Granny Flat Arrangement and CGT

A granny flat arrangement is a written agreement that gives an eligible person the right to occupy a property for life. Ordinarily, an arrangement like this may trigger CGT because it is the creation of a contractual or other right (CGT Event D1).  

From 1 July 2021, capital gains tax (CGT) may not apply when a granny flat arrangement is created, varied or terminated. 

A granny flat arrangement typically happens between an older person and their adult child. However, the parties in a granny flat arrangement do not need to be related. A granny flat arrangement can be entered into with any party, including family or friends. 

Granny flat interest 

An individual has an eligible granny flat interest if they have a right to occupy a property for life under a granny flat arrangement. 

A granny flat interest can be held in any type of property, provided it is a dwelling. This includes the owner's main residence or a separate property. It is not restricted to what is commonly referred to as a 'granny flat'. The interest may be in part or all of the property. 

For a granny flat arrangement to be exempt from CGT, the person with the granny flat interest must either: 

• have reached pension age or

• require assistance for day-to-day activities because of a disability. 

A granny flat arrangement is exempt from CGT if: 

• the owner or owners of the property are individuals 

• one or more eligible people have an eligible granny flat interest in the property 

• the owners and the people with the granny flat interest enter into a written and binding granny flat arrangement. This arrangement must not be commercial in nature. 

The exemption only applies to creating, changing or terminating a granny flat arrangement. 

Other CGT events that are not related to a granny flat arrangement, or sit outside the arrangement, are subject to normal CGT rules and may be liable to CGT. For example, the sale of a property that was used in a granny flat arrangement, which has since terminated, is subject to the normal CGT rules. 

The ATO have provided the following examples. 

Example 1: Mary is 70 years old. She lives in her own house, which is currently valued at $400,000. Her daughter, Isabella, lives with friends in a different house. 

To secure her house for her daughter’s inheritance, Mary: 

• transfers the ownership of her house to Isabella 

• creates a granny flat arrangement with Isabella under which Mary retains a right to accommodation for life. 

After taking ownership of the property, Isabella moves in and lives with her mother. 

When Mary transfers her home to Isabella there is a CGT event. However, Mary is entitled to the main residence exemption on the transfer of her home, so there is no CGT liability. 

The requirements of a granny flat arrangement have been met. Therefore, Isabella will have no CGT liability for granting her mother a right to accommodation for life. 

As Isabella moves into the home once she owns it, she will be entitled to the main residence exemption from CGT if she later sells it. 

Example 2: creating and varying a granny flat arrangement 

Jim and Joan are of pension age. They live in a home on a large block, which they are struggling to maintain. 

They decide to sell their home and buy a 6-bedroom home in their son, Isaac’s, name. The home can accommodate themselves and Isaac’s family. 

Jim and Joan: 

• sell their old home for $800,000. The sale is exempt from CGT under the main residence exemption 

• buy a new home for $600,000 in Isaac’s name 

• transfer the additional $200,000 to Isaac 

• create a written granny flat arrangement with Isaac. 

All the requirements of a granny flat arrangement have been met. Therefore, Isaac will have no CGT consequences for granting the granny flat interest to Jim and Joan. 

Some years later, Isaac and his spouse separate. Isaac sells the 6-bedroom family home and buys another home not too far away. 

• Isaac is entitled to the main residence exemption on the 6-bedroom home, so there is no CGT when he sells it. 

• Jim, Joan and Isaac move into the new family home and vary their written granny flat arrangement so that it covers the new home. 

• As Jim and Joan are still eligible to enter a granny flat arrangement, there are no CGT consequences for Isaac when the arrangement is varied. 

Commercial Arrangements

If the granny flat arrangement is commercial in nature, it is not exempt from CGT. The most obvious commercial arrangement is where the holder of a granny flat interest is required to make payments (such as rent) at a market rate.

However, if the individual with a granny flat interest only contributes towards ongoing household costs (such as electricity and water), the arrangement is unlikely to be considered commercial. This is because the arrangement is a reimbursement of actual costs.