Private ruling: Application of Division 149 Income Tax Assessment Act 1997
Date of advice: 4 September 2017
Published: December 2017
Ruling period: Year ended 30 June 2015
Date scheme commenced: DDMMYY

Ruling: Q1: Would the Commissioner be satisfied or find it reasonable to assume that for the purposes of Division 149 of the Income Tax Assessment Act 1997 that the majority underlying interests held in the pre-capital gains tax (pre-CGT) assets of X Pty Ltd have been maintained? | A1: No

Relevant facts and circumstances: 1. The facts are contained in the description of the scheme in the Private Binding Ruling (PBR) application dated DDMMYY and the subsequent correspondence from the taxpayer’s adviser containing copies of the Constitution of X Pty Ltd, the trust deeds and information regarding the Dividend Access Share (DAS) amendment to the Constitution of X Pty Ltd. A summary of the facts from those documents is below. 2. X Pty Ltd (the company) was incorporated on DDMMYY. The company’s Memorandum and Articles of Association were replaced with a Constitution dated late 200X and was subsequently amended to allow for the issue of the DAS. 3. The company holds a parcel of shares in another company (D class shares in Y Pty Ltd). Part of this parcel of shares was acquired before 20 September 1985 (pre-CGT assets) with the remaining shares being allotted on or after 20 September 1985. Company shareholding before 20 September 1985 4. The shareholders of the company existing before 20 September 1985 were as follows: Shareholder Number of shares Type of shares Individual A X Ordinary Individual A X,000 7% Preference Z Pty Ltd (trustee for J Trust) X00 Ordinary The J Trust 5. Z Pty Ltd holds the shares in the company as trustee for the J Trust. The J Trust was established by Individual B (as settlor) on DDMMYY. The beneficiaries of the J Trust are: a. Individual A – the spouse of the settlor b. any child of the settlor c. any grandchild of the settlor d. the spouse of any child of the settlor e. the spouse of any grandchild of the settlor f. any charitable institution person or persons body corporate of incorporate or howsoever constituted whom the trustee in their absolute discretion considers worthy of receipt of funds either for charitable or educational purposes etc. Company shareholding after 19 September 1985 6. The shareholders of the company after 19 September 1985 are as follows: Shareholder Number of shares Type of shares Individual A X,00X Ordinary Individual A X,000 7% Preference Z Pty Ltd (trustee for J Trust) X,000,X00 Ordinary P Pty Ltd X Dividend Access Q Pty Ltd X Dividend Access R Pty Ltd X Dividend Access 7. The DAS were issued on mid-200X to P Pty Ltd, Q Pty Ltd and R Pty Ltd. However: ● P Pty Ltd is wholly owned (indirectly via another wholly owned company) by S Pty Ltd as trustee for the S Trust; ● Q Pty Ltd is wholly owned (indirectly via another wholly owned company) by T Pty Ltd as trustee for the T Trust; and ● R Pty Ltd is wholly owned (indirectly via another wholly owned company) by U Pty Ltd as trustee for the U Trust. The S Trust, T Trust and U Trust 8. The S Trust, T Trust and U Trust were each established by Individual C (as settlor) on early 200X. The Trust Deeds for each trust are in substantively identical terms. The ‘specified beneficiaries’ of each Trust is defined in clause X of the Trust Deeds as follows: ● S Trust – Individual D ● T Trust – Individual E ● U Trust – Individual F 9. The ‘eligible beneficiaries’ of each Trust is defined in clause X of the Trust Deeds as meaning the following: a) The Specified Beneficiaries; b) The parents siblings spouses widows and widowers children grandchildren and remoter issue of the specified beneficiaries and the parents spouses widows and widowers children grandchildren and remoter issue of any of such siblings spouses widows and widowers children grandchildren and remoter issue as aforesaid etc. c) Any of the following entities whether formed anywhere in the world which the trustee of the appointer may at any time and from time to time nominate as an eligible beneficiary namely: i. The trustee or trustees (in their capacity as such) of any Trust or Settlement (called an ‘eligible trust’) under which an Eligible Beneficiary herein referred to is a beneficiary whether present of contingent provided that the trust fund or that part of the trust fund consisting of the income or property distributed to or vested in such an eligible trust by the Trustee must vest in the beneficiaries or eligible beneficiaries of that eligible trust prior to the vesting day; ii. Any corporation (called an ‘eligible corporation’) at least one share in