Private ruling: Acquisition of Notes and receipt of Note Distributions under a proposed scheme.
Published: June 2014
Ruling period: 1 July 2014 to 30 June 2019
Date scheme commenced: 2014-15 financial year.

Ruling: Q1: Is the Unit Trust a corporate unit trust for the purpose of Division 6B of Part III of the Income Tax Assessment Act 1936 ? | A1: No. Issue 2 | Q2: Is Unit Trust a public trading trust for the purpose of Division 6C of Part III of the Income Tax Assessment Act 1936 ? | A2: No. Issue 3 | Q3: Will section 207-145 of the Income Tax Assessment Act 1997 apply to the Note Distributions received by the Trustee for Unit Trust? | A3: No.

Relevant facts and circumstances: 1. Company Pty Ltd ('Company') is an unlisted public company. 2. Company's Ordinary Shares are held by Ordinary Shareholders. 3. Company pays dividends to its Ordinary Shareholders. 4. Company will establish Unit Trust. 5. Unit Trust will be established and governed by the Unit Trust Deed. 6. Unit Trust will be a registered managed investment scheme under the Corporations Act 2001. 7. Unit Trust will be listed on the Australian Stock Exchange ('ASX'). 8. Unit Trust will issue Units to investors ('Unitholders') on the ASX. 9. Ordinary Shareholders of Company will be given a preference or advantage in the allocation of Units in Unit Trust in such a way as to cause there to be a 'prescribed arrangement' for the purpose of section 102E of the Income Tax Assessment Act 1936 . 10. It is expected that some Unitholders will be entitled to a tax offset under Division 207 of the Income Tax Assessment Act 1997 and some Unitholders will be a corporate tax entity with a franking credit to arise in its franking account as a result of a franked distribution flowing indirectly to them. It is expected that some Unitholders will not be residents of Australia for tax purposes. 11. The issue of Units by Unit Trust will not result in 75% or more of the Units being held by 20 or fewer persons, having regard to the concept of 'person' in subsection 102P(12) of the Income Tax Assessment Act 1936 . 12. Money raised by Unit Trust through the issue of Units will be used by Unit Trust to subscribe for Notes issued by Company. 13. The Notes issued by Company are governed by the Note Terms. 14. The Notes are debt obligations of Company. 15. The Notes will not carry any voting rights in Company. 16. The Notes will be redeemable by Company in limited circumstances provided for in the Note Terms. Unit Trust has no right to require redemption of a Note other than upon the happening of a specified event. 17. Unit Trust will not take any 'positions' (within the meaning of section 160APHJ of the Income Tax Assessment Act 1936 ) in relation to the Notes apart from the Notes themselves. 18. Pursuant to the Note Terms, Company is required to pay 'Note Distributions' on the Notes to Unit Trust. 19. Pursuant to the Note Terms the Note Distributions must be: • paid on the same day that Company pays a dividend; • the same amount as the amount of that dividend; and • franked to the same extent as that dividend. 20. Company intends that Note Distributions will be at least partly franked, consistent with its practice of paying dividends which are at least partly franked. 21. Note Distributions will not be sourced from or debited against Company's share capital account or non-share capital account. 22. The Note Distributions will be frankable distributions under subsection 202-40(2) of the Income Tax Assessment Act 1997 . 23. Unit Trust will pass through to Unitholders the Note Distributions it receives.

