Deceased estates and the small business CGT concessions

Where the assets of a deceased estate include assets used in a small business (or shares in companies or interests in trusts that carry on a small business), legal personal representatives should act quickly to clarify the tax position in respect of these assets. Failure to do so can compromise access to the small business CGT concessions and result in a tax bill that could have been avoided had timely tax advice been obtained.

The small business CGT concessions (SBCs) are contained in Division 152 of the Income Tax Assessment Act 1997 (Cth) (ITAA). Broadly, these rules allow a taxpayer meeting certain eligibility criteria to reduce, disregard or defer a capital gain that would otherwise arise where a CGT event happens in respect of a CGT asset used in a small business (or shares in companies or interests in trusts that carry on a small business), for example, where the asset is sold.

The four SBCs are as follows:

• the 15-year exemption;
• the 50% active asset reduction;
• the retirement exemption; and
• the small business roll-over.

Where the individual who owned the CGT asset has died, section 152-80 of the ITAA97 broadly allows a LPR, beneficiary or a trustee of a testamentary trust to stand in the shoes of the deceased and access the SBCs if the deceased would have been able to access the SBCs to reduce the capital gain if the CGT event had happened immediately before their death.  This is provided that the CGT event occurs (e.g. sale) occurs within two years of the deceased’s death.

In what circumstances would the deceased have been able to access the SBCs?

The deceased would have been entitled to access the SBCs if the CGT event happened in respect of the CGT asset immediately before their death if:

• the deceased would have met the ‘basic conditions’ for accessing the SBCs (common to all four SBCs); and
• if it is sought to access the 15-year exemption, the retirement exemption or the small business roll-over, the deceased would have met the additional conditions to access those concessions.

In terms of additional conditions for the 15-year exemption and retirement exemption, these are slightly modified by operation of subsection 152-80(2), specifically:

• in respect of the 15-year exemption: the requirement for the CGT event to happen in connection with the individual’s retirement (if the individual is 55 years of age or over) is dispensed with; and
• in respect of the retirement exemption: if the individual is under 55 years of age, there is no requirement to contribute the CGT exempt amount to a super fund.

What if the asset was acquired by the deceased prior to 20 September 1985?

If the asset was acquired prior to 20 September 1985, it would have been a pre-CGT asset in the hands of the deceased. As one of the basic conditions for relief under the SBCs is that the CGT event would have (apart from the operation of the SBCs) resulted in a capital gain, the basic conditions would not have been satisfied had the CGT event happened immediately before the deceased’s death because a capital gain on a pre-CGT asset is disregarded. This means that the LPR, beneficiary or trustee (as the case may be) will not be able to rely on section 152-80 to access the SBCs. Put more simply, as the deceased would not have been able to access the SBCs, the LPR, beneficiary or trustee would not be able to access the SBCs by standing in the shoes of the deceased.

Does this mean it’s all doom and gloom for an LPR, beneficiary or trustee acquiring an asset that was a pre-CGT asset in the hands of the deceased?

No, it is not all doom and gloom for the LPR, beneficiary or trustee for the following reasons:

• the LPR, beneficiary or trustee would generally obtain a cost base in the asset equal to the market value of the asset as at the deceased’s date of death, thereby sheltering from tax any capital gain that has accrued on the asset until the date of death (though any capital gains accruing from that point onwards to the date of the CGT event will be taxed);
• the LPR, beneficiary or trustee may be able to access the general 50% CGT discount to halve the capital gain if they hold the asset for at least 12 months from the deceased’s date of death; and
• the LPR, beneficiary or trustee may be entitled to access the small business CGT concessions in their own right (rather than by standing in the shoes of the deceased) to reduce the capital gain arising from the CGT event.

The importance of an LPR, beneficiary or trustee being able to access the SBCs in their own right will generally increase with the length of time that passes between the deceased’s date of death and the date of the CGT event. This is particularly so with respect to farmland, as the growing population and potential rezoning changes in the intervening period can result in a significant increase to the market value of the property after the deceased’s death. The capital gain accruing after the deceased’s date of death can therefore be significant where the asset is not disposed within a short space of time of the deceased’s death.

What is the relevant date for the purposes of the two-year time limit?

The date for the purposes of section 152-80 is the date of the CGT event. Where the CGT event arises from the sale of the CGT asset, the relevant CGT event is CGT event A1. If the sale occurs under contract, this CGT event occurs when the contract is entered into rather than at settlement. If there is no contract, the event occurs when the change of ownership of the asset occurs.

What happens if the CGT event happens more than two years after the deceased’s death?

The Commissioner has a discretion to extend the two-year time limit under subsection 152-80(3) of the ITAA97. However, the discretion is just that – a discretion, the exercise of which is not guaranteed. It is therefore important for the CGT event to occur within the two years if this is possible.

If the two-year limit is exceeded, an application for a private ruling will need to be made to the Commissioner asking the Commissioner to rule on whether he will exercise his discretion under subsection 152-80(3) to extend the time limit. Based on existing private rulings where the discretion has been exercised in favour of the taxpayer, factors that the Commissioner will take into account when deciding whether or not to exercise the discretion include the length of the delay and the reasons for the delay e.g.:

• the impact of natural disasters (e.g. drought, fire, flood);
• the impact of the COVID-19 pandemic;
• whether negotiations with a potential purchaser during the two-year timeframe fell through; and
• whether a Part IV claim was brought against the estate.

What if a private ruling application is not made to the Commissioner to extend the two-year time limit or the Commissioner rules that the discretion will not be exercised?

The LPR, beneficiary or trustee (as the case may be) may be entitled to access the small business CGT concessions in their own right rather than relying on section 152-80 and standing in the shoes of the deceased to access the concessions. However, the tax outcomes may be different from those that would have been achieved had the SBCs been accessed under section 152-80.

Key takeaways

The SBCs as they apply to deceased estates is complex.

Where assets used in a small business (or shares in companies or interests in trusts that carry on a small business) are acquired by an LPR, beneficiary or trustee of a testamentary trust, those parties may be able to access the SBCs to reduce a capital gain arising from a CGT event in respect of that asset by standing in the shoes of the deceased or in their own right.

As the first stage of the estate administration process involves the asset being acquired by the LPR, and given the two-year time limit under section 152-80, it is incumbent on an LPR to act quickly to clarify the tax position in respect of these assets. Failure to do so can compromise access to the SBCs and result in a tax bill that could have been avoided had timely tax advice been obtained.