ATO ID 2005/152: Research and Development: group membership period under section 73R of the ITAA 1936
Date of decision: 23 May 2005
Year of income: Year ended 30 June 2004
Business line: Public Groups and International

Issue
Where a company, now controlled by a person under section 73L of the Income Tax Assessment Act 1936 (ITAA 1936), was previously not controlled by any person within the meaning of that section, has there been change in control of the company for the purposes of paragraph 73R(2)(a) of the ITAA 1936?

Decision
Yes. Where a company, now controlled by a person under section 73L of the ITAA 1936, was previously not controlled by any person within the meaning of that section, there has been change in control for the purposes of paragraph 73R(2)(a) of the ITAA 1936.

Facts
Company S is an Australian company, which can deduct an amount for 'incremental expenditure' (as defined by section 73P of the ITAA 1936) under subsection 73B(13) or 73B(14) of the ITAA 1936 for the 2003-04 year of income, and has deducted an amount for incremental expenditure under one or both of those subsections for each of the preceding three years. Company S has been a wholly owned subsidiary of company B since 1 July 2003. Previously, company S was 50% owned by company B and 50% owned by company A. Company A and company B were not affiliates of each other within the meaning of section 73M of the ITAA 1936 at any of the relevant times. Prior to becoming a wholly owned subsidiary of company B, company S was not grouped with company A or company B under section 73L of the ITAA 1936.

Reasons for decision
Summary: Section 73R of the ITAA 1936 sets out the rules for determining whether an eligible company that has deducted or can deduct an amount under subsection 73B(13) or 73B(14) of the ITAA 1936 is a group member in relation to another company that has deducted or can deduct such an amount, and their respective group membership periods. The steps set out in the method statement contained in section 73R of the ITAA 1936 must be undertaken for each eligible company working out its additional deduction under section 73Y of the ITAA 1936. Step 2 of the method statement states: Work out the day before the last day of the Y 0 year of income, or the first day of the Y -3 year of income, whichever is the later, when a company that is a primary group member: (a) was controlled, as mentioned in section 73L, by a person other than a person who controlled it as at the last day of the Y 0 year of income; or (b) acted, or could be expected to act, in accordance with the directions or wishes of a person other than a person in accordance with whose directions or wishes it acted, or could be expected to act, as at the last day of the Y 0 year of income. The question is what is meant by the phrase in paragraph 73R(2)(a) of the ITAA 1936, 'was controlled, as mentioned in section 73L, by a person other than a person who controlled [the company] as at the [relevant day]'. Paragraph 4.17 of the Explanatory Memorandum to the Taxation Laws Amendment (Research and Development) Bill 2001 (Explanatory Memorandum) says: Step 2 . . . determines the group membership period of the primary group members. The primary group members group membership period extends from the day their control changed which caused them to come into the group to the last day of the income year. The group membership period will not commence before the first day of the income year 3 years before the current income year. Section 73R of the ITAA 1936 clearly operates where a company was, at all relevant times, controlled by a person or persons under section 73L of the ITAA 1936. However, on a literal interpretation, the words used would not recognize a change in control where, previously, no person(s) controlled the company within the meaning of section 73L of the ITAA 1936. However, paragraph 4.17 of the Explanatory Memorandum indicates that the day upon which the company came into the group of which it was a member of the last day of the Y 0 year of income, was envisaged as defining the group membership period. Further, where a company was not previously controlled by any person(s), it cannot be said that the person who controlled the company on the last day of the Y 0 year of income, controlled the company for the whole of the relevant period. A literal interpretation of subsection 73R(2) of the ITAA 1936, would suggest that though there has been a 'change in control' of the company (in terms of its group as determined under section 73L of the ITAA 1936), its group membership period would nevertheless be the maximum that the subsection allows for, that is, four years. Such an interpretation would defeat the purpose of the provision, being to recognize the start of the group membership period as the time that a relevant change of control occurs, even if no person or persons previously controlled the company under section 73L of the ITAA 1936. Here, there has been a change in control causing the company to come into the group of which it was a member on the last day of the Y 0 year of income. Further, this type of change is envisaged by paragraph 4.17 of the Explanatory Memorandum. On this basis, paragraph 73R(2)(a) of the ITAA 1936 is interpreted to apply where a change in control is the result of a company not controlled by any person within the meaning of section 73L of the ITAA 1936, coming under a person(s) control. Therefore, the group membership period of company S is the period between the day upon which the company commenced to be controlled under section 73L of the ITAA 1936 (by the person who controlled it on the last day of the Y 0 year of income) and the last day of the Y 0 year of income.

Legislative references: Income Tax Assessment Act 1936 section 73L section 73R subsection 73R(2) paragraph 73R(2)(a)
Related ATO interpretative decisions: ATO ID 2004/808
Subject references: Research & development expenses Grouped entities for research and development