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Friday, March 24, 2017

Marriage or relationship breakdown rollover of capital gains tax

Marriage or relationship breakdown rollover of capital gains tax

Any changes to ownership of assets on or after 20 September 1985, is subject to capital gains tax (CGT). An exception to this rule is the automatic rollover that might be applicable in certain cases where an asset is transferred to a spouse as a result of the end of your marriage or relationship.

The spouse who receives the asset (the transferee spouse) will realize the capital gain or loss, when they dispose of the asset at a later stage. The cost base of such an asset is thus transferred to the transferee spouse.

The transferor spouse will therefore not take the possible capital gain or loss into account. The cost base of the asset is transferred to the transferee spouse.

This rollover applies automatically if your marriage ended on or after 20 September 1985, and:

  • You transfer an asset (or a share of an asset) to your spouse
  • You receive an asset (or a share of an asset) from your spouse
  • A company or trustee of a trust transfers an asset to you or your spouse

Neither party can choose whether this applies or not.

Definitions

 Asset includes a share of, or an interest in, a jointly owned asset.

Spouse includes your former spouse.

Transfer of an asset means transferring ownership of an asset to the transferee spouse. This includes “creating” an asset for their benefit (the right to use property would be an example)

Transferee spouse refers to the spouse who receives the asset.

Transferor spouse refers to the spouse (or a company or the trustee of a trust) who transfers the asset to the transferee spouse.

Conditions for the marriage or relationship breakdown rollover

This automatic rollover of capital gains tax will apply, if the CGT event happened as a result of:

  • A court order
  • A court order made by consent under the Family Law Act 1975
  • A court order made under a similar law of a foreign country
  • A court order under a state, territory or foreign law relating to the breakdown of the relationship between spouses

A CGT event that occurred after 12 December 2006, is also subject to the rollover, if the event happened because of one of the following:

  • A binding financial agreement under section 90G of the Family Law Act 1975, or a corresponding written agreement that is binding because of a corresponding foreign law.
  • An arbitral award made after a process of arbitration in terms of Section 13H of the Family Law Act 1975, or a similar award under a corresponding state, territory or foreign law.
  • A written agreement that is binding (because of an applicable state, territory or foreign law), and a court is prevented from making an order relating to matters to which the agreement applies, or to make an order that is inconsistent with the terms of such agreement, regarding those matters, unless the agreement is set aside or changed. The following agreements qualify as ‘binding agreements’:
  • A domestic relationship agreement or termination agreement that complies with subsection 47(1) of the New South Wales Property (Relationships) Act 1984, or with subsection 33(1) of the Australian Capital Territory’s Domestic Relationships Act 1994
  • A recognised agreement in terms of the Queensland Property Law Act 1974
  • A cohabitation agreement that is a certified agreement within the meaning of the South Australian’s Domestic Partner Property Act 1996, or a cohabitation agreement or separation agreement that complies with subsection 45(2) of the Northern Territory’s De Facto Relationships Act
  • A personal relationship agreement or separation agreement that complies with subsection 62(1) of the Tasmanian Relationships Act 2003.
  • A financial agreement in terms of subsection 205ZS(1) of the Western Australian Family Court Act 1997
  • A relationship agreement that complies with subsections 59(1) and (2) of the Victorian Relationships Act 2008 (which came into effect on 1 December 2008).

The rollover also applies (since 1 March 2009) to CGT events that resulted from binding financial agreements between de facto couples, or corresponding written agreements that are binding in terms of foreign laws. See section 90UJ of the Family Law 1975. The marriage or relationship breakdown rollover is also applicable to same sex couples since 1 July 2009.

Capital Gains Tax events that apply to marriage or relationship breakdown rollover

The rollover of CGT will apply when assets are transferred as a result of a court order, agreement or award. It is referred to as CGT events. For the rollover to apply, one of the following events must occur. The transferor:

  • Transfers ownership of the asset to the transferee spouse, or
  • Concludes an agreement which transfers the right to use and enjoy the asset to the transferee spouse, and ownership of the asset will, or may, transfer to the transferee spouse at the end of the agreement.

