Imagine you buy a property with the intention of moving in,
but there is a tenant whose lease doesn’t expire for another 6 months so you
keep renting and wait for them to move out so you can move in.
What are the CGT consequences of this?
Well, that property will always be subject to CGT as you did
not move in straight after purchase.
But all is not lost because CGT will be minimal to almost
nil where you remain living in the property for a number of years. Furthermore
3rd element cost base expenses can be used to reduce CGT even
Homer buys 123 Smith Street, but the contract indicates
it is not vacant possession. It will come with a tenant with 6 months left on
Contracts signed on 1 July 2019, but Homer doesn’t move
in until 1 Jan 2020, with a hangover.
Let’s say Homer sells that property in 2030, signing
contracts on 1 July.
Will he pay CGT?
He might, but it may be a very small amount.
The first thing to consider is work out the time period it
was rented as a percentage of the total ownership period.
6 months/132 months = 4.5%.
So, at the most the capital gain would be 4.5% x 50% x the
gain or 2.27% of the gains on the property. Bugger all – note the 50% is the
50% CGT discount applied for holding the property more than 12 months.
But before this is done, the cost base has to be worked out.
The capital gains is the sale proceeds less the cost base.
The cost base expenses include buying and selling costs and,
importantly, the interest, rates, repairs and costs while living in the
property can be taken into account here and they will further reduce any CGT,
potentially bring it down to nil as over 11 years these costs would add up.
When someone dies their assets pass via their will, or intestacy laws,
without triggering CGT. The beneficiary’s cost base of the asset is generally
the same as the cost base of the person who left it to them.
Homer dies and leaves some shares to Bart. Neither Bart
nor the estate pay CGT on the shares passing through to Bart. If Bart sells, he
would pay CGT on the shares and his cost base would be the same as Homer’s cost
base. So if Homer bought them for $100,000 and they were worth $500,000 on
Homer’s death and Bart held them for 10 years and then sold them for $1mil,
Bart’s cost base would be $100,000 and he would have made a capital gain of
$900,000 (the tax would be about $210,000).
But if the shares are not sold but hung onto and the passed on via the beneficiary’s
will, there will still be no CGT payable until they are sold.
Bart inherits Homer’s shares and then Bart dies. Bart
some Bartyboy inherits the shares. If Bartyboy sells the shares his cost base
will be $100,000.
So, the way to avoid CGT is for each generation of the family to keep the
shares without selling. Selling the assets inherited is like killing the goose
that lays the golden eggs.
Shares could be sold and later the proceeds reinvested, but each time they
are sold up to 25% of the value is lost in CGT. Therefore, not selling for
hundreds of years could allow for some massive compounding.
But what about the inflexibility of income distribution? One drawback of
inheriting shares is that there is little opportunity to divert income to a
spouse, and/or children unless they are held in a discretionary trust. Holding
assets in a discretionary trust means those assets cannot pass via a person’s
will. Trusts generally must vest every 80 years so that means CGT would be
triggered every 80 years time, wiping out about 25% of the value of the assets.
I showed how it is possible to transfer assets out of a testamentary
discretionary trust (TDT) to a beneficiary without triggering CGT.
Therefore, the solution to avoid paying tax is to set up a TDT in the will.
Upon the death of the testator the assets will pass to one of more trustees of
a TDT. Income from the shares can be streamed to the primary beneficiary and
their spouses and children with real tax advantages (as well as asset
When that primary beneficiary is about to die, or possibly even after their
death, the assets of the trust, such as shares are transferred into their
estate and then out into a new TDT. Their children will control this trust and
can stream the income out and then upon their death, the same thing can happen.
The result is hundreds of years of compounding of the capital based with
very little tax paid on the dividends in between – in theory, and assuming
current laws allowing this will not change.
Homer is fit and healthy and writes his will incorporating
a TDT for each child. Homer buys some shares and keeps compounding the returns
so that at his death he has a large amount paying good dividends. His will
leaves 1/3 to each of 3 TDTs each controlled by one of his children.
Bart controls one TDT and keeps the shares in it with the
income being streamed to his children and spouse largely tax free. Bart keeps
investing in shares outside the TDT (as injecting money into it won’t result in
Bart comes down with a diagnosis of cancer and has 4
weeks to live. Dr Hibbert tells him the bad news and says sorry it has taken
you 3 weeks to get an appointment to see me, you only have 1 week left.
Bart causes the assets to be distributed from the TDT to
himself, without triggering CGT.
Bart dies a few days later.
Bart’s estate is now much larger than when Homer died.
Bart’s will also has a TDT and he goes for the same
Bartboy junior continues the tradition and does the same
thing as his dad, Bart.
dies at a rave party, without children. But luckily his wills sets up a TDT
with his siblings taking over the tradition.
