Private ruling: Capital gains tax: majority underlying interest
Published: April 2013
Ruling period: Year ended 30 June 2013.
Date scheme commenced: 1 July 2012.

Ruling: Q1: Do the assets of the Trust last acquired before 20 September 1985 (pre-CGT assets) stop being pre-CGT assets under Division 149 the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: No.

Relevant facts and circumstances: The Trust is a discretionary trust and holds all the ownership interests in a company. The Trust Deed sets out the powers of the Trustee and also defines various classes of beneficiary, which includes certain family members. The Trust Deed was later varied by Deed of Variation in respect of the definition of certain beneficiary classes. The Trust Deed was further varied to nominate a new Appointor. The Trustee was also changed. These variations and changes have been made in accordance with relevant powers set out in the Trust Deed. The Trustee made a Family Trust Election (FTE). The Trustee later varied the FTE nominating a new specified individual. The Trustee has not made any distributions to individuals or entities outside the family group. The Trust owns assets last acquired before 20 September 1985.

Relevant legislative provisions: Income Tax Assessment Act 1936 Division 20 | Subsection 160ZZRR | Section 160ZZS | Subsection 160ZZS(1) | Section 272-90 of Schedule 2F | Section 272-95 of Schedule 2F | Income Tax Assessment Act 1997 Division 149 | Subdivision 149-A | Subdivision 149-B | Section 149-10 | Section 149-15 | Section 149-30 | Subsection 149-30(1) | Subsection 149-30(1A) | Subsection 149-30(2) | Income Tax (Transitional Provisions) Act 1997 Division 149. | Question 1 | General discussion of the law | Division 149 of the ITAA 1997 set out the circumstances where an asset stops being a pre-CGT asset. | Section 149-10 of the ITAA 1997 sets out what is a pre-CGT asset and provides: | 149-10 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 year, 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. | Note: There are transitional rules for assets that stopped being pre-CGT assets under the Income Tax Assessment Act 1936 : see section 149-5 of the Income Tax (Transitional Provisions) Act 1997 . Subdivision C of Division 20 of former Part IIIA of the ITAA 1936 and Subdivision 149-C of the ITAA 1997 apply to 'public entities'. A discretionary trust does not meet the definition of a public entity under the former section 160ZZRR of the ITAA 1936 and is not an entity of the kind identified under section 149-50 of the ITAA 1997. Therefore, for the purposes of this ruling, it is not necessary to consider the application of Subdivision C of Division 20 of former Part IIIA of the ITAA 1936 or Subdivision 149-C of the ITAA 1997. | Where an asset is taken to have stopped being pre-CGT assets under the former subsection 160ZZS(1) of the ITAA 1936, transitional rules under Division 149 of the Income Tax (Transitional Provisions) Act 1997 (ITTPA 1997) provide acquisition day and cost base rules for the entity when applying Parts 3-1 and 3-3 of the ITAA 1997. The former section 160ZZS of the ITAA 1936 applied in respect of changes in majority underlying interests in assets of taxpayers other than public entities to determine whether an asset last acquired before 20 September 1985 had stopped being a pre-CGT asset. Former section 160ZZS of the ITAA 1936 has been re-written into Division 149 of the ITAA 1997 and has retained the same format. | Subdivision 149-B of the ITAA 1997 deals with when an asset of non-public entity stops being a pre-CGT asset. In particular, section 149-30 of the ITAA 1997 deals with the effects if an asset no longer has the same majority underlying ownership and includes: | 149-30(1) The 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. | 149-30(1A) Also, Part 3-1 and this Part (except this Division) apply to the asset as if the entity had acquired it at that earliest time. | 149-30(2) If the Commissioner is satisfied, or thinks it reasonable to assume, that at all times on and after 20 September 1985 and before a particular time *majority underlying interests in the asset were had by *ultimate owners who had *majority underlying interests in the asset immediately before that day, subsections (1) and (1A) apply as if that were in fact the case. | Underlying interests | The definitions of 'majority underlying interests' and 'underlying interest' relevant to the old law were originally provided under former subsection 82KZC of the ITAA 1936, however were later written into former subsection 160ZZRR(1) of the ITAA 1936. These terms have now been re-written into Division 149 of the ITAA 1997 and essentially expresses the same meaning [see section 