TAX TIP #5: ASSET PROTECTION | MAIN RESIDENCE TRUST OR SIMILAR

Facts

Clients, being at risk professionals, are advised to purchase their home (main residence) in a family trust for asset protection.

Question

Can the sale of the property be tax-free?

Answer

Yes, if the property is sold when the clients reside in the property.

Substantial issues arise if the property is sold when the property is subsequently tenanted to an unrelated third party.

Tax Tip

1. The main residence exemption only applies to individuals and therefore cannot apply to the trust.

2. However, the capital proceeds received by the trust ought to be offset by the capital costs of having to cancel, surrender or similarly end (CGT Event C2) the clients’ right to reside in the property where the rent paid was at considerably lower than market value.

3. The CGT Event C2 triggers a capital gain for the clients however, and because they are individuals, the main residence exemption can apply to that capital gain:

   1. not because the capital gain is in relation to the home (because the clients do not own the property as it is owned by the trust); but

   2. because the right to reside in the property, being an ownership interest, is a CGT asset that is in relation to the home (see section 118-110 ITAA 1997).

4. Substantial issues arise if the clients move out of the property (which is very much a possibility), the property is then rented to an unrelated third party at market value and sold when tenanted. The clients’ right to reside is no longer applicable when sold because the third party has the right to reside and, because it was rented at market value, the CGT Event C2 would be $nil (as no reasonable person would pay to cancel, surrender or similarly end a right where they would receive market value rent if the right was not cancelled, surrendered or ended). Therefore, the trust has $nil CGT Event C2 capital costs to offset the capital proceeds.

5. Issues to consider, and which may be difficult to overcome all of them, are:

   1. triggering CGT Event C2 when the clients move out;

   2. the non-application of the CGT general 50% discount when the property is sold less than 12 months from the CGT Event C2;

   3. the interaction between CGT Event C2 and the six (6) year income rule; and

   4. the application of Part IVA (general anti-avoidance) versus simply purchasing the main residence in the clients’ personal names, that is, does asset protection override that it may be held to be a dominant purpose of tax?

6. Do we recommend purchasing a home in a trust – No. Owning the home in personal names provides much greater flexibility. There are other strategies, with less tax focus, thus greater supporting the asset protection purpose, that provide suitable outcomes.

7. However, if your client has already purchased their home in a trust, such strategy ought to be implemented to give them a fighting chance at some tax relief.

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