which is owned by an eligible beneficiary herein referred to or by the Trustee of any eligible trust; iii. Any other legal entity at least one share or other interest (whether present or contingent) in which is owned or held by any eligible beneficiary herein referred to or by the Trustee or Trustees of an eligible trust or by an eligible corporation; iv. Any entity exempt from income tax for the purposes of division 50 of the ITAA 1997; v. Any person company of the trustee of any Trust (provided that the trust fund of such a trust must vest in the beneficiaries of that trust at a date earlier than the Vesting Day of this Deed) who or which after the date hereof and prior to the Vesting Day is certified by the Trustee to have made a gift or contribution for the purposes of division 30 of the ITAA 1997; vi. Any such other person or such charity or charities; Provided however that the Settlor is excluded from the class of Eligible Beneficiaries and the Trustee may at any time … declare in writing that any person … who would otherwise be Eligible Beneficiaries under clauses X to X inclusive shall be excluded from the class of Eligible Beneficiaries and the membership of the class of Eligible Beneficiaries shall … be modified accordingly … Rights attaching to shares 10. The capital of the company is divided into ordinary shares, 7% preference shares and the DAS. The different classes of shares confer upon their holders the following rights: Class Share rights Ordinary shares ● The right to attend and vote at a meeting of members. ● The right to payment in cash of the amount then paid up on the share, on a winding up of the company. ● The right to payment of any dividend determined to be paid on that class by the Directors ● The right to participate in surplus assets or profits of the company 7% Preference shares ● The right to a fixed cumulative preferential dividend of 7% p.a. on the paid up capital in priority to any dividend payable on any other class of shares. ● The right in winding up to have the capital paid up … paid off in priority to any payment of capital on any other class of shares but shall not entitle the holders to participate further in any surplus assets or profits of the Company. ● The right to attend and vote at meetings. ● The right to 2,000 votes for every 7% preference share held. DAS ● The right to payment of dividends other than in proportion to shareholding. ● The right to receive a distribution of the capital, limited to the amount of capital paid in relation to the share, being $1 per share, which has been fully paid up.

Relevant legislative provisions: Income Tax Assessment Act 1997 Division 149. | Income Tax Assessment Act 1997 Section 149-15 | Income Tax Assessment Act 1997 Section 149-30 | Income Tax Assessment Act 1997 Section 149-50

Reasons for decision: Summary: 1. Division 149 determines when an asset acquired before 20 September 1985 stops being a pre-CGT asset. As the company does not fall within the list of entities described in section 149-50, the rules in Subdivision 149-B will apply. 2. Subsection 149-30(1) provides that an asset stops being a pre-CGT asset at the earliest time when majority underlying interests in the asset were not had by ultimate owners who had majority underlying interests in the asset immediately before 20 September 1985. In other words, ultimate owners who held majority underlying interests in an asset immediately before 20 September 1985 must retain such interests after that date, otherwise Division 149 will operate to convert the asset into a post-CGT asset. 3. Subsection 149-15(3) defines an ultimate owner to include an individual and companies that are prohibited from making any distributions to their members pursuant to their constituent documents. It does not include companies that pay dividends to their members, or trusts. 4. Subsection 149-15(2) defines an underlying interest in a CGT asset as a beneficial interest that an ultimate owner has (whether directly or indirectly) in the asset or in any ordinary income that may be derived from the asset. 5. Subsection 149-15(1) defines majority underlying interests . It requires ultimate owners to hold more than 50% of the beneficial interests (either directly or indirectly through one or more interposed companies, trusts or partnerships) in the CGT asset and in any ordinary income that may be derived from the asset. Majority underlying interests had by ultimate owners of the company immediately before 20 September 1985 6. The ‘majority underlying interests’ test in subsection 149-15(1) requires the company to identify the ultimate owners who held, either directly or indirectly, at least 50% of: ● the beneficial interests in its pre-CGT assets, and ● the beneficial interests in any ordinary income that could be derived from the assets. 