Restructuring & Rollovers
redchip lawyers
Level 8, 100 Skyring Terrace | Newstead QLD 4006
Locked Bag 2 | Fortitude Valley QLD 4006
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www.redchip.com.au
March 2015
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Table of Contents
RESTRUCTURE OF SME BUSINESS .............................................................................................................. 1 1. INTRODUCTION ................................................................................................................................. 1 2. INDIVIDUALS/TRUSTEE/PARTNERSHIP CONVERSION TO A COMPANY STRUCTURE................................. 2 3. PRACTICAL EXAMPLE TRANSFER OF ASSETS – SUBDIVISION 122-B .................................................... 7 4. COMPANY STRUCTURE ...................................................................................................................15 5. CONVERSION OF A UNIT TRUST TO A COMPANY ...............................................................................22 PART IVA ITAA 1936 CASE STUDY ..........................................................................................................26 1. TRACK AND ORS V COMMISSIONER OF TAXATION - WHY PART IVA ITAA 1936 NEEDS TO BE
CONSIDERED ..................................................................................................................................26 2. BROADER ANALYSIS OF PART IVA ITAA 1936 .................................................................................36 GENERAL TAX UPDATES ...........................................................................................................................39 1. EMPLOYEE SHARE SCHEMES – DRAFT LEGISLATION RELEASED .......................................................39 2. LIMITED RECOURSE BORROWING ARRANGEMENTS – PROPOSED “LOOK-THROUGH” TAX TREATMENT 42 3. THE ENFORCEMENT OF SMSF ADMINISTRATIVE PENALTIES – THE ATO SPEAKS ..............................44
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Restructure of SME Business
Presenter: Brian Richards, Specialist Tax Consultant, redchip lawyers
1. Introduction
There are many reasons and circumstances that cause questions being asked about the
commercial and taxation effectiveness of the taxpayer’s business structure at various points
of time:
(a) Are my enduring business assets protected from unexpected and significant risk
events?
(b) Are my private assets safe from business risk?
(c) Does my structure facilitate business expansion and geographic opportunities?
(d) Do I have the flexibility to determine how to deal with distributions of income and
capital?
(e) Can I deal expediently with any change of ownership of my business and its assets?
(f) Does my current business structure expose me to taxation complexity or risk?
(g) Am I paying the “right” amount of tax?
(h) Will I be able to access all or any of the present taxation concessions available to a
small business?
(i) Can I provide continuity for my business through intergenerational change or my
death?
It is the adviser’s ongoing task to ensure that the above questions are considered and acted
upon at the appropriate time. Making changes at a time when there is a tax event often
complicates the type and nature of advices that can appropriately be provided. Ultimately,
the end result of the responses to these questions might require a restructure of the
business or its assets in whole or in part.
Having regard to the myriad situations, there are various methods that are available to
achieve the restructure. In many circumstances a combination of methods might achieve the
commercial and taxation objectives of the client.
One of the essential issues for the adviser is to understand the longer term business
strategy of the client. Some of the above questions require a clear understanding of the
future and how to best facilitate the taxation and commercial implications of the future
business strategy.
Within the context of the above, when contemplating structure change, the use of various
CGT rollovers provided by Division 122, 124, 125 and 126 of the Income Tax Assessment
Act 1997 (Cth) (ITAA 1997) can achieve immediate taxation benefits but note that if the
longer term business strategy is for a client exit, then the ensuring that the benefits of
accessing the Division 152 ITAA 1997 concessions at the exit time must be considered in
the immediate context. That is:
(a) Whether the various rollover provisions are chosen in the first instance to preserve
CGT status and avoid any immediate taxation consequences; and
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(b) What are the particular taxation issues that arise as a consequence of using any of the
rollover provisions?
For example access to Subdivision 152-B ITAA 1997 is time “sensitive” in that subdivision is
dependent on ownership of the asset for at least 15 years. With regard to Subdivision 152-
B, all of the rollover types create a new asset. The various rollover provisions do not,
however, negatively impact the timing issues for Division 115 ITAA 1997, as it does include
some grandfathering provisions. These issues are significant when considering restructuring
and/or changes in ownership.
As a general rule with any restructuring advices, the following taxation matters need to be
considered, at both the entity level and the stakeholder level:
(a) Those provisions of the ITAA that apply to revenue assets – trading stock, depreciable
assets, and debtors;
(b) Those provisions of the ITAA that apply to capital gains tax, including the various CGT
rollovers and CGT concessions;
(c) GST implications of the transfers of assets and interests; and
(d) Transfer Duty implications.
Importantly there is also the critical need to be cognisant of the associated commercial and
legal matters to reinforce the taxation decisions. Taxation should never be the driver of a
business transaction – commercial and family outcomes and objectives must lead any
restructuring analysis.
In this paper, we will examine various practical situations and discuss the taxation
implications and alternative methods to restructure. The discussion will consider:
(a) Conversion of business structure
(b) Trust to company
(c) Formation of a corporate group
(d) Mum & Dad to trust as a shareholder – how and consequences
As a general observation for the following discussion, there is no one or correct method to
achieve the desired outcome!
2. Individuals/Trustee/Partnership Conversion to a Company Structure
2.1 Introduction
With regard to the circumstances that involve an individual, a partnership or a trustee the ITAA
1997 provides for CGT relief where the transferor taxpayer transfers CGT assets to a company
subject to meeting specific conditions. The statutory requirements and consequences of one
form of rollover – Division 122 ITAA 1997, separates the type of taxpayer as follows:
(a) Subdivision 122-A ITAA 1997 applies to an individual and/or a trustee; and
(b) Subdivision 122-B ITAA 1997 applies to a partnership.
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Fundamentally the requirements and consequences of both subdivisions are the same, albeit
with a partnership, all partners have to agree to the rollover election.
2.2 Application of Subdivision 122-A/B Rollover Option
Whereas generally the rollover relief is applied when there is a transfer of the ownership of an
asset (CGT Event A1), the provision has broader application than that. Consider the following
section which outlines the introductory provision if the taxpayer is either an individual or a
trustee of a trust:
Section 122-15 Disposal or creation of assets--wholly-owned company
If you are an individual or a trustee, you can choose to obtain a roll-over if one of the
*CGT events (the trigger event) specified in this table happens involving you and a
company in the circumstances set out in sections 122-20 to 122- 35.
Relevant *CGT events
Event No. What you do
A1 *Dispose of a CGT asset, or all the assets of a business, to the
company
D1 Create contractual or other rights in the company
D2 Grant an option to the company
D3 Grant the company a right to income from mining
F1 Grant a lease to the company, or renew or extend a lease
These extended CGT events are an important planning tool if the taxpayer is contemplating the
splitting of asset ownership from income generation, for example by transferring the income
earning capacity of the asset by leasing, licensing or otherwise creating some rights to the use
of the asset without transferring the ownership of the asset.
Note that the same opportunities arise in relation to a CGT asset of a partnership pursuant to
Subdivision 122-B (discussed below).
2.3 Division 122 – The Threshold Elements
As with any of the CGT rollover provisions, it is essential to ensure that the taxpayer
comprehends and then satisfies all of the specific elements of the section. A careful noting of
what conditions need to be satisfied is mandatory.
(a) Individual or trustee as the transferor taxpayer
Section 122-20 ITAA 1997 details the elements that an individual/trustee must satisfy
to access the rollover concession:
(i) Shares must be the only consideration, albeit the company can assume liabilities
related to the assets;
(ii) Shares must not be redeemable shares;
(iii) The market value of the shares must be substantially the same as the market
value of the assets transferred.
The section stipulates (bolding my emphasis):
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Section 122-20
What you receive for the trigger event
(1) The consideration you receive for the trigger event happening must
be only:
(a) *shares in the company; or
(b) for a *disposal of a *CGT asset, or all the assets of a
business, to the company (a disposal case )--shares in the
company and the company undertaking to discharge one or
more liabilities in respect of the asset or assets of the
*business (as appropriate).
Note: There are rules for working out what are the liabilities in respect of an
asset: see section 122-37.
(2) The *shares cannot be *redeemable shares.
(3) The *market value of the *shares you receive for the trigger event
happening must be substantially the same as:
(a) for a disposal case--the market value of the asset or assets
you disposed of, less any liabilities the company undertakes
to discharge in respect of the asset or assets (as appropriate);
or
(b) for another trigger event (a creation case )--the market value
of the CGT asset created in the company (the created asset ).