Relevant legislative provisions: Income Tax Assessment Act 1936 Division 1A of former Part IIIAA. | Income Tax Assessment Act 1936 Division 6B of Part III. | Income Tax Assessment Act 1936 Division 6C of Part III. | Income Tax Assessment Act 1936 section 102D. | Income Tax Assessment Act 1936 section 102E. | Income Tax Assessment Act 1936 section 102F. | Income Tax Assessment Act 1936 section 102J. | Income Tax Assessment Act 1936 paragraph 102J(1)(b). | Income Tax Assessment Act 1936 section 102K. | Income Tax Assessment Act 1936 section 102M. | Income Tax Assessment Act 1936 section 102N. | Income Tax Assessment Act 1936 paragraph 102N(1)(b). | Income Tax Assessment Act 1936 section 102P. | Income Tax Assessment Act 1936 paragraph 102P(1)(a). | Income Tax Assessment Act 1936 subsection 102P(3). | Income Tax Assessment Act 1936 subsection 102P(4). | Income Tax Assessment Act 1936 paragraph 102P(7)(a). | Income Tax Assessment Act 1936 paragraph 102P(7)(b). | Income Tax Assessment Act 1936 subsection 102P(8). | Income Tax Assessment Act 1936 subsection 102P(12). | Income Tax Assessment Act 1936 section 102R. | Income Tax Assessment Act 1936 paragraph 102R(1)(b). | Income Tax Assessment Act 1936 section 102S. | Income Tax Assessment Act 1936 subsection 177D(2). | Income Tax Assessment Act 1936 paragraph 177D(2)(a). | Income Tax Assessment Act 1936 paragraph 177D(2)(c). | Income Tax Assessment Act 1936 paragraph 177D(2)(d). | Income Tax Assessment Act 1936 paragraph 177D(2)(g). | Income Tax Assessment Act 1936 paragraph 177D(2)(h). | Income Tax Assessment Act 1936 section 177EA. | Income Tax Assessment Act 1936 subsection 177EA(3). | Income Tax Assessment Act 1936 paragraph 177EA(5)(b). | Income Tax Assessment Act 1936 subsection 177EA(12). | Income Tax Assessment Act 1936 subsection 177EA(14). | Income Tax Assessment Act 1936 subsection 177EA(17). | Income Tax Assessment Act 1936 paragraph 177EA(17)(a). | Income Tax Assessment Act 1936 paragraph 177EA(17)(b). | Income Tax Assessment Act 1936 paragraph 177EA(17)(c). | Income Tax Assessment Act 1936 paragraph 177EA(17)(d). | Income Tax Assessment Act 1936 paragraph 177EA(17)(f). | Income Tax Assessment Act 1936 paragraph 177EA(17)(g). | Income Tax Assessment Act 1936 paragraph 177EA(17)(h). | Income Tax Assessment Act 1936 paragraph 177EA(17)(i). | Income Tax Assessment Act 1936 paragraph 177EA(17)(j). | Income Tax Assessment Act 1997 Division 204. | Income Tax Assessment Act 1997 section 204-5(2). | Income Tax Assessment Act 1997 section 204-30. | Income Tax Assessment Act 1997 subsection 204-30(1). | Income Tax Assessment Act 1997 subsection 204-30(3). | Income Tax Assessment Act 1997 paragraph 204-30(3)(c). | Income Tax Assessment Act 1997 paragraph 204-30(6)(a). | Income Tax Assessment Act 1997 paragraph 204-30(6)(b). | Income Tax Assessment Act 1997 paragraph 204-30(8) | Income Tax Assessment Act 1997 Division 207. | Income Tax Assessment Act 1997 section 207-35. | Income Tax Assessment Act 1997 section 207-145. | Income Tax Assessment Act 1997 subsection 207-145(1). | Income Tax Assessment Act 1997 section 207-35. | Income Tax Assessment Act 1997 section 207-155. | Income Tax Assessment Act 1997 subsection 215-1(1). | Income Tax Assessment Act 1997 section 960-115. | Income Tax Assessment Act 1997 subsection 960-120(1). | Income Tax Assessment Act 1997 subsection 960-130(1). | Income Tax Assessment Act 1997 subsection 974-5(1). | Income Tax Rates Act 1986 (Cth) section 24. | Income Tax Rates Act 1986 (Cth) section 25.

