Private ruling: CGT - underlying interests
Published: January 2014

Ruling: Have any of the changes in the underlying interests in the assets of Company Y or Company X acquired prior to 20 September 1985, resulted in those assets losing their pre-CGT status under section 160ZZS of the Income Tax Assessment Act 1936 or section 149- 30 of the ITAA 1997? | No | Year ended 30 June 2014 | 01 July 2013

Relevant facts and circumstances: Background - Company X Individual 1 and Individual 2 have operated a business. The business owns two properties: Property B (acquired before 20 September 1985) and Property C (acquired after 20 September 1985). Company X - incorporation and history of shareholdings Company X is a private company. The current directors of Company X are Individual 1 and Individual 3. There are currently X ordinary shares on issue in the company. Individual 1 owns an ordinary share and Company Y owns the remaining ordinary shares. The ordinary shares were acquired by Individual 1 and Company Y before 20 September 1985. Pursuant to the Articles of Association for Company X, the ordinary shares carry equal voting rights and rights to dividends and capital of the company. Company Y - incorporation and history of shareholdings Company Y is a private company. The current directors of Company Y are Individual 1, Individual 2 and Individual 3. The current shareholders in Company Y are: · Individual 1 Y Ordinary Share · Individual 2 Y Ordinary Share · Individual 3 Z Preference Shares · Individual 4 Z Preference Shares Currently majority underlying interest is held by: Individuals 1, 2 & 3, Individuals 1, 2 & 4, or Individuals 3 & 4 The Ordinary Shares were acquired before 20 September 1985. The Preference Shares were originally ordinary shares (owned in separate trusts for Individual 3 and Individual 4) with equal rights as the other two shares. The ordinary shares were acquired before 20 September 1985. Change 1 After 20 September 1985, the shares owned on trust for Individual 3 and Individual 4 were converted to preference shares (still owned in trust). There was no variation of the rights attached to the remaining ordinary shares however; they were subject to the special dividend rights declared on the Preference Shares. The Preference Shares carry no voting rights. They have fixed entitlements to a preference dividend every year at % (or such higher amount as the directors decide) of the amount paid up (Cumulative Dividends). For all other dividends, the Directors may determine to pay dividends as between the share classes at their discretion, but subject to any special rights attaching to any shares. On a wind up of Company Y, the Preference Shares are entitled to a return of the paid up share capital, plus all unpaid cumulative dividends. The Preference Shares have no rights to surplus capital. Change 2 The Preference Shares held in trust were transferred to Individual 3 and Individual 4 as legal owners. No dividends or capital distributions by Company Y or Company X Since before 20 September 1985, Company X has not declared any dividends to its shareholders nor made any distributions of capital. Since before 20 September 1985, Company Y has not declared any dividends to its shareholders nor made any distributions of capital. In particular, no preferential dividends have been declared in respect of the Preference Shares. Furthermore, as Company Y has never traded nor derived income or capital gains, it does not have an ABN or TFN and has never lodged income tax returns. Control of Company Y & Company X to Individual 3 Individual 1 and Individual 2 have resigned from the Business. Control of the business is to be transitioned to Individual 3. Individual 1 and Individual 2 want control of Company Y and Company X to pass to Individual 3 now. This will involve control at the shareholder level as well as at the Board level of the companies. Individual 4 has never worked in nor been involved in the Business and has no intention of taking up a role in the Business at any time in the future. Proposed Transaction - Share Buy-back and Conversion It has been proposed that the following changes in the shareholdings of Company Y take place (Proposed Transaction): · Company Y to undertake a selective share buy-back to buy back (at market value) and cancel the Preference Shares owned by Individual 4. · Company Y, with the consent of the directors and the members of the company, to vary the rights attaching to Individual 3s Preference Shares to convert them back to ordinary shares (Share Conversion). Thereafter, Individual 3s shares will carry equal rights to voting and distributions of income and capital of Company Y, alongside the two ordinary shares owned by Individual 1 and Individual 2. The proposed transaction will effectively transfer X% of the control of Company Y (i.e. via the voting rights), and X% of all future distributions of income and capital of the company, to Individual 3. The private ruling application and all annexure form part of the facts

