Private ruling: Company restructure
Published: March 2015
Ruling period: Year of income ended 30 June 2015
Date scheme commenced: 1 July 2014

Ruling: Q1: Will subdivision 122-A apply so that any capital gain made by the Trust when it disposes of the Company C shares to Company D in the first stage of the restructure be disregarded and the consequences set out in sections 122-40 to 122-60 of the Income Tax Assessment Act 1997 (ITAA 1997) apply? | A1: Yes | Q2: Will the share capital reduction by Company D as described in the second stage satisfy the requirements of Division 125 of the ITAA 1997 so that the Trust can choose demerger rollover relief under section 125-55? | A2: Yes | Q3: Will any dividends paid to the Trust be demerger dividends that are neither assessable nor exempt income pursuant to subsections 44(3) and (4) of the Income Tax Assessment Act 1936 (ITAA 1936)? | A3: Yes | Q4: Will the Commissioner make a determination under paragraph 45B(3)(a) of the ITAA 1936 that section 45BA applies to the whole, or any part of any demerger benefits provided under the second stage? | A4: No | Q5: Will the Commissioner make a determination under paragraph 45B(3)(b) of the ITAA 1936 that section 45C applies to the whole, or any part of any demerger benefits provided under the second stage? | A5: No

Relevant facts and circumstances: Company C is an Australian resident private company, registered after September 1985. Taxpayer A as trustee for the Trust is the sole shareholder of the 100% of the issued shares in Company C. The Trust is an Australian resident trust. All issued shares in Company C are ordinary shares. Company C owns and operates two businesses in Australia. Each business is run independently of the other and has different employees and contractors. As at 30 June 20XX Company C had franking credits of $X. Company C has been paying annual dividends, and is expected to pay another dividend of approximately $Y prior to 30 June 20YY. The plan and business model is for a number of different businesses to each be owned by a separate company with the Trust owning interests in those companies. It is proposed that in the future, additional businesses will be acquired or established under the corporate banner. For business efficiency reasons, Company C wishes to restructure so that each of the current and future businesses will be owned and operated by a separate company that is wholly or partly owned by the Trust. A new company, Company E has been incorporated. Its sole shareholder is the Trust. Company E will hold assets including the Company trade mark. In the future it is intended that Company E will act as franchisor business franchises. The proposed restructure will occur in two stages: Stage 1 An Australian resident private company (Company D) will be established with the Trust as the sole shareholder. The Trust will dispose of all its shares in Company C (Company C shares) to Company D in consideration for Company D issuing non-redeemable shares in itself to the Trust. As such Company C will effectively raise capital and credit the value of the Company C shares to its share capital account. This will be accounted for in Company D's books: DR CR Investment in Company C Market value of Company C Share Capital Market value of Company C The Trust will choose to obtain CGT roll-over relief under subdivision 122-A of the ITAA 1997. Company D and Company C will then consolidate for tax purposes with Company D as the head entity. At the time of consolidation, there will be no carried forward losses in Company C. Company C will sell one of the current businesses (business 1) to Company D. Company D will fund the purchase by way of a deposit with the balance being paid under a loan arrangement over a period of 3 - 5 years. The business 1 assets to be transferred to Company D will consist of goodwill and plant and equipment. Stage 2 - demerger Company D will undertake a share capital reduction. This will be by way of an equal reduction pursuant to section 256B of the Corporations Act . The share capital reduction will be paid for by Company D transferring all its Company C shares to the Trust. This will be accounted for in Company D's books: DR CR Share Capital Market value of X business Investment in Company C Market value of X business As a result the Trust will own 100% of the shares in Company C and it will also own 100% of the shares in Company D. The above transactions will be effected within a short time frame, and there is expected to be no change in market value of the X business between the time when the Trust disposes its Company C shares to Company D to when the demerger occurs. Company D will choose to obtain CGT roll-over relief under Division 125 of the ITAA 1997. Company D will not make an election under subsection 44(2) of the ITAA 1936.

Relevant legislative provisions: Income Tax Assessment Act 1936 section 45B | Income Tax Assessment Act 1936 section 45BA | Income Tax Assessment Act 1936 section 45C | Income Tax Assessment Act 1997 subdivision 122-A | Income Tax Assessment Act 1997 Division 125 Further issues for you to note | This ruling decision is limited to the specific questions raised in your ruling application and has not otherwise fully considered the application of the substantive provisions of the ITAA 1997 or ITAA 1936 to the proposal. | We recommend that you give further consideration to the implications of the consolidation provisions to the arrangement. In particular: | • The cost base Company D inherits from the Trust for all the (post CGT) shares in Company C under the subdivision 122-A rollover may be too low (noting in such rollovers there is no Division 705 Step 3 amount). This could result in a shortage of Division 705 entry Allocable Cost Amount for Company C and the possibility of CGT Event L3 arising (in respect of retained cost base assets) and a reduction in the tax cost of reset cost base assets (with resulting Division 711 problems on exit at time of the demerger). | • The proposed demerger of Company C will result in Division 711 applying and possibly a CGT Event L5 gain arising (if Company C's Division 705 Step 4 liabilities exceed the Step 1 terminating value of its assets).

