of death. And the shares become post-CGT.
Pre-CGT Company Assets
Pre-CGT company assets act differently. They don’t automatically change their CGT status at the time of death. It all depends on whether the majority ownership changed after 20 September 1985.
Has there been a change in ownership between 20 September 1985 and time of death?
Yes – Change in Majority Ownership
If there is change in majority shareholdings between 1985 and death, then the company assets became post-CGT at the date of that change. On the date the majority shareholding changes, the cost base of all company assets adjusts to the market value on that date and they become post-CGT.
So by the time the shareholder dies, the company assets are already post-CGT. Hence, there is no change in CGT status when the shareholder dies.
No Change in Majority Ownership
If there has been no change in majority shareholdings since 20 September 1985, then the company assets are still pre-CGT upon death of the original shareholder who held the shares in 1985.
There is a concession in the law (s149-30 (3) ITAA97) that allows the new owners of the shares to stand in the shoes of the original owner and not be treated as a new owner going forward. So the shares pass through the estate without changing the CGT status of its assets. But only if the shares had been held by an individual.
Not Forever
The exception in s149-30 does not go on forever. It only applies to the first generation, so the death of the original shareholder. Once the new owner dies, the company assets will change to post-CGT with the market value at the date of death of the new owner as cost base.
Family Trust
If the shares had not been held by an individual, but a family trust, it is still possible to preserve the pre-CGT status of the trust assets. Thanks to IT 2340. The ATO confirmed in ATO ID 2003/778 that they will adopt the approach in IT 2340 if the circle of beneficiaries (family group) has not changed.
The Commissioner will treat that family trust as if it were one owner, notwithstanding that technically under the law a trust is not the ultimate owner for the majority underlying interest test.
Testamentary Trust
If the shares were to be distributed to a testamentary trust rather than to an individual, you will have a change in CGT status due to a change in majority ownership. And so the company assets which were pre-CGT until death, would now have a cost base of the market value at the day of death.
Capital Profits Reserve
The gain from the sale of pre-CGT asset is put to the Capital Reserve account to ensure that that amount is separately characterised and the distribution by the liquidator can satisfy the Archer Brothers’ Principle.
In Archer Brothers, the High Court said:
“By a proper system of book-keeping the liquidator, in the same way as the accountant of a private company which is a going concern, could so keep his accounts that… distributions could be made wholly and exclusively out of… particular profits or income…”
These observations have given rise to what is known as the Archer Brothers principle.
The Archer Brothers principle is that if a liquidator appropriates (or “sources”) a particular fund of profit or income in making a distribution (or part of a distribution), that appropriation ordinarily determines the character of the distributed amount for the purposes of section 47 and other provisions of the Income Tax Assessment Act 1936 (the Act).
Therefore, if the profit is from a capital reserve attributable to a pre-CGT gain, then the amount will come out of the company as a return of capital on the CGT event C2
The Commissioner accepts this approach – see TD 95/10.
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Disclaimer: Tax Talks does not provide financial or tax advice. All information on Tax Talks is of a general nature only and might no longer be up to date or correct. You should seek professional accredited tax and financial advice when considering whether the information is suitable to your or your client’s circumstances.
Last Updated on 02 June 2021
Tax Talks spoke to Paul Mackenroth - Senior Associate at Cleary Hoare - for more details.
