Private ruling: Liquidator's distribution of company loans to associates
Published: April 2013
Ruling period: Year ending 30 June 2013 | Year ending 30 June 2014 | Year ending 30 June 2015
Date scheme commenced: 1 July 2012

Ruling: Q1: Are the relevant properties currently held by the company pre-capital gains tax (pre-CGT) assets? | A1: Yes | Q2: Will varying the terms of the Trust deed, to give the trustee the power to advance capital to beneficiaries prior to the vesting date, constitute a resettlement of the trust and the happening of a CGT event? | A2: No | Q3: Will the transfer of the relevant properties, at market value, to the default beneficiaries, subject to promissory notes given by them to the Company as consideration for the properties, be a dividend under section 109C of the Income Tax Assessment Act 1936 (ITAA 1936)? | A3: No | Q4: Will an in-specie distribution by a company liquidator of the promissory notes give rise to a dividend under section 109D of the ITAA 1936? | A4: Yes | Q5: Will an in-specie distribution by a Company liquidator of the promissory notes be a tax-free distribution under section 47 of the ITAA 1936 and under the CGT provisions? | A5: Yes

Relevant facts and circumstances: The trust is a discretionary family trust and the sole (pre-CGT) shareholder in the company. The company owns properties purchased prior to 20 September 1985. The family trust has a number of default beneficiaries, who are eligible beneficiaries according to the original pre-CGT Trust deed. The default beneficiaries wish to divide and distribute the land to themselves, individually, so they can deal with their individual portions of land independently of each other. If the company is wound up and the land is distributed to the default beneficiaries, in-specie, via the trust, stamp duty will be applied twice. To avoid double stamp duty, it is proposed (i) the company will be placed into voluntary liquidation; (ii) the company will transfer the respective portions of property to the default beneficiaries, at market value; (iii) in exchange, the default beneficiaries will provide a promissory note to the company, which will be CGT assets, i.e., debts owed to the company; (iv) the company will be liquidated and the promissory note will be distributed in-specie to the trust shareholder and then to the default beneficiaries; (v) thus resulting in the default beneficiaries becoming the owner of their promissory notes owed to the company.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 149-10 | Income Tax Assessment Act 1997 Section 149-30 | Income Tax Assessment Act 1997 Section 104-55 | Income Tax Assessment Act 1997 Section 104-60 | Income Tax Assessment Act 1936 Section 109C | Income Tax Assessment Act 1936 Section 109D | Income Tax Assessment Act 1936 Section 109F | Income Tax Assessment Act 1936 Section 109G | Income Tax Assessment Act 1936 Section 109NA | Income Tax Assessment Act 1936 Section 47 | Income Tax Assessment Act 1997 Section 104-25 | Income Tax Assessment Act 1997 Section 104-135