This strategy can work well with shares as there is no stamp duty on the
transfer of shares, but with property passing from a trustee to a individual is
it likely to trigger duty in many states – perhaps exemptions might apply in
VIC and WA in certain situations.
The best thing though is if one generation decides they want to sell up and
abandon the tradition, then there will still be tax savings by utilising a
Testamentary Discretionary Trust.
The main residence exemption only applies to
land with a residence on it – a hint is in the phrase ‘main residence’!.
If you were to demolish the house and sell the land you could be in for a nasty
surprise as there would likely be CGT applicable. GST might be an issue also.
Homer purchased a main residence in 2010 for $1mil.
It was dilapidated when he bought it and it has only become more run down
since. Luckily the land value alone is now worth $2mil and Homer is negotiating
with a developer.
They agree on $2mil on the condition that
Homer remove the house.
Homer knocks the house down and stays in a 5
star hotel with a butler service for the full 42 day settlement period. It will
cost him about $40,000 but, heck, he has earned it and deserves it for making a
$1mil tax free capital gain.
Later Homer does his tax return and finds out
that the main residence exemption cannot apply!
No problem says Homer, the value didn’t
increase much by him knocking the house down.
However, Homer is shocked for a second time
because the cost base of the property will be, basically, the purchase price
plus costs such as stamp duty and a few other fees and charges and the
demolition cost. Perhaps $1.1mil in this case. This could mean a capital gain
of about $900,000.
That would be about $450,000 additional income
for Homer, how as head scientist at Lucas Heights is already on the top tax
rate which means he has made a mistake of about $211,500 plus the $40,000 for
Had Homer sought advice there may have been a
way to structure this so that the main residence exemption remained, and the
Strategies to keep the exemption may be to pay
for the demolition after settlement, or to give the developer possession before
settlement or just reduce the price by the cost of demolition.
Working as a trainee lawyer in a small suburban firm I heard
a staff member, who wasn’t even a lawyer, tell a conveyancing client that the
relevant date for CGT purposes is the date of settlement and not the date of
contract. How wrong she was.
Generally*, where a capital asset is purchased or
sold under a contract the relevant date for CGT purposes is the date the
contract is entered into, s 104-10(3)(a) ITAA97 (CGT event A1).
Timing is very important if an investor wants to sell the
property about 12 months after buying it because a few days difference can mean
a lot of extra tax .
Bart buys a property on 28th of June for
$500,000– he enters contracts on this date, but settlement is on 28th
of July. The relevant acquisition date for CGT purposes is 28th of
June. Bart gets a keen buyer interested in the property and they want to sign
the contract to purchase it on 27th of June the following year for
$1mil with settlement on the 1st of August. Bart thinks, great that
is more than 12 months from settlement to settlement so he thinks he will get
the 50% CGT discount.
But Bart is wrong because it is the contract dates that
count – 28th of June this year and 27th of June next
year. Less than 12 months so no 50% CGT discount.
Bart’s capital gain is $500,000
Had he sought advice and waited 2 more days his capital
gain would have been $500,000 still, but the taxable capital gain would have
been halved to $250,000.
Timing is also very important as to which financial year the
gain will be taxed in.
Lisa is selling her investment property and is in
negotiations with a prospective buyer. It is late June and Lisa wants to make
sure the gain is taxed in the next financial year as she will be off work all
year and will have no income. This year she has already earnt $200,000 in
Lisa signs contracts on 1 June this year with settlement
on 15th June next year. She thinks the relevant date is the
settlement date. The gain before the discount is $200,000.
If the sale falls into this financial year the tax would
If the sale falls into the next financial year the tax
would be $25,717
(based on 2018 and 2019 tax rates respectively)
*Note that I said ‘generally’ at the beginning above, and
that is because there are instances where the relevant date is the settlement
date, and sometimes it is somewhere between the date the contract is signed and
settlement happens. I will cover these in a future tax tip.
Below are some ways in which CGT may be reduced on the sale of an
investment property. But before you decide to sell you should properly work out
what the potential size of the capital gain will be. Once you know what you are
dealing with you will then be able to work out appropriate strategies to reduce
the amount of tax payable.
1. Timing of the sale
Usually it is the date of the contract entered into that is the relevant
disposal date for CGT purposes. Some things you can do:
a) Bring forward the sale so that it falls into a year of low income, or
b) Push back the sale so that if falls in a later year where you expect
to have lower than usual income. Delaying the sale can also allow for more time
to plan and implement other strategies.
c) Time the crystallising of losses (see below)
d) Make sure you have held the property for the full 12 months for the
50% CGT discount
2. Offset Capital Gains with Capital Losses
Capital Losses can be used to offset capital gains. Losses can result
a) Carried forward losses from prior years, or
b) Current year losses arising from the sale of other assets.
