Labor’s unintended ‘widow’s tax’ yet to be solved after Federal Government fixes an investment property issue

Labor’s May Budget is still causing political headaches almost three months on with the Federal Government yet to fully resolve the problem of an unintended “widow’s tax”.

Draft legislation released this week fixes a problem where grandfathering for negative gearing tax breaks and the 50 per cent capital gains tax discount on an investment property wasn’t carried through when ownership was transferred in the event of a death or divorce.

But the Government is yet to release draft legislation to fix another unintended problem where assets like a house being rented out or shares would incur a capital gains tax on notional gains, before an asset is sold, in the event a spouse was widowed or a relationship broke down.

Estate planning lawyer Rachael Rofe, the principal solicitor with Rofe + Co, said any asset that went up in value would be subject to a tax on unrealised gains from July 2027 unless new legislation fixed this problem.

“Any asset that has had a gain will be subject to capital gains tax when the asset moves to another entity or person as a result of death or divorce,” she told The Nightly.

“The issue is, like, it is still a widow tax. I’ve seen lots of people out there say, ‘Widow tax is fixed’ — no, it’s only half fixed.

“You’ve not really had any control on the passing of that asset, the asset is only moving because someone has died.”

Ms Rofe said a widow whose husband had died would be left with a huge tax bill on an asset that had yet to be sold.

“She doesn’t receive money for inheriting the asset. How is she going to pay this tax? There has not been a cash liquidity event,” she said.

The tax bill on the notional gains of an asset, accrued to June 30 next year, would be subject to the existing 50 per cent capital gains tax discount, followed by tax at the widow or divorcée’s marginal tax rate from July 1, 2027.

“The drafting problem is that a transfer on death or relationship breakdown could inadvertently trigger that deferred gain, despite there being no sale and no cash received,” Ms Rofe said.

The Federal Government is facing another fight over its plan to impose a minimum 30 per cent tax on income generated from ordinary discretionary trusts from July 1, 2028, along with a 30 per cent minimum capital gains tax.

These are often used by small business to protect assets from creditors in the event the enterprise failed and went into liquidation.

Australian Chamber of Commerce and Industry chief executive Andrew McKellar said the Government’s bid to raise $4.5 billion a year would see an average small business trust, earning $161,000 a year, see its tax bill jump from $29,300 under an existing income-splitting scenario to $48,300 under this new tax.

“This tax is not about hitting high-wealth individuals, it’s about hitting your local tradie, café owner or hairdresser. These are hardworking Australians who don’t deserve to be hit with high taxes and red tape,” Mr McKellar said.

“The Government must also understand the significant impost on businesses that will restructure as a result of this change.”

This week’s draft legislation cancels a Budget plan to impose a 30 per cent tax on discretionary testamentary trusts, used for estate planning purposes to protect inheritance following a death, but ordinary discretionary trusts would still be subject to a minimum 30 per cent tax under Labor’s proposal.

Acting Opposition Leader Jane Hume said Treasurer Jim Chalmers should have addressed the widow’s tax during the last sitting of Parliament in June and early July, before the winter break, when the Greens in the Senate passed Labor’s changes to negative gearing and CGT concessions.

“Let’s see what Jim Chalmers comes up with next. He’s already decided to roll back the widow’s tax, something that they could have done at the last sitting, but they chose not to,” she told reporters on Thursday.

“They chose not to. And the next exciting episode is going to be a tax on trusts, a tax on trusts, which is a perfectly legitimate business structure and has been for decades. But Labor likes to accuse people that use a perfectly legitimate structure of avoiding tax.”

Both houses of Parliament are sitting again on Tuesday next week, with Treasury consultation on the widow’s tax and exempting discretionary testamentary trusts continuing until August 21.