Private ruling: CGT event K6 and Division 149 of ITAA 1997
Published: June 2012
Ruling period: 1 July 2011 to 30 June 2013
Date scheme commenced: Mid 2012

Ruling: Q1: Will the Commissioner treat the goodwill acquired by a newly incorporated company (referred to as "Newco") from a Trust (under a complying Subdivision 124-N roll-over) as continuing to be pre-CGT asset for the purposes of determining the CGT event K6 consequences for a pre-CGT shareholder selling their shares in "Newco"? | A1: No.

Relevant facts and circumstances: The trust was established in 1981 to operate a steel fabrication business. The trustee of the trust is Trustee Pty Ltd. The units in the trust are not listed and not ordinarily available to the public for subscription or purchase. The trust's trust deed states that the beneficial interest in the trust property is held by the unit holders in proportion to the units held. Each unit entitles the registered holder to an equal beneficial interest in the trust property. The only pre-CGT asset held by the trust is the original goodwill asset. The trust was established initially with X unit holders and now there are X unit holders. Sometime in 2012, there was a substantial change in the majority underlying ownership of the trust. As a result of this, Division 149 of the Income Tax Assessment Act 1997 (ITAA 1997) applies such that any assets which were acquired prior to 20 September 1985 (in this case the goodwill) stops being a pre-CGT asset. Section 149-35 of the ITAA 1997 states that the first element of the cost base of any such asset is the market value at the time of the change in the majority underlying ownership. The Directors of the trust's trustee company are now contemplating undertaking a restructure such that the business of the trust will be transferred to a newly incorporated company ("Newco"). As part of the restructure, the trust's unit holders will be issued with shares in "Newco" and the trust be vested within 6 months of the start of the restructure. The CGT roll-over relief under Subdivision 124-N of the ITAA 1997 will be available to both the trust and its beneficiaries as all the requirements for rollover relief set out in section 124-860 of the ITAA 1997 will be met. As a result of the rollover being available, the net capital gain or loss arising as a result of the disposal of CGT assets by the trust and the exchange of units for shares by the existing unit holders will be disregarded. As the roll-over requirements will be met, a pre-CGT unit holder in the trust will receive pre-CGT shares in "Newco" after the restructure. A pre-CGT shareholder in "Newco" then sells pre-CGT shares in "Newco" on capital account as part of their exit from the business.

Relevant legislative provisions: Income Tax Assessment Act 1997 Division 109, | Income Tax Assessment Act 1997 section 109 -10, | Income Tax Assessment Act 1997 section 104 -10, | Income Tax Assessment Act 1997 section 104 -70, | Income Tax Assessment Act 1997 section 104 -195, | Income Tax Assessment Act 1997 section 104 -230(10), | Income Tax Assessment Act 1997 subsection 108-5(1), | Income Tax Assessment Act 1997 Subdivision 124-N, | Income Tax Assessment Act 1997 subsection 124-10(4), | Income Tax Assessment Act 1997 section 124-87, | Income Tax Assessment Act 1997 section 124-855, | Income Tax Assessment Act 1997 section 124-860, | Income Tax Assessment Act 1997 section 124-870, | Income Tax Assessment Act 1997 section 149-10, | Income Tax Assessment Act 1997 section 149-30, | Income Tax Assessment Act 1997 subsection 149-30(1), | Income Tax Assessment Act 1997 Subdivision 12A, | Income Tax Assessment Act 1997 Division149, | Income Tax Assessment Act 1997 subsection 149-15(1), | Income Tax Assessment Act 1997 subsection 149-15(2), | Income Tax Assessment Act 1997 subsection 149-15(3), | Income Tax Assessment Act 1936 Division 20 and | Income Tax Assessment Act 1936 subsection 160ZZS(1).