Bring forward the sale of other property or shares that have dropped in
value may help. But you have to get the timing right. Selling the shares with
the capital loss in a later tax year to the sale of the property with the
capital gain will result in no offsetting and the capital loss being carried
forward to be offset against some future potential capital gains.
Take care with the sale of shares and then immediately buying them back
as the ATO may want to deny the deduction as they can deem this to be a wash
sale with the sole purpose of a tax benefit.
3. Claim everything possible
When working out the capital gains tax the cost base of the property
needs to be worked out. Various expenses incurred during ownership can be used
to reduce the amount of CGT payable. So it is essential not to miss any
potential deduction as this will result in more tax being payable.
See my tax Tip on this: Tax Tip 76: Calculating the Cost Base for CGT
4. Small Business Concessions
Often overlooked are the small business concessions which may be used to
reduce the CGT (sometimes to nil) where the property has been used as part of a
There are 4 main small business CGT concessions, namely:
a) the small business 15-year exemption
b) the small business 50% active asset reduction
c) the small business retirement exemption and
d) the small business rollover
@MikeLivingTheDream first gave me the idea of using the 4 small business
5. Reducing your Taxable Income
Any capital gain is added to your other taxable income for the year so
look at ways to reduce your income. There are 2 aspects to working out taxable
a) Earnings, and
Either reducing earnings or increasing deductions will result in less
tax, Combine the 2 and your savings will be greater still.
5a. Reduce Earnings
Not many would want to reduce their earnings, but here are some suggestions
for those that do:
• Taking that leave without pay that you always wanted may work in well
with reducing your earnings;
• Salary sacrificing into super can also reduce your taxable income;
• Change from full time to part time;
• Quitting to travel the world.
• Where self-employed you may be able to delay income.
• Salary sacrifice into super
See Taking a Year off Work to save CGT
Before prepaying interest, you should consider the flow on effects for
later years – where you will have little to no interest claimable which may
result in more tax payable. Also, be aware that you cannot just pay into the
loan, but must actually fix the loan for 1 year and
5b. Increase Deductions
Having greater deductions will mean you have less taxable income. Some
ways to increase deductions, other than the usual claiming everything you can,
• Prepay interest on other investment properties
• Deductible contribution into super where possible.
6. Die in your investment property
As you approach death move into your investment property with the
biggest gain and rent out the main residence.
Usually, it is difficult to get the timing right on this one!
want to help their elderly parent(s) purchase property. This might be the
parents moving to a more suitable property or the parents becoming owners
instead of renting.
parents into a property can also help the children too, because they may
potentially inherit the property at a later date and there can be great tax
concessional along the way.
basically 3 main ways an adult child could help a parent into a property:
b. loan –
at interest or interest free
purchasing part of the property.
various estate planning consequences to each of these and also practical
if the parents own the home it might be 100% CGT and land tax exempt, if the child owns part it may not be completely exempt.
If one child made a gift and they have siblings and the parents die before they gift giver then the other siblings may also benefit from the gift.
if it was a gift and you died the next day after making the gift your family would potentially miss out
If it was an interest free loan and nothing done for 6 years it could become unenforceable
If they have incorporated a testamentary discretionary trust in their will and it the gift all came back to ‘you’ this could provide tax free income to your minor children for years to come.
If you gift it and parent A dies first parent B might remarry…
of how It could work
Lisa are adults with one parent left – Homer. Homer lost his house years ago
and is renting. Bart and Lisa each have their own homes fully paid off and some
cash in the offset accounts to their separately owned investment properties.
a property with development potential. It is just around the corner from where
Homer lives in his rented flat. Bart is going to purchase the property and is
deciding what entity to put it in when he has an idea.
property purchase price is $500,000. He has enough cash to pay for it so he
could just buy it outright, but since his dad is not getting a main residence
exemption for CGT Bart talks to Homer, his dad, and they decide to buy it in
the contract and Bart lends him the 10% deposit with a promise to lend him the
rest for settlement.
realises that if Homer dies his sister Lisa will end up with half the property.
So to make things fairer he talks to Lisa and gives her 2 options
in 50% of the purchase price at settlement, or
leaves the whole property to Bart and Lisa agrees not to challenge this if it
Lisa decide to ‘go 50/50’ and each lend Homer $250,000 and Homer settles on the
property. It is a 5 year interest free loan which they intend to renew each 5
arranges various approvals and the property is now worth $1mil when Homer dies
4 years later.
terms of the will of Homer 50% of his assets would go into each of 2
testamentary discretionary trusts with one controlled by Bart and one
controlled by Lisa.
now have 50% of an additional property which would be could be sold tax free or
held onto with a cost base of $1mil. There has been no land tax along the way
because this was Homer’s main residence and they have each gained further tax
deductions by using cash in their offset accounts.
any income generated from the property from that point could be streamed to
their minor children, as beneficiaries of the trust, with each child getting around
$20,000 without having to pay tax.
