On August 18th, 2020, the Federal Court of Australia handed down its decision in N & M Martin Holdings Pty Ltd v Commissioner of Taxation  FCA 1186, confirming the position taken by the Court in Peter Greensill Family Co Pty Ltd v Commissioner of Taxation  FCA 559, that a non-resident is liable to capital gains tax on non-taxable Australian property, where the distribution of the underlying gain is via an Australian resident discretionary trust.
You can read more on Greensill in our previous blog Capital Gains and Non-resident Beneficiaries – Trustee deemed assessable: Greensill confirms the ATO’s position.
Facts of the Case:
In Martin Holdings, the trustee for the Martin Family Trust (hereafter referred to as the “Trust”), sold its Altium Limited shares in 2013 and 2014, and distributed the capital gains to Mr. Martin, “a discretionary object of the Trust”. At the time, Mr. Marin was living in China and was a non-resident for Australian income tax purposes. The Altium shares were non-Taxable Australian Property (TAP).
The Commissioner claimed, under s. 115-215(3) of the ITAA 1997 (which includes a capital gain directly in the assessable income of the beneficiary presently entitled to that gain), that Mr. Martin had made capital gains in both years; and that the trustee, was liable to pay the tax on that gain pursuant to s. 98(3) of the ITAA 1936 and s. 115-220 of the ITAA 1997.
Mr. Martin and the trustee argued that the capital gains assessed to Mr. Martin should have been disregarded under s. 855-10(1) ITAA 1997 which states that a non-resident (Mr. Martin) may disregard a capital gain or loss from a CGT event that happens in relation to a CGT asset that is not TAP (Altium shares).
His Honor, Steward J, acknowledged that if Mr. Martin had held the Altium shares himself, as opposed to being a discretionary object of a trust that held the shares, any capital gains made by him from the disposal of those shares would have been disregarded, and Mr. Martin would not have been liable to pay any Australian income tax on those gains. His Honor then stated that the legal argument that the gains should be disregarded under section 855-10 in this case, had already been considered and rejected by Thawley J in Greensill and that Greensill should be followed unless His Honor was satisfied that it was wrong.
The Issue at Hand:
The draftings of Divisions 855 and 115 of the ITAA 1997 have created discrepancies in the application of the CGT provisions to non-residents who are assessable to the gain directly and to those who are assessable as beneficiaries of discretionary or “non-fixed” trusts.
Section 855-40 states that a non-resident beneficiary of a “fixed trust” (such as a unit trust in which unitholders have fixed interests) may disregard a capital gain made in respect of their interest in that trust they were a non-resident when making the gain, and the gain is attributable to a CGT event happening (directly or indirectly) to a CGT asset of that trust.
Steward J drew a distinction between sections 855-10 and 855-40, stating that the [statutory] context includes contrasting the word “from” in s. 855-10 with the phrase “attributable to a CGT event” in s. 855-40:
“Section 855-40 refers to a capital gain “attributable to a CGT event” rather than to a gain “from” a CGT event precisely because the section was addressing, perhaps amongst other things, the extra gain taxable to a beneficiary under s. 115-215. That gain is not the product of a CGT event which happens to a beneficiary….. Rather, the extra capital gain created by s. 115-215(3) is the product of or “attributable to” another CGT event which has happened to a trustee. These considerations supported, in Thawley J.’s view, a construction of the word “from” which connoted a “direct connection” between the capital gain and the CGT event. Thus, his Honour said at :
‘Capital gains made by a beneficiary of a fixed trust might be disregarded under s 855-40. The language employed by that provision provides support for the understanding of s 855-10(1) earlier referred to. It applies to a capital gain “you make in respect of your interest in a fixed trust” where, amongst other matters, the gain “is attributable to a CGT event happening to a CGT asset of a trust”. This language is quite different to the language of s 855-10 which requires the capital gain to be “from” a CGT event. The note to s 855-40(2) indicates that the provision operates with respect to the capital gain taken to have been made by a beneficiary under s 115-215 of the ITAA 1997. Section 855-10, which does not contain such a note, operates differently. Section 855-10 does not provide for the disregarding of capital gains attributed to the beneficiary of a non-fixed trust under Subdiv 115-C.’
Such statutory interpretation means that capital gains attributable to non-TAP are taxable to a non-resident where they are a beneficiary of a discretionary trust, and they would not otherwise be assessable on that gain if the non-TAP assets were held by them directly or through a fixed trust. Both Thawley J in Greensill and Steward J in Martin Holdings were reluctant to depart from such a statutory construction to adopt a more purposeful approach. As Steward J stated in Martin Holdings, “….one should not construe a provision based upon some pre-existing a priori assumption about the content of the law.”
Clearly this position is untenable due to the inconsistent outcomes that occur for non-residents, based on how the ownership of assets is structured.
In the absence of legislative change to address the deficiencies in Divisions 855 and 115, the Federal Court will continue to be bound to follow the judgements in Greensill and Martin Holdings, and non-residents will need to review how they continue to hold Australian assets.
For further information on how this decision may impact you, please contact:
Head, U.S. Australia Tax Desk
Intern, U.S Australia Tax Desk