Private ruling: Capital gains tax - main residence exemption
Published: May 2014
Ruling period: Year ending 30 June 2014 | Year ending 30 June 2015
Date scheme commenced: 1 July 2013

Ruling: Questions and answers | 1. Are you entitled to a full main residence exemption? | No. | 2. Are you entitled to a partial main residence exemption? | Yes. | 3. Are any expenses relating to the dwelling incurred prior to the date the dwelling was first used to produce income included in the cost base? | No. | 4. Are expenses for rates, water service charges, sale costs and maintenance costs relating to the dwelling that were incurred after the dwelling was first used to produce income while the dwelling was not being used for income producing purposes included in the cost base? | Yes. | 5. Is the CGT discount method available to you? | Yes. | 6. Are you entitled to a deduction for legal expenses associated with applying for a private ruling in the income year in which you incurred the expenses? | Yes.

Relevant facts and circumstances: Your relative purchased the dwelling prior to 1985. You inherited the dwelling after 1985. You lived in the dwelling as your main residence prior to your relative's death for a number of years. You then moved out of the property and began using it for income producing purposes on a date after 20 August 1996. The dwelling was used for income producing purposes for a period of more than six years. You later moved back into the dwelling as your main residence. You sold the dwelling in the relevant income year. You have elected to treat the dwelling as your main residence for your entire ownership period. You incurred sale costs when selling the dwelling. Your incurred rates, water service charges and maintenance costs while the dwelling was not used for income producing purposes. You incurred legal costs in appointing a solicitor to apply for a private ruling on your behalf to determine your capital gains tax liabilities for the purpose of preparing your 2013-14 income tax return.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 25-5. | Income Tax Assessment Act 1997 Section 110-25. | Income Tax Assessment Act 1997 Section 110-35. | Income Tax Assessment Act 1997 Section 110-40. | Income Tax Assessment Act 1997 Section 110-45. | Income Tax Assessment Act 1997 Subdivision 115-A. | Income Tax Assessment Act 1997 Section 118-195. | Income Tax Assessment Act 1997 Section 118-145. | Income Tax Assessment Act 1997 Section 118-192.