Reasons for decision: Detailed Reasoning - Question 1: The net income of a trust that is a 'corporate unit trust' is taxed at the rate of 30% pursuant to section 102K of the ITAA 1936 and section 24 of the Income Tax Rates Act 1986 . Under paragraph 102J(1)(b) of the ITAA 1936, a unit trust will be a corporate unit trust in relation to a relevant year of income if it is: • an eligible unit trust, • a public unit trust; and • either a resident unit trust in the relevant year of income or a corporate unit trust in a year preceding the relevant year of income. The definition of 'eligible unit trust' is contained in section 102F of the ITAA 1936. The definition is not satisfied on the facts here because: • there is no property of the Unit Trust that was property previously owned by Company; and • there is no business carried on by the Trustee for Unit Trust that was previously carried on by Company. As Unit Trust is not an eligible unit trust within the meaning of section 102F of the ITAA 1936 it will not be a corporate unit trust. It is not necessary to consider whether Unit Trust is a public unit trust and a resident unit trust. | Detailed Reasoning - Question 1: The net income of a trust that is a 'public trading trust' is taxed at the rate of 30% pursuant to section 102S of the ITAA 1936 and section 25 of the Income Tax Rates Act 1986 . Under paragraph 102R(1)(b) of the ITAA 1936, a unit trust will be a public trading trust in relation to a relevant year of income if it is: n a public unit trust, n a trading trust, n either a resident unit trust in the relevant year of income or a public trading trust in a year preceding the relevant year of income, and n not a corporate unit trust within the meaning of Division 6B of the ITAA 1936. A public unit trust is defined in section 102P of the ITAA 1936. Paragraph 102P(1)(a) of the ITAA 1936 provides that a public unit trust includes a unit trust where any of the units in the unit trust were listed for quotation in the official list of a stock exchange in Australia or elsewhere. Unit Trust will be a public unit trust because the Units will be listed for quotation on the ASX unless another provision in section 102P of the ITAA 1936 deems it not to be. Having regard to the documentation and surrounding circumstances of the scheme, the Commissioner considers that subsections 102P(3), (4), (7) of the ITAA 1936 do not apply to the scheme. Therefore, as Unit Trust will be a public trading trust the next requirement is that Unit Trust is a 'trading trust' as defined in section 102N of the ITAA 1936. A unit trust will be a trading trust in relation to a year of income if, at any time during the year of income, the trustee: (a) carried on a 'trading business', or (b) controlled, or was able to control, directly or indirectly, the affairs or operations of another person in respect of the carrying on by that other person of a trading business. Does Unit Trust carry on a trading business? A trading business is defined in section 102M of the ITAA 1936 to mean a business that does not consist wholly of 'eligible investment business'. An eligible investment business is defined in section 102M of the ITAA 1936 and relevantly includes: (b) investing or trading in any or all of the following: (i) secured or unsecured loans (including deposits with a bank or other financial institution); (ii) bonds, debentures, stock or other securities; The concepts of 'loan', 'debenture' and 'other securities' are not defined in Division 6C of the ITAA 1936 and accordingly these terms must be construed by reference to their ordinary meaning refined by the context within which the provision is intended to operate. Having regard to the ordinary meaning of these words in the context they appear each Note will be either a loan, a debenture or other security for the purpose of the definition eligible investment business. The concept of investing is also not defined in Division 6C of the ITAA 1936 so must take its ordinary meaning refined by the context within which it appears. It can be said that Unit Trust is investing in Notes because the Notes are acquired with the expectation of deriving Note Distributions which are a return on the outlay of the Notes. As Unit Trust undertakes no other business activities it is carrying on a business which consists wholly of an eligible investment business. As such Unit Trust is not carrying on a trading business and will not be a trading trust under paragraph 102N(1)(a) of the ITAA 1936. Does Unit Trust control, or have the ability to control, the affairs or operations of another person in respect of the carrying on by that other person of a trading