ATO ID 2008/14: Company Tax Losses: 'no detriment' exception to concessional tracing rules - can an eligible Division 166 company form a belief on reasonable grounds by applying the former concessional tracing rules
Date of decision: 20 December 2007
Year of income: Year ended 31 December 2006
Business line: Public Groups and International

Issue
Can an eligible Division 166 company that wishes to rely upon section 166-275 of the Income Tax Assessment Act 1997 (ITAA 1997), so that it does not have to apply one of the concessional tracing rules in Subdivision 166-E of the ITAA 1997, apply the concessional tracing rules in the former Subdivisions 166-F and 166-G of the ITAA 1997 to form a belief, on reasonable grounds, under paragraph 166-275(c) of the ITAA 1997?

Decision
No. The concessional tracing rules in the former Subdivisions 166-F and 166-G of the ITAA 1997 are relevant only for the particular legislative scheme of which they formed a part, and cannot be invoked to demonstrate that the eligible Division 166 company has formed a belief, on reasonable grounds, under paragraph 166-275(c) of the ITAA 1997.

Facts
Company A has incurred a tax loss in an income year commencing on or after 1 July 2002 and ending before 14 December 2005 (the loss year), which it seeks to deduct in a later income year. At the start of the test period, company A was a 100% subsidiary of a listed public company (company B) within the meaning of the former Division 166 of the ITAA 1997. At a later time in the test period, company A became a 100% subsidiary of a widely held company (company C). Company A remained a 100% subsidiary of company C until the end of the test period. Just after company A became the 100% subsidiary of company C, the same persons owned the same shares and interests in company C as formerly owned shares and interests in company B. In the test period, no shareholder had a voting, dividend or capital stake of 10% or more in either company B or company C. Company A has not made a choice for the income year under section 166-15 of the ITAA 1997. Company A has not made a choice under sub-item 170(2) of Schedule 1 to the Tax Laws Amendment (Loss Recoupment Rules and Other Measures) Act 2005 that the amendments made by that Act do not apply in respect of the tax loss. Therefore, Division 166 of the ITAA 1997 as amended applies to company A's tax loss. When seeking to deduct its tax loss in the income year, company A wishes to apply the concessional tracing rules in the former Subdivisions 166-F and 166-G of the ITAA 1997 to form a belief, on reasonable grounds, under paragraph 166-275(c) of the ITAA 1997.

Reasons for decision
Summary: As the 100% subsidiary of a widely held company (company C), company A was an eligible Division 166 company at all times during the income year in which it seeks to deduct the tax loss. The concessional tracing rule in section 166-230 of the ITAA 1997 (indirect stakes of less than 10%) applies to company A. If company A was obliged to apply this rule, it would fail the test for substantial continuity of ownership in subsection 166-5(3) of the ITAA 1997, because during the test period two different top interposed entities would be deemed under subsection 166-230(2) of the ITAA 1997 to have a 100% stake in company A. Section 166-275 of the ITAA 1997 provides: 166-275 A company is taken to have met the conditions in section 165-12, paragraph 165-35(a) or section 165-123, or a changeover time or an alteration time is taken not to have occurred in respect of a company, (as the case requires), if: (a) a *tracing rule modifies how the ownership tests in section 166-145 apply to the tested company in respect of the *voting stake, a *dividend stake or a *capital stake; and (b) the company fails the tests (whether at the time of applying the tracing rule or at another time); and (c) the company believes, on reasonable grounds, that if the tracing rule did not modify how the tests apply to the company in respect of that stake, it would not fail the tests. Under paragraph 166-275(c) of the ITAA 1997, if Company A was to disregard the concessional tracing rule in section 166-230 of the ITAA 1997, it would have to demonstrate that it believes on reasonable grounds that if the rule did not apply, it would not fail the continuity of ownership test in section 165-12 of the ITAA 1997. Under subsection 166-5(3) of the ITAA 1997, company A is taken to have met the conditions in section 165-12 of the ITAA 1997 if there is 'substantial continuity of ownership'. The test for substantial continuity of ownership is provided in section 166-145 of the ITAA 1997. In applying section 166-145 of the ITAA 1997, company A must use the alternative tests in sections 165-150, 165-155 and 165-160 of the ITAA 1997. The alternative tests in these sections can be applied by demonstrating that it is the case, or it is reasonable to assume, that the requirements of each provision are satisfied. In order to form the required belief, on reasonable grounds, under paragraph 166-275(c) of the ITAA 1997, company A cannot apply the concessional tracing rules in the former Subdivisions 166-F and 166-G of the ITAA 1997, as they existed before the significant amendments enacted by the Tax Laws Amendment (Loss Recoupment Rules and Other Measures) Act 2005. The former Subdivisions 166-F and 166-G are statutory creations that are relevant only for the particular legislative scheme of which they formed a part. The basis upon which company A can form the required belief, on reasonable grounds, under paragraph 166-275(c) of the ITAA 1997, is a question of fact. The Explanatory Memorandum to the Tax Laws Amendment (Loss Recoupment Rules and Other Measures) Bill 2005 offers the following guidance: 1.136 The company must hold a reasonable belief that it would not fail the tests if the tracing rule did not apply. In most cases a company would be expected to form this view by applying the test for substantial continuity of ownership in the normal way, this is without the use of that tracing rule in respect of the particular stake. However, it is recognised that in some cases, despite its best endeavours, a company may be unable to obtain sufficient information to determine with certainty that it would pass the ownership tests without the tracing rule. In such a case, the modified COT allows a company to draw a conclusion about whether it would satisfy the ownership tests based on any information that it has reasonably been able to obtain. [Schedule 1, item 79, section 166-275]

Legislative references: Income Tax Assessment Act 1997 section 165-12 section 165-150 section 165-155 section 165-160 subsection 166-5(3) section 166-15 section 166-145 Subdivision 166-E section 166-230 subsection 166-230(2) section 166-275 paragraph 166-275(c) former Subdivision 166-F former Subdivision 166-G
Other references: Explanatory Memorandum to the Tax Laws Amendment (Loss Recoupment Rules and Other Measures) Bill 2005
Subject references: Wholly owned subsidiary Holding companies Public company Continuity of ownership Tax loss Interposed entities