ATO ID 2006/99: Consolidation: tax consequences on exit - restructure of membership interests supporting components of life insurance business
Date of decision: 30 March 2006
Year of income: Year ended 30 June 2006 Year ended 30 June 2007
Business line: Public Groups and International

Issue
The head company of a consolidated group is treated as a life insurance company. The consolidated group includes two subsidiary members that are unit trusts. The first unit trust is held under the virtual PST of the head company. The underlying assets of this unit trust are segregated to support virtual PST life insurance policy liabilities. The underlying assets of the second unit trust are not segregated and form part of the ordinary assets of the head company. That unit trust can be said to be held under the 'ordinary component' of the head company. Each trust will issue an additional unit to the other component of the head company's life insurance business resulting in each trust ceasing to be a subsidiary member of the consolidated group. When the unit trusts cease to be subsidiary members of the consolidated group and the units are recognised for income tax purposes:

Decision

Facts
Head Co is the head company of a consolidated group. Under section 713-505 of the ITAA 1997, Head Co is treated as a life insurance company for the purposes of applying the income tax law. Investment policies are issued to trustees of superannuation funds and to ordinary (non-superannuation) policyholders. The assets supporting these policies are held through two subsidiary member unit trusts: Each trust has substantial assets and nil or insignificant liabilities. It is proposed to issue an additional unit from each unit trust to other 'components' of Head Co for market value, namely: Therefore, in accordance with subsection 713-510(2) of the ITAA 1997, Trust V and Trust O will cease to be subsidiary members of the consolidated group.

