The Assistant Treasurer released exposure draft legislation and explanatory material on 8 March 2013 to remove the CGT discount for temporary and non-residents.  The proposed amendments to Subdivision 115-B of the Income Tax Assessment Act 1997 (1997 Act) will implement an announcement contained in last year's Federal budget of 8 May 2012.

While the policy is targeted towards capital gains made from taxable Australian property (the Assistant Treasurer said “the [50% CGT] discount is not necessary to attract investment from non-residents into these assets, which are immobile”), the draft legislation has broad application and can apply to new, former or current Australian residents.

Division 855 of the 1997 Act generally allows non-resident individuals to disregard capital gains or losses unless it is in respect of taxable Australian property (TAP).  TAP includes real property situated in Australia, certain mining assets and indirect interests in these assets such as holdings of least 10% in a land rich entity. A ‘land rich’ entity is one whose market value is predominantly (more than 50%) attributable to TAP.

The rules in the exposure draft will apply to any taxpayer who is or was a non-resident of Australia while they or a trust held the CGT asset.  This means the measures will apply to:

  • Capital gains from TAP and non-TAP assets streamed to non-resident beneficiaries of resident discretionary trusts – such as adult children of the trust’s controller who live and work overseas, or parents and siblings of the trust’s controller who reside overseas.  It can also apply to capital gains streamed to resident beneficiaries if they were non-resident at any time after 8 May 2012 while the trust held the asset;

  • Capital gains from TAP assets held personally if the taxpayer was a non-resident at any time after 8 May 2012 while they held the asset – including gains from an Australian investment property where the Australian citizen taxpayer worked overseas (and was a non-resident, after 8 May 2012) during the period of ownership;

  • Capital gains from non-TAP assets such as shares, units, goodwill, where these assets are deemed to become TAP assets under section 104-165 of the 1997 Act when the Australian resident taxpayer becomes a non-resident, for example:

    • an Australian citizen who chooses to work overseas. When they cease to be a resident they choose to apply sections 104-165 and ignore CGT event I1.  Their non-TAP assets are deemed to be TAP assets from this time and they will have reduced access to the CGT discount even if they resume residency prior to sale; or

    • a foreign executive who works in Australia for five years acquiring shares under an employee share scheme.  When they return home permanently and elect to apply sections 104-165 at that time to disregard CGT event I1, the shares are deemed to be TAP assets and the CGT discount must be recalculated on their eventual sale.

  • Non-residents who want to acquire TAP assets in Australia as an investment or to allow their family to use the property should consider who will hold the asset – it may be preferable for a company or family member based in Australia to hold the asset.

Affected taxpayers who were non-resident any time after 8 May 2012 must recalculate their entitlement to the CGT discount, which is effectively prorated according the number of days the taxpayer was a resident of Australia while the asset was held.  While the theory is easily understood, its application is not. There are give different tests that could apply, depending on your circumstances, which make calculating the new discount percentage an arduous task. 

The purpose for a complicated testing process is twofold:

  • preserve the full 50% CGT discount for so much of the gain that accrued up to 8 May 2012; and 

  • provide an integrity measure to ensure non-residents don’t become residents immediately prior to sale to access the full 50% discount.

Taxpayers will require a market valuation of the CGT asset at 8 May 2012 if they want to preserve access to the full 50% CGT discount for the gain that arose up until this date.

These changes will not affect the operation of the main residence exemption in Subdivision 118-B of the 1997 Act.

We believe a more straightforward alternative would be to allow the full 50% CGT discount where the CGT asset was acquired on or before 8 May 2012, regardless of when it is sold.  Similarly, the compliance burden could be simplified by counting years as a non-resident rather than days.  We also believe the Government should reconsider whether it is within the original policy intent to extend these changes to deemed TAP assets.  A key consideration is the compliance burden and latent nature of the rules which may not be well understood.

Key points for advisers

Advisers should consider the proposed rules when considering the following scenarios:

  • the residency status of beneficiaries of discretionary trusts where a trust makes a capital gain from TAP or non-TAP assets;

  • the appropriate person or entity to hold TAP assets where a client is a non-resident;

  • advising Australians who are considering working overseas – in respect of their TAP and non-TAP assets;

  • advising foreign executives who are working in and are a resident of Australia;

  • advising clients who were non-resident at 8 May 2012 to consider obtaining a market valuation of their TAP and non-TAP assets as at that date; and

  • advising affected clients to keep a diary of their days as a resident and non-resident.