Top Tax & Accounting Q&As - April 2016
by Knowledge Shop Editor, on 21/04/16 10:29
This month's top tax & accounting Q&As live from the Knowledge Shop Help Desk:
- Unpaid trust distributions and Division 7A
- Division 7A loans and deceased estates
- Cost base of shares in a deceased estate
- Main residence rules for an inherited property
- How do you treat income received through crowdfunding?
1. Unpaid trust distributions and Division 7A
We have a client who has a history of substantial unpaid present entitlements (UPEs), some pre 2009 and some post 2009.
The 2014 balance sheet shows a number of debit loans to related entities. I have asked the tax agent to show how these were either repaid or put on Division 7A terms prior to the lodgement of the 2014 return.
If this cannot be shown, am I correct to say that that will trigger all the UPEs post and pre 2009 as a breach of Division 7A?
If this is the case then all the UPE balance have to be put on a Division 7A terms with the first repayment due before 30 June 15. Or do I have it wrong?
1. You would need to look at the post-2009 UPEs first to see whether these will be treated as Division 7A loans in their own right. At a high level, UPEs that are owed by a discretionary trust to a related company will be treated as loans for Division 7A purposes if:
- Any of the shareholders of the company are potential beneficiaries of the trust; and
- The UPE has not been placed under a complying sub-trust arrangement.
If the post-2009 UPEs are treated as Division 7A loans in their own right then this would generally trigger a deemed dividend to the trust unless the amount is paid in full or placed under a complying Division 7A loan agreement by the company’s lodgement day (i.e. earlier of the due date and actual lodgement date) for the income year after the UPE arose (e.g. if the UPE arose on 30 June 2013, the relevant date would be the lodgement day for the company’s 2014 tax return).
Any post-2009 UPEs that are treated as Division 7A loans will not be treated as UPEs for Division 7A purposes. This means that loans made by the trust while these amounts are outstanding would not necessarily trigger Division 7A.
2. It would then be necessary to look at the pre-2009 UPEs (assuming the parties are not treating these as loans).
Subdivision EA of Division 7A will generally apply to trigger a deemed dividend if there are any pre-2009 UPEs owing from a trust to a related company and in the same year or a later year, the trust makes a payment or loan or forgives a debt owed by a shareholder of the company (or an associate of a shareholder).
However, a deemed dividend should not be triggered if there is a pre-2009 UPE and the trust makes a loan to a related party as long as the loan is either repaid or placed under a complying Division 7A loan agreement by the earlier of the due date and actual lodgement date of the trust’s tax return for the year in which the loan was made.
The other option is to arrange for all prior year UPEs to be repaid or converted to loans and placed under complying Division 7A loan agreements.
2. Division 7A loans and deceased estates
A private company had Division 7A loans in place for both the shareholders - a couple. The husband passed away during the 2012 financial year and the estate then transferred all the estate assets and liability to his wife who now has all of the shares.
Does the loan to the husband need to meet the minimum repayment requirement?
Does the wife who is the executor of the estate need to make repayments to the loan on behalf of the estate?
ATO ID 2002/741 indicates that if the executor of the estate or beneficiary of the estate fails to make the required minimum repayments under an existing Division 7A loan agreement for a loan that was originally made to the deceased husband then Division 7A should not apply. This is because section 109E only applies to trigger a deemed dividend for the individual / entity who received the original loan from the company.
However, note that Division 7A could still apply to this loan if it is not repaid by the wife and is waived or forgiven by the company. Refer to ATO ID 2012/77 at the link below which deals with this.
3. Cost base of shares in a deceased estate
We have an estate we’re looking after and the executor has asked a question regarding the CGT implications on some of the shares held by the estate prior to them making a decision on whether to liquidate them or transfer ownership.
The deceased in question passed away in early 2016. Some shares were acquired by the deceased from the estate of his brother in 2013. We know the value of the shares on that date and these shares were held without any sale until the day he passed away. The shares were previously acquired by the deceased’s brother over a period of employment with an Australian company, some were pre-CGT and some were acquired over a period of time between 1985 and 1999. Cost base at this stage is unknown for the deceased’s brother for each packet of shares acquired.
The executor wants to know what the cost base is for these shares if either sold or transferred.
Does the original cost base when the brother acquired each packet of these shares carry forward over 2 estates? Or is the cost base for these shares to be taken to be the market value of the shares on the day they were transferred from the brother’s estate to the deceased?
I have assumed that both the client and their brother were Australian residents for tax purposes.
1. The starting point would be to determine the cost base of the shares that were inherited through the estate of the client’s brother.
- If the brother acquired some of the shares pre-CGT, the cost base of these shares in the hands of your client would be based on their market value at the date of the brother’s death.
- If the brother acquired some of the shares post-CGT, the cost base of these shares in the hands of your client would be based on the cost base of the shares in the hands of the brother at the time of their death (i.e. generally based on original purchase price).
Refer to section 128-15 ITAA 1997.
2. When it comes to the cost base of the shares in the hands of your client’s estate (and for the beneficiaries of your client’s estate), these will all be treated as post-CGT shares. This means that the cost base of these shares in the hands of the client’s estate would be based on the cost base of the shares in the hands of the client at the time of their death (see point 1 above).
4. Main residence rules for an inherited property
A taxpayer inherited a property from his late parents which was their Principal home from purchase date in 1987. The probate has issued and the property transferred to him. The two year period is now coming up. If he retains the property, is the capital gain apportioned for the period that the property was used as a home?
If the property is not sold within 2 years of the date of death and the client does not apply to the Commissioner for an extension of the 2 year period then this may impact on the CGT treatment of the property when it is sold, although this would depend on the way the property is used.
Under section 118-195 ITAA 1997, a full exemption can apply on sale of a dwelling inherited from a deceased individual if the property was the deceased’s main residence just before their death and was not being used to produce income at that time and either:
- The property is sold within 2 years of the date of death (the Commissioner can extend this period); or
- The property has been the main residence of the deceased’s spouse, someone granted a right to live in the property under the terms of the deceased’s will or the individual beneficiary who is selling the property from the date of death until the property is sold.
If a full exemption cannot apply then a partial exemption can still potentially apply under section 118-200.
When calculating the capital gain or loss for the client, the cost base should be based on the market value of the property at the date of death if the property was the deceased’s main residence just before their death and was not being used to produce income at that time (refer to section 128-15).
The partial exemption rules in section 118-200 basically apportion the capital gain based on the number of days that the property was not the main residence of the deceased or the beneficiary since it was acquired by the deceased. However, you can ignore any non-main residence days before the deceased’s death if the property was the deceased’s main residence just before their death and was not being used to produce income at that time.
5. How do you treat income received through crowdfunding?
We have a client who received reward based crowdfunding to create a new game. The raising of the funds was income upfront of $22,000 as pre-order for game copies. The $22,000 funding was raised at the end of 2014/2015 year and was all spent on making the project in the first few months of the 2015/2016 year. Therefore, there were no expenses in the 2015 year, just the funding received.
My query is when should the $22,000 be recorded as income, in the 2015 tax year or 2016 tax year?
It is very likely that the money received from reward based crowdfunding would be assessable to your client in the year in which the funds were received if this relates to the client’s business or income producing activities.
If the client was planning to use the funds received in the course of a business activity or project with the purpose of generating a profit then the funds received to assist with this are very likely to represent assessable income to the client.
Regardless of whether the client is using a cash or accruals method for recognising income for tax purposes, the funds should be taxable in the year they are received if the client is not required to refund the money to the contributors.
See the ATO’s guide on the tax implications of crowdfunding.