business? Alternatively, Unit Trust may be a trading trust under paragraph 102N(1)(b) of the ITAA 1936 if the trustee: controlled, or was able to control, directly or indirectly, the affairs or operations of another person in respect of the carrying on by that other person of a trading business. The concepts of controls and ability to control the affairs or operations another person are not defined in Division 6C of the ITAA 1936 so must take their ordinary meaning refined by the context within which they appear. On the facts provided, it cannot be said that Unit Trust controls or is able to control the affairs or operations another person. Conclusion As Unit Trust's activities consist wholly of investing in the Notes it is carrying on an eligible investment business and therefore is not carrying on a trading business. Also, Unit Trust cannot be said to control or be able to control the affairs or operations of another person in respect of the carrying on by that other person of a trading business. Because Unit Trust is not a trading trust as defined in subsection 102N(1) of the ITAA 1936 it cannot be a public trading trust as defined in section 102R of the ITAA 1936. It is not necessary to consider whether Unit Trust is a resident unit trust. | Detailed Reasoning - Question 1: Section 207-145 of the ITAA 1997 will operate to deny the gross-up and tax offset treatment associated with the receipt of franking credits if: (a) the entity is not a qualified person in relation to the distribution for the purposes of Division 1A of former Part IIIAA of the ITAA 1936; (b) the Commissioner has made a determination under paragraph 177EA(5)(b) of the ITAA 1936 that no imputation benefit (within the meaning of that section) is to arise in respect of the distribution for the entity; (c) the Commissioner has made a determination under paragraph 204-30(3)(c) of the ITAA 1997 that no imputation benefit is to arise in respect of the distribution for the entity; (d) the distribution is made as part of a dividend stripping operation. For the reasons outlined below, none of the circumstances specified in section 207-145 of the ITAA 1997 apply to the Trustee for Unit Trust in respect of Note Distributions to be received by it: | Detailed Reasoning - Qualified person rules: The Trustee for Unit Trust must be a 'qualified person' in relation to each Note Distribution, within the meaning of Division 1A of former Part IIIAA of the ITAA 1936. In broad terms, and having regard to subsection 160AOA(1) of former Part IIIAA of the ITAA 1936, the test in section 160APHO(1) of former Part IIIAA of the ITAA 1936 requires that for an entity to be a qualified person in respect of a non-share dividend the entity must have held their non-share equity interest at risk for a prescribed number of days during a specified period of time (either the primary or secondary 'qualification period'). On the facts of this case: • The Notes do not have the features of a preference share as defined in section 160APHD of former Part IIIAA of the ITAA 1936 therefore the applicable holding period is 45 days. • The primary qualification period applies because the Trustee of Unit Trust will not make, or be under an obligation to make a related payment in respect of the Note Distribution. • Unit Trust will have a long position with a delta of +1 in respect of each Note itself pursuant to subsection 160APHJ(4) of former Part IIIAA of the ITAA 1936 and the Trustee of Unit Trust will take no other 'positions' in respect of the Notes. Therefore the Trustee of Unit Trust will not have materially diminished risks of loss or opportunities for gain in respect of the Notes. Therefore, Trustee for Unit Trust will be a qualified person in respect of the Note Distributions provided the Notes are held for a period of 45 days (excluding the date of acquisition and disposal) during the primary qualification period (the dates of which are determined on the facts). | Detailed Reasoning - Section 177EA of the ITAA 1936: Subsection 177EA(3) of the ITAA 1997 sets out when section 177EA of the ITAA 1997 applies. Subsection 177EA(12) of the ITAA 1936 provides that section 177EA of the ITAA 1936 applies to non-share equity interests in the same way as it applies to a membership interest. Here, the issue of the Notes is a scheme for a disposition non-share equity interests in a corporate tax entity. The Note Distributes are frankable distributions that are expected to be franked distributions. The Trustee for Unit Trust will receive imputation benefits as a result of receiving the Note Distributions. The decisive issue is whether, having regard to the relevant circumstances of the scheme, it would be