Homer’s death they also forgave the loans they made him – so this meant that an
extra $500,000 was driven into the testamentary discretionary trust so they
could generate even more tax free income.
Under s118-150 ITAA97 a person can claim the main residence
CGT exemption for up to 4 years prior to occupation of a house being
constructed once it is completed – if they live there for at least 3 months and
do not claim another property during this time.
What would happen if the owner died during construction and
could not live there for 3 months?
Luckily there is a concession which covers this scenario and
can be found at s 118-155 ITAA97.
The surviving joint owner of a joint tenancy or the LPR of the estate can
choose to apply the main residence rule for the shorter of 4 years before the
death or when the individual acquired the land.
Homer and Marg are renting and buy land with the
intention to build on it. The land has skyrocketed in price, but after 3 years
they still have not done anything with it. They then realise time is running
out so enter into a contract with a builder. Homer suddenly dies from radiation
poisoning. If Marg is a joint tenant owner she will become sole owner bypassing
the will. This legislation allows Marg to claim the main residence exemption on
the whole property from the date it was acquired as long as she moves in within
the 4 year period from purchase contracts.
If Barney was Homer’s executor and they held it as
tenants in common it could still be CGT exempt as long as it is completed in
time. In this case Barney doesn’t need to move into the property for the
exemption to apply but it can be passed via Homer’s will as if it was Homer’s
main residence for the 4 years prior to his death.
I had a client recently who was selling this main residence.
He was shocked when I told him it would not be fully CGT exempt as it was about
8 acres in size.
The main residence CGT only applies to a dwelling on land of
up to 2 hectares in size. So when the land is larger than 2 hectares only part
of the property will qualify for the main residence exemption.
Note that the 2 hectares can be selected on the most valuable
parts of the land which need to be adjacent to each other. For example you
might have the land under the house on one side and the land under a shed way
down the back, but not count the land in between them.
Trusts are generally considered the
greatest British invention, (the sandwich comes in second), and Testamentary
Discretionary Trusts (TDTs) are the best of the best.
benefit of a TDT is the ability to get income into the hands of children and
have them taxed as adults.
benefit of TDTs is the ability to transfer a property owned by the trustee of
the trust to that of a beneficiary of the trust without triggering CGT. This
means an inspecie transfer of assets is possible without CGT.
dies and leaves his property portfolio indirectly to his children by
establishing 3 separate TDTs in his will. Bart’s trust will hold 3 properties,
as will 2 more trusts controlled by Bart’s sisters.
5 children, so is able to distribute the $100,000 in rental income to the
children tax free each year.
while the kids grow up and start working so any further distributions will
result in tax being payable at high rates. Bart decides to reduce the tax by
moving into the most expensive property and living there rent free. Then he
realises that the property is subject to CGT as it is held by a trustee and the
main residence exemption won’t apply.
decides to use the ATO’s concession and transfer the property from the trustee
to himself as a beneficiary under the will.
He gets a
private ruling first and this confirms the Commissioner will not treat this as
a disposal for CGT purposes because it is a transfer from a deceased estate to
Commissioner will not depart from the ATO’s long-standing administrative
practice of treating the trustee of a testamentary trust in the same way that a
legal personal representative is treated for the purposes of Division 128 of
the ITAA 1997, in particular subsection 128-15(3).”
There is no time limit as to how long you can carry forward
losses – whether income losses or capital losses, however they will be lost at
death (a loss lost!). So, it makes sense that you should try to use up losses
as early as possible. This is generally not too hard with income losses as
these are easily eaten up the next financial year with more income being
Using up capital losses tends to be more difficult though as
a capital loss can only be used up by a capital gain – not general income.
Note that there are complex rules regarding companies and
trusts in carrying forward losses.
Homer invested money in a business he ran which failed.
He lost $200,000 and has a $200,000 capital loss which he has been carrying
forward for 9 years now. Homer would love to use this loss up, but the trouble
is he has no other asset he could sell to offset the loss.
If Homer owned shares for example he could sell shares
with a $200,000 capital gain and not have to pay any tax.
But losing his money has meant that Homer doesn’t have
any capital to invest with.
However, Homer’s daughter Lisa knows a thing or 2 so sets
up a discretionary trust to hold investments. It could be possible that in
future a gain from the trust could be distributed to Homer and his loss could
offset this so that no tax is payable.