(4) In working out if the requirement in paragraph (3)(a) is satisfied, if the
*market value of the *shares is different to what it would otherwise be
only because of the possibility of liabilities attaching to the asset or
assets, disregard the difference.
Note: The company may have to pay income tax if an amount is included in
its assessable income because of a CGT event happening to an asset
you disposed of, or it may have a liability because of accrued leave
entitlements of employees. The market value of the shares will reflect
these contingent liabilities.
(b) Partners – transferor taxpayers
The CGT provisions reflect in many respects the general law as it applies to a
partnership and treats a partner as having a separate interest in the partnership assets
(108-5 ITAA 1997) and this is reinforced by section 106-5 ITAA 1997 which provides:
Partnerships
(1) Any *capital gain or *capital loss from a *CGT event happening in
relation to a partnership or one of its *CGT assets is made by the
partners individually.
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Each partner's gain or loss is calculated by reference to the
partnership agreement, or partnership law if there is no agreement.
Example 1: A partnership creates contractual rights in another entity
(CGT event D1). Each partner's capital gain or loss is calculated by
allocating an appropriate share of the capital proceeds from the event
and the incidental costs that relate to the event (according to the
partnership agreement, or partnership law if there is no agreement).
Example 2: Helen and Clare set up a business in partnership. Helen
contributes a block of land to the partnership capital. Their partnership
agreement recognises that Helen has a 75% interest in the land and
Clare 25%. The agreement is silent as to their interests in other assets
and profit sharing.
When the land is sold, Helen's capital gain or loss will be determined
on the basis of her 75% interest. For other partnership assets, Helen's
gain or loss will be determined on the basis of her 50% interest (under
the relevant Partnership Act).
(2) Each partner has a separate *cost base and *reduced cost base for
the partner's interest in each *CGT asset of the partnership.
Given the taxation context of a partner vis a vis the partnership, it is to be noted that
when considering the taxation implications involving a partnership restructure, the use
of Division 122 ITAA 1997 has some subtle issues.
First it will be noted that as with an individual or a trustee, the rollover provision
applies to various CGT Events, not only the transfer of ownership arrangement but
also the creation arrangement.
Second, and what must be carefully noted, is that section 122-125 ITAA 1997 requires
all of the partners to agree to the rollover (do not underestimate the practical difficulties
this might cause!)
Section 122-125 Disposal or creation of assets--wholly-owned company
All of the partners in a partnership can choose to obtain a roll-over if one of the * CGT
events (the trigger event) specified in this table happens involving the partners and a
company in the circumstances set out in sections 122-130 to 122-140.
Relevant * CGT events
Event No. What the partners do
A1 * Dispose of their interests in a * CGT asset of the partnership, or all the assets of a business carried on by the partnership, to the company
D1 Create contractual or other rights in the company
D2 Grant an option to the company
D3 Grant the company a right to income from mining
F1 Grant a lease to the company, or renew or extend a lease
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Shares issued in sole consideration for the grant of
the licence.
Example – Asset creation rollover for partners
By way of example, assume a business partnership operates a successful professional
business and has created substantial goodwill and brand value. The partners are concerned
with risk exposure of the business and the nature of the business activities and wish to isolate
the trading risk by operating via a company.
The options the partners have are:
(a) Sell the entire partnership business or targeted assets and use whatever CGT
concessions are available;
(b) Use Subdivision 122-B ITAA 1997 to rollover the business; or
(c) Grant a goodwill licence to a company and use subdivision 122-B to transfer the
income generation to the company.
Subject to any Part IVA ITAA 1936 issues, the advantages of alternative (c) above include:
(d) Preserving the ownership of the asset;
(e) Preserving the CGT status of the asset;
(f) Avoiding potential Transfer Duty issues;
(g) Isolating the risk and providing asset protection by instituting termination entitlements
(contractual terms).
In this way, the subdivision can be applied to facilitate the following “creation” case:
The next step – the partner’s “move” to deal with newly acquired asset:
Whilst the above facilitates the “transference” of the direct interest in the asset, what is
particularly relevant is the requirement that the partners, subsequent to the rollover, must own
the interests in the company. This might satisfy the immediate tax consequences however it
does not negate entirely the asset protection risks nor maximise the taxation flexibility in
relation to the business income that is prudent.
As an aside and in the context of the above strategy, the ATO’s current stipulation that any
restructure of a “no goodwill” professional practice cannot be extended to an incorporated
practice unless the shareholders are individuals (TD 2011/26) merges conveniently with the
practical outcome of the rollover. As to whether this is commercially appropriate is a separate
issue.
Subject to any adverse transfer duty implications (there are no GST implications as any
interest in a partnership is a financial supply), the preliminary rollover to a company structure
pursuant to Subdivision 122-B ITAA 1997 might represent the first step in the restructure of an
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individual partners newly acquired shares in the transferee company. That is the partner might
contemplate a subsequent transfer of the “partner” shareholder’s interest in the incorporated
entity to a family trust, for example.
Subject to the proportionate interest the partner holds (noting that a 20% interest is the relevant
threshold for Division 152 ITAA 1997), both Division 115 and Division 152 ITAA 1997 could be
available to negate any taxation consequences of the restructure. Further, there would be no
GST or transfer duty implications for the second tranche of transactions.
3. Practical Example Transfer of Assets – Subdivision 122-B
The above example illustrates the potential utility of the Division 122 ITAA 1997 CGT rollover,
the following practical examples illustrates some of the nuances of the rollover and identify
some of the subtleties of the provision.
From the outset it must be emphasised that the rollover provisions deal with relief from CGT. If
the transaction involves a revenue asset, these rollover provisions merely defer the CGT
component of any gain. If there is any revenue gain attributable to the transaction, you need to
consider the transaction in the context of that revenue provision. Division 70 ITAA 1997
(trading stock) and Division 40 ITAA 1997 (depreciable assets) are two common examples.
When considering a restructure of a business or a business asset, the use of the rollover
provision is often compared to the use of the concessional CGT provisions (i.e. Division 115
and Division 152 ITAA 1997). There are many variables to consider, however hopefully the
following example illustrates some of the situational circumstances that will influence the use of
the rollover concessions.
3.1 Facts
(a) Mr A & Mrs A have operated a small engineering business for 10 years.
(b) The business is very profitable but the nature of the business has a level of commercial
risk associated with the installation of its product into client’s machinery and
manufacturing processes.
(c) One of the reasons for the success of the business is its ability to continue to innovate.
A substantial amount of expenditure is incurred in research & development
expenditure. The business owns a number of valuable patents.
(d) The business has a market value of $ 4 million consisting of the following assets:
Cost Base Market Value
(i) Patents nil $1 million
(ii) Depreciable Plant (WDV) $200,000 $500,000
(iii) Trading Stock (at cost) $300,000 $300,000
(iv) Debtors $225,000 $200,000
(v) Goodwill nil $2 million
(e) Mrs & Mrs A have limited other assets.
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3.2 Issues
If Mr & Mrs A wish to conduct their business in a company, what are the best methods to
achieve this objective?
3.3 Conversion Options
Sell all or some of the assets to a company(s); or
Rollover all or some of the assets; or
Some combination of the above.
(a) Sale Option
First consider the implications of selling the specific assets owned by Mr & Mrs A to the
company:
(i) Taxation characteristics of the assets
(A) Patents:
Fully assessable pursuant to Division 40 ITAA 1997 as a patent
is a depreciable asset (section 40-30 ITAA 1997);
Subject to Transfer Duty if sold together with other business
assets.
(B) Depreciable Assets:
The amount in excess of the written down value is assessable
pursuant to Division 40 ITAA 1997.
(C) Debtors:
There will be no direct taxation consequences of the transfer of
debtors, however the company will not be entitled to claim any
bad debt deduction (section 25-35 ITAA 1997).
(D) Goodwill:
The sale would generate a capital gain of $2 million;
Mr & Mrs A would entitled to reduce the gain by $1M by applying
the Division 115 ITAA 1997 discount;
Mr & Mrs A would be entitled to further reduce the net gain by
applying Subdivision 152-C ITAA 1997 ($500,000) and perhaps
applying Subdivision 152-D in respect of the balance (the latter
requires a cash contribution into a complying superannuation
fund unless they are over 55 years of age).
(ii) Taxation implications on the disposal of the assets
It is highly unlikely that Mr & Mrs A would accept the sale of the entire assets
having regard to the significant income tax liability related to the disposal of the
patent and the depreciable assets, notwithstanding any cost base uplift.
