The Australian Taxation Office (ATO) has released Draft Taxation Determination TD 2026/D1, providing guidance on how the capital gains tax (CGT) main residence exemption applies to inherited homes. 

While some commentators have described the proposal as a “death tax by stealth,” the issue is more nuanced. The draft ruling focuses on a technical but important aspect of the existing rules, which could affect how CGT exemptions apply when family homes pass through deceased estates.

Understanding these changes is important for anyone involved in estate planning, inheritance, or managing a deceased estate, particularly where property is a significant part of family wealth.

Why TD 2026/D1 Is Important

Under current tax rules, a deceased person’s main residence may be sold by the estate or a beneficiary without triggering CGT, provided certain conditions are satisfied. This concession can be highly valuable, especially where the property has been held for many years and has accumulated substantial capital growth.

Generally, a full exemption can be obtained if:

• the property is sold within two years of the individual’s death (although the ATO may allow an extension in some circumstances); or
• from the date of death until sale, the property is used as the main residence of a qualifying individual.

Qualifying individuals may include:

• the deceased’s surviving spouse
• a beneficiary who inherits the property and lives in it
• a person who has a right to occupy the home under the deceased’s will

The draft determination focuses on the last category—what it means for someone to have a “right to occupy” the property under the will.

The ATO’s Proposed Interpretation

According to the draft ruling, the ATO considers that a qualifying right to occupy must be clearly and explicitly granted in the will to a specific individual.

Under this interpretation:

• the right to live in the property must be directly stated in the will
• general or discretionary powers granted to executors or trustees may not be sufficient
• arrangements outside the will, including certain testamentary trust structures, may not qualify

For example:

• If a will gives an executor discretion to allow a family member to live in the property, this may not meet the ATO’s definition.
• If a trustee of a testamentary trust later permits a beneficiary to live in the home, this may also fall outside the exemption because the right arises from the trust arrangement rather than the will itself.

This interpretation could have practical implications for estates that rely on flexible arrangements to manage inherited property.

Potential Tax Exposure

If the conditions for the main residence exemption are not satisfied, the property may become subject to CGT when sold.

In high-value property markets, the amounts involved can be significant. For example, if a property worth $2 million has an embedded capital gain of $1.5 million, the resulting tax liability for beneficiaries could potentially fall in the range of $300,000 to $600,000, depending on the beneficiaries’ tax positions.

Practical Steps to Consider

While the determination is still in draft form, it highlights the importance of careful estate planning. Some practical steps to consider include:

• Reviewing your will, particularly if you intend to give someone the right to live in a property after your death. The wording of the will may need to clearly specify this right.
• Considering the timing of property sales. The two-year exemption period remains a key planning tool where families intend to dispose of an inherited property.
• Seeking professional advice, especially where estate plans involve testamentary trusts or more complex structures.
• Balancing tax outcomes with family and commercial considerations, including property market conditions and family housing needs.

The Key Takeaway

The ATO’s draft guidance serves as a reminder that estate planning and tax law are closely linked. Small differences in how a will is structured can have major consequences for the tax treatment of inherited property.

Taking the time to review estate plans and obtain professional advice can help ensure that family wealth is preserved and that property transfers occur as smoothly and tax-efficiently as possible. Do not hesitate to contact the Bates Cosgrave team if you have any questions related to estate planning.