149-15 of the ITAA 1997]. | Taxation Ruling IT 2340 sets out the Commissioner's view of the operation of the former section 160ZZS of Part IIIA of the ITAA 1936. For the 1999 or a later income year, this policy also applies for the purposes of Division 149 of the ITAA 1997. | In paragraph 2 of IT 2340 the Commissioner explains: | 2. The terms "underlying interest" and "majority underlying interests", on the basis of which the provision operates, have the same meanings as they have in the former Subdivision G of Division 3 of Part III of the Act [ITAA 1936] - which deals with the income tax treatment of interest in relation to "negatively geared" investments in rental property. In both cases (and like other provisions of the Act concerned with the measurement of ownership interests) underlying interests in relation to the assets concerned mean beneficial interests held by natural persons, whether directly or through one or more interposed companies, partnerships or trusts. The clear policy of the law permits and requires that chains of companies, partnerships and trusts are to be "looked through" in order to determine whether there has been a change in the effective interests of natural persons in the assets. | Further on in IT 2340, the Commissioner states that: | 4. Where an asset is deemed by section 160ZZS to have been acquired after 19 September 1985, the asset will be taken to have been acquired on the date on which the continuity of beneficial ownership in the asset of more than 50% ceases to be maintained. The cost base for the purposes of determining future capital gains and losses on realisation of such an asset will be the market value of the asset on the date on which the asset is taken to have been acquired by the application of section 160ZZS. | 5. In relation to what are generally referred to as discretionary trusts, i.e., family trusts, the trustees of which have discretionary powers as to the distribution of trust income or property to beneficiaries, in considering the question of whether majority underlying interests have been maintained in the assets of the trust it will be relevant to take into account the way in which the discretionary powers of the trustees are in fact exercised. | 6. Where a trustee continues to administer a trust for the benefit of members of a particular family, for example, it will not bring section 160ZZS into application merely because distributions to family members who are beneficiaries are made in such amounts and to such of those beneficiaries as the trustee determines in the exercise of his discretion. | 7. In such a case the Commissioner would, in terms of sub-section 160ZZS(1), find it reasonable to assume that for all practical purposes the majority underlying interests in the trust assets have not changed. That is consistent with the role of the section to close potential avenues for avoidance of tax in cases where there is a substantial change in underlying ownership of assets and the legislative guidance contained in Subdivision G of Division 3 of Part III of the Act. On that basis, trust assets acquired by the trustee before 20 September 1985 would remain outside the scope of the capital gains and losses provisions of the Act. | 8. On the other hand where, by the exercise of a trustee's discretionary powers to appoint beneficiaries or by amendment of the trust deed, there is in practical effect a change of 50% or more in the underlying interests in the trust assets - such as where the members of a new family are substituted as recipients of distributions from the trust in place of persons who were formerly the object of such distributions - the section would have its intended application as described. | Family | Subdivision 272-D of Schedule 2F to the ITAA 1936 sets out certain rules in relation to family trusts. In particular, section 272-90 of Schedule 2F to the ITAA 1936 provides the circumstances where a person is a member of the 'family group' of the individual specified in the Family Trust Election (FTE) (the primary individual). Among other things, a member of the family group includes: | · the individual's 'family' members | · certain former members of the individual's family | · a trust that has made a FTE | · an entity covered by an Interposed Entity Election (IEE) | · an entity owned by family. | In relation to an individual (the test individual) section 272-95 of Schedule 2F to the ITAA 1936 provides that: | 272-95(1) The family of an individual (the test individual ) consists of the test individual and all of the following (if applicable): | (a) any parent, grandparent, brother or sister of the test individual or the test individual's spouse; | (b) any nephew, niece or child of the test