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They need to have a company to conduct the R & D activities to maximise the
tax concessions available for their ongoing innovation, but care needs to be
exercised to ensure that the entity claiming R & D owns the IP and enjoys the
economic benefits associated with the R & D.
They might decide to only transfer the goodwill and claim the CGT concessions
to eliminate any tax and at the same time reset the cost base of the goodwill.
(b) Rollover Option
As the A Family conducts their business as a partnership, they can elect to apply
Subdivision 122-B ITAA 1997 to achieve the transfer of the business to a company, if
the consideration for the transfer of assets is satisfied by the issue of non-redeemable
shares (plus assumption of liabilities that are related to the transferred assets).
Assume for the purposes of this example, the company issues 4 million $1 shares as
the consideration for the transfer (Note: it does not matter how many shares are
issued, the primary requirement is that the shares issued is approximately the same as
the market value of the assets transferred, that is 100 shares can be issued and the
requirements will be satisfied).
Pursuant to Subdivision 122-B ITAA 1997, all of the partners (Mr A & Mrs A) must
jointly agree to apply this subdivision; with the consequence being they are then able
to disregard any CGT implications on the transfer of CGT assets.
Section 122-130 Rollover conditions
What the partners receive for the trigger event
(1) The consideration the partners receive must be only:
(c) *shares in the company; or
(d) for a *disposal of their interests in a *CGT asset, or in all the
assets of a business, to the company (a disposal case )--
shares in the company and the company undertaking to
discharge one or more liabilities in respect of their interests.
Note: There are rules for working out what are the liabilities in respect
of an interest in an asset: see section 122-145.
(2) The *shares cannot be *redeemable shares.
(3) The *market value of the *shares each partner receives for the trigger
event happening must be substantially the same as:
(a) for a disposal case--the market value of the interests in the
asset or assets the partner disposed of, less any liabilities the
company undertakes to discharge in respect of the interests in
the asset or assets (as appropriate); or
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(b) for another trigger event (a creation case )--the market value
of what would have been the partner's interest in the * CGT
asset created in the company (the created asset ) if it were an
asset of the partnership.
(4) In working out if the requirement in paragraph (3)(a) is satisfied, if the *
market value of the *shares is different to what it would otherwise be
only because of the possibility of liabilities attaching to the asset or
assets, disregard the difference.
Note: The company may have to pay income tax if an amount is
included in its assessable income because of a CGT event happening
to an asset a partner disposed of, or it may have a liability because of
accrued leave entitlements of employees. The market value of the
shares will reflect these contingent liabilities.
The consequences of the rollover need to be considered from the perspective of the
shareholder transferor and the company transferee.
(c) Consequences for partners as transferors of the assets
The taxation implications for partners when they transfer their interests in the
partnership assets
The taxation consequences for the partners when choosing the rollover relief is
dependent on the nature of the asset and the acquisition date of the asset (i.e. whether
the asset was a pre-CGT asset).
There are three categories of assets that we generally need to consider:
(i) General CGT assets (section 108-5 ITAA 1997 defines the term “CGT asset”);
(ii) Division 70 ITAA 1997 – trading stock; and
(iii) Division 40 ITAA 1997 – depreciable assets.
When the Subdivision 122-B ITAA 1997 rollover is applied, the partners are able to:
(i) disregard the CGT gain as a consequence of the rollover pursuant to section
122-170 ITAA 1997;
(ii) defer the balancing adjustment pursuant to section 40-340 ITAA 1997
(discussed below).
But they cannot disregard the Division 70 ITAA 1997 issues (trading stock).
If all of the assets are being transferred in conjunction with the rollover, it is important
to consider the ramifications of “precluded assets”. In this regard section 40-340 ITAA
1997 is relevant to the taxation implications of the rollover. Section 40-340 ITAA 1997
provides that there is an automatic rollover where all of the assets of the partnership
are transferred:
Section 40-340 Roll-over relief
Automatic roll-over relief
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(1) There is roll-over relief if:
(a) there is a *balancing adjustment event because an entity (the
transferor ) disposes of a *depreciating asset in an income
year to another entity (the transferee ); and
(b) the disposal involves a *CGT event; and
(c) the conditions in an item in this table are satisfied
Item 2 Disposal of asset by partnership to wholly-owned company
The transferor is a partnership, the property is partnership property
and the partners are able to choose a roll-over under Subdivision 122-
B for the disposal by the partners of the *CGT assets consisting of
their interests in property.
(2) In applying an item in the table in subsection (1), disregard the
following so far as they relate to the *depreciating asset you disposed
of:
(a) an exemption in Division 118 (which contains the general
exemptions from CGT); and
(b) subsection 122-25(3) (which excludes certain assets from roll-
over relief under Subdivision 122-A); and
(c) subsection 124-870(5) (which excludes certain assets from
roll-over relief under Subdivision 124-N).
The effect of the roll-over relief provision is to defer the balancing adjustment until the
next balancing adjustment event for which there is no roll-over relief and to allow the
transferee to claim deductions for the depreciating asset which has been transferred
as if the asset continued to be held by the transferor. However, importantly, the
rollover is dependent on all of the assets being transferred pursuant to the Subdivision
122-A or Subdivision 122-B ITAA 1997 rollover.
This is evidenced by the section’s stipulation that certain assets are disregarded for
the purposes of the rollover in certain circumstances (sub-section 122-135(3) ITAA
1997):
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(3) This Subdivision does not apply to the * disposal or creation of any of the assets specified in this table:
Assets to which Subdivision does not apply
Item In this situation: This Subdivision does not apply to:
1 The partners * dispose of their interests in a *CGT asset to, or create a CGT asset in, the company
(a) a * collectable or a *personal use asset; or
(b) a decoration awarded for valour or brave conduct (except if a partner paid money or gave any other property for it); or
(c) a * precluded asset; or
(d) an asset that becomes * trading stock of the company just after the * disposal or creation
2 The partners * dispose of their interests in all the assets of a business
(a) a * collectable or a *personal use asset; or
(b) a decoration awarded for valour or brave conduct (except if a partner paid money or gave any other property for it); or
(c) an asset that becomes * trading stock of the company just after the disposal or creation (unless it was trading stock of the partnership when it was disposed of)
(d) Partners Consequences – Recipient Shareholders
General rollover consequences for the shareholders:
In exchange for the transfer of their interests in the assets, the shareholders receive
shares in the transferee company:
Section 122-80 provides that if all of the interests disposed of are post-CGT
interests, the first element of the cost base/reduced cost base (as appropriate)
of each share received by the partner on the roll-over is the sum of:
• the market values of the partner's interests in any precluded assets,
that is assets subject to Division 40 ITAA 1997, trading stock (division
70); and
• the cost bases/reduced cost bases (as appropriate) of the partner's
interests in the other assets, less any liabilities the company
undertakes to discharge in respect of all those interests
divided by the number of the partner's shares.
A precluded asset is more generally defined as follows:
Section 122-25(3) A precluded asset is:
(a) a *depreciating asset; or
(b) *trading stock; or
(c) an interest in the copyright in a *film referred to in section 118-30; or
(d) a *registered emissions unit.
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If, however, all of the assets of the business are transferred, precluded assets and
trading stock are included as part of the rollover and any CGT consequences are
disregarded.
The consequence of the cost base rules for the shares is that any unrealised gain
attributable to the precluded assets is “protected” from tax. The potential tax liability is
shifted to the company.
Example
Based on the application of the above statute and applying it to our facts, Mr & Mrs A
receive 4 million shares which will have a cost base (for the purposes of future CGT
transactions) equal to:
(i) Cost base of assets transferred:
Goodwill nil
Debtors $225,000 $225,000
(ii) Market value of precluded assets
Patents $1,000,000
Depreciable plant $500,000
Trading stock $300,000 $1,800,000
Total cost base of the shares $2,025,000
(e) Company Consequences
Pursuant to section 122-200 ITAA 1997, where the partners dispose of an asset to a
wholly-owned company and all of the partners’ interests are post-CGT interests:
(i) The cost base of the asset in the company will be the asset’s cost
base/reduced cost base (as appropriate) when it was disposed of (s122-200(2)
ITAA 1997);
(ii) However this does not apply to a precluded asset (s122-200(1) ITAA 1997) —
a capital gain or loss from a precluded asset can be disregarded (Subdivision
118-A ITAA 1997); and
(iii) Note the relevance of the CGT rollover if depreciating assets are included in
the rollover (section 40-345 ITAA 1997).