Important: Rollover will not happen if ownership of the asset does not pass to the transferee spouse at the end of the agreement.

  • Creates a contractual, or other, right in favour of the transferee spouse, or
  • Grants an option to the transferee spouse, or renews or extends, an option granted previously to them , or
  • Grants the transferee spouse a right to receive income from activities relating to a prospecting or mining entitlement (or an interest in one), owned by the transferor spouse, or
  • Is a lessor and grants, renews or extends a lease to the transferee spouse.

There is no rollover for the transfer of trading stock.

Timing of the CGT event

It is important to establish when the CGT events occur. Certain changes to the rollover rules only apply after a certain date.

Establishing timing:

  • When an asset is transferred under contract, the CGT event happens upon entering into the contract. The time at which the contract takes effect depends on the terms and conditions set out in the contract, and whether it meets all the requirements set out in the applicable legislation.
  • A binding financial agreement may be a contract. For a binding financial agreement to take effect, a separation declaration in terms of section 90DA of the Family Law Act 1975, must be made before the agreement can take effect.
  • A binding agreement used by a marriage and relationship breakdown couple may also be a contract.

In the absence of a contract, the CGT event occurs when the change of ownership occurs.

When assets are transferred under court order, or arbitral award, the CGT event will only take place when the asset is transferred under such order or award. It is not a contractual transfer.

Take note: If an asset is transferred in terms of an agreement referred to as a CGT Event B1, the event happens when use of the asset transfers to the transferee spouse.

Separating couples can avoid costly and drawn out court processes, by entering into binding financial agreements, or settling financial and property matters by using arbitration.

Agreements that do not require court intervention

If the transfer of assets occur as a result of a binding financial agreement or a binding agreement used by separating couples, rollover will only apply if at the time of the transfer:

  • The spouses are separated
  • There is no reasonable possibility of a reconciliation
  • The transfer occurred due to reasons directly connected to the breakdown of the marriage or relationship.

If, for example, the couple agreed before the breakdown that the particular property was to be transferred from one spouse to the other, for reasons not related to the breakdown, the rollover will not apply. It was not directly connected to the breakdown. The rollover will also not apply if the agreement deals with the transfer of non-specific property, the property is not transferred for a considerable time after the agreement and circumstances suggest that the transfer was not directly connected to the breakdown.

Consequences of rollover applying

If YOU transfer the asset, rollover means:

  • You ignore any capital gain or loss for assets acquired before 20 September 1985
  • If the asset was acquired on or after 20 September 1985, the rollover ensures that you ignore any capital gains or loss made from the CGT event that involves you and the transferee spouse.
  • If the asset is transferred TO YOU, again you need to consider the date the asset was acquired by the transferor:

Assets acquired before 20 September 1985

If the transferor acquired the CGT asset before this date, and it was transferred to you as a result of the breakdown of your marriage or relationship, you are also deemed to have acquired the asset before 20 September 1985. Asset includes a share of a jointly owned asset.          

Take note – if you make a major capital improvement to that asset after 20 September 1985, or if another CGT event occurs to that asset, you may be liable for CGT when you dispose of that asset.

Assets acquired on or after 20 September 1985

If you receive the CGT asset (or a share of a jointly owned asset) and a marriage or relationship rollover applies, you are deemed to have acquired the asset at the time it was transferred to you.

Consequences of rollover not applying

Marriage or relationship breakdown rollover does not apply when you and your spouse divide the assets by way of a private or informal agreement. In such a case any capital gain or loss resulting from the transfer of the asset must be taken into account when completing your tax return for that year. The spouse to whom the asset is transferred is deemed to have acquired the asset at the time of the transfer.

Take note: Special rules may apply if the spouse receiving the property does not pay anything, or if the amount paid is not the market value of the property. In such cases the transferee is deemed to have paid the market value and the transferor is deemed to have received the market value of the property, if the parties were not dealing with each other at arm’s length.

