How much of an overseas inheritance is actually taxed in Australia?
This is the second guide in our series on the Australian tax on overseas inheritances. The first guide explains how section 99B can tax money or property from a foreign trust or non-resident deceased estate. Here we go deeper on the question that decides the size of the bill: how much of the distribution is actually taxed.
Key takeaways
- Section 99B taxes a distribution by reference to what it traces back to, not the label put on it.
- The original capital of the trust, and amounts that would not be assessable to an Australian resident, are generally excluded.
- Genuine pre-CGT assets and property received because of a death are usually well protected.
- An asset sold at a loss can still produce a tax bill if it was bought with income such as interest.
Two inheritances, the same amount, very different tax
Two Australian residents each receive $1 million from a family trust overseas. One pays no Australian tax. The other pays tax on most of it. Same dollar figure, opposite result.
The difference is not luck. It is what the money represents. Section 99B does not tax a distribution because of its label. It taxes it according to what the amount can be traced back to. Get the tracing right and large parts of a distribution can fall away. Get it wrong, or fail to keep the records, and the whole amount is taxed.
The trap: assuming "it is capital, so it is tax-free"
Many people assume an inheritance, or a payment of trust capital, cannot be income. That assumption is the trap.
Section 99B starts by including the full amount in your assessable income, then reduces it by the exclusions in the second part of the section. The most important exclusion is for corpus — the original capital of the trust. But corpus is cut back to the extent it is attributable to amounts that would have been assessable if a resident had earned them. So accumulated foreign income that has been turned into capital inside the trust is still caught. Calling it capital does not save it.
In plain English
The way to work out what is excluded is the test the ATO uses, known as the hypothetical resident taxpayer test.
You assume the foreign trust was an Australian resident. The only feature you give it is Australian residence — nothing else. Then you ask: would this amount have been included in that resident’s assessable income? If the answer is no, the amount is generally excluded from your section 99B income. If the answer is yes, it is taxed.
To answer the question you have to look at the circumstances that gave rise to the amount — in plain terms, how the money came to be in the trust in the first place. That is where tracing comes in.
Worked example 1: pre-CGT land
A foreign trust is set up in 1982 and holds land overseas. In 2024 the trustee sells the land and pays the proceeds to an Australian beneficiary.
The land was acquired before 20 September 1985, so it is a pre-CGT asset. If a resident had sold it, the capital gains rules would disregard the gain. Applying the test, no part of the proceeds would have been assessable to a hypothetical resident. So no part of the distribution is taxed under section 99B.
The point is not the value of the land in 1985. It is that the whole of the proceeds would have escaped tax in a resident’s hands, so the whole amount is excluded.
Worked example 2: property received because someone died
A non-resident dies owning shares overseas. The executor sells the shares and pays the proceeds to an Australian beneficiary under the will.
A resident who receives property because an individual has died is generally not taxed on the value of that property at the date of death. They are only exposed to tax on growth after that point. So the value of the shares at the date of death is generally excluded, and only a gain above that value is at risk of being taxed.
The practical lesson is to fix the date-of-death value early, with a proper valuation, because that figure sets the line between what is excluded and what is taxed.
Worked example 3: the tracing trap
This is the one that surprises people.
In 2000 a foreign trust earns a large amount of interest. In 2001 it uses some of that interest to buy an asset. In 2010 it sells the asset at a loss. In 2015 it pays the proceeds to an Australian beneficiary.
You might expect a loss-making asset to produce no tax. But the proceeds trace back to interest income, which would have been assessable to a resident. The capital loss on the asset does not change where the money came from. The distribution is taxed under section 99B with no reduction, even though the asset itself lost money.
Flip the facts: if the asset had been bought with original settled capital rather than interest income, the proceeds would trace to capital and be treated very differently. The source of the funds used decades ago decides the answer today.
Order and timing change the result
Because each amount is traced separately, the order in which a trust sells assets and makes payments matters.
Consider a trust holding a pre-CGT farm and a separate pool of cash that was settled later and invested. If the farm is sold and its proceeds are paid to the Australian beneficiary, and the investment pool is later sold and paid to non-resident beneficiaries, the Australian beneficiary may receive the better-taxed amount. Liquidate everything at once and split it evenly, and the result can be worse. Planning the sequence, where the facts genuinely allow it, can protect the Australian beneficiary.
This planning only works where the trust deed, beneficiary entitlements, trustee powers and fiduciary duties genuinely permit that sequence. The tax result should follow the legal and commercial facts, not override them.
Foreign tax already paid does not cancel section 99B
Clients often assume that tax paid overseas means there is nothing to pay here. It does not work that way.
Section 99B can apply even where the income was taxed abroad. A foreign income tax offset may be available for tax the trustee paid overseas, but it is capped at the Australian tax on the same income.
It reduces double tax; it does not produce a refund if more was paid overseas than is owed here.
The real difficulty is records. To claim the offset you need evidence of the foreign tax paid on the relevant income, often going back many years. Without those records there is a real risk of paying more Australian tax than you should.
A checklist for working out what is excluded
- What does the distribution trace back to — original settled capital, a pre-CGT asset, post-death value, or accumulated income?
- Do you have proof of what was originally settled on or gifted to the trust?
- For an inheritance, do you have a date-of-death valuation of the relevant assets?
- Was any asset bought with income (such as interest, rent or dividends) rather than capital?
- Could the order of asset sales and payments affect which beneficiary receives the better-taxed amount?
- Is there evidence of any foreign tax paid, so an offset can be claimed?
Frequently asked questions
Broadly, the trust’s original capital and any amount that would not have been assessable if an Australian resident had earned it. The catch is that capital made up of accumulated foreign income is not protected just because it is now called capital.
Generally no, if the asset was genuinely acquired before 20 September 1985. A resident selling such an asset would disregard the gain, so the proceeds are usually excluded from section 99B. You need evidence of the acquisition date.
Because section 99B follows what the money traces back to, not the final asset. If the asset was bought with income such as interest, the distribution traces to that income and is taxed, even though the asset itself was sold at a loss.
With records of what was settled on or gifted to the trust, supported by accounts and, for an inheritance, a date-of-death valuation. Our guide on what to do if the ATO questions your overseas inheritance covers the evidence the ATO expects in detail.
Yes, where the facts genuinely allow it. Because each amount is traced separately, paying a better-taxed amount to the Australian beneficiary and other amounts to non-residents can produce a different result from liquidating everything at once.
Get the tracing done before the money moves
Every example above turns on facts that are far easier to establish before a distribution than after. Once the money is paid, you are reconstructing history under time pressure, often with the ATO already asking questions.
Westcourt can trace the make-up of a likely distribution, fix the values that matter, and identify the amounts that should be excluded — while there is still time to plan the timing and gather the proof. Our guide on what to do if the ATO questions your overseas inheritance covers what happens when the ATO reviews the file, the records that satisfy them, and the wider rules that can tax you even without a distribution.
Speak with Westcourt before any foreign distribution is made.
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