The transfer of property when a person dies can be difficult, doubly so when you throw tax into the mix.
What is capital gains tax?
Capital gain is essentially the profit you make from an investment and occurs when you sell this investment and make more money from the sale than what you paid for it.
Any capital gain is reported to the ATO, added to your taxable income to the year, and taxed at whatever tax bracket you fall into.
CGT was introduced on 20 September 1985, a date you will see frequently throughout this article.
Your family home is typically exempt from CGT, if you have never used it to run a business or rented it out. Those distinctions are also important when it comes to deceased estates.
What is a deceased estate?
A deceased estate refers to all the property, assets, liabilities, and debts a person who has died holds.
Upon the person’s death, the deceased estate passes to their legal representative, who distributes it as set out in the will, or directly to their beneficiaries.
Beneficiaries are considered to have taken ownership from the date of the person’s death who bequeathed it to them.
Do you pay capital gains tax on a deceased estate?
You are not required to pay CGT on a deceased estate when it is passed to you. However, you may have to pay CGT later when you sell the estate.
There are also separate rules around CGT for deceased estates regarding shares and managed funds which we will not get into here – we will just stick to property.
The ATO outlines several scenarios where you may be exempt from paying CGT when you inherit a property:
- Deceased died before CGT introduction.
If the deceased died before 20 September 1985 you are exempt from paying CGT when you sell the property.
However, any substantial renovations you make after this date may be subject to CGT.
- Deceased acquired property before CGT introduction and died on or after this date.
In this scenario, meeting one of two conditions will mean you are exempt from CGT:
- Condition 1: If the dwelling was sold within two years of when you took ownership. You can also apply to extend this period if factors beyond your control prevented you from selling the property.
- Condition 2: If you do not use the home to produce income and it was the main residence of the deceased’s spouse at their time of death, a person who was permitted to live in the property as set out in the will, or a beneficiary who also disposes of the property.
Deceased acquired property on or after CGT introduction.
Any capital loss or gain is disregarded when you sell the property if either of the following applies:
- You gain ownership of the property on or before 20 August 1996 and condition 2 is met (see above), and the deceased used the property as their main residence from when they bought it to when they died and did not gain income from it.
- You gain ownership of the property after 20 August 1996 and condition 1 and 2 is met (see above), and the deceased was living in the property when they died and did not gain income from it.
What happens if you need to pay CGT on a deceased estate?
If you are not exempt for CGT, based on the above scenarios, you will have to pay it.
This is done by figuring out the cost base of the property. The cost base is the market value of the home when the deceased purchased it, or when they died, depending on the circumstances.
Additionally, if the property was bought before 21 September 1999, you will need to use the indexation method to consider inflation.
Calculating CGT can be complicated, so we will not get into it now, but it is important you understand how to do it.
Keeping comprehensive records is extremely important when you inherit a dwelling, to ensure you do not leave yourself open to any penalties from the ATO should they scrutinise you.
According to the ATO, you should:
- Keep a record of the market value of the property when the deceased died, and any costs you incurred from the legal personal representative.
- Have the legal personal representative value the property and give you a copy of the valuation report or have it valued yourself.