Reasons for decision: Detailed Reasoning - Capital gains tax: Capital gains tax (CGT) is the tax that you pay when a CGT event happens to a CGT asset, such as a dwelling. The most common CGT event is when you dispose of the asset to another entity (such as the disposal of a dwelling). For CGT purposes, assets inherited through a deceased estate are taken to have been acquired on the date of the deceased's death. In your case, you inherited the dwelling when your relative passed away. They acquired their ownership interest before 1985. Therefore, your ownership interest in the dwelling is taken to have occurred on the date of death of your relative. As you acquired the dwelling after 20 September 1985, your interest will be subject to CGT upon disposal of the dwelling. | Detailed Reasoning - CGT and inheriting a main residence: Where the deceased acquired the dwelling before 20 September 1985 and you subsequently acquire it as a beneficiary of the deceased estate, section 118-195 of the Income Tax Assessment Act 1997 (ITAA 1997) allows a capital gain made on disposal to be disregarded in the following circumstances: • your ownership interest ends within two years of the deceased's death or a longer period allowed by the Commissioner; or • from the deceased's death until your ownership interest ends the dwelling was the main residence of one or more of the following persons: • the spouse of the deceased immediately before death; or • an individual who had a right to occupy the dwelling under the deceased's will; or • the individual as a beneficiary if they are disposing of the dwelling as a beneficiary. In your situation, your ownership interest in the dwelling ended when you sold the dwelling in the relevant year, which is more than two years after your relative's death. You lived in the dwelling as your main residence from prior to your relative's death until it was used for income producing purposes. You are therefore not entitled to a full main residence exemption under section 118-195 of the ITAA 1997. | Detailed Reasoning - Dwelling stops being a main residence: According to section 118-145 of the ITAA 1997, if a dwelling that was a taxpayer's main residence stops being the taxpayer's main residence, the taxpayer may choose to continue to treat it as a main residence. If the dwelling is not used for income producing purposes during the taxpayer's absence this choice can apply indefinitely. However, if the dwelling is used for income producing purposes, the maximum period the dwelling can be treated as the taxpayer's main residence is six years. In your case, the dwelling was used for income producing purposes for more than six years. Therefore, although you have elected to treat the dwelling as your main residence for the entire period of your absence, as it was income producing for more than six years, you can only apply this choice for the maximum period of six years. Therefore, you cannot apply section 118-145 of the ITAA 1997 to obtain a full main residence exemption. | Detailed Reasoning - First used to produce income rule: There is a special rule where a main residence is first used for producing income after 7.30 pm EST on 20 August 1996. The rule applies if only a partial main residence exemption would be available because the dwelling was used for income-producing purposes during the ownership period and a full main residence exemption would have been available if a CGT event happened just before the first time (the income time) it was used for income-producing purposes during that period (section 118-192 of the ITAA 1997). In such a case, the dwelling is taken to have been acquired at the income time for its market value at that time. This means that a taxpayer does not have to keep records of expenditure on a dwelling which is solely a main residence until the income time. In your case, you acquired the dwelling when your relative passed away and first used the dwelling to produce income on a date after 20 August 1996. Therefore, the first used to produce income rule in section 118-192 of the ITAA 1997 applies to you and the dwelling is taken to have been acquired by you at market value on the date it was first used to produce income. This means that any costs you incurred prior to the date it was first used to produce income in relation to the dwelling are not included in the cost base. Your capital gain will be calculated as follows: | Detailed Reasoning - Capital gain/loss amount x (non-main residence days / total days): Where: • non-main residence days is the number of days from when the dwelling was first used to produce income until the date you moved back into the dwelling • total days is the number of days from when the dwelling was first used to produce income until the settlement date | Detailed Reasoning - Cost base: Section 110-25 of the ITAA 1997 sets out the five elements that are included in the cost base of a CGT asset. Broadly, they are: • First element : the cost of acquiring the asset • Second element : incidental costs • Third element : costs of owning the asset • Fourth element : capital expenditure increasing or preserving the value of the asset or of installing or moving the asset • Fifth element : capital expenditure to establish, preserve or defend title However, any amount that the taxpayer has deducted or can deduct in respect of any year of income cannot qualify as non-capital costs to the taxpayer of the ownership of an asset (subsections 110-40(2) and 110-45(1B) of the ITAA 1997). In your case, you can include the expenses you incurred for rates, water service charges and maintenance costs in the third element of your cost base as these are expenses relating to the ownership of the dwelling, however, you can only include the costs incurred while the dwelling was not used for income producing purposes and therefore a deduction was not available. In addition, as explained above, you can only include those costs incurred after the date it was first used to produce income, as you are deemed to have acquired the dwelling at this time under section 118-192 of the ITAA 1997. In your case, you can include the costs you incurred in selling the dwelling in the second element of the cost base, as they fall within the meaning of 'incidental costs' as set out in section 110-35 of the ITAA 1997. | Detailed Reasoning - Discount method: A discount capital gain is a capital gain that satisfies the requirements of subdivision 115-A of the ITAA 1997. In the case of an individual, the capital gain must result from a CGT event happening after 21 September 1999, be worked out without the cost base being indexed, and result from a CGT event happening to a CGT asset owned by the taxpayer for at least 12 months. The discount percentage is 50% if the gain is made by a resident individual. In your case, you are taken to have acquired the dwelling on the date it was first used to produce income. As you are an individual that has held the dwelling for more than 12 months, you therefore the requirements of subdivision 115-A of the ITAA 1997 and can apply the discount method when calculating your capital gain. | Detailed Reasoning - Cost of managing tax affairs: You can claim a deduction for expenses you incur in managing your own tax affairs, including those for preparing and lodging your tax return (section 25-5 of the ITAA 1997). Expenses relating to preparing and lodging your tax return include the costs of obtaining tax advice from a recognised tax adviser (a registered tax agent, barrister or solicitor). You incur the fees in the year you pay them. In your case, you have incurred costs in appointing a solicitor to apply for a private ruling on your behalf to determine your capital gains tax liabilities for the purpose of preparing your 2013-14 income tax return. You are therefore entitled to a deduction for this expense.