Reasons for decision
Summary: When an entity ceases to be a subsidiary member of a consolidated group, the tax cost of each membership interest that the head company holds in that entity is set under subsection 701-15(3) of the ITAA 1997 (referred to as its 'tax cost setting amount'). Under subsection 701-55(5) that tax cost setting amount is taken to be the cost base of each membership interest for the purpose of applying Part 3-1 or 3-3 of the ITAA 1997 (in the determination of capital gains and losses). In addition, under subsection 701-55(6) of the ITAA 1997, the tax cost setting amount is taken to be the cost of each membership interest for the purpose of any provisions not specifically mentioned in section 701-55. This would therefore include for the purpose of applying section 6-5 of the ITAA 1997. Section 6-1 of the ITAA 1997 provides that assessable income consists of: | Detailed Reasoning - Division 320 of the ITAA 1997: Among other things, Subdivision 713-L of the ITAA 1997 sets out special rules for the head company of a consolidated group where a life insurance company is a subsidiary member of the group. In particular, section 713-505 treats the head company as a life insurance company. It states: This Act, and the Income Tax Rates Act 1986 , apply to the *head company of a *consolidated group as if it were a life insurance company for an income year if one or more life insurance companies are *subsidiary members of the group at any time during that year. * denotes a term defined in section 995-1 of the ITAA 1997. This rule ensures that the special provisions in the income tax law (such as Division 320 of the ITAA 1997) that apply to life insurance companies will continue to apply to the consolidated group. (see paragraph 1.10 of Explanatory Memorandum to the New Business Tax System (Consolidation and Other Measures ) Bill (No. 2) 2002) Section 320-15 of the ITAA 1997 specifically includes additional amounts in the assessable income of life insurance companies. In addition, Subdivision 320-C specifies particular deductions that are available to a life insurance company. The issue of the additional unit to the virtual PST arguably represents a 'transfer of assets other than money' to the virtual PST. Paragraph 320-15(1)(e) of the ITAA 1997 includes in the assessable income of a life insurance company, the amount included in assessable income under section 320-200 where an asset (other than money) is transferred: Division 320 of the ITAA 1997 allows for the following transfers of assets to a virtual PST: The issue of the additional unit to the virtual PST of the head company will not produce any assessable income for the head company under paragraph 320-15(1)(e) of the ITAA 1997. Such a transfer would not be made as a consequence of there being a deficiency in assets as described in subsection 320-180(3). Additionally, the transfer would not satisfy the circumstances described in section 320-185 of the ITAA 1997. Subsection 320-87(3) of the ITAA 1997 specifically allows a deduction for assets (other than money) that are transferred by a life insurance company: The issue of the additional unit to the virtual PST of the head company will not produce any deductions under subsection 320-87(3) of the ITAA 1997. Such a transfer would not be made as a consequence of there being a deficiency in assets as described in subsection 320-180(3), nor would the transfer satisfy the circumstances described in section 320-185. Further, the issue of the additional unit to the 'ordinary component' cannot be said to represent a 'transfer of assets other than money' from the virtual PST and to which paragraph 320-15(1)(e) and subsection 320-87(3) of the ITAA 1997 apply. The issue of the unit will not represent a transfer of existing virtual PST assets. | Detailed Reasoning - CGT event A1: Under subsection 104-10(1) of the ITAA 1997, CGT event A1 happens if you dispose of a CGT asset. You dispose of a CGT asset if a change in ownership happens from you to another entity, whether because of some act or event or by operation of law (see subsection 104-10(2)). The issue of the additional unit to the virtual PST and to the 'ordinary component' will not constitute a disposal under CGT event A1 as it will not result in a change in ownership. Although the unit trusts will cease to be subsidiary members of the consolidated group, the head company will continue to hold all the units in those trusts and will therefore continue to have a beneficial interest in the underlying assets of the unit trusts. | Detailed Reasoning - CGT event L5: Under subsection 104-520(1) of the ITAA 1997, CGT event L5 happens if: As a consequence, for the head company core purposes (subsection 701-1(2) of the ITAA 1997 refers), under subsection 104-520(3), the head company makes a capital gain equal to the amount remaining. Therefore, if in working out the head company's allocable cost amount for the leaving entities (being the unit trusts), the amount after applying step 4 in the table in section 711-20 of the ITAA 1997 is negative, CGT event L5 will happen. CGT event L5 will not happen in this case as the unit trusts have insignificant, if any, liabilities. | Detailed Reasoning - Assessable income and deductions according to ordinary concepts: Under subsection 6-5(1) of the ITAA 1997, your assessable income includes income according to ordinary concepts, which is called ordinary income. In accordance with subsection 6-5(2) of the ITAA 1997: If you are an Australian resident, your assessable income includes the *ordinary income you *derived directly or indirectly from all sources, whether or not in or out of Australia, during the income year. Subsection 8-1(1) of the ITAA 1997 provides that: You can deduct from your assessable income any loss or outgoing to the extent that: (a) it is incurred in gaining or producing your assessable income; or (b) it is necessarily incurred in carrying on a *business for the purpose of gaining or producing your assessable income. The exit of the unit trusts from the consolidated group will not produce any income assessable under subsection 6-5(1) of the ITAA 1997, nor will it produce any loss or outgoing deductible under subsection 8-1(1) in respect of an actual or notional disposal of the units in the trusts. Although the unit trusts will cease to be subsidiary members of the consolidated group, the units in the trusts will continue to be beneficially owned by the head company.

Legislative references: Income Tax Assessment Act 1997 Subdivision 713-L section 6-1 section 6-10 section 6-5 section 320-15 subsection 320-180(1) subsection 320-180(3) subsection 104-10(1) subsection 104-10(2) paragraph 320-15(1)(e) subsection 104-520(1) subsection 104-520(3) section 711-20 subsection 701-1(2) Division 320 Subdivision 320-C section 320-185 subsection 320-185(1) subsection 320-185(2) subsection 320-185(3) subsection 320-195(2) subsection 320-195(3) section 713-510 subsection 713-510(2) subsection 701-15(3) subsection 701-55(5) subsection 701-55(6) section 713-505 subsection 320-87(3) subsection 6-5(1) subsection 6-5(2) subsection 8-1(1) section 320-200
Other references: Explanatory Memorandum to the New Business Tax System (Consolidation and Other Measures) Bill (No. 2) 2002
Subject references: CGT event A1-disposal of a CGT asset CGT events L1-L8 - consolidated and MEC groups Consolidation Consolidation - tax liabilities Life insurance company Virtual pooled superannuation trusts Complying superannuation/FSHA asset pool Complying superannuation/FSHA liabilities Complying superannuation/FSHA life insurance policy