The CGT rollover legislation provides:
Section 122-200(1) There are these consequences for the company in a
disposal case if the partners choose to obtain a roll-over. They are relevant for
interests in each *CGT asset (except a *precluded asset) that the partners
*disposed of to the company.
Section 122-200(2) If all of the partners’ interests in an asset were *acquired
on or after 20 September 1985:
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(a) the first element of the asset’s *cost base (in the hands of the
company) is the sum of the cost bases of the partners’ interests in the
asset when it was disposed of; and
(b) the first element of the asset’s *reduced cost base (in the hands of the
company) is the sum of the reduced cost bases of the partners’
interests in the asset when it was disposed of.
Where a depreciable asset is included (a “precluded asset”) and the rollover provisions
are applicable, the Division 40 ITAA 1997 implications are provided by section 40-345
ITAA 1997:
40-345(1) Section 40-285 does not apply to the *balancing adjustment event
for the transferor.
40-345(2) The transferee can deduct the decline in value of the *depreciating
asset using the same method and *effective life (or *remaining effective life if
that method is the *prime cost method) that the transferor was using.
That is:
(i) The transferor has no revenue gain pursuant to Division 40 ITAA 1997;
(ii) The transferor has no CGT gain pursuant to Subdivision 122 ITAA 1997; and
(iii) The transferee company inherits the written down value of the transferor for
the purposes of the company’s future Division 40 ITAA 1997 deductions.
Example
The company is deemed to have acquired the assets transferred at a cost base
pursuant to sections 122-200 & 40-345 ITAA 1997:
(i) Assets dealt with in accordance with section 122-200 ITAA 1997:
Goodwill nil
Debtors $225,000
(ii) Assets dealt with in accordance with section 40-345 ITAA 1997
Patents nil
Depreciable plant $200,000
(iii) Assets dealt with in accordance with section 70-90
Trading stock $300,000
A Practical Accounting Issue
One of the more practical risk issues for advisers is the accounting treatment of the
transfer vis a vis the taxation implications. For example, using the above example and
assuming that the company issues 4 million $1 shares, the accounting would be:
Dr Assets 4,000,000
Cr Issued capital 4,000,000
redchip lawyers | Restructuring & Rollovers | page 15
However, for example, the goodwill has a tax cost base of nil but a cost in the
accounting records of $2m.
Note: Ensure that the company and the shareholder records note the taxation cost
base!!
Summary of Taxation Implications
Mr & Mrs A: Company Implications
No CGT liability on transfer of CGT assets;
CGT status of assets acquired preserved;
Div 40 ITAA 1997 balancing event disregarded
CGT assets retain their inherited cost base;
Div 70 ITAA 1997 issues to be considered
Div 40 ITAA 1997 assets adopt written down value inherited
Div 70 ITAA 1997 market value
4. Company Structure
4.1 Establishing a group structure
For the purposes of this discussion assume the business is conducted in a company form,
however the taxpayer wishes to create some demarcation within the corporate entity (e.g.
asset protection purposes, creation of differently managed business divisions or creation of
special purpose entities).
Further assume that the shareholders in the company are Mr & Mrs A.
Shares acquired: Take care with difference between accounting records and tax records!
CGT status grandfathered;
Acquisition date grandfathered;
Cost base = cost base of CGT assets + market value of precluded assets;
Special rules for Div 115 acquisition dates
redchip lawyers | Restructuring & Rollovers | page 16
4.2 Strategy 1 – Use Rollover Provisions to Interpose a New Holding Company
This strategy uses the new business restructure rules in Division 615 ITAA 1997 to create a
holding company subsidiary structure.
[Note] Unit trust conversion:
Division 615 ITAA 1997 also applies to the either the interposition of a holding company or
exchanging units in a unit trust for shares in a new company.
It is possible to convert a unit trust structure to a company structure by using Subdivision 124-
N ITAA 1997 – all assets must be transferred to the company and the trust must come to an
end within 6 months.
A feature of Division 615 ITAA 1997 is that there is, inter alia:
(a) A retention of CGT status;
(b) No cost base uplift;
(c) No transfer duty or GST issues.
Subsequent to the above restructure steps, the head company can then elect to form a tax
consolidated group and then restructure asset ownership using the “single entity” rule to
mitigate any tax consequences of transfer of assets within the group.
Diagrammatically:
Step 1 – Starting Structure Matters to Consider
Note:
The same result can be achieved by using Subdivision 124-M ITAA 1997 if there is only one shareholder
Step 2 – Insert Holding Company
Shareholders of Trading Co transfer their shares to Hold Co in exchange for shares in Hold Co
redchip lawyers | Restructuring & Rollovers | page 17
Step 3 - Elect to form tax consolidated group – Head Co & Trading Co
Step 4 – Restructure Trade Co’s Assets
Transfer assets within tax consolidated group from Trading Co to Asset Co – there needs to be consideration provided by Asset Co for the transfer.
Relevant Statutory Provisions
Division 615 ITAA 1997 replaces the former subdivision 124-G ITAA 1997, however the
fundamental features of the previous subdivision have remained in place.
Basic Requirements – Application of Division 615
Section 615-5(1) You can choose to obtain a roll-over if:
(a) you are a *member of a company or a unit trust (the original entity); and
(b) you and at least one other entity (the exchanging members) own all the
*shares or units in it; and
(c) under a *scheme for reorganising its affairs, the exchanging members
*dispose of all their shares or units in it to a company (the interposed
company) in exchange for shares in the interposed company (and nothing
else); and
(d) the requirements in Subdivision 615-B are satisfied.
Shareholders
Hold Co
Trading Co Asset Co
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This particular rollover provision requires the following principal features:
(a) At least two shareholders in the original company (it can also apply to a unit holder in a
unit trust); and
(b) There is an exchange of shares in one company for shares in another company with
no change in relevant interests or value.
Note: If there is only one shareholder consider the use of Subdivision 124-M ITAA 1997 “scrip
for scrip” rollover as an alternative.
The Subdivision 615-B ITAA 1997 requirements are:
(a) The interposed company must own all of the shares in the original company
immediately after the exchange (section 615-15 ITAA 1997);
(b) The exchanging shareholders must own all of the shares in the interposed entity
immediately after the exchange, with no change in proportionality or market value in
exchanged interests (section 615-20 ITAA 1997);
(c) The shares issued in the interposed company must not be redeemable shares (section
615-25 ITAA 1997); and
(d) The interposed entity must make the choice to apply the rollover concession.
Taxation Consequences:
Shareholder
The consequences of the Division 615 ITAA 1997 rollover for the shareholders in the original
company are outlined in section 615-40 ITAA 1997:
Section 615-40 The consequences set out in Subdivision 124-A also apply to a roll-
over under this Division as if that roll-over were a roll-over covered by Division 124
(about replacement-asset roll-overs).
Note:
Those consequences generally involve:
(a) disregarding a capital gain or capital loss you make from the disposal,
redemption or cancellation of your shares or units in the original entity; and
(b) working out the first element of the cost base of each of your new shares in
the interposed entity by reference to the cost bases of your shares or units in
the original entity.
Interposed Entity
The consequences for the interposed company are outlined by section 615-65 ITAA 1997:
Pre CGT shares in original company
615-65(2) A number of the *shares or units that the interposed company owns in the
original entity (immediately after the completion time) are taken to have been *acquired
redchip lawyers | Restructuring & Rollovers | page 19
before 20 September 1985 if any of the original entity’s assets as at the completion
time were acquired by it before that day.
615-65(3) That number (worked out as at the completion time) is the greatest possible
whole number that (when expressed as a percentage of all the *shares or units) does
not exceed:
(a) the *market value of the original entity’s assets that it *acquired before 20
September 1985; less
(b) its liabilities (if any) in respect of those assets;
expressed as a percentage of the market value of all the original entity’s assets less all
of its liabilities.
Post CGT shares in the original company
615-65(4) The first element of the *cost base of the interposed company’s *shares or
units in the original entity that are not taken to have been *acquired before 20
September 1985 is:
(i) the total of the cost bases (as at the completion time) of the original
entity’s assets that it acquired on or after that day; less
(ii) its liabilities (if any) in respect of those assets.
The first element of the *reduced cost base of those shares or units is worked out
similarly.
615-65(5) A liability of the original entity that is not a liability in respect of a specific
asset or assets of the original entity is taken to be a liability in respect of all the assets
of the original entity.
