ATO ID 2004/197: Income Tax: Consolidation - treatment of work-in-progress
Date of decision: 28 October 2003
Year of income: Years ended 30 June 2003 and 2004
Business line: Consolidation Centre of Expertise

Issue
Can the work-in-progress (that is classed as trading stock) of an entity joining a consolidated group be a retained cost base asset for the purposes of Division 705 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Decision
Yes. Work-in-progress (that is classed as trading stock) can be a retained cost base asset for the purposes of Division 705 of the ITAA 1997, provided that the joining entity is a continuing majority-owned entity from 27 June 2002 to the time when it becomes a subsidiary member of a consolidated group.

Facts
Company C runs a construction and development business. Company C has a work-in-progress account. The amount of the work-in-progress is included in Company C's balance sheet as an asset. The work-in-progress is trading stock under section 70-10 of the ITAA 1997. Company C has been continually owned by Company A (75% of share holding) and Company B (25% of shareholding) since 1 June 2002, till the change of ownership occurred on 1 August 2002. On 1 July 2002, Company A and its wholly-owned subsidiaries (Company D and Company E) form a consolidated group. On 1 August 2002, Company A purchases Company B's 25% shareholding in Company C, with the consequence that Company C is now 100% wholly-owned and must join the consolidated group.

Reasons for decision
Summary: The allocable cost amount is the amount that is allocated to the assets (except excluded assets) of an entity joining a consolidated group, or to the assets (except excluded assets) of a subsidiary member of a consolidated group on formation, to determine the tax cost of those assets at that time. All assets of the joining entity or assets of the subsidiary members of a consolidated group on formation can be categorised into a retained cost base asset, a reset cost base asset, or an excluded asset. Subsection 705-25(5) of the ITAA 1997 defines a retained cost base asset as Australian currency (other than trading stock or collectables), or a right to receive a specified amount of Australian currency (for example, a debt or a bank deposit), or an entitlement that is subject to a prepayment. According to subsection 705-35(2) of the ITAA 1997, an asset is an excluded asset for consolidation purposes if an amount has been deducted in respect of the asset in working out the allocable cost amount. A reset cost base asset is an asset that is not a retained cost base asset or an excluded asset. Taken at face value, trading stock of an entity cannot be a retained cost base asset as it does not satisfy the definition in subsection 705-25(5) of the ITAA 1997. However, subsection 701A-5(3) of the Income Tax (Transitional Provisions) Act 1997 (IT(TP)A 1997) specifies that trading stock is to be treated as a retained cost base asset when an entity becomes a subsidiary member of a consolidated group under certain circumstances. The circumstances exist where the entity is a continuing majority-owned entity. Subsection 701A-1(1) of the IT(TP)A 1997 provides that a continuing majority-owned entity is an entity that is majority owned at all times from the start of 27 June 2002 until the entity becomes a subsidiary member of a consolidated group on or after 1 July 2002. In this case, the majority of Company C's ownership has remained unchanged from 27 June 2002 until the date Company C became a member of the consolidated group, satisfying the requirements of subsection 701A-1(1) of the IT(TP)A 1997. As Company C has become a subsidiary member of a consolidated group, the requirements of subsection 701A-5(3) of the ITAA 1997 are also satisfied. Consequently, the work-in-progress account of Company C (a kind of trading stock) is a retained cost base asset for the purposes of Division 705 of the ITAA 1997.

Legislative references: Income Tax (Transitional Provisions) Act 1997 subsection 701A-1(1) subsection 701A-5(3)
Subject references: Consolidation Consolidation - assets Allocable cost amount Cost setting rules Reset cost base asset Retained cost base asset trading stock work-in-progress