individual or the test individual's spouse; | (c) any lineal descendant of a nephew, niece or child referred to in paragraph (b); | (d) the spouse of the test individual or of anyone who is a member of the test individual's family because of paragraphs (a), (b) and (c). | Note 1: Child , parent and spouse are defined in subsection 6(1). | Note 2: Section 960-255 may be relevant to determining relationships for the purposes of paragraph (1)(a). | 272-95(2) A person does not cease to be a family member merely because of the death of any other family member. | 272-95(3) In this section, an adopted child, step-child or ex-nuptial child of a person is taken to be a lineal descendant of that person for the purposes of determining the lineal descendants of that person or any other person. | Note: A person who is no longer a member of an individual's family under this section may still be a member of the individual's family group under subsection 272-90(2A). | NTLG CGT Sub-committee | The NTLG CGT Sub-committee minutes - 28 November 2001 considered the term 'family' for the purposes of Taxation Ruling IT 2340: | 10.1 ICAA | Continuity of ownership test and growth of family | The ICAA raised the following issue: | In applying IT 2340, what is meant by 'one family' and by 'a new family'? What changes to the composition of the family (for example, births, deaths, marriages, divorces, and adoptions) affect this issue? What factors does the Commissioner take into account so that he or she can be satisfied or think it reasonable to assume that the majority underlying interests test has been met? | The ATO stated that the issues like these arise occasionally, but the propositions in Taxation Ruling IT 2340 seem to be generally accepted. Thus, no comprehensive administrative policy has been developed on these issues. What constitutes a member of a particular 'family' will require consideration of the facts of particular cases. The ATO considers that what is contemplated is narrower that a 'relative' (eg. a distant relative would not normally be thought to qualify), but equally, the concept of 'family' is not intended to be limited to the 'nuclear' family (ie, father, mother and children). What is often described as an 'extended' family (ie, including grandparents, children, grandchildren and their spouses) would ordinarily qualify as a 'family' for these purposes. Also, if distributions are made to post-19 September 1985 additions to a family (for example, the birth of new family members and new persons joining a family through marriage), the 'family' distribution criteria would ordinarily still be satisfied. | Application to your circumstances | Consistent with the way in which the Commissioner has advised he will administer the provisions to discretionary trusts as outlined in paragraph 5 of IT 2340, it is necessary to examine the way in which the discretionary powers of the Trustee have been exercised. | Based on the distribution information provided, discretionary distributions of income and capital have been made to individuals and entities where the natural person or the ultimate owner is a member of the parent's family; which includes the children, and in later years each of the adult children's spouses. There has not been any distribution to the parent's spouse, mother or father, siblings, aunts, uncles or an individual that is merely a relative. | It is considered that the Trustee has consistently administered the Trust over time for the benefit of the same family (being the parent and children and in later years each of the adult children's spouses) as outlined within IT 2340 and is consistent with the response of the ATO in NTLG CGT Sub-committee minutes of 28 November 2001. Additionally we consider that no members of a new family have been substituted as recipients of Trust distributions as outlined within IT 2340. | Having regard to the above and that the Commissioner acknowledges that distributions to family members who are beneficiaries may be made in such amounts and to such of those beneficiaries as the trustee determines in the exercise of his discretion, as stated in paragraph 6 of IT 2340, it would be reasonable to assume that at all times on and after 20 September 1985 to the 30 June 2013 that majority underlying interests in the Trust assets have not changed. | Accordingly neither former subsection 160ZZS(1) of the ITAA 1936 or section 149-30 of the ITAA 1997 applies such that a CGT asset of the Trust last acquired before 20 September 1985 stops being a pre-CGT asset for the purposes of section 149-10 of the ITAA 1997. | Therefore, assets of the Trust last acquired before 20 September 1985 do not stop being 'pre-CGT assets' under Division 149 of the ITAA 1997.