concluded that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for a purpose (whether or not the dominant purpose but not including an incidental purpose) of enabling the Trustee for Unit Trust to obtain an imputation benefit. After considering the relevant circumstances listed in subsection 177EA(17) of the ITAA 1936 the Commissioner is of the view that the scheme appears to be one designed to release franking credits to Unit Trust and Unitholders in circumstances where the franking credits would otherwise have been retained for distribution to the Company's Ordinary Shareholders. However, the design of the scheme also requires that Company distributes its frankable distributions among both Ordinary Shareholders and Unit Trust equally, and without regard to the tax attributes of the different recipients. Although the franked distributions paid by Company may benefit some recipients to greater extent than others, there has not been conscious discrimination among recipients in regards to franking. As such, section 177EA of the ITAA 1936 does not apply to the scheme. The Commissioner will not make a determination under paragraph 177EA(5)(b) of the ITAA 1936 that no imputation benefits are to arise in respect of the Note Distributions. | Detailed Reasoning - Section 204-30 of the ITAA 1997: Subsection 204-30(1) of the ITAA 1997 sets out a specific rule to deal with the 'stream' of imputation benefits. 'Streaming' is not defined for the purposes of section 204-30 of the ITAA 1997. However, the Commissioner understands it to refer to a company 'selectively directing the flow of franked distributions to those members who can most benefit from the imputation credits' consistent with paragraph 3.28 of the Explanatory Memorandum to the New Business Tax System (Imputation) Bill 2002. In light of subsection 204-5(2) of the ITAA 1997, the Note Distributions are a 'distribution' for the purpose of this provision. In light of subsection 215-1(2) of the ITAA 1997 is necessary to consider the possible imputation benefits to be received by Ordinary Shareholders and Unit Trust as an equity holder (being the holder of the Notes): n Ordinary Shareholders who are individuals will receive a tax offset under Division 207 of the ITAA 1997, which is an imputation benefit under paragraph 204-30(6)(a) of the ITAA 1997. n Unit Trust would have an amount included in assessable income because of section 207-35, which is an imputation benefit under paragraph 204-30(6)(b) of the ITAA 1997. Subsection 204-30(8) of the ITAA 1997 provides a non-exhaustive list of cases where a member of an entity derives a greater benefit from franking credits than another member of the entity. In this case, Ordinary Shareholders who are individuals would derive greater benefit from franking credits than the Unit Trust because Unit Trust is not entitled to any tax offset under Division 207 of the ITAA 1997. Ordinary Shareholders who are individuals would be the 'favoured member' for the purpose of section 204-30 of the ITAA 1997. Notwithstanding that Ordinary Shareholders who are individuals would derive greater benefit from franking credits than Unit Trust, Unit Trust receives the same imputation benefits as Ordinary Shareholders. As such, Unit Trust cannot be said to be a 'disadvantaged member' for the purpose of section 204-30 of the ITAA 1997. As the franked distributions paid by Company will be paid to Ordinary Shareholders and Unit Trust on the same terms there is no 'disadvantaged member' for the purpose of section 204-30 of the ITAA 1997 and it cannot be said that Company will stream distributions in a way that offends section 204-30 of the ITAA 1997.The Commissioner is therefore not empowered to make a determination under subsection 204-30(3) of the ITAA 1997. The Commissioner will not make a determination under paragraph 204-30(3)(c) of the ITAA 1997 that no imputation benefit is to arise in respect of the Note Distribution paid to Unit Trust. | Detailed Reasoning - Dividend stripping operation: Section 207-155 of the ITAA 1997 sets out when a distribution is made as part of a dividend stripping operation. 'Dividend stripping' is not defined in the ITAA 1997 but guidance is taken from the Explanatory Memorandum to New Business Tax System (Imputation) Bill 2002 which introduced the section. In this case, Unit Trust provides legal form debt finance to Company and receives a return in the form of the Note Distribution. The amount of the Note Distribution is fixed by reference to the amount of dividends that Company pays to Ordinary Shareholders. Nothing on the facts provided suggests the scheme is, or is in the nature of, a dividend stripping scheme.