Reasons for decision: Detailed Reasoning - CGT roll-over relief under subdivision 122-A of the ITAA 1997: Generally, Subdivision 122-A of the ITAA 1997 allows for the "roll-over" of a capital gain or loss where a taxpayer disposes of a CGT asset to a company in which, just after the disposal, the taxpayer owns all the shares. In order for an individual or a trustee to obtain roll-over relief under Subdivision 122-A of the ITAA 1997, the CGT event which triggers the capital gain or loss must be one listed in the table of section 122-15 of the ITAA 1997. In the present case the transfer by the Trust of its Company C shares to Company D will trigger CGT event A1 (Trigger event), a CGT event listed in the table of section 122-15 of the ITAA 1997 and therefore this requirement is satisfied. In addition, the circumstances of the transfer must also satisfy the conditions listed in sections 122-20 to 122-35 of the ITAA 1997. Subsection 122-20(1) of the ITAA 1997 requires that the consideration received for the Trigger event must either be shares in the wholly owned company or in addition to shares in the wholly owned company, the company undertaking to discharge any liabilities in respect of the asset. Subsection 122-20(2) of the ITAA 1997 requires that the shares received in the wholly owned company, as a result of the Trigger event, must not be redeemable shares. The shares' market value must be substantially the same as the market value of the assets disposed of, less any liabilities the company agrees to discharge. In the present case the requirements of section 122-20 of the ITAA 1997 are satisfied. In consideration of the transfer of the shares, the Trust will receive ordinary shares in the wholly owned company (Company D) and the market value of the shares received will be substantially the same as the market value of the shares transferred. Section 122-25 of the ITAA 1997 lists further requirements that must also be satisfied for roll-over relief to be available under Subdivision 122-A of the ITAA 1997. The proposal for the Trust to transfer its shares in Company C to Company D, a wholly owned company, meets the requirements of section 122-25 of the ITAA 1997. the Trust will own all the shares in the company immediately after the trigger event as specified in subsection 122-25(1). The shares being transferred to the wholly owned company are also not assets listed in the table in subsection 122-25(2) of the ITAA 1997 and are not precluded assets as described in subsection 122-25(3). The Trust is, and will still be an Australian resident at the time of the trigger event and the wholly owned company to which the shares are transferred will be incorporated in Australia, in satisfaction of subsection 122-25(7) of the ITAA 1997. The further conditions listed in section 122-35 of the ITAA 1997, do not apply. Accordingly, the Trust can obtain roll-over relief under subdivision 122-A of the ITAA 1997 on the transfer of the Company C shares to Company D, a wholly owned company, in circumstances described in the facts. | Detailed Reasoning - Division 125 demerger rollover relief: The demerger roll-over provisions in Division 125 of the ITAA 1997 contain a number of conditions for eligibility to choose demerger roll-over relief. Immediately prior to the demerger Company D will have a 100% shareholding interest in Company C. Therefore Company D and Company C constitute a demerger group pursuant to subsection 125-65(1) of the ITAA 1997. Company C is a demerger subsidiary pursuant to 125-65(6) of the ITAA 1997 as Company D will have a right to exercise or control the exercise of more than 20% of the voting power of Company C. Section 125-70 of the ITAA 1997 specifies the conditions that must be met for a shareholder to be eligible to choose roll-over. Under the current scheme, these conditions will be satisfied: • Paragraph 125-70(1)(a) - the transfer of shares in Company C to Company D shareholders will be a restructure of a demerger group. • Paragraph 125-70(1)(b)(i) - 100% (that is at least 80%) of the shares that Company D holds in Company C will be disposed of to the shareholders in Company D. • Paragraph 125-70(1)(c)(i) - CGT event G1 will happen in relation to each share owned by Company D shareholders at the time that Company C makes a payment of the capital reduction amount (the in specie distribution of Company C shares). • Paragraph 125-70(1)(d) - The acquisition of Company C shares by Company D shareholders happens only because they own shares in Company D. • Paragraph 125-70(1)(e)(i) - the new interests acquired are ownership interests in a company (Company C) and the head entity is a company. • Paragraph 125-70(1)(g) - neither of the original interests nor the new interests are in a trust that is a superannuation fund. • Paragraph 125-70(1)(h) - the requirements of subsection 125-70(2) are met. • Paragraph 125-70(2)(a) - the Trust will acquire under the demerger the same proportion of shares in Company C as it owned in Company D just before the demerger. • Paragraph 