7. 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; (1954) 10 ATD 328; (1954) 6 AITR 85)). 8. However, as stated at the NTLG CGT Sub-committee meeting on 1 December 1993, it is the Tax Office view that section 160ZZS of the Income Tax Assessment Act 1936 (ITAA 1936) (the predecessor to Division 149), by its terms, necessarily supplants ordinary legal concepts of beneficial interests in an asset. For the purposes of section 160ZZS, a shareholder may be treated as having a beneficial interest in the company’s assets. The Administrative Appeals Tribunal has upheld the Tax Office’s view in this regard in Case Y59 91 ATC 502; AAT Case 7529 (1991) 22 ATR 3532. Similarly, for the purposes of section 160ZZS, a beneficiary of a discretionary trust is treated as having a beneficial interest in the trust’s assets. Beneficial interests in capital 9. Before 20 September 1985, the capital of the company is divided into ordinary shares and 7% preference shares. 10. To identify the ultimate owners who held beneficial interests in the CGT assets of the company immediately before 20 September 1985, it is necessary to identify the ultimate owner/s that have a direct or indirect interest in any capital distribution made by the company at that time. 11. Firstly, it is necessary to identify the ultimate owner/s that have a direct beneficial interest in the CGT assets. Individual A, as an individual owner of the pre-20 September 1985 ordinary share and 7% preference shares will be an ultimate owner considered to have held beneficial interests in the CGT assets of the company directly, immediately before 20 September 1985. This is because the ordinary share carried the right to payment in cash of the amount then paid up on the share on a winding up of the company and the 7% preference shares carried the right in winding up to have the capital paid up paid off. 12. Secondly, it is necessary to identify the ultimate owner/s that have an indirect beneficial interest in the CGT asset. In particular, subsection 149-15(4) provides that: (4) An *ultimate owner indirectly has a beneficial interest in a *CGT asset of another entity (that is not an ultimate owner) if he, she, or it would receive for his, her or its own benefit any of the capital of the other entity if: (a) the other entity were to distribute any of its capital; and (b) the capital were then successively distributed by each entity interposed between the other entity and the ultimate owner. 13. As a result of the issue of the ordinary shares to Z Pty Ltd as trustee for the J Trust, the ultimate owners of the J Trust have acquired a beneficial interest in the CGT assets of the company indirectly, immediately before 20 September 1985. This is because the ultimate owners of the J Trust indirectly receive for their own benefit a return of capital in the event of the company’s winding up. 14. Because the J Trust is a discretionary trust and does not satisfy the definition of an ultimate owner in subsection 149-15(3), it must be ‘looked through’ in order to determine whether there has been a change in the effective interests of the ultimate owners in the company’s pre-CGT assets (see paragraph 2 of Taxation Ruling IT 2340). Similarly, to the extent that the beneficiaries of the J Trust do not satisfy the definition of an ultimate owner in subsection 149-15(3), they must also be looked through in order to identify an ultimate owner. The beneficiaries of the J Trust are described in paragraph 5 of the facts above. For the most part, they comprise individuals (see paragraph 5 a. to e. of the facts) other than the charitable institution (see paragraph 5 f.) which will need to be ‘looked through’ 15. Therefore, the ultimate owners who held more that 50% of the beneficial interests in the CGT assets of the company immediately before 20 September 1985 were: ● Individual A; and ● any of the individual beneficiaries of the J Trust identified in paragraph 5 a. to e. of the facts; and ● any of the individual beneficiaries of the charitable institution identified in paragraph 5 f. of the facts after it is looked through. Beneficial interests in income 16. To identify the ultimate owners who held beneficial interests in any ordinary income of the company immediately before 20 September 1985, it is necessary to identify the ultimate owner/s that have a direct or indirect interest in any ordinary income that may be derived from the CGT assets. 