Note:
An example is a bank overdraft.
615-65(6) If a liability is in respect of 2 or more assets, the proportion of the liability
that is in respect of any one of those assets is equal to:
The *market value of the asset
Total market value of all the assets that the liability is in respect of
4.3 Strategy 2 - Utilise the Division 152 Concessions to Obtain a Cost Base Uplift and Then
Consolidate
Cost Uplifting Strategy
Using the same facts as before:
(a) The shares in the target entity are owned by Mr & Mrs A equally;
(b) The acquisition of the shares was a consequence of the previous subdivision 122-B
rollover (the shares will have a cost base of $2.025 million); and
(c) The shareholders can satisfy the $6M Maximum Net Asset Value Test (“MNAV”).
redchip lawyers | Restructuring & Rollovers | page 20
With these facts and assumptions based on a tax planning motive, the strategy would include
the following steps:
(a) Mr & Mrs A establish a newly private company (“Newco”) with shares issued in the
company held by a discretionary trusts (should elect to be a family trust);
(b) Newco acquires the shares from Mr & Mrs A for full consideration being the market
value of the shares ($4 million). The consideration will be effected by vendor financing
in the first instance;
(c) Mr & Mrs A have a capital gain of $1.975 million which can be reduced by:
(i) Division 115 ITAA 1997 – as the shares have been held for more than 12
months – $987,500 reduction;
(ii) The Division 152 ITAA 1997 concessions if the shares are active assets (refer
to section 152-40(3) ITAA 1997 – if 80% of the company’s assets are active,
the shares will be active) – the shares will be active in this instance;
(iii) Mr & Mrs A can utilise Subdivision 152-C ITAA 1997 - $493,750 reduction; and
(iv) Mr & Mrs A can utilise Subdivision 152-D ITAA 1997 if they contribute
$493,750 into superannuation (i.e. $246,875 each) or alternatively apply
Subdivision 152-E ITAA 1997 and defer the contribution time by two years
(CGT Event J5 will occur).
(d) Newco wholly owns all of the shares and accordingly can form a consolidated group.
Newco has paid $4 million for the shares in the target entity. The cost to acquire the
membership interests (i.e. the shares) of $4 million will be the ACA (section 705-60
ITAA 1997) which is then allocated over the assets in the target entity;
(e) The ACA is allocated over the various assets which will result in the cost base of the IP
being reset at $1 million and depreciable plant at $500,000; and
(f) Newco borrows $493,750 either immediately or upon the happening of CGT J5 Event
and repays some part of the vendor finance to be used by Mr & Mrs A to contribute to
superannuation (noting the timing periods that must be satisfied to access the
Subdivision 152-D ITAA 1997).
The above strategy provides a much better outcome for Mr & Mrs A.
4.4 The Versatility of Division 615 ITAA 1997
The CGT rollover provisions in Division 615 ITAA 1997 are a versatile tool for restructuring
your client’s affairs in instances which are more complex that the above simple example of Mr
& Mrs A.
Although the rollover is typically applied to facilitate a tax-free interposition of a holding
company between shareholders and a specific company, the provisions can also be used to
amalgamate multiple companies under a single holding company.
Consider the following scenario recently illustrated in redchip’s recent Tax Bulletin written by
Mark Lowis:
redchip lawyers | Restructuring & Rollovers | page 21
(a) Stephen holds 60% of the ordinary shares in Trading Co Pty Ltd, IP Company Pty and
Staff Pty Ltd.
(b) Marty owns 40% of the ordinary shares in the corresponding companies.
(c) Stephen and Marty incorporate Holding Co Pty Ltd, issuing shares to themselves.
(d) Holding Co Pty Ltd agrees to issue shares in Holding Co Pty Ltd to Stephen and Marty
to bring them up to their 60/40 proportions in exchange for Stephen and Marty’s shares
in all three companies.
(e) Stephen and Marty now hold all of the shares in Holding Co Pty Ltd in their original
proportions.
(f) Trading Co Pty Ltd, IP Company Pty Ltd and Staff Pty Ltd are now wholly owned
subsidiaries of Holding Co Pty Ltd.
Before
After
This strategy may be particularly useful where a client with multiple corporate structures would
be better served by centralising their ultimate shareholding (e.g. administrative burden, costs).
If applied correctly, Stephen and Marty’s shares in Holding Co Pty Ltd will acquire an averaged
cost CGT base equivalent to the cost bases of the shares exchanged – thereby rolling over any
CGT liability which would have otherwise arisen.
The provisions strategy fundamentally requires:
(a) That there are more than one shareholder in each of the companies;
redchip lawyers | Restructuring & Rollovers | page 22
(b) That the proportional shareholdings in each of the original companies before the
interposition occurs are identical, and
(c) That the proportionate market value of the shareholdings for each shareholder are the
same as the original companies
A summary of the Commissioner of Taxation’s views and his endorsement of this particular
strategy and many others can be found within Taxation Ruling TR 97/18. Principally the
notion embraced by the Commissioner (albeit in relation to an earlier version of Division 615
ITAA 1997):
10. It is readily observed that if there is a reorganisation of the affairs of a wholly
owned group/conglomerate by reconfiguring the group under two main operating
companies, there occur changes in cross holdings between each related company but
no change in the overall economic ownership of the underlying assets within the
group. This type of arrangement is common commercial practice and not offensive to
the roll-over provisions of section 160ZZO.
5. Conversion of a Unit Trust to a Company
Finally, the ITAA 1997 provides an opportunity to convert a unit trust into a company.
Subdivision 124-N ITAA 1997 is essentially a more sophisticated version of Subdivision 122-A
1997. Whilst Subdivision 122-A ITAA 1997 allows assets held by a trust to be transferred to a
company where the consideration provided by the transferee is shares in the company, the
trust becomes a shareholder.
Subdivision 124-N ITAA 1997, however, has a multi-faceted rollover for a unit trust (not a
discretionary trust):
(a) Assets of the unit trust are transferred to a company;
(b) The unit holders are entitled to shares in the company, without any change in the
market value or proportionate interest in the company; and
(c) The unit trust is vested within a 6 month period of the first CGT event attributable to the
restructure (otherwise CGT Event J4 will apply).
Ultimately what Subdivision 124-N ITAA 1997 provides is:
(a) A new company can be established to hold the assets of the unit trust;
(b) The unit holders interests are converted to a shareholding interest in the transferee
company; and
(c) The trust ceases to exist.
Whilst this subdivision provides CGT relief, there are transfer duty issues to consider.
Statute (Subdivision 124-N ITAA 1997)
Section 124.855 ITAA 1997 provides the broad parameters:
(1) A roll-over may be available for a restructuring (a trust restructure) if:
redchip lawyers | Restructuring & Rollovers | page 23
(a) a trust, or 2 or more trusts, (the transferor) *dispose of all of their
*CGT assets to a company limited by * shares (the transferee); and
(b) CGT event E4 is capable of applying to all of the units and interests in
the transferor; and
(c) the requirements in section 124-860 are met.
Note: A roll-over is not available for a restructure undertaken by a discretionary
trust.
(2) For 2 or more transferors, units and interests in each transferor must be
owned in the same proportions by the same beneficiaries.
Matthew and Jaclyn each own 50% of the units in the Spring Unit Trust and
the Dale Unit trust. All of the assets of both trusts are disposed of to Jonathon
Pty Ltd. A roll-over for a trust restructure is available if the other requirements
of this Subdivision are met.
More particularly, the specific requirements to access the concessions are outlined in section
124-860 ITAA 1997:
Requirements for roll-over
(1) All of the *CGT assets owned by the transferor must be disposed of to the
transferee during the *trust restructuring period. However, ignore any CGT
assets retained by the transferor to pay existing or expected debts of the
transferor.
(2) The trust restructuring period for a trust restructure:
(a) starts just before the first *CGT asset is *disposed of to the transferee
under the trust restructure, which must happen on or after 11
November 1999; and
(b) ends when the last CGT asset of the transferor is disposed of to the
transferee.
(3) The transferee must not be an *exempt entity.
(4) The transferee must be a company that:
(a) has never carried on commercial activities; and
(b) has no *CGT assets, other than any or all of the following:
(i) small amounts of cash or debt;
(ii) its rights under an *arrangement, if (collectively) those rights
only facilitate the transfer of assets to the transferee from the
transferor; and
(c) has no losses of any kind.
Example: It could be a shelf company.
