Private ruling: Capital gains tax - Sale of share in private company
Published: April 2013
Ruling period: 2011-12 income year
Date scheme commenced: On or after 1 July 2004

Ruling: Q1: Did a CGT event happen when the deceased's one share in Company A was transferred? | A1: Yes. | Q2: Is the cost base of the deceased's one share in Company A equal to the amount set out on the share certificate? | A2: Yes. | Q3: Is the cost base of the deceased's one share in Company A equal to the market value of the share on the day of the transfer? | A3: No. | Q4: Is the payment made to Company A included in the cost base of the deceased's one share in Company A? | A4: No. | Q5: Are the capital proceeds from the transfer of the deceased's one share in Company A equal to the amount they received from the crisis recovery claim? | A5: No. | Q6: Are the capital proceeds from the transfer of the deceased's one share in Company A equal to the amount they received from the terminal illness claim? | A6: No.

Relevant facts and circumstances: This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling. Company A was incorporated nearly ten years ago as a proprietary limited company. The deceased acquired their one share at that time for $X. The deceased also contributed some cash shortly afterwards to start up the business together with a personal guarantee and mortgage of personal property to cover Y% of the business loan that Company A took out to purchase the business from the previous owner. This cash contribution was treated as a loan and later refunded to the deceased. There were a number of shareholders of Company A, holding one share each (the deceased was one of the shareholders). Each shareholder was/is a director. Shortly after buying the business, Company A bought an insurance policy on the life of the deceased. The benefit type provided under the policy was described as 'Crisis Recovery Stand Alone'. Shortly afterwards, the deceased bought an insurance policy on their life with the same insurance company. The benefit type provided under the policy was described as 'Term Life' or 'Term Life (BAS)'. The deceased passed away just after the start of the relevant income year. Shortly beforehand, the deceased relinquished their directorship and financial interests in Company A. The facts described as per the Minute of the Director's Meeting of Company A from about that time, are as follows: · Crisis and life policies were taken out and paid for by Company A for all directors. · In the event any director was unable to work or became terminally ill and died from that illness, and consequently the insurance company makes a payout in relation to that illness or death, then the proceeds of the insurance policy will be paid to the Director (or the Director's Estate). · As compensation to Company A for the payout, the Director's shares in Company A will be assigned to the remaining Directors. The insurance company made a terminal illness payment and a crisis recovery payment to the deceased at about the same time the deceased relinquished their directorship and financial interests in Company A. At the time of death, the presumed market value of the deceased's one share was slightly higher than the amount payable under the crisis recovery benefit. This valuation was before the repayment of the share of the Company A business loan outstanding, which would have been payable regardless of what the valuation was. The share certificate for the deceased's one share was provided. Each director's share of the business was funded via a loan in Company A. Each director had given personal guarantees on this loan. The repayment of the share of the Company A business loan was made by the Executor of the deceased's estate after the deceased passed away. Evidence of the repayment was provided.

Relevant legislative provisions: Income Tax Assessment Act 1997 Section 102-20 | Income Tax Assessment Act 1997 Section 104-10 | Income Tax Assessment Act 1997 Section 108-5 | Income Tax Assessment Act 1997 Section 110-25 | Income Tax Assessment Act 1997 Section 112-20 | Income Tax Assessment Act 1997 Section 116-20 | Income Tax Assessment Act 1997 Section 116-30 | Income Tax Assessment Act 1997 Section 116-40

