ATO ID 2006/109: Consolidation: transfer testing - transferring losses to the head company of a MEC group after cessation of another MEC group
Date of decision: 14 March 2006
Year of income: 31 December 2005
Business line: Consolidation Centre of Expertise

Issue
If does the same business test period under subsection 707-125(2) of the ITAA 1997 include the period of time from cessation of the former MEC group until just before formation of the new MEC group?

Decision
Yes. The same business test period under subsection 707-125(2) of the ITAA 1997 includes the period that the former head company is not a member of either MEC group, this being the period from cessation of the former MEC group until just before joining the new MEC group.

Facts
A MEC group (former MEC group) forms with H Co appointed as the provisional head company. The top company is FormerTop Co. At the time the group forms, tax losses are transferred, under Subdivision 707-A of the ITAA 1997, to H Co. On a subsequent day (the acquisition day), a third party foreign company, NewTop Co acquires 100% of the shares in H Co and one of the other eligible tier-1 companies, A Co. The remaining eligible tier-1 companies in the former MEC group do not fulfil the conditions in Subdivision 719-B to allow the MEC group to continue. H Co and the other eligible tier-1 company jointly choose to form a new MEC group at the start of the following day (the formation day). H Co is appointed as the provisional head company of the new MEC group and A Co is an eligible tier-1 company. NewTop Co is the top company of the new MEC group.

Reasons for decision
Summary: As a result of NewTop Co acquiring the shares in H Co and A Co, a cessation event, as described in subsection 719-60(6) of the ITAA 1997, happens to H Co. The cessation event occurs at the time during the acquisition day (the cessation time) when H Co no longer qualifies to be the head company of the former MEC group due to it now being owned by NewTop Co. H Co and A Co exit the former MEC group at the cessation time and exist as stand-alone entities with the single entity rule in section 701-1 of the ITAA 1997 no longer having application. The former MEC group ceases to exist at the cessation time as paragraph 719-5(7)(c) of the ITAA 1997 provides that a MEC group continues to exist until there ceases to be a provisional head company. As a result, there will be a period of time separating the cessation of the former MEC group and the formation of the new MEC group. For the period from cessation time until the end of the acquisition day, H Co is treated as a stand-alone entity and not part of either MEC group. H Co is required to apply the modified same business test, as described in section 707-125 of the ITAA 1997, to establish whether the tax losses that remain unutilised are transferred to itself in the capacity of the head company of the new MEC group. Under subsection 707-125(2) of the ITAA 1997, the same business test period includes the trial year. The trial year starts 12 months prior to joining time and ends just after the joining time. The joining time is the start of the formation day. The test time is just before the end of the income year in which H Co, as the head company of the former MEC group, made the losses. This is the income year in which the losses were originally transferred to H Co. Therefore, the same business test period includes that part of the acquisition day commencing from the cessation time, where H Co was a stand-alone company and not part of either MEC group. The modified same business test in section 707-125 of the ITAA 1997 will test the business of H Co as a stand-alone company in this part of the same business test period against the business of the former MEC group at the test time.

Legislative references: Income Tax Assessment Act 1997 section 701-1 section 707-125 subparagraph 707-125(2) subdivision 719-B paragraph 719-5(7)(c) subsection 719-60(6)
Subject references: Consolidation Cessation event MEC group Provisional head company Eligible tier-1 company Same business test Same business test period Modified same business test Test time Previously transferred tax losses Single entity rule Consolidation - joining Consolidation - losses Joining entity Joining time Transfer of losses