You are only deemed to have dealt with each other at arm’s length, if both act independently, and neither exercises influence or control over the other spouse in connection with the transaction. To determine whether parties dealt at arm’s length, the nature of their relationship will be considered, as well as the quality of the bargaining between them.

Calculating your capital gain or loss

CGT only applies to assets acquired on or after 20 September 1985.

In order to determine whether there has been a capital gain or loss, you must determine the cost base and the proceeds. On disposal, if the proceeds are less than the reduced cost base, the difference is a capital loss. If the proceeds are more than the cost base, it is a capital gain.

The cost base (and reduced cost base) at the time of the transfer of the asset for you and your spouse will be the same. Any costs, such as conveyance cost and stamp duties, incurred by you or your spouse (the previous owner) in transferring the asset on the breakdown of marriage relationship, will be taken into account to determine the cost base.

Timing is important.

If you acquired the asset from your spouse before 11:45 on 21 September 1999, the value of a gain or loss can be indexed. Indexation only applies if you and your spouse owned the asset for more than 1 year. The cost is then calculated based on the consumer price index (CPI), taking into account the changing value of the dollar.

If you acquire the asset after 11:45 on 21 September 1999, you cannot use the indexation method. If you and your spouse owned the asset for more than 1 year, you can use the discount method to receive a 50% discount on the capital gain for individual taxpayers.

If the assets were acquired between 20 September 1985 and 20 September 1999, you have an option of using indexation (up to the CPI as at 30 September 1999) or using the discount method.

Calculating Capital Gains Tax or GTC can be a very complex process. You may need to consult a lawyer or a tax specialist.

Treatment of certain assets

Collectables and personal use items

Collectables, like works of art, and assets for personal use remain such assets when they are transferred from one spouse to another in a marriage or relationship breakdown rollover.

Cash settlements

If the spouses were separated and there was no reasonable possibility of them resuming cohabitation, no CGT liability will arise at the ending of the spouses’ rights, which gave rise to the payment of a cash settlement.

Real estate that was the main residence

  • CGT event occurred on or before 12 December 2006

You are entitled to a CGT exemption when you dispose of a dwelling that was your main residence, after it was transferred to you. The exemption applies if your spouse acquired the property on or after 20 September 1985 and it was transferred to you as a result of a CGT event that occurred on or before 12 December 2006, and the marriage or relationship breakdown rollover applies. You will be exempt from CGT for the period that the dwelling was your main residence after the transfer.

You may only qualify for a partial exemption if:

  • It was your main residence for only a part of the period, after transfer.
  • You derived assessable income from its use
  • The land on which the dwelling is situated is more than two hectares.

It is important to keep proper records of transactions relating to the dwelling.

If you don’t have it, request records from your spouse stating how and when the property (or an interest in it) was acquired and a record of the cost base when it was transferred to you.

  • CGT event occurred after 12 December 2006

If the transfer to you occurred as a result of a CGT event that happened after 12 December 2006, and the marriage or relationship breakdown rollover applies, the way in which both of you used the dwelling during the time of your combined ownership, will be taken into account, when deciding whether you qualify for the main residence exemption.

You will qualify for a full exemption from CGT if:

  • The dwelling was used as your main residence for the full period that your spouse owned the dwelling, and it was not used to produce assessable income.
  • You used the dwelling as your main residence for the period you owned it and did not use the dwelling to produce assessable income.

The land on which the dwelling is situated must be less than two hectares to be exempt from CGT when you dispose of the dwelling.

If the above conditions relating to use of the dwelling are not met, you may still qualify for a partial exemption. You can use a set formula to work out the taxable portion of the capital gain. Records (or request copies from your spouse) indicating the following must be kept:

  • When and how the dwelling was acquired,
  • The cost base when transferred to you,
  • The periods it was used to produce assessable income, and the portion of the dwelling that was used to produce such income, and
  • The period it was used as the main residence.

“Home first used to produce income” rule

“The home first used to produce income” rule may apply if a dwelling was first used as a main residence from its acquisition and then is later used to produce income. It will only apply if the first income producing use was after 20 August 1996 and the dwelling qualifies for full main residence exemption immediately prior to such use.