17. The ordinary shares confer upon its holders the right to participate in surplus assets or profits of the company. The 7% preference shares confer upon its holders the right to a fixed cumulative preferential dividend of 7% p.a. on the capital paid up or deemed to be paid up thereon respectively in priority to any dividend payable on the ordinary shares. 18. Firstly, it is necessary to identify the ultimate owner/s that have a direct beneficial interest in any ordinary income that may be derived from the CGT assets. In particular, paragraph 149-15(1)(b) provides that: (1) Majority underlying interests in a *CGT asset consist of: … (b) more than 50% of the beneficial interests that ultimate owners have (whether directly or indirectly) in any *ordinary income that may be *derived from the asset. 19. In identifying the majority underlying interests in a CGT asset, the issue arises as to whether the reference in paragraph 149-15(1)(b) to ‘any *ordinary income that may be *derived from the asset’ can include a dividend. Subsection 995-1(1) defines ‘ordinary income’ to have the meaning given by section 6-5. A ‘dividend’ understood as a normal English word is income according to ordinary concepts. A ‘dividend’ as defined by section 6 of the ITAA 1936 includes an ordinary concepts dividend plus the statutory extension as it is an inclusive definition. A reference in the Act to a dividend is thus a reference to ordinary income and to statutory income. 20. In this case, as a result, Individual A, as an individual owner of the pre-20 September 1985 ordinary shares and 7% preference shares will be an ultimate owner considered to have held beneficial interests in any ordinary income derived from the CGT assets directly, immediately before 20 September 1985. 21. Secondly, it is necessary to identify the ultimate owner/s that have an indirect beneficial interest in any ordinary income that may be derived from the CGT assets. In particular, subsection 149-15(5) provides that: (5) An* ultimate owner indirectly has a beneficial interest in* ordinary income that may be *derived from a *CGT asset of another entity (that is not an ultimate owner) if he, she or it would receive for his, her or its own benefit any of a *dividend or income if: (a) the other entity were to pay that dividend, or otherwise distribute that income; and (b) the dividend or income were then successively paid or distributed by each entity interposed between the other entity and the ultimate owner. 22. In this case, the ultimate owners of the J Trust will indirectly have a beneficial interest in the ordinary income that may be derived from the CGT assets of the company as they receive for their own benefit the payment of dividends or distribution of income successively paid or distributed by each entity interposed between the company and the ultimate owners. 23. As noted in paragraph 14 above, the J Trust, and any of its beneficiaries which do not satisfy the definition of an ultimate owner in subsection 149-15(3) must be looked through in order to determine whether there has been a change in the effective interests of the ultimate owners in the company’s pre-CGT assets. 24. Therefore, the ultimate owners who held more than 50% of the beneficial interests in any ordinary income that may be derived from the CGT assets immediately before 20 September 1985 were: ● Individual A; and ● any of the individual beneficiaries of the J Trust identified in paragraph 5 a. to e. of the facts; and ● any of the individual beneficiaries of the charitable institution identified in paragraph 5 f. of the facts after it is looked through. Changes in majority underlying interests had by ultimate owners of the company on and after 20 September 1985 25. For the assets of the company to maintain their pre-CGT status, the majority underlying interests in the company’s pre-CGT assets and income on and after 20 September 1985 must have been held, at all times, by the same ultimate owners who held majority underlying interests just before 20 September 1985. 26. Since 20 September 1985, the change in the company’s shareholding has been the issue of: ● additional ordinary shares on DDMMYY to Individual A and Z Pty Ltd as trustee for the J Trust, and ● the DAS (one each) on mid-200X to P Pty Ltd, Q Pty Ltd and R Pty Ltd. 27. Because P Pty Ltd, Q Pty Ltd and R Pty Ltd are not prohibited from making distributions to their members, they do not satisfy the definition of an ultimate owner and must therefore be ‘looked through’ to determine whether there has been a change in the effective interests of ultimate owners in the company’s pre-CGT assets (See paragraph 2 of Taxation Ruling IT 2340). 