Mary and Mark were both heavily involved in the share market and over the years generated a large share portfolio and bought several investment properties. They have come to you for legal advice often over the years and you have mentioned each time that they need to do something about their estate planning. They have three children, Tom, Sarah and Harry.
Mark recently passed away without leaving a will. The administration process took its toll on Mary and she decided that there was no way she would put her children through this. Mary spoke with her children about having a will prepared and discussed with them who wanted what upon her death. Mary then comes to see you with her list of assets and proposed distribution.

Mary instructs as follows: her estate consists of a share portfolio of $500,000 which is to go to Tom, two investment units to each of Sarah and Harry and the residue, being approximately $400,000 cash to Sarah and Harry. Mary tells you that Sarah and Harry were to receive much more than Tom because she and Mark had financed Tom’s first home, which Tom had since sold. Mary further tells you that Tom has moved to America and bought a house there to be with his American girlfriend and their new baby, and that she doubts he will come back to Australia to live any time soon. Tom’s found himself a good paying job and said he didn’t need any cash, he preferred the shares and would just keep them.

You briefly wonder whether CGT would be an issue in relation to the shares or investment units however you remember that under s128-10 of the Income Tax Assessment Act 1997 (Cth) (ITAA97) any capital gain arising from a CGT event resulting from death is disregarded. Under s 128-15(2) the assets of the deceased pass to the legal personal representative at the date of death and s128-15(3) operates to disregard any capital gain or loss made by the legal personal representative when the asset passes to the beneficiary; so you don’t give it another thought and prepare the will accordingly.

Several years later Mary dies and the executors, Sarah and Harry, come to see you and the estate is distributed relatively quickly.

The sting
Two weeks later you receive an email from Harry’s accountant who is finalising the tax return on the estate. The accountant advises that there is a rather large tax liability due to the CGT on the shares. You wonder what he is on about and continue reading the email when you come across the words CGT event K3. Feeling slightly uneasy, you start looking through the ITAA97 and come across s104-215 which operates to tax a capital gain on an asset passing under a will from a deceased person to a non-resident beneficiary (the section also applies to assets passing to an exempt entity and complying superannuation funds). CGT event K3 only applies to non-residents where the asset is not taxable Australian property and where it is post CGT i.e. after 20 September 1985. The only assets to which the event will not apply are essentially Australian real property, business assets or cash (s855-15 ITAA97 lists 5 categories).

You reluctantly pick up the telephone and give Sarah and Harry the bad news. The result of CGT event K3 is a tax liability which is worn by the residuary beneficiaries – Sarah and Harry, who are not happy.

There are certain strategies to deal with the impact of CGT event K3 including checking tax residency of beneficiaries, whether assets are pre or post CGT, as well as the wishes of the beneficiaries. You could also consider including a provision in the will for potential non resident beneficiaries to compensate the estate for any tax arising as a result of CGT event K3.

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

By Michaela Schmidt