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(5) Subsection (4) does not apply to a transferee that is the trustee of the
transferor.
(6) Just after the end of the *trust restructuring period:
(a) each entity that owned interests in a transferor just before the start of
the trust restructuring period must own replacement interests in the
transferee in the same proportion as it owned those interests in that
transferor; and
(b) the *market value of the replacement interests each of those entities
owns in the transferee must be at least substantially the same as the
market value of the interests it owned in the transferor or transferors
just before the start of the trust restructuring period.
Note 1: Any assets in the company just before the start of the trust
restructuring period may affect the ability of owners of units or
interests to comply with paragraph (6)(b).
Note 2: See section 124-20 if an entity uses an interest sale facility.
(7) For the purposes of subsection (6), ignore any *shares in the transferee that:
(a) just before the start of the *trust restructuring period, were owned by
entities who together owned no more than 5 shares; and
(b) just after the end of that period, represented such a low percentage of
the total *market value of all the shares that it is reasonable to treat
other entities as if they owned all the shares in the transferee.
Example: To continue the example in subsection 124- 855(2), assume that Jonathon
Pty Ltd was a shelf company organised for Matthew and Jaclyn by their solicitor,
Indira.
Indira owned the 2 shares in Jonathon Pty Ltd before the trust restructuring period.
The company issues Matthew and Jaclyn 5,000 shares each.
In these circumstances, it is reasonable to treat Matthew and Jaclyn as if they owned
all the shares in Jonathon Pty Ltd.
In summary the consequences of choosing the rollover are:
(a) Section 124-870 ITAA 1997 - the taxpayer can choose the application of the roll-over in
relation to their units (or interests in a trust) where they exchange their trust interests
for shares. The taxation consequences are provided by subdivision 124-A ITAA 1997.
Note:
(i) The effect of the roll-over may be reversed if the transferor does not cease to
exist within 6 months: see section 104-195.
(ii) There are limits on non-resident unitholders)
redchip lawyers | Restructuring & Rollovers | page 25
(b) Section 124-875 ITAA 1997 provides that:
(i) any CGT gain attributable to the exchange of trust interests to shares is
disregarded;
(ii) Cost base of the transferor is “inherited” by the transferee; and
(iii) Pre-CGT assets retain their status.
redchip lawyers | Restructuring & Rollovers | page 26
Part IVA ITAA 1936 Case Study
Presenter: Mark Lowis, Associate, redchip lawyers
1. Track and Ors V Commissioner of Taxation - Why Part IVA ITAA 1936
Needs To Be Considered
The recent decision of Track and Ors v Commissioner of Taxation [2015] AATA 45
(Track’s Case) is a timely reminder of the serious impact that Part IVA of the Income Tax
Assessment Act 1936 (Cth) (ITAA 1936) can have on restructures.
The case comprised eight applications to the Administrative Appeals Tribunal (AAT) regarding
amended assessments issued by the Commissioner for capital gains made by the trustee of a
hybrid unit trust when it sold business assets for over $8M in July 2005.
The case is particularly interesting within the context of our seminar and offers an opportunity
to reflect upon our roles as advisers when a restructure is proposed and how that restructure is
to be carried out.
1.1 Facts
The primary facts in Track’s Case are relatively complex. It will be useful to recount them
chronologically, highlighting the various changes to the business structure as they took place.
Michael Track (Michael) and Arnold Track (Arnold) started a cane harvester repair and
operations business in or around 1988. The brothers were fitters by trade and as their repair
business grew, they developed an expertise in fabricating parts for harvesters.
This business was conducted by Track Bros Pty Ltd.
Their growing interest and expertise in plastic fabrication lead them to investigate rotational
plastic moulding methods. After a while, the business of manufacturing and selling plastic
moulded tanks became lucrative.
By the mid 1990’s the Track brothers wished to expand the business by bringing in additional
management and investment. Mr James Patrick (James), a long term employee of Track Bros
Pty Ltd invested in the business. Mr Carter Ford (Carter), the manager of the trading bank
where Track Bros Pty Ltd conducted its accounts also invested in the business.
Michael, Arnold, James and Carter where the “Principals” in this new venture of manufacturing
plastic water tanks.
In 1996, the structure of this new venture was as follows: -
redchip lawyers | Restructuring & Rollovers | page 27
Setup Structure – Track Bros S&P Pty Ltd
The business conducted by Track Bros S&P Pty Ltd was highly successful. By 2001 their
business involved the manufacture and supply of rainwater tanks, pool shells and farm
products.
1.2 First Restructure – April 2001
In April 2001, a restructure of the business was carried out by a Brisbane law firm (“the First
Restructure”).
The business was separated into three parts, with three hybrid trusts established:
(a) Track Bros 1 as trustee for the Track Bros 1 Trust conducted the business;
(b) Track Bros 2 as trustee for the Track Bros 2 Trust held the property, plant and
equipment; and
(c) Track Bros Company 3 Pty Ltd as trustee for the Track Bros Company 3 Unit Trust
took over the steel parts business.
Following completion of this restructure, Track Bros 1 Trust continued to operate the business
and distributed its net income to its unit holders proportionally for the 2002, 2003 and 2004
income years.
The structure of the group following the First Restructure is set out below:
redchip lawyers | Restructuring & Rollovers | page 29
Steel Parts Business:
1.3 The Proposed Deal and Transaction Term Sheet
In early 2005 the Principals were approached by a national chartered accounting firm and
asked if they were interested in selling the business. The Principals nominated a price at which
they would be prepared to sell.
On 5 May 2005 the parties entered into a “Transaction Term Sheet” granting Exwhyzed Money
Bags Pty Ltd an option to purchase the business and the majority of the assets of Track Bros 1
and Track Bros 2 for a base price of $7.5 million plus an earn out component.
Each of the Principals would also receive a $125,000 performance bonus and restraint of trade
payment under the deal.
1.4 Pre-Sale Advice
Following the execution of the Transaction Term Sheet, Michael approached the same
Brisbane law firm who had conducted the First Restructure and sought advice. Michael would
relay that advice to the other Principals.
In a letter dated 21 June 2005 the Brisbane law firm suggested the following steps be taken: -
(a) Establish four new trusts to be the recipients of capital distributions from the Track
Bros 1 Unit Trust.
redchip lawyers | Restructuring & Rollovers | page 30
(b) Track Bros 1 Unit Trust make proportional distributions to the new trust (equal to the
cash, term deposits and loans owing by entities such as the trustee of Track Bros 2
Unit Trust).
(c) Have the related entities repay the loans and amounts owing to Track Bros 1 Unit
Trust.
(d) Have the new Trusts loan back funds to Track Bros 1 Unit Trust under security.
1.5 The Second Restructure
The parties adopted the advice and the following actions were carried out: -
(a) Four new “protection” trusts were established for the benefit of each of the Principals
(see below);
(b) Track Bros 1 redeemed call deposit in its name and deposited the proceeds of
$1,002,660.37 into its bank account;
(c) In partial satisfaction of the resolution to make the “discretionary distribution”, cheques
totalling $1,000,000 were drawn in favour of each of the protection trusts as follows: -
(i) Michael Track Protection Trust $255,000;
(ii) Arnold Track Protection Trust $255,000;
(iii) JS Patrick Protection Trust $267,000;
(iv) Ford Protection Trust $223,000.
redchip lawyers | Restructuring & Rollovers | page 31
(d) The four protections trusts collectively lent $941,393.00 to Track Bros 2, Track Bros 3
and Track Bros 4 as follows: -
(i) Amounts totalling $240,055.00 were withdrawn from the Michael Track
Protection Trust and transferred to the accounts of Track Bros 2
($111,122.00), Track Bros 3 ($47,333.00) and Track Bros 4 ($81,600.00);
(ii) Amounts totalling $240,055.00 were withdrawn from the Arnold Track
Protection Trust and transferred to the accounts of Track Bros 2
($111,122.00), Track Bros 3 ($47,333.00) and Track Bros 4 ($81,600.00);
(iii) Amounts totalling $251,353.00 were withdrawn from the JS Patrick Protection
Trust and transferred to the accounts of Track Bros 2 ($116,352.00), Track
Bros 3 ($49,561.00) and Track Bros 4 ($85,440.00); and
(iv) Amounts totalling $209,930.00 were withdrawn from the Ford Protection Trust
and transferred to the accounts of Track Bros 2 ($97,177.00), Track Bros 3
($41,393.00) and Track Bros 4 ($71,360.00).