Relevant legislative provisions: Income Tax Assessment Act 1936 section 160ZZS | Income Tax Assessment Act 1997 Division 149 Summary | Changes in the underlying interests in the assets of Company Y or Company X acquired prior to 20 September 1985, has not resulted in those assets losing their pre-CGT status under section 160ZZS of the Income Tax Assessment Act 1936 (ITAA 1936) or section 149-30. Detailed reasoning | Division 149 (or its predecessor section 160ZZS of the ITAA 1936) applies where an entity has acquired assets prior to 20 September 1985 and on or after that date there is a change of 50% or more in the beneficial interests (either directly or indirectly through one or more interposed companies, trusts or partnerships) of the assets. Where such a change occurs, the provision deems the assets to have been acquired for their market value at the time of the change. | The term beneficial interest is not defined. Under its ordinary meaning, a shareholder would have no legal or equitable interest in the assets of the company ( Charles v Federal Commissioner of Taxation [1954] 90 CLR 598). | However, as stated at the NTLG CGT Sub-committee meeting on 1 December 1993, it is the Tax Office view that section 160ZZS, by its terms, necessarily supplants ordinary legal concepts of beneficial interests in an asset. For the purposes of section 160ZZS of the ITAA 1936, and Division 149 of the ITAA 1997, a shareholder may be treated as having a beneficial interest in the company's assets. | A shareholder has a beneficial interest in an asset of the company if: | · they are entitled to receive a capital distribution from the company; and | · they are entitled to receive ordinary income that may be derived from the asset. | Majority underlying interests before 20 September 1985 - Company Y | The ultimate owners of Company Y just before 20 September 1985 were Individual 1 and Individual 2 (as to one share each), and Individual 3 and Individual 4 with respect to the shares held in trust (X shares each). As all the shares were ordinary shares all had beneficial interest in the assets of the company's, both capital and ordinary income. | Therefore, the majority underlying interest in Company Y just before 20 September 1985 were held by: | Individuals 1, 2 & 3, | Individuals 1, 2 & 4, or | Individuals 3 & 4 | Majority underlying interests before 20 September 1985 - Company X | Just before 20 September 1985, the majority of the ordinary shares in Company X were owned by Company Y. All of the issued shares carried equal rights to income and capital of the company. | More than 50% of the shares in Company X were held by Company Y. Accordingly, the majority underlying interests in Company X just before 20 September 1985 were the same as Company Y. As such, analysis of changes in Company Y majority underlying interest will apply to Company X. | Underlying interests on or after 20 September 1985 - Change 1 | This change resulted in the ordinary shares owned beneficially by Individual 3 and Individual 4 being converted to Preference Shares. | The Preference Shares continued to have a right to dividends. They ceased to have a right to surplus capital of Company Y but retained the right to a return of any paid up share capital. | While the preference shares do not carry any entitlements to the surplus assets of the company in the event of its winding up (only the right to paid up capital) this does not mean that Individual 3 or Individual 4 did not hold a beneficial interest in the capital of the company. It only means that the owners of the other shares held a greater interest in the capital. | Therefore, change 1 did not result in a change to the beneficial interests in Company Y. The right to receive a capital distribution and ordinary income remain in the same proportions with the same individuals. | Underlying interests on or after 20 September 1985 - Change 2 | Change 2 involved the transfer of the legal title to the shares from the trusts to the beneficiaries who where absolutely entitled. Accordingly, there was no change in beneficial interest in those shares. As such there was no change in majority underlying interests. | Underlying interests on or after 20 September 1985 - Proposed Transaction | Under the Proposed Transaction, the Preference Shares held by Individual 4 will be bought back and Individual 4 will cease as a shareholder of Company Y. Individual 3's Preference Shares will be converted to ordinary shares carrying equal rights to voting, dividends and capital as the other ordinary shares. | Following the Proposed Transaction, the majority underlying interests will be as follows: | Individuals 1, 2 & 3, or | Individual 3 | Immediately before the Proposed Transaction, Individual 1, Individual 2 and Individual 3 held between them a beneficial entitlement to at least 50% of any distributions of ordinary income or capital from the company. | As a result of the Proposed Transaction their collective entitlements to any distributions of ordinary income and capital will increase to 100%. | Conclusion | None of the changes in the underlying interests in the assets of Company Y and Company X have changed the majority underlying interests in the assets and ordinary income of Company Y and Company X.