Private ruling: Company losses – continuity of ownership test and same business test
Date of advice: 23 November 2017
Published: April 2018
Ruling period: Year ended 30 June 2011 | Year ended 30 June 2012 | Year ended 30 June 2013 | Year ended 30 June 2014 | Year ended 30 June 2015 | Year ended 30 June 2016 | Year ended 30 June 2017 | Year ending 30 June 2018
Date scheme commenced: 1 July 2010

Ruling: Q1: Do you satisfy the continuity of ownership test? | A1: No | Q2: Do you satisfy the same business test? | A2: No

Relevant facts and circumstances: You were incorporated a number of years ago. Your main business activity was the manufacture and sale of a sporting product. The sporting product was not a success and trading was suspended not long after you commenced trading. You still have stock of this product and you still seek customers. You had X shareholders each holding XX% of the shares. In the 2018 income year as the result of a directors meeting X of the X shareholders resigned and gave their shares to the remaining shareholder who now has 100% of the shares in the company. In the 2018 income year you commenced another business. You intend on seeking customers for the sporting product. You will provide services to customers overseas in your new business adventure which is not related to the sporting industry. The new business service is a necessary aspect of your business as it will raise further working capital to develop the company as well as provide income in the interim.

Relevant legislative provisions: Income Tax Assessment Act 1997 section 165-12 | Income Tax Assessment Act 1997 section 165-13 | Income Tax Assessment Act 1997 section 165-15 | Income Tax Assessment Act 1997 section 165-70 | Income Tax Assessment Act 1997 section 165-165 | Income Tax Assessment Act 1997 section 165-210

Reasons for decision: Summary: A company cannot deduct a tax loss unless it satisfies either the continuity of ownership test (COT) under section 165-12 of the Income Tax Assessment Act 1997 (ITAA 1997), or the same business test (SBT) under section 165-13 of the ITAA 1997 and does not fail the tainted change of control test under section 165-15 of the ITAA 1997. | Detailed Reasoning - COT: You meet the conditions set out in section 165-12 if during the ownership test period there are persons who: (i) had more than 50% of the voting rights in the company; and (ii) had rights to more than 50% of the company’s dividends; and (iii) had rights to more than 50% of the company’s capital distributions. The ownership test period is the period from the start of the loss year to the end of the income year. A loss year is determined by working out the company’s tax loss in accordance with section 165-70 of the ITAA 1997. The same share rule in section 165-165 of the ITAA 1997 ensures that the same persons considered for continuity of ownership testing for the recoupment of tax losses must hold exactly the same shares, or interests in shares, for the entire ownership test period. The company had X shareholders each holding XX % of the shares. In the 2018 income year X of the X shareholders transferred their shares to the remaining shareholder resulting in the remaining shareholder holding 100% of the shares in the company. Applying the same share rule to the present circumstances, only XX% of the shares has maintained the same ownership during the ownership test period. As this is less than 50%, the continuity of ownership test is not met. | Detailed Reasoning - SBT: A company satisfies the SBT if, throughout the SBT period (the whole of the income year when the loss is sought to be recouped) the company carries on the same business as it carried on immediately before the test time (subsection 165-210(1) of the ITAA 1997). Taxation Ruling TR 1999/9 Income tax: the operation of sections 165-13 and 165-210, paragraph 165-35(b), section 165-126 and section 165-132 provides the Commissioner’s view on the application of the SBT and provides guidelines to assist with determining whether the SBT is satisfied. To satisfy the SBT you must be able to show that you carried on the same business, in the sense of the identical business, at all times during the income year as the business you carried on before the change in ownership occurred (paragraph 38 of TR 1999/9). However, this does not mean that the business carried on by you during the income year must be identical in every respect with the business that was carried on immediately before the change of control and ownership. A business may be the same even though there have been some changes in the way in which it is carried on, provided the identity of the business has not changed. An expansion or contraction of a taxpayer’s business activities may not in itself result in a change in the identity of the business carried on by the taxpayer. However, the expansion or contraction of activities may result in a change in the identity or character of the business, taking into account the nature and extent of the expansion or contraction. In particular, the organic growth of a business through the adoption of new compatible operations in the ordinary way and, similarly, the discarding of old operations in that way, may not cause a taxpayer to fail the SBT, but a sudden and dramatic change brought about by the loss or acquisition of business operations on a considerable scale is likely to do so. In Case Y45 ; AAT Case 7,272 (1991) 22 ATR 3395; 91 ATC 426 Dr Grbich of the Administrative Appeals Tribunal determined that the taxpayer did not satisfy the SBT as the taxpayer had ceased to carry on part of its business that comprised an agency for selling an agricultural machine, notwithstanding that the taxpayer continued its agricultural consulting business at all times. This decision indicates that the discontinuance, whether by way of cessation or sale, of a significant part of the business carried on by a taxpayer is likely to result in the taxpayer not being able to satisfy the SBT. The basis of the decision by Dr Grbich was the profits of the taxpayer for the agricultural machine were an important part of the taxpayer company’s income generating activities in its early years, even allowing for the fact that most of the taxpayer’s resources were deployed in building up its investment and management advisory service. This was more than a mere change in the process by which the taxpayer ran its business. There was a substantial structural change in the nature of the taxpayer’s income earning activities. In your case the Commissioner considers a significant change in your income earning structure and character occurred when you commenced your new business such that you do not satisfy the SBT. You were initially manufacturing and selling the sporting product from when the company commenced until XXXX when you ceased trading in the product due to it not being a commercial success. You commenced the new business in the 2018 income year after X of the X shareholders transferred their shares to the remaining shareholder. The new business has no relationship or connection with the sporting product other than it will provide working capital for the relaunch of that product. The new business is in a completely different area.