There are many reasons why it is important to have a Will, none more so that the financial protection it can provide your loved ones after your passing. However, it is often the case that many are unaware when drafting a Will, that their beneficiaries may be subject to pay tax on their assets upon distribution of the estate, which can include capital gains tax (CGT) and superannuation tax. In this article, we look at what tax considerations need to be made so that your loved ones are not left with an unnecessary financial burden after your passing.
Does a beneficiary need to pay inheritance tax?
Generally, a beneficiary will not be required to pay tax on inheritances of cash, shares, property or other gifts. However, if a beneficiary sells or otherwise disposes of an asset received as part of the deceased’s estate – for example, property – the asset may be subject to Capital Gains Tax (CGT).
What is capital gains tax (CGT) and in what circumstances does it need to be paid?
CGT (capital gains tax) is a tax you pay on the profits you receive from selling assets, such as property. If we look at property (your house, unit or land for example), whether you are required to pay CGT – and the amount you pay – will depend on a variety of factors, including:
- If your property is transferred to a beneficiary, as per the wishes set out in the Will, capital gains tax does not have to be paid, unless the beneficiaries decide to dispose of (sell) this property.
- If your property is sold, the beneficiaries are liable to pay the costs of its valuation, transfers and any taxes (CGT) related to the sale – which also includes any profit made from the sale.
- There are circumstances in which a beneficiary will not have to pay CGT, which can include:
- If the inherited property is sold within two years of the deceased’s passing (importantly the applicable date is the date of the settlement not the date of the sale contract) and the property was the main residence of the testator (Will maker) at the time of their death.
- If the beneficiary chooses to use the property as their main residence.
- If a beneficiary decides to rent out the inherited property, they may be subject to pay tax, as the rent can be considered as a source of income. It is always important to speak to an accountant to receive proper financial advice before considering this avenue.
Tax considerations when applying for a Grant of Probate or Administration
When drafting a Will, it is also important to consider taxes that may need to be paid when the Executor is administering your estate.
Once a Grant of Probate (or a Grant of Administration, in the absence of the Will) is obtained, relevant sections of the Income Tax Assessment Act 1953 will apply regarding any tax returns that need to be filed, backdated from the date of death. The Executor or administrator of the estate will need to find out how much tax is owing and set aside the funds to pay the outstanding tax when it’s due.
There are also tax considerations that need to be made when subsequently distributing the estate by selling assets of the estate, such as antiques, shares or vehicles.
- Antiques for instance, fall into a collectables category for the purposes of CGT, which means that while they can be worth a lot (if you decide to sell), if they were purchased for less than $500, they are exempt from tax.
- Shares – if shares acquired by the Will maker prior to their death are then transferred to a beneficiary as set out in a Will, there is no tax payable on the transfer; however ,capital gains tax will apply (NSW specific) if those shares are then sold by the beneficiary at a later date.
- Motor vehicles – the motor vehicle is a ‘CGT exempt asset’, which means that selling the car will not attract CGT; this may assist the executor/administrator if there are estate debts to be urgently covered, since selling the car to cover the debts will not attract CGT.
A word on Testamentary Trusts
Setting up a testamentary trust can help to minimise the tax a beneficiary/ies may be required to pay on the estate and if they decide to sell any assets of the estate following the passing of the Will maker. Testamentary trusts provide many benefits including greater asset protection, income tax benefits, superannuation and life insurance interest.
Setting up an appropriate testamentary trust in your Will can provide your beneficiaries with a more flexible income distribution. This is particularly important when your beneficiaries inherit a property that can generate income, i.e., through renting it out as an investment property.
Testamentary trusts allow for ‘tax effective income streaming’, which can give you the option to split the income generated from the investment property amongst multiple beneficiaries, including minors (under the age of 18) who are taxed as ordinary payers, and can enjoy significant savings with regards to the total tax payable. In the absence of an appropriate testamentary trust, the tax payable on the income generated from this property will be at the top marginal rate.
You can learn more about setting up a testamentary trust in our fact sheet.
Ready to start estate planning?
For specific tax advice, we recommend seeking advice from a qualified tax accountant or financial planner to assist you in deciding what is the best avenue for your individual circumstances.
If you are ready to start estate planning or you would like to learn more about the tax considerations in drafting a Will, our experienced Wills & Estates Lawyers are here to assist. Submit an online enquiry or contact us on (02) 9262 4003.
The contents of this article are intended as a general guide to the subject matter. For specific legal advice about your individual circumstances, please contact our experienced lawyers.
Magdalena is an experienced Wills & Estates Lawyer who assists clients with a range of matters including drafting wills, probate, family provision claims and estate planning.