(e) Track Bros 2 ($445,773.00), Track Bros 3 ($185,620.00) and Track Bros 4 ($320,000)
repaid loans totalling $941,393.00 to Track Bros 1;
(f) Cheques totalling $1,561,239.00 were drawn on the account of Track Bros 1 and
deposited into the protection trusts as follows: -
(i) Michael Track Protection Trust $398,116.00;
(ii) Arnold Track Protection Trust $398,116.00;
(iii) JS Patrick Protection Trust $416,851.00;
(iv) Ford Protection Trust $348,156.00.
(g) Next, amounts totalling $500,000 were withdrawn from the protection trusts account
and deposited to the account of Track Bros 1. The amounts were: -
(i) Michael Track Protection Trust $127,500.00;
(ii) Arnold Track Protection Trust $127,500.00;
(iii) JS Patrick Protection Trust $133,500.00;
(iv) Ford Protection Trust $111,500.00.
(h) Repayment of those loans was secured by a fixed and floating charge over all of the
property of Track Bros 1 executed by the parties on 29 June 2005.
redchip lawyers | Restructuring & Rollovers | page 32
1.6 The Purchase of the Business Assets
The option granted by the Transaction Term Sheet was not exercised within the required time,
however, the parties remain prepared to contract.
On 1 July 2005 Track Bros 1 and Track Bros 2 as vendors, entered into a Business Sale
Agreement with Oz Fluid Systems Pty Ltd for the sale of the tank manufacturing business and
associated plant and equipment. Each of the Principals were party to the Deed, and they
undertook particular obligations including binding themselves to restraint of trade clauses and
assuming personal liability for some continuing product liability.
The purchase price was $8,000,000.00 plus or minus an adjustment amount.
The net proceeds of sale ($8,159,808.20) were credited to the bank account to Track Bros 1 on
8 July 2005.
Immediately prior to the sale the net value of the assets of Track Bros 1 Trust were recorded
as $3,812,063.00.
The balance sheet for Track Bros 1 at 30 June 2005 (the day before the CGT event) is set out
below:
redchip lawyers | Restructuring & Rollovers | page 33
On 22 July 2005 Track Bros 1 Trust repaid the loans from the protections trusts as follows: -
(a) Michael Track Protection Trust $127,500.00;
(b) Arnold Track Protection Trust $127,500.00;
(c) JS Patrick Protection Trust $133,500.00;
(d) Ford Protection Trust $111,500.00.
Additionally it made payments of entitlements to beneficiaries as follows: -
(a) Michael Track Family Trust $290,000.00;
(b) Arnold Track Family Trust $290,000.00;
(c) JS Patrick Protection Trust $303,650.00;
(d) Ford Protection Trust $253,600.00.
redchip lawyers | Restructuring & Rollovers | page 34
1.7 Tax Returns and Amended Assessments
On 15 June 2006 Track Bros 1 Trust paid eligible termination payments (ETPs) of $500,000 to
James and Carter.
Track Bros 1 as trustee for Track Bros 1 Trust reported a net income of $146,652 and net
capital gain of $460,101 in its 2005/2006 tax return. The net capital gain was calculated by
reducing the gross capital gain of $5.8m by the Division 115 ITAA 1997 50% discount,
Subdivision 152-C ITAA 1997 50% Active Asset reduction and the Subdivision 152-D ITAA
1997 $1M ETP paid.
The Commissioner determined that Part IVA ITAA 1936 applied and he issued amended
assessments to all eight taxpayers increasing their taxable incomes in accordance with their
unit holdings and imposing scheme shortfall penalties of 50%.
The taxpayers all objected to the amended assessments, the objections were disallowed, and
the taxpayers applied to the AAT.
1.8 Contentious Issues
There were two main issues in contention:
(a) Was Track Bros 1 eligible for the small business CGT concessions provided for by
Subdivision 152-C and 152-B of ITAA 1997?
(b) Do the anti-avoidance provisions contained in Part IVA ITAA 1936 operate to cancel
tax benefits obtained in connection with the scheme?
The first issue turned on whether Track Bros 1 satisfied the maximum net asset value (MNAV)
test which itself turned upon whether certain liabilities of Track Bros 1 were “related to” assets
of that trust.
The Commissioner contended that the scheme had the object of enabling access to the small
business CGT concessions by reducing the trust’s assets and increasing its liabilities to ensure
that the trust’s net assets at the time of sale were less than $5M.
Furthermore, it was argued that had the arrangements not been entered into, Track Bros 1
would have been assessed on the entire capital gain, which it would reasonably have
distributed to the family trusts, who would then have distributed it to their beneficiaries in the
same fashion as previous years.
Track Bros 1 had lodged its 2006 trust return on the footing that it satisfied the MNAV test.
However, the taxpayers argued that:
(a) Track Bros 1 did not satisfy the MNAV test as certain categories of the trust’s liabilities
were not “related to” its assets. On this reasoning, there was no tax benefit evident on
the Commissioner’s alternative postulate as Track Bros failed the MNAV test either
way.
(b) the Commissioner’s alternative postulate was unreasonable as, had the arrangements
not been implemented, no asset protection would have been achieved.
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(c) it was not reasonable to assume that the capital gain would have been distributed by
the family trusts to any corporate beneficiaries given that those beneficiaries could not
access the general 50% CGT discount.
The Commissioner later conceded at the hearing that the amended assessments pertaining to
the second and eighth taxpayers were made outside of the time limits permitted and that those
objection decisions should thus be set aside.
The taxpayers accepted that the arrangements satisfied the definition of a “scheme” for Part
IVA ITAA 1936.
1.9 Decision
It was held by Deputy President Hack that:
(a) The relevant liabilities (including unpaid present entitlements) were “related to” the
CGT assets of the trust. Whilst both parties relied on the decision of Bell v
Commissioner of Taxation [2013] FCA 1042 (Bell’s Case) that case was
distinguishable from the current case on the basis that it was not clear in this instance
that the cash represented the borrowing to fund the capital distributions made.
(b) The taxpayers failed to prove that Track Bros 1 did not satisfy the MNAV test –
therefore, the arrangements carried out to satisfy the MNAV test were effective.
(c) The taxpayers failed to explain as to how any of the steps in the scheme effected asset
protection and their evidence supporting a need for asset protection was unconvincing.
(d) The complexity of the scheme pointed to the purpose of obtaining a tax benefit, and
the timing of the distributions pointed to the purpose of meeting the CGT concession
threshold.
(e) The scheme was entered into for the purpose of obtaining a tax benefit – Track Bros
1’s capital gain was reduced from $2,920,202 to $460,101.
(f) The distribution of trust income in prior years from Track Bros 1 was not a reliable
indicator of how capital gains would have been distributed. In circumstances where
corporate beneficiaries were not able to access the discount, it was not reasonable to
expect that any of the distributions from Track Bros 1 to the family trusts would have
been distributed to corporate beneficiaries. This was reinforced by the distributions that
actually took place. None of the corporate beneficiaries received a tax benefit and so
Part IVA ITAA 1936 did not apply to them.
(g) In respect to the individual beneficiaries, it was reasonable to postulate that the
distributions would have been made on the basis of the resolutions purportedly
prepared by the directors in 2006. Unlike the corporate beneficiaries, the natural
person beneficiaries did receive a tax benefit, which was cancelled by operation of Part
IVA ITAA 1936.
(h) In regard to penalties, the taxpayers’ position was not arguable. The transactions were
motivated by a desire to avoid tax, not protect assets. The scheme was not
“reasonably arguable”.
A transcript of Track’s Case (including a comprehensive account of the facts and arguments)
can be found at http://www.austlii.edu.au/au/cases/cth/AATA/2015/45.html.
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1.10 Additional Aspects
There are some curiosities arising from the decision which are worthy of note:
(a) The AAT confirmed the emerging view since Bell’s Case that unpaid present
entitlements were liabilities for the purposes of the MNAV test, however, there was
discussion on the matter.
(b) The Commissioner did not take issue with the UPE being recorded in the accounts as
“loans” and did not level his well-worn arguments regarding the characterisation of
UPE. It is presumed that the Commissioner did not wish to support the striking down of
the liabilities – to do so would lend support to the taxpayer’s argument that they would
not have satisfied the MNAV test anyway (despite that argument being ultimately
rejected by the AAT).
