Work has been a bit quiet, so you are pleased to receive a sales advice that your client, Percy, has agreed to buy an investment property for $2.5 million. Shortly afterwards, you receive a telephone call from Percy’s accountant, Penelope, who tells you that the purchase will be in the name of Periwinkle Pty Limited as trustee of the Percy Family Trust.

Percy also telephones to stress the importance of acting quickly. Other people were after the property too, and he fears that if he doesn’t sign up quickly he will lose the deal.

You telephone the vendor’s solicitor to tell him the name of the purchaser. The contract arrives, it is all fine, and is quickly exchanged. Percy is very satisfied.

Shortly afterwards, you receive another call from Percy raising a query about the Trust. He reminds you that his first marriage failed and he wants to make sure Patricia, his second wife, is a potential beneficiary.

You check the deed and see that the potential beneficiaries include ‘the spouse of Percy’ which fits the bill. However, you also notice the definition of the vesting date for the trust includes not only 21 years after the death of the last survivor of King George VI alive when the deed was signed but also the 40th anniversary of its signing – a little over six months away.

You check further to see there is a pretty broad amendment clause with a few qualifications, including that any amendment must comply with the rule against perpetuities.

You call Percy to tell him of the problem but that you can fix it by changing the perpetuity period to the standard 80 years that now applies. The deed being dated 1976 means you can extend it to 2056.

You duly prepare an amending deed, have it executed, then put it back in the strong room with a sigh of relief.

The stings

Your amendment didn’t work. You forgot to check the Perpetuities Act 1984 which introduced the 80-year perpetuity period. If you did, you would have seen that it only applies to trusts created on or after 31 October 1984.

Because the Percy Family Trust was created in 1976, the old rule against perpetuities still applies – a life in being when the trust was created, plus 21 years. Under the old rule a trust deed specifying a vesting date 80 years in the future was simply void.

You then realise that what you should have done is simply delete the forty-year vesting option. And you have to tell Percy.

It gets worse.

The default beneficiaries specified in the deed are Percy’s surviving children, of which he has just one – Peter.

The Percy Family Trust having vested (because your amendment deed didn’t work) means that Periwinkle Pty Limited holds the property in the Trust bought in 1990, as well as the current property, in trust for Peter.

Percy is not happy about that. He insists the properties be transferred to him because, in the long term Percy wants Patricia to have the 1990 property and, while he is okay with Peter having the current property after his death, Percy wants to keep the benefit of it during his lifetime.  You say, ‘Fine’, but stamp duty will be an issue, to which Percy responds ominously ‘Shouldn’t you have thought of that?’

It gets worse still.

Percy has unloaded his unhappiness with his accountant, Penelope. Soon after, you receive a telephone call from her.

‘You have really stuffed up,’ she says, ‘as I have explained to Percy. It’s not just a stamp duty issue – it’s also capital gains tax. Peter is going to be hit with one heck of a tax bill on that 1990 property.’

CGT event E5 happens when a beneficiary becomes ‘absolutely entitled’ to a CGT asset. Both the trustee and beneficiary are taken to make a capital gain, but the beneficiary’s capital gain is disregarded – under that section – where nothing was paid by the beneficiary for the interest, as is the case with Peter.

However, in ATO ID 2013/33 the ATO indicates that a beneficiary is ‘specifically entitled’ to a capital gain when CGT event E5 happens and the beneficiary becomes ‘absolutely entitled’ to an asset of the trust.

The ATO’s view in TR 2004/D25 is that if a beneficiary has the right to call for a transfer to herself or to someone else  – as per the rule in Saunders v Vautier – she is ‘absolutely entitled’ to the asset for the purpose of the CGT provisions.

This is relevant because under Income Tax Assessment Act 1997 ss 115-227 a beneficiary has a share of a capital gain if they are specifically entitled to it. And under section 102-5 a person’s assessable income includes their net capital gains.

You can’t help thinking it must be time to take that long overseas holiday.

Snap shot

  1. Whenever you act on the purchase by a trust of any nature – always check the vesting date.
  2. Remember the old rule against perpetuities still applies to pre-1984 deeds.
  3. When amending a trust deed, be meticulous in following the amendment clause.

This article is general information only and should not be relied on without obtaining further specific information.

By Jim Main