The death of a taxpayer gives rise to immediate responsibilities on the part of the executor of the deceased estate for the administration of the estate (i.e. before the assets are made available for distribution to the beneficiaries).
This is not to be confused with the taxation consequences that might arise for testamentary trusts or for transfers of assets from a deceased estate to testamentary trusts, to beneficiaries, or otherwise.
EXECUTORS AND TRUSTEES
When we say “executor” this applies equally to a “legal personal representative”. However, be careful using the word “trustee” as it is not interchangeable with the word “executor”. This was the problem in the Queensland Supreme Court decision ofMunro v Munro  QSC 61, where a binding death benefit nomination that nominated the “trustee of deceased estate” did not bind the trustees of the superannuation fund to pay the benefits to the executors. An executor does not act as a trustee, and a trust relationship only forms once the administration of the deceased estate has been completed.
However, challengingly, the definition of a “trustee” under section 6 of the Income Tax Assessment Act 1936 (Cth) (ITAA 1936) includes an executor. This has the important implication that Division 6 of Part III of ITAA 1936, which deals with the taxation of trust income generally, applies to executors of deceased estates.
PERSONAL LIABILITY OF EXECUTORS
Upon the deceased’s death, the executor effectively stands in the deceased’s shoes with respect to income tax. This means the executor must satisfy tax liabilities for any income earned by the deceased estate, which can include liability for claims against the deceased by the Commissioner for unpaid tax.
TAXATION UPON DEATH
CAPITAL GAINS TAX
Generally there is no CGT imposed when an asset of the deceased passes to the executor upon death.
GST LIABILITY UPON DEATH OF A TAXPAYER
Where the deceased was carrying on an enterprise and was registered or required to be registered for GST, the executor must cancel this registration within 21 days after the day the executor ceased to carry on the enterprise. This cancellation may result in an “increasing adjustment” (i.e. a liability for GST) for any assets of the deceased estate which gave rise to an entitlement to input tax credits.
Generally in each State and Territory, there is no duty imposed on the transfer of an asset from the deceased to the executor which occurs when that asset passes to the deceased estate upon death. The position can be more complicated for transfers to testamentary trusts, from testamentary trusts, and other transfers pursuant to options or first rights of refusals contained in the will.
TAXATION DURING THE ADMINISTRATION OF A DECEASED ESTATE
LIABILITY FOR PRIOR YEAR TAX LIABILITIES
Executors must be aware of the possibility that they will be personally liable for any further assessments of tax made in respect of the deceased in relation to a matter prior to their death.
The personal liability (if any) of executors where the deceased has outstanding tax liabilities (known or unknown) may depend on the individual circumstances and the practice and procedure of the Commissioner.
TAXATION OF THE DECEASED ESTATE DURING ADMINISTRATION
While the deceased estate is being administered (i.e. before the beneficiaries become presently entitled to income and capital), the income of the deceased estate is taxed at ordinary marginal tax rates with the benefit of the full tax-free threshold for the first three income years (or until the estate has been fully administered). Note that this is not three full years but rather three income tax years.
If the administration continues for longer than three income tax years, the tax rate imposed is subject to a discretion of the Commissioner to impose the ordinary marginal rates or the highest marginal rate. Such a discretion will usually be exercised unless the administration is unduly delayed or there is evidence of tax avoidance.
APPORTIONMENT DURING FINAL INCOME YEAR OF ADMINISTRATION
It is general practice for the ATO to accept an apportionment for the final income year of administration pursuant to Taxation Ruling IT 2622. The executor will be taxed only for the income derived up until the date the administration is completed (income from this point onwards will be taxed at the hands of the beneficiaries). Executors should clearly demonstrate when income in the relevant year was received and who the income “belongs” to (i.e. the estate or a beneficiary).
STREAMING OF INCOME DURING ADMINISTRATION
Taxation Ruling IT 2622 recognised that there can be an intermediate stage of administration for a deceased estate, which is where it becomes apparent to the executor that part of the net income of the estate will not be needed to satisfy any outstanding liabilities. During this intermediate stage it may be possible for the executor to stream income selectively to beneficiaries in order to take advantage of the favourable tax status of particular beneficiaries.
ISSUES FOR THE FUTURE
There are well known areas of need for amendment to taxation laws as they apply to death events and the administration phase of deceased estates.
Division 128 of the Income Tax Assessment Act 1997 (Cth) (which deals with CGT rollovers on death) and Division 6 of Part III of ITAA 1936 (which deals with the taxation of deceased estates, among other issues) in particular have been targeted for amendment in recent years. Many known suggested amendments were rejected recently by the Abbott Government.
Taxation of deceased estates is an area which will require:
- a careful understanding of the income tax, GST and other taxation issues that apply to the estate;
- an appreciation of the personal liabilities that may attach to an executor; and
- an understanding of the known anomalies in the taxation legislation and a possible eye for any amendments in the future, despite the current Government not wanting to address known issues with the current rules.