Reasons for decision: Summary: The Commissioner will not treat the goodwill acquired by the newly incorporated company, "Newco", from the trust under a complying Subdivision 124-N roll-over, as continuing to be pre-CGT asset for the purposes of determining if CGT event K6 happens when a pre-CGT shareholder selling their shares in "Newco". | Detailed Reasoning - Detailed reasoning: A CGT asset is defined in section 108-5(1) of the ITAA 1997 as any kind of property or a legal or equitable right that is not property. A CGT asset is a pre-CGT asset if it was last acquired before 20 September 1985 and no income tax provision has operated to treat it as having been acquired after that date. Division 149 of the ITAA 1997 contains provisions which govern when an asset held by an entity stops being a pre-CGT asset and is treated as having been acquired after that date. Section 149-10 of the ITAA 1997 defines a pre-CGT asset is in relation to Division 149 of the ITAA 1997 as follows; A CGT asset that an entity owns is a pre-CGT asset if, and only if: (a) the entity last acquired the asset before 20 September 1985; and (b) the entity was not, immediately before the start of the 1998-99 income years, taken under: (i) former subsection 160ZZS(1) of the Income Tax Assessment Act 1936 ; or (ii) Subdivision C of Division 20 of former part IIIA of that Act; to have acquired the asset on or after 20 September 1985; and (c) the asset has not stopped being a pre-CGT asset of the entity because of this Division. A CGT asset acquired before 20 September 1985 remains a pre-CGT asset if the majority underlying interests in the asset have not changed since before 20 September 1985. Where a change in the majority underlying interests occurs after 19 September 1985, the CGT asset is deemed to be acquired on the date the change occurred, either under Division 20 of the Income Tax Assessment Act 1936 (ITAA 1936) (pre-1998-99 income years) or Division 149 of the ITAA 1997. Under section 149-30 of the ITAA 1997, an asset stops being a pre-CGT asset at the earliest time when the majority underlying interests in the asset were not held by the ultimate owners who held the majority underlying interests in the asset immediately before 20 September 1985. In other words, the Commissioner has to be satisfied that the majority underlying interests in an asset have not changed. Otherwise the asset is deemed to have been acquired at the time that the change in majority underlying interests in that asset happened. As the business of the trust commenced prior to 1985, the asset in question here, which is the goodwill of the business, would be taken to have been acquired at the time the business is commenced. Section 109-10 of the ITAA 1997 sets out some rules for when you acquire a CGT asset without a CGT event happening. In this case, there has been no CGT event but the goodwill of the trust is considered to be a pre-CGT asset as it is deemed to have been acquired when the business commenced. This is the only pre-CGT asset owned by the trust. The question is, has at anytime since the start of the 1998-99 income year the majority underlying interest in the trust changed such that the pre-CGT assets of the trust stop being pre-CGT assets under Division 149 of the ITAA 1997? "Majority underlying interests" is defined in subsection 149-15(1) of the ITAA as more than 50% of: · the beneficial interests that ultimate owners have (whether directly of indirectly) in the asset; and · the beneficial interests that ultimate owners have (whether directly or indirectly) in any ordinary income that may be derived from the asset. · In accordance with subsection 149-15(2) of the ITAA 1997, "underlying interest" simply means a beneficial interest that an ultimate owner may have in the asset or any ordinary income derived from the asset. An ultimate owner is defined to mean an individual or an entity listed in subsection 149-15(3) of the ITAA 1997. Subsection 149-30(1) of the ITAA 1997 sets out a factual test to determine when an asset of a non public entity stops being a pre-CGT asset. Under the factual test, the asset stops being a pre-CGT asset at the earliest time when majority underlying interest in the asset were not held by the ultimate owners who held the interests immediately before 20 September 1985. The trust was established with X unit holders. At the time of this private ruling request, there are X unit holders. You state that, sometime this year there was a substantial change in the majority underlying interests of the trust. As a result of that, there has been a substantial change in the unit holding of the trust. This has resulted in a change to the majority underlying interest in the assets of the trust where the majority underlying interests are not held by the ultimate owners. The consequence of this is that the pre-CGT goodwill asset of the trust now stops being a pre-CGT asset and will be considered to be a post-CGT asset as provided for by section 149-30 of the ITAA 1997. Division 109 of the ITAA 1997 outlines when an asset is "acquired". Item 14 of the table in section 109-55 provides that, where an asset is acquired before 20 September 1985, and there has since been a change in the majority underlying interests in the assets (that