A death in the family is an incredibly difficult time. Alongside the emotional impact, there are significant administrative and financial decisions to manage.
One of the most important tax issues that can arise is how capital gains tax (CGT) applies when a property is inherited and later sold.
This article explains how the main residence exemption works for inherited property and when a full or partial CGT exemption may apply.
What is the main residence exemption?
The main residence exemption is a CGT concession that may fully or partially disregard capital gains on the sale of a residential property in Australia.
When a homeowner passes away and their property is sold by the legal personal representative or a beneficiary, the availability of the exemption depends on several factors, including:
- Whether the property was the deceased’s main residence
- Whether it was income-producing
- Whether the asset is pre-CGT or post-CGT
- The ownership structure
- The timing of sale
- Residency status of the deceased or beneficiary
Understanding these variables early can make a material difference to the tax outcome.
What qualifies as a main residence?
A property is generally considered your main residence if:
- You and your family live there
- Your personal belongings are kept there
- You receive mail at that address
- It is listed on the electoral roll
- You incur utilities such as electricity and gas
To qualify for the exemption, the property must:
- Be owned by an Australian resident
- Be situated on land of no more than two hectares
- Not be used to produce assessable income (such as being rented or used for business), unless the six-year absence rule applies.
The six-year absence rule explained
The six-year absence rule allows a former main residence to keep its CGT exemption for up to six years if it is rented out after the owner vacates, or indefinitely if it remains vacant.
The above factors would be assessed at the taxpayers/homeowners date of death to determine whether the inherited property can be treated as a main residence, to then consider application of the main residence exemption.
Ownership structure matters
How the property is owned affects how the main residence exemption applies on death.
Tenants in common
- Each owner holds a defined share
- There is no right of survivorship
- The deceased’s share becomes part of their estate
- The share can be left to any beneficiary
Joint tenants
- Owners hold equal interests
- A right of survivorship applies
- The deceased’s interest automatically passes to the surviving joint tenant
- The interest does not form part of the estate
In joint tenancy arrangements, the surviving owner may continue to access the main residence exemption for the acquired interest.
Main residence and aged care
An individual can only have one main residence at a time. However, if someone moves into aged care but retains ownership of their former home, that property may still qualify.
If the deceased was no longer living in the home at the time of death, it may still be treated as their main residence:
- Indefinitely, if it was not used to produce income; or
- For up to six years after moving out, if it was rented (under the six-year absence rule).
Foreign residency restrictions
Recent changes have significantly limited the main residence exemption for foreign residents. A foreign resident for tax purposes in Australia is an individual whom the ATO considers to have their home, main connections and usual place of living outside Australia. The exemption may be denied if:
- The deceased was a foreign resident for more than six years at the time of death
- The beneficiary is a foreign resident for more than six years at the time of sale
Where the exemption is unavailable, CGT will apply on disposal. Given the complexity of residency rules, specialist advice is essential in cross-border estates.
The two-year rule: selling within two years of death
In many cases, selling an inherited property within two years of death allows a full main residence exemption.
A full exemption may apply where:
- The property was the deceased’s main residence; and
- The property is sold and settled within two years of death; or
- From death until sale, the property was the main residence of an eligible individual (such as a spouse or beneficiary).
The outcome differs depending on whether the property is a pre-CGT asset (acquired before 20 September 1985) or a post-CGT asset.
Pre-CGT properties (acquired before 20 September 1985)
A full exemption is available if:
- The property is sold within two years of death (or a longer period allowed by the Commissioner); or
- From death until sale, the property was the main residence of:
- The deceased’s spouse (not permanently separated)
- A person with a right to occupy under the will
- The beneficiary disposing of the property
Importantly, for pre-CGT assets, the exemption may apply even if the property was not the deceased’s main residence before death.
Post-CGT properties (acquired on or after 20 September 1985)
A full exemption is available if:
- The property was the deceased’s main residence just before death; and
- Either:
- It is sold within two years of death; or
- It continues to be the main residence of an eligible individual until sale.
If these conditions are not met, a partial CGT exemption may apply.
Can the two-year period be extended?
Yes. The Commissioner may allow an extension where delays are outside your control. An extension may be available where delays relate to:
- Will or ownership disputes
- Life interest
- Complex estate administration
- Failed settlements
- Government restrictions (such as COVID-19 impacts)
However, delays caused by waiting for market conditions or undertaking renovations to increase value will generally not qualify. Further guidance is provided in PCG 2019/5.
Inheriting a previously inherited property
Where the deceased themselves inherited the property after 20 September 1985, the CGT calculation may be modified. In these cases, the exemption is calculated based on the number of days the property was the main residence of:
- The deceased; and
- Any previous eligible beneficiaries.
This can significantly affect the partial exemption calculation.
Key takeaway
Selling an inherited property within two years of death can often eliminate CGT – but the outcome depends on ownership history, residency, use of the property and timing.
Because the rules differ for pre-CGT and post-CGT assets, and foreign residency can override the exemption entirely, early advice is critical to avoid unexpected tax liabilities.
FAQ: Main residence exemption and inherited property
Is an inherited house automatically CGT-free?
No. The exemption depends on whether it was the deceased’s main residence and when it is sold.
What happens if I keep the inherited property and rent it out?
CGT may apply when you eventually sell. The two-year exemption may not apply if the property is not sold within that period.
What if the estate takes longer than two years to finalise?
The Commissioner may grant an extension in certain circumstances.
Do foreign residents get the main residence exemption?
In many cases, no. Foreign residency can restrict or deny access to the exemption.
Speak to a tax advisor about inherited property
Navigating capital gains tax in a deceased estate can be complex, particularly where residency, ownership structure or timing issues apply.
Our accountants and tax advisers in Blackburn, Melbourne’s City of Whitehorse, can review your situation and help you understand whether the main residence exemption applies – and how to minimise CGT where possible.
Call us on (03) 9875 2900 or get in touch online to discuss your circumstances, or follow LDB on LinkedIn for updates on tax, superannuation and estate matters.