Reasons for decision: Summary: A CGT event happened when the deceased's one share in Company A was transferred. | Detailed Reasoning - Detailed reasoning: CGT event A1 happens if you dispose of a CGT asset. For capital gains purposes, you 'dispose' of a CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event, or because of operation of law. CGT event A1 has happened to The deceased's one share in Company A because: · His one share is a CGT asset, and · He has transferred his one share to another entity or other entities. The time of this CGT event is when the deceased relinquished their Directorship and all of their financial interests in Company A. | Summary: The cost base of the deceased's one share in Company A is equal to the amount set out on the share certificate. | Detailed Reasoning - Detailed reasoning: The cost base of a CGT asset is the sum of five elements being: · Acquisition costs · Incidental costs related to acquisition or the CGT event (disposal) · Ownership costs (subject to certain limitations) · Capital expenditure incurred to increase or preserve the CGT asset's value, and · Capital expenditure incurred to establish, preserve or defend ownership of the CGT asset. The cost base of the deceased's one share in Company A is the $X that they paid to acquire their one share as it is the only identifiable outgoing that relates to any of the five elements of the cost base listed above. | Summary: The cost base of the deceased's one share in Company A is not equal to the market value of the share on the day of the transfer. | Detailed Reasoning - Detailed reasoning: The cost base of the deceased's one share in Company A is worked out in the manner stated in answer to Question 2. There is no basis for concluding that the cost base of their one share in Company A would be equal to its market value on the day of the transfer. Note: while there is a market value modification rule that can sometimes apply to the first element of the cost base (acquisition costs), it would calculate the market value as at the acquisition date. | Summary: The payment made to Company A is not included in the cost base of the deceased's one share in Company A. | Detailed Reasoning - Detailed reasoning: The cost base of the deceased's one share in Company A is worked out in the manner stated in answer to Question 2. The payment to effect the release of the deceased's guarantee over the moneys borrowed by Company A does not directly relate to their ownership of the one share in Company A. Therefore, this payment cannot be included in the cost base of the deceased's one share in Company A. | Summary: The capital proceeds from the transfer of the deceased's one share in Company A are not equal to the amount they received from the crisis recovery claim. | Detailed Reasoning - Detailed reasoning: Detailed reasoning The capital proceeds from a CGT event are generally the sum of: · The money you receive or have received in respect of the event, and · The market value of any other property you receive or have received in respect of the event. The deceased became the entitled to receive the benefits from the crisis recovery claim as a result of the sale of their one share in Company A. However, there are a number of instances where the capital proceeds from a CGT event are modified. These include: · The market value substitution rule, and · The apportionment rule. | Detailed Reasoning - The market value substitution rule: An instance where the market value substitution rule applies is where: · There are capital proceeds from a CGT event that relates to a CGT asset · Those capital proceeds are more or less than the market value of the asset, and · You and the entity that acquired the asset from you did not deal with each other at arm's length in connection with the event. In the deceased's case, there are capital proceeds from the sale of their one share in Company A and those capital proceeds are less than the market value of this one share. Therefore, the market value substitution rule will apply if the transaction did not occur at arm's length. We accept that the sale of the deceased's one share in Company A was an arm's length transaction. In this situation, it is reasonable to expect that a vendor would accept a small discount in order to complete the transaction quickly. Consequently, the market value substitution rule does not apply to the sale of the deceased's one share in Company A. | Detailed Reasoning - The apportionment rule: It is not always immediately apparent that there are multiple components to a transaction if that transaction appears to principally deal with the disposal of a CGT asset. If you receive a payment in connection with a transaction that relates to one CGT event and something else, the capital proceeds from the event are so much of the payment as is reasonably attributable to the event. In the deceased's case, they became entitled to receive the benefits from the crisis recovery claim as a result of the sale of their one share in Company A, but they also did something else as well - they also agreed to repay the portion of Company A's business loan that they had personally guaranteed. So, while the deceased's entitlement to receive the benefits from the crisis recovery claim is valued at the amount that was already in the process of being paid. It has to be apportioned between: · The one share in Company A, and · The agreement to repay one-quarter of the company's business loan (doing this also release the deceased from the guarantee). The effect of the apportionment rule is to reduce the deceased's capital proceeds from the sale of their one share in Company A. | Summary: The capital proceeds from the transfer of the deceased's one share in Company A are not equal to the amount they received from the terminal illness claim. | Detailed Reasoning - Detailed reasoning: The capital proceeds for the sale of the deceased's one share in Company A is worked out in the manner stated in answer to Question 5. The deceased has received the payment in relation to the terminal Illness Claim as the original policyholder under the policy The deceased's entitlement to receive the payment in relation to the terminal Illness Claim is not related to the sale of their one share in Company A. Note: there is a general capital gains exemption to the original beneficial owner of a policy of insurance on the life of an individual.

Reasons for decision: While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.