ATO ID 2004/668: Capital gains tax : buy-sell agreement - time of CGT event A1
Date of decision: 23 July 2004
Year of income: Year ended 30 June 2004
Business line: Public Groups and International

Issue
Is a buy-sell agreement 'entered into' for the purposes of paragraph 104-10(3)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) before a condition precedent to its formation is fulfilled?

Decision
No. The buy-sell agreement is not entered into for the purposes of paragraph 104-10(3)(a) of the ITAA 1997 until the condition precedent to its formation is met.

Facts
A buy-sell agreement was signed between a private limited company and its shareholders. It was a condition precedent to the formation of the agreement that one of the shareholders die. If any shareholder died, their interests in the company were to be transferred to each of the other shareholders.

Reasons for decision
Summary: Buy-sell agreements are used in business succession planning. If a business proprietor is unable to continue in business in circumstances contemplated by the agreement (such as death or disablement), the agreement ensures that the business is preserved for the remaining proprietors. The outgoing proprietor (or their estate) receives an amount equivalent to the worth of their equity in the business. The ultimate transfer of business interests is funded by insurance proceeds. Subsection 104-10(1) of the ITAA 1997 provides that CGT event A1 happens on the disposal of a CGT asset. A CGT asset is disposed of if there is a change in its ownership from one entity to another. The agreement in this case provided for the disposal of shares in a company carrying on a business if a shareholder died. Subsection 104-10(3) ITAA 1997 provides that CGT event A1 happens when you enter into the contract for the disposal or, if there is no contract, when the change of ownership occurs. The time when a contract is entered into is the time when it comes into existence for general law purposes. If a contract is subject to a condition, an issue arises whether the condition is a condition precedent to its formation or whether it is a condition precedent to performance of the contract. In the first case, the contract does not come into existence until the condition is met. In the second case, the condition does not prevent the creation of the contract - non-fulfilment of the condition merely entitles a party to terminate the contract: see Perri v. Coolangatta Investments Pty Ltd (1982) 149 CLR 537. In this case, the language used to describe the condition evidenced the parties' intention not to be bound by it from the date it was signed. That is, it was a condition precedent to the formation of the agreement. Accordingly, no agreement will be entered into for the purposes of CGT event A1 until the death of a party to the contract. When a party to the agreement dies there will only be a contract in respect of the assets being disposed of by that party. Subsequent contracts will be made when other parties die.

Legislative references: Income Tax Assessment Act 1997 subsection 104-10(1) subsection 104-10(3) paragraph 104-10(3)(a)
Case references: Perri v. Coolangatta Investments Pty Ltd (1982) 149 CLR 537
Related ATO interpretative decisions: ATO ID 2003/1190
Subject references: capital gains tax CGT event A1-disposal of a CGT asset deaths private companies shareholder payments shareholders