125-70(2)(b) - Just after the demerger, the Trust will have the same proportionate total market value of shares in Company C and Company D as it owned in Company D just before the demerger, namely 100%. Accordingly, the Trust can choose demerger rollover relief under section 122-55 of the ITAA 1997. | Detailed Reasoning - Distribution is not a dividend for income tax purposes: Subsection 44(1) of the ITAA 1936 includes in a shareholder's assessable income any dividends, as defined in subsection 6(1) of the ITAA 1936, paid to the shareholders out of profits derived by the company from any source (if the shareholder is a resident of Australia) and from an Australian source (if the shareholder is a non-resident). The term 'dividend' in subsection 6(1) of the ITAA 1936 includes any distribution made by a company to any of its shareholders. However, paragraph (d) of the definition of 'dividend' in subsection 6(1) excludes a distribution from the meaning of 'dividend' if the amount of a distribution is debited against an amount standing to the credit of the company's share capital account. The term 'share capital account' is defined in section 975-300 as an account which the company keeps of its share capital, or any other account created on or after 1 July 1998 where the first amount credited to the account was an amount of share capital. However, subsection 975-300(3) of the ITAA 1997 provides that an account is not a share capital account if it is tainted. A share capital account is tainted if an amount to which Division 197 of the ITAA 1997 applies is transferred to the share capital account where the account is not already tainted. In the circumstances of this demerger, Company D proposes to debit a capital reduction amount to its share capital account as that term is defined in subsection 6(1) of the ITAA 1936 and section 975-300 of the ITAA 1997. This amount is therefore not a dividend for the purposes of subsection 6(1) of the ITAA 1936 and is not assessable as a dividend under subsection 44(1) of the ITAA 1936. However, the Trust will receive a dividend to the extent that the market value of the Company C shares distributed under the demerger exceed the amount debited against the share capital account (see Taxation Ruling TR 2003/8). This dividend is neither assessable income nor exempt income (subsection 44(3) and 44(4) of the ITAA 1936) if: • the dividend is a 'demerger dividend' (as defined in subsection 6(1) of the ITAA 1936); • Company D (as the head entity of the demerger group) does not elect that subsections 44(3) and 44(4) of the ITAA 1936 will not apply to the demerger dividend (subsection 44(2) of the ITAA 1936); and • subsection 44(5) of the ITAA 1936 is satisfied. In the current scheme, there is a demerger dividend, and Company D will not elect that subsections 44(3) and 44(4) of the ITAA 1936 will not apply to the demerger dividend and at least 50% by market value of all the CGT assets held by Company C and its subsidiaries are used directly or indirectly, in one or more businesses carried on by Company C and its subsidiaries. Accordingly the dividend received by the Trust under the demerger is neither assessable income nor exempt income by operation of subsections 44(3) and 44(4) of the ITAA 1936. | Detailed Reasoning - Application of sections 45B, 45BA and 45C of the ITAA 1936: Section 45B of the ITAA 1936 applies to ensure that relevant amounts are treated as dividends for taxation purposes if: (a) components of a demerger allocation as between capital and profit do not reflect the circumstances of the demerger; or (b) certain payments, allocations and distributions are made in substitution for dividends (subsection 45B(1) of the ITAA 1936). Subsection 45B(2) of the ITAA 1936 provides (relevantly) that the section applies if: (a) there is a scheme under which a person is provided with a demerger benefit or a capital benefit by a company; (b) under the scheme the taxpayer obtains a tax benefit as defined in subsection 45B(9) of the ITAA 1936; and (c) having regard to the relevant circumstances of the scheme, it would be concluded that the scheme was entered into or carried out for a more than incidental purpose of enabling the taxpayer to obtain the tax benefit. Where the requirements of subsection 45B(2) of the ITAA 1936 are met, subsection 45B(3) empowers the Commissioner to make a determination that either section 45BA of the ITAA 1936 applies in relation to a demerger benefit or section 45C of the ITAA 1936 applies in relation to a capital benefit. In this case, while the conditions of paragraphs 45B(2)(a) and 45B(2)(b) of the ITAA 1936 are met, the requisite purpose of enabling 'the taxpayer' to obtain a tax benefit (by way of a demerger benefit or a capital benefit) is not present. Accordingly, the Commissioner will not make a determination under paragraphs 45B(3)(a) or 45B(3)(b) of the ITAA 1936 that either sections 45BA or 45C of the ITAA 1936 applies to the whole, or any part, of the demerger benefit or capital benefit provided under the demerger.