Reasons for decision: Summary: Division 149 of the Income Tax Assessment Act 1997 ( ITAA 1997) is about when an asset stops being a pre-CGT asset. The rules in Subdivision 149-B of the ITAA 1997 determine when a CGT asset of an entity stops being a pre-CGT asset (unless the entity is a public entity listed in section 149-50 of the ITAA 1997). This happens at the earliest time when the 'majority underlying interests' in the asset were not held by 'ultimate owners' who held majority underlying interests in the asset immediately before 20 September 1985. To be a pre-CGT asset, section 149-10 of the ITAA 1997 includes, as one of three criteria, satisfying former subsection 160ZZS(1) of the ITAA 1936, which formerly held: For the purposes of the application of this Part in relation to a taxpayer, an asset acquired by the taxpayer on or before 19 September 1985 shall be deemed to have been acquired by the taxpayer after that date unless the Commissioner is satisfied, or considers it reasonable to assume, that, at all times after that date when the asset was held by the taxpayer, majority underlying interests in the asset were held by natural persons who, immediately before 20 September 1985, held majority underlying interests in the asset. Under ordinary legal concepts, where there is a discretionary trust deed, no beneficiary is entitled to income or capital of the trust until the trustee exercises its discretion to distribute income or to make an appointment of capital. Therefore, it is not be possible for a discretionary trust to satisfy the continuing majority underlying interests test set out in subsection 149-30(1) of the ITAA 1997. Taxation Ruling IT 2340, which addresses the application of section 160ZZS of the ITAA 1936 to assets held by trustees of discretionary family trusts, provides: Where a trustee continues to administer a trust for the benefit of members of a particular family, for example, it will not bring section 160ZZS into application merely because distributions to family members who are beneficiaries are made in such amounts and to such of those beneficiaries as the trustee determines in the exercise of his discretion. In such a case the Commissioner would, in terms of sub-section 160ZZS(1), find it reasonable to assume that for all practical purposes the majority underlying interests in the trust assets have not changed. On that basis, trust assets acquired by the trustee before 20 September 1985 would remain outside the scope of the capital gains and losses provisions of the Act. On the other hand where, by the exercise of a trustee's discretionary powers to appoint beneficiaries or by amendment of the trust deed, there is in practical effect a change of 50% or more in the underlying interests in the trust assets - such as where the members of a new family are substituted as recipients of distributions from the trust in place of persons who were formerly the object of such distributions - the section would have its intended application as described. In your case, as the default beneficiaries are eligible beneficiaries of the pre-CGT Trust deed, the subject properties are pre-CGT assets. In its table of sections, Subdivision 104-E of the ITAA 1997 lists CGT events that may happen in relation to trusts, namely: § Creating a trust over a CGT asset: CGT event E1 § Transferring a CGT asset to a trust: CGT event E2 § Converting a trust to a unit trust: CGT event E3 § Capital payment for trust interest: CGT event E4 § Beneficiary becoming entitled to a trust asset: CGT event E5 § Disposal to beneficiary to end income right: CGT event E6 § Disposal to beneficiary to end capital interest: CGT event E7 § Disposal by beneficiary of capital interest: CGT event E8 § Creating a trust over future property: CGT event E9 Taxation Determination TD 2012/21 is about if the terms of a trust are changed pursuant to a valid exercise of a power contained within the trust's constituent document or varied with the approval of a relevant court. It confirms CGT events E1 and E2 listed above will not happen unless: (i) the change causes the existing trust to terminate and a new trust to arise for trust law purposes or (ii) the effect of the change or court approved variation is such as to lead to a particular asset being subject to a separate charter of rights and obligations such as to give rise to the conclusion that that asset has been settled on terms of a different trust. In your case, varying the terms of the trust deed to give the trustee the power to advance capital to beneficiaries prior to the 'Closing Date' will not constitute a resettlement of the trust and will not result in a CGT event happening. Section 109C of the ITAA 1936 is about when a private company is taken to pay a dividend in relation to a payment to a shareholder or an associate. Subsection 109C(4) provides the amount of a payment consisting of a transfer of property is the amount that would have been paid for the transfer by parties dealing at arm's length less any consideration given by the transferee for the transfer. In your case, the promissory notes given to the company represent consideration for the land and thus negate the arising any dividend under section 109C of the ITAA 1936. Section 109NA in Subdivision D of the ITAA 1936 provides a private company is not taken under section 109C or subsection 109D(1) to pay a dividend because of a distribution or loan made in the course of the winding-up of a company by a liquidator. However, the note in section 109NA of the ITAA 1936 provides if such a loan is not fully repaid by the end of the following year of income, the company will be taken to have paid a dividend under subsection 109D(1A). Further, in respect to debt forgiveness, in general, section 109F of the ITAA 1936 provides a private company is taken to pay a dividend when to a loan to a shareholder or an associate is forgiven. However, section 109G of the ITAA 1936 lists the situations when forgiveness of a loan by private company to a shareholder or an associate does not give rise to a dividend, namely: (1) Forgiveness of debt owed by company generally not treated as dividend. (2) Forgiveness of debts under Bankruptcy Act not treated as dividends. (3) Forgiveness of loan debt does not give rise to dividend if loan gives rise to dividend under section 109D. (4) Reduced dividend for forgiveness of loan debt if loan causes dividend under section 109E (which is about amalgamated loan from previous year). (5) Commissioner may treat forgiveness as not giving rise to dividend. In your case, liquidation of the company will result in the promissory notes (that is, the loans by the company to the default beneficiaries, who are 'associates') not being fully repaid by the end of the current year under paragraph 109D(1A)(c) of the ITTA 1936. It follows subsection 109D(1A) of the ITAA 1936 will deem the company has paid a dividend to the default beneficiaries of the trust. We note the outcome here is contrary to the interpretation made in your private ruling application, which stated: As the loan will be made by a liquidator, the loan will not result in a deemed dividend for Division 7A purposes so long as the winding up of the company, which will bring the loans to an end, occurs by the end of the year following the year in which the loan is made (section 109NA and 109(1A) of the ITAA 1936). Also, although the liquidation of the company results in forgiveness of the promissory notes, subsection 109G(3) of the ITAA 1997 ensures section 109D rather than section 109F will apply to deem the dividend in relation to the forgiven debt. Subsection 47(1) of the ITAA 1936 provides: Distributions to shareholders of a company by a liquidator in the course of winding up the company, to the extent to which they represent income derived by the company (whether before or during liquidation) other than income which has been properly applied to replace a loss of paid-up share capital, shall, for the purposes of this Act, be deemed to be dividends paid to the shareholders by the company out of profits derived by it. The effect of section 47 is to treat certain distributions by a liquidator as dividends paid out of profits when they otherwise would have been treated as capital. Where there is a profit on the disposal of a pre-CGT asset by a company in liquidation, section 47 applies to not deem a dividend, as no part of the distributions would represent income derived by the company. (Note: Subsection 47(2B) of the ITAA 1936 provides where the company does not cease to exist within a period of three years after the distribution or within such further period as the Commissioner allows, the distribution shall be deemed to be dividends paid by the company to the shareholders.) Taxation Determination TD 2001/27 is about the CGT implications of liquidator distributions. It provides the full amount of a final distribution made by a liquidator on the winding-up of a company is capital proceeds from the ending of the shareholder's shares in the company for the purposes of capital gains or capital losses made on the happening of CGT event C2 in section 104-25 of the ITAA 1997. However, where the relevant shares are pre-CGT assets, any capital gain made is disregarded under subsection 104-135(5) of the ITAA 1997. In your case, as the relevant shares held by the trust are pre-CGT shares, the liquidator's distribution paid, from the sale of pre-CGT assets, will be tax-free in the hands of the trust and its beneficiaries, for the purposes of section 47 of the ITAA 1936 and section 104-25 of the ITAA 1997. However, as ruled, section 109D of the ITAA 1936 will deem the Company has paid a dividend to the default beneficiaries of the trust.