is, Division 149 applies), the asset is taken to have been acquired when the change occurred. Therefore, the goodwill of the trust is treated as a post-CGT asset. However, Taxation Ruling TR 2004/18 provides that a CGT asset that has been converted into a post-CGT asset by Division 149 will not be treated as a post-CGT asset for the purposes of CGT event K6. Therefore CGT event K6 will not happen as a result of the CGT event A1 happening on the owner's of pre-CGT units in the trust exchanging their units in the trust for shares in "Newco". The next question is, will CGT event K6 happen when the pre-CGT unit holders of the trust dispose of their shares in "Newco" which are taken to have been acquired pre-CGT as a result of the replacement asset roll-over in Subdivision 124-N having been chosen? Under the scheme that is being contemplated in this ruling, in undertaking a restructure, the Directors of the trust's trustee company intend to transfer the business of the trust to a newly incorporated company, "Newco". As part of the restructure, the trust's unit holders will be issued with shares in "Newco". When the CGT assets are disposed of to "Newco" by the trust, CGT event A1 under section 104-10 of the ITAA 1997 will happen. The replacement-asset roll-over in Subdivision 124-N of the ITAA 1997 relating to the disposal of assets by a trust to a company will be available if the following conditions in section 124-855 of the ITAA 1997 are satisfied: Under subsection124-855(1) of the ITAA 1997 a rollover may be available for a restructure if: · a trust disposes all of its CGT assets to a company limited by shares; · CGT event E4 in section104-70 of the ITAA 1997 is capable of applying to all of the units and interests in the trust; and · the requirements in section124-860 of the ITAA 1997 are met. Further, the trust will be required to cease to exist within 6 months from the disposal of the first asset to the company. The benefits of the roll-over will be removed if the trust fails to cease to exist within that time (section 104-195 of the ITAA 1997). This is done by way of reversal of the roll-over under CGT event J4. Under the Subdivision 124-N roll-over, "Newco" acquires the assets of the trust. At the time of the roll-over all the assets of the trust, including the goodwill as a consequence of the operation of Division 149 of the ITAA 1997, are post-CGT assets. Therefore, all the assets of "Newco" are post-CGT assets. Section 124-870 of the ITAA 1997 states that the owners of units or interest in a trust can chose to obtain a roll-over. The consequences of the roll-over are set out in Subdivision 12-A of the ITAA 1997. In this regard, subsection 124-10(4) of the ITAA 1997 states that if you acquired the asset before 20 September 1985, the replacement asset is taken to have been acquired before that date. Therefore, if the pre-CGT unit holders of the trust chose to obtain roll-over under section 124-87 of the ITAA 1997, the shares they acquired in "Newco" will be taken to have been acquired pre-CGT. Note: as a consequence of subsection 104-230(10) of the ITAA 1997, CGT event K6 will not apply to the pre-CGT unit holders. When the pre-CGT unit holders dispose of their shares in "Newco", which as a consequence of choosing the Subdivision 124-N roll-over are also taken to have been acquired pre-CGT. CGT event K6 will apply because all the assets of "Newco" are post-CGT assets. As stated earlier paragraph 65 of Taxation Ruling TR 2004/18 provides an exception to CGT event K6 happening if the reason an asset is treated as a post-CGT asset because of the operation of Division 149 of the ITAA 1997. In this case, this exception applies when the pre-CGT unit holders exchange their units in the trust for shares in "Newco". The exception to CGT event K6 happening as stated in paragraph 65 of Taxation Ruling TR 2004/18 will not however apply when the pre-CGT unit holders dispose of their shares in "Newco" as the exception only applies if the asset is owned by the same entity when there is a change in underlying ownership and when CGT event K6 happens. In this case the change in majority underlying ownership occurred when the pre-CGT asset, goodwill, was owned by the trust and CGT event K6 may happen when the shares in "Newco" are disposed of. If the asset is owned by a different entity at the time Division 149 of the ITAA 1997 applied and when CGT event K6 happens, it is considered that the two deeming provisions are not adversely interacting with each other. This is because the new owner of the asset had actually acquired the asset post-CGT and their interest holders acquired their interest in the asset post-CGT. This is not altered where the interest holders of the two entities are the same because their interest in the asset changed. Their interest was originally through having an interest in the original entity and later through an interest in the new owner of the asset. Further it is only the operation of the Subdivision 124-N replacement roll-over that gave the pre-CGT unit holders, pre-CGT interest in "Newco". Therefore, for the purposes of CGT event K6 partially happening when the shares in "Newco" are disposed of, the goodwill will be a post-CGT asset.

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