The way you and your spouse used the dwelling during the period of combined ownership will be taken into account when applying the CGT main residence exemption, if the dwelling is transferred to you under a CGT event that occurred 

after 12 December 2006, and where the marriage and relationship rollover applies to the transfer.

To determine the market value of the dwelling, you are deemed to have acquired the dwelling at the time it is first used to produce income.

  • Choices made under the CGT main residence rules

In certain circumstances, where the rollover does not apply, you may choose to treat a dwelling as your main residence for a specific period, even if you are yet to live in it, or you no longer live in it.

If, for example, the transferor spouse and the transferee spouse had different main residences before they separated, they need to choose to regard one of the dwellings as the main residence for both of them for the period, or, choose the different dwellings as their main residences and obtain partial exemption on both.

The way the person completes his or hers tax return for the income year, is usually a sufficient indication of the choice made. The choice whether to apply for the full or partial exemption, should be made by the day the person lodges their tax return.

A statement signed by the transferor spouse, and given to the transferee spouse at the time of the property settlement, serves as evidence of the choice made. The transferee spouse can use that statement as evidence to support the calculation of capital gain or loss at a later stage when they dispose of the dwelling.

Once a choice is made, it is binding and cannot be changed. Note that the ATO has the authority to allow further time for a choice to be made (after the time it is required to be made under the law), in appropriate cases. But once the choice is made, it is final.

Dwellings transferred from a company or the trustee of a trust after marriage or relationship breakdown

You cannot get the main residence exemption for any period that the dwelling was owned by a company or a trustee – even if you lived in the dwelling during that time. You are treated as if you owned the dwelling for the period the company or trustee owned it. If the dwelling is transferred to you from the company or trustee of a trust, and the marriage and relationship breakdown rollover applies, you will only qualify for the exemption for the period after transfer, when you used it as your main residence.

Note: Dwelling includes an interest in a dwelling.

Rights that are created

In certain instances, you will acquire certain assets, or rights, where your spouse may “create” such rights in your favour. For the purposes of CGT, you will be deemed to have acquired such a right or asset at the time stipulated by the CGT event. Examples of such rights are:

  • Contractual rights
  • An option
  • A right to income from mining
  • Granting a lease

If the event creating the asset is a contract, the right (asset) will be acquired upon entering the contract. If there is no contract, the time you acquired the asset will be the time the right is created.

Superannuation interests

There are provisions in place to allow spouses in a small super fund to separate their super arrangements on the breakdown of the marriage or relationship without incurring any CGT liability.

Payment splits

The CGT rollover may apply if a payment split applies to an interest in a small superannuation fund, on the breakdown of a relationship between spouses, and a CGT asset is transferred from one small superannuation fund to another complying fund.

Transfer of own interest in a small superannuation fund

If both spouses hold an interest in the same small superannuation fund before the transfer, the trustee may qualify for CGT rollover when the trustee transfers an asset representing the entire personal interest of one of the spouses (or former spouses) to the trustee of another complying superannuation fund. The transfer must be for the benefit of that spouse.

A small superannuation fund is one that is a complying fund and has fewer than five members.

Assets transferred by a company

When a company or a trustee of a trust transfers a CGT asset to a spouse, the relevant cost base (or reduced cost base) must be adjusted to reflect a reduction in market value, as a result of the transfer of the CGT asset. Interests in the company may be shares in the company, or indirect interests in the shares. It may be units in a unit trust and other interests in the trust.

Note: If the transferee spouse is a shareholder or an associate of a shareholder, the transfer of the asset from the company may amount to a dividend payment.

There are special rules for calculating capital gain or capital loss when the CGT event relates to situations where the transferor is a controlled foreign corporation or foreign trust.

Summary

Transferring of assets after a marriage or relationship breakdown can be a complex issue. When assets are transferred between spouses under a court-approved arrangement, certain rollover provisions automatically apply. Transfers made under private arrangements are not subject to rollover. The normal CGT rules apply. Calculating Capital Gains Tax can be a very complex process. You may need to consult a lawyer or a tax specialist.


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