28. Looking through: ● P Pty Ltd is wholly owned (indirectly via another wholly owned company) by S Pty Ltd as trustee for the S Trust; ● Q Pty Ltd is wholly owned (indirectly via another wholly owned company) by T Pty Ltd as trustee for the T Trust; and ● R Pty Ltd is wholly owned (indirectly via another wholly owned company) by U Pty Ltd as trustee for the U Trust. 29. Because the S Trust, the T Trust and the U Trust are discretionary trusts which do not satisfy the definition of an ultimate owner in subsection 149-15(3), they must also be ‘looked through’ in order to determine whether there has been a change in the effective interests of the ultimate owners in the company’s pre-CGT assets (see paragraph 2 of Taxation Ruling IT 2340). The beneficiaries of the S Trust, the T Trust and the U Trust are described in paragraphs 8 and 9 of the facts above. 30. The ‘specified beneficiaries’ defined in clause X of the Trust Deeds and the ‘eligible beneficiaries’ listed in clause X of the Trust Deeds comprise individuals and will be ultimate owners. The remainder of the ‘eligible beneficiaries’ listed in clause X are entities that will need to be ‘looked through’ in order to identify an ultimate owner. As a result, the class of beneficiaries and therefore, the ultimate owners will be much broader than that of the J Trust and is not confined to the same individuals identified as ‘ultimate owners’ when looking through the J Trust. The fact that these trusts have made family trust elections in accordance with section 272-80 of Schedule 2F of the ITAA 1936 does not impact on who would otherwise be defined as ‘ultimate owners’ under section 149-15. Beneficial interests in capital 31. Individual A and the ultimate owners of the J Trust have continuously maintained their beneficial interests in the capital of the company - their ownership of the ordinary shares and the 7% preference shares, and the capital rights attaching to those shares, has remained the same since just before 20 September 1985. 32. The additional beneficial interests in the ordinary shares acquired by Individual A and the ultimate owners of the J Trust on DDMMYY can also be included in their majority underlying interest calculations on or after 20 September 1985. 33. As a result of the issue of the DAS shares on mid-200X, P Pty Ltd, Q Pty Ltd and R Pty Ltd have indirectly acquired a beneficial interest in the capital of the company without having held such an interest immediately before 20 September 1985. However, the interests of the ultimate owners in the assets of the company as a result of the issue of the DAS were minimal. This is because the rights of the ultimate owners in relation to the DAS to capital on winding up are limited to the amount paid up in relation to the share, which is $1 per share. This would be regardless of whether there would be surplus assets to distribute on winding up. This is clearly less than 50% of the total return of capital to which all the ultimate owners would receive. 34. Having regard to these circumstances, it would be reasonable for the Commissioner to conclude that more than 50% of the beneficial interests in capital were at all times held by the same ultimate owners who would have been entitled to more than 50% of any capital distribution made immediately before 20 September 1985. Beneficial interests in income 35. The definition of ‘majority underlying interests’ also requires that the beneficial interests in the income of the company have not changed by 50% or more at any time on or after 20 September 1985. 36. Individual A and the ultimate owners of the J Trust have continuously maintained their beneficial interests in the income of the company - their ownership of the ordinary shares and the 7% preference shares, and the dividend and income rights attaching to those shares, has remained the same since just before 20 September 1985. 37. The additional beneficial interests in the ordinary shares acquired by Individual A and the ultimate owners of the J Trust on DDMMYY can also be included in their majority underlying interest calculations on or after 20 September 1985. 38. Notwithstanding this, the DAS issued on mid-200X introduced a new class of shareholders in whose favour payment of dividends other than in proportion to shareholding could be made. In this respect, the ultimate owners of the S Trust, T Trust and U Trust will indirectly have a beneficial interest in the ordinary income that may be derived from the CGT assets of the company as they receive for their own benefit the payment of dividends or distribution of income successively paid or distributed by each entity interposed between the company and the ultimate owners. 