(c) The AAT took a common sense approach in determining where the distributions of
capital gains would be made. As discussed above, the AAT found that, based on the
taxpayer’s assertions, in circumstances where corporate beneficiaries were not able to
access the discount, it was not reasonable to expect that any of the distributions would
have been made to corporate beneficiaries – the Track brothers would have taken
advice in this regard. The AAT found that this was reinforced by the distributions that
actually took place.
2. Broader Analysis of Part IVA ITAA 1936
2.1 Evolution of Framework
The central thrust of Part IVA ITAA 1936 is to strike down “blatant, artificial or contrived
arrangements” but not to not “cast unnecessary inhibitions on normal commercial transactions
by which taxpayers legitimately take advantage of opportunities available for the arrangement
of their affairs” (Second Reading Speech, Income Tax Laws Amendment Bill 1981).
This general anti-avoidance framework has been the Commissioner’s “go-to” weapon for many
years. Between 2007 and 2012, around 80 Part IVA ITAA 1936 cases were initiated by the
ATO.
The Commissioner was successful in applying Part IVA ITAA 1936 in those cases where he
demonstrated that the commercial viability of the scheme, as compared to a reasonable
alternative, is dependent on the tax outcome. Furthermore, the Commissioner was successful
where aspects of the scheme were not capable of commercial explanation.
However, the Commissioner began to lose ground where he attempted to apply Part IVA ITAA
1936 to certain internal group restructures1 or whenever there was a disparity between the
economic and tax outcomes of a scheme.2 Between 2010 and 2012, taxpayers were
successful in nine of the 15 Part IVA court cases. In several of these cases3 the Commissioner
failed to even establish that a “tax benefit” had arisen as each time the taxpayer demonstrated
that, but for the identified scheme, it would have done nothing or would have done something
that produced a tax outcome at least as favourable as the one achieved under the scheme.
1 See RCI Pty Ltd v FCT [2011] FCAFC 104; FCT v News Australia Holdings Pty Ltd [2010] FCAFC 78.
2 See AXA Asia Pacific Holdings Pty Ltd v FCT [2009] FCA 1427; FCT v BHP Billiton Finance Ltd [2010] FCAFC 25; FCT v
Ashwick (Qld) [2011] FCAFC 49. 3 See AXA Asia Pacific Holdings Pty Ltd v FCT [2009] FCA 1427, RCI Pty Ltd v FCT [2011] FCAFC 104; FCT v Futuris [2012]
FCAFC 32.
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In an effort to overcome these difficulties, the Government enacted amendments to the regime
in February 2013.
Section 177CB ITAA 1936 now provides greater scope for the Commissioner to establish a tax
benefit by assessing the “alternative postulate” and deciding what would have, or might
reasonably be expected to have happened if the scheme had not been entered into or carried
out.
2.2 General Requirements – Part IVA
A comprehensive account of the Part IVA ITAA 1936 framework is outside the scope of this
paper. However, it is useful to recount the general high-level requirements.
There are three general elements to the operation of Part IVA ITAA 1936:
(a) Was there a “scheme”? (s177A(a) ITAA 1936) – which, given the broad definition, is
almost satisfied in any circumstances that Part IVA ITAA 1936 is raised.
(b) Was there a “tax benefit”? (s177CB ITAA 1936) – Generally speaking, the
Commissioner must compare his “alternative postulate” with the substance of what
actually took place from the taxpayer’s point of view.
The process to be followed by the Commissioner is:
(i) To identify a reasonable alternative to the scheme, but the alternative must
comprise only the event events or circumstances that actually happened or
existed (other than those that form part of the scheme) - the “Annihilation
Approach”; and
(ii) Consider an alternative postulate which is based on a reasonable construction
of what the taxpayer might have done if the scheme was not entered into –
the “Reconstruction Approach”
In determining a reasonable alternative postulate, the Commissioner must have
particular regard to the substance of the scheme and any result or consequence of it
for the taxpayer that is or would be achieved by the scheme (other than a result to the
operation of the Act). This essentially means that the alternative postulate formulated
must achieve the same commercial outcome for the taxpayer as the scheme.
The taxpayer is not be able to argue that the alternative postulate is not reasonable
because of the income tax costs of that postulate.
(c) Was there a dominant purpose to obtain a tax benefit? (s177D(2) ITAA 1936) –
The pertinent question is - did anyone connected with the scheme have a dominant
purpose of obtaining a tax benefit?
The eight factors in s177D(2) ITAA 1936 must be considered in respect of this limb.
The first three consider the contrivance and artifice of the scheme. The balance of
factors consider the achievements of the scheme or the consequences – aiming to
tease out whether the value of the scheme from an objective viewpoint is more or less
than the tax value.
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Remember that a subjective assessment of why a taxpayer entered into a scheme is
not relevant.4 The purpose is determined by a universal consideration of the eight
factors in s177D(2) ITAA 1936.5
2.3 Practical Considerations
Track’s Case is a perfect example of a scenario that could easily arise for any SME adviser.
When the life cycle of the Track brothers’ business is considered, the relatability of the facts to
our own clients’ circumstances is unmistakable.
This is not a “big end of town” scenario.
In a practical sense, you should be aware of the following factors which may contribute to the
risk of Part IVA ITAA 1936 applying to a transaction or scheme:6
(a) Poor understanding of the law by advisers, or a failure to reconcile the application of
Part IVA ITAA 1936 with general tax principles.
(b) A lack of tax adviser representation in transactions to stress-test proposals. Be
conscious of your advice if you are the only tax adviser in a transaction.
(c) A client perception that the tax adviser is a “magician” who can make tax problems go
away and a corresponding willingness for the adviser to deliver same.
(d) Poor execution of a transaction or poor documentation of the client’s objectives.
(e) A blasé approach or a general notion that the Commissioner will not focus attention on
lower level transactions.
It should be noted that the Track brothers’ accountant had not been appraised as to the nature
of the restructure and had no other involvement than the calculation of the necessary
distributions.
2.4 Tips
The following tips may be helpful when navigating Part IVA ITAA 1936 as part of your
interactions with your business clients:
(a) Envisage – Consider what the Commissioner’s argument might look like from the
outset. The Commissioner must identify the scheme and the tax benefit by referring to
reasonable alternative postulates.
(b) Evidence - Your client needs to be able to produce evidence to rebut:
(i) The reasonableness of the Commissioner’s alternative postulates;
(ii) The Commissioner’s contention that his postulate is the most reliably
predictable one;
(iii) The Commissioner’s arguments as to dominant purpose (by referring to the
eight factors in s177D ITAA 1936 and establishing a different dominant
purpose).
4 Hart v FCT [2004] 217 CLR 216.
5 FCT v Consolidated Press Holdings Ltd [2001] HCA 32 at 99.
6 Some of these items have been paraphrased from G Wardell-Johnson, “The ‘new’ Part IVA”, (2014) 17(3) The Tax Specialist
118 at 121.
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Evidence of subjective intention is not the end of the story - consider obtaining external
evidence where necessary e.g. advice from a lawyer regarding the client’s proposed
estate plan and how a restructure would assist that.
(c) Effectiveness - Document the transaction appropriately and keep adequate file notes.
Estate Planning
If your client is genuinely pursuing estate planning objectives, you should be clear as to how
income producing assets or value will be moved into an environment to benefit members of a
group rather than the current owner. There should be the passing of wealth from one
generation to another.
Asset Protection
If greater asset protection is required, consider whether there are in fact risks that need
protecting against, and seek external advice if necessary to confirm this. The AAT made
comment in Track’s Case about how the taxpayers failed to demonstrate the existence of risk
or a need to seek additional asset protection.
Timing
As discussed in the Track decision, consideration will be given to the timing of the restructure.
The risks of Part IVA ITAA 1936 applying are significantly elevated in situations where
restructuring occurs just before a major disposal event. Carefully consider the impact that
timeframe will have.
All in all, the purpose of any restructure should be clear from an objective standpoint and
capable of standing up to scrutiny.
General Tax Updates
Presenter: Mark Lowis, Associate, redchip lawyers
1. Employee Share Schemes – Draft Legislation Released
On 14 January 2015, the Treasury released draft legislation for the amendment to the
Employee Share Scheme rules in Division 83A of the Income Tax Assessment Act 1997
(Cth)(“ITAA 1997”).
The aim of the proposed amendments is to address the apparent inadequacies of changes
made to the ESS regime in 2009, and to bolster the ability for employers to “attract and retain
valuable employees” in an international labour market. Additionally, the Government intends to
“boost entrepreneurship” by offering special tax concessions for small start-up companies.
The proposed amendments