39. As noted in paragraph 29 above, the S Trust, the T Trust and the U Trust, and any of their beneficiaries which do not satisfy the definition of an ultimate owner in subsection 149-15(3) must be looked through in order to determine whether there has been a change in the effective interests of the ultimate owners in the income of the company. As a result, the class of beneficiaries and therefore, the ultimate owners will be much broader than that of the J Trust and is not confined to the same individuals identified as ‘ultimate owners’ when looking through the J Trust. 40. As noted above, the fact that family trust elections have been made in accordance with section 272-80 of Schedule 2F of the ITAA 1936 does not impact on the determination of who would otherwise be ‘ultimate owners’ for the purposes of section 149-15. The pattern of distributions in previous income years also does not alter the rights attaching to the respective classes of shares, which determines the beneficial interests in the income that may be derived from the pre-CGT assets. 41. It is the Commissioner’s view that the issue of the DAS means that the ultimate owners of the pre-20 September 1985 ordinary shares and 7% preference shares no longer held, between them, the right to receive more than 50% of the beneficial interests in the income of the company. In fact, the director’s power to determine that dividends be paid on shares of one class but not another class means that any of the ultimate owners of the S Trust, T Trust and U Trust, could potentially benefit from more than 50% of any the dividends paid by the company and thereby (indirectly) any income of the company. This is notwithstanding that the holders of the 7% preference shares have the right to a fixed cumulative preferential dividend of 7% p.a. on the capital paid up in priority to any dividend payable on any other class of shares in the company. 42. The Commissioner also notes that although P Pty Ltd, Q Pty Ltd and R Pty Ltd only hold a small number of the DAS issued, the discretionary nature of the income rights attaching to these shares means that shareholding proportions are not a reasonable basis for measuring the extent to which underlying interests in income have changed. This is reflected in the right carried by holders of the DAS to the payment of dividends other than in proportion to their shareholding. 43. Having regard to all of these circumstances, it would be reasonable for the Commissioner to conclude that not more than 50% of the beneficial interests in income were at all times held by the same ultimate owners who would have been entitled to more than 50% of any income distribution of the company made immediately before 20 September 1985. Conclusion 44. As a result of the issue of the DAS shares on mid-200X, P Pty Ltd, Q Pty Ltd and R Pty Ltd have indirectly acquired a beneficial interest in the capital of the company without having held such an interest immediately before 20 September 1985. However, this change in shareholding will not affect the identity of the ultimate owners who held majority underlying interests in the assets of the company, as they continue to hold such interests since immediately before 20 September 1985. 45. Due to the discretionary right to dividends which all shares carry, the directors may determine that dividends be paid on shares of one class but not another class and at different rates for different classes of shares. (This is subject to the rights that holders of the 7% preference shares have to a fixed cumulative preferential dividend of 7% per annum on the capital paid up in priority to any dividend payable on any other class of shares in the company). This means that the company could pay more than 50% of any dividends to one or more of the holders of the DAS for example P Pty Ltd, who in turn could distribute it to S Pty Ltd as trustee for the S Trust, who in turn could distribute it to any of the individuals who are members of the class of beneficiaries (including the ultimate owners ‘looking through’ of the S Trust). 46. Having regard to the effect of the change in shareholding by the issue of the DAS, the Commissioner cannot be satisfied, nor find it reasonable to assume, that more than 50% of the beneficial interests in the capital and income of the company, and therefore the majority underlying interests, have been held at all times by the same ultimate owners who held such interests immediately before 20 September 1985. 47. Accordingly, the assets acquired by the company before 20 September 1985 are treated by subsection 149-30(1) as having been acquired on mid-200X, being the time the DAS were issued to P Pty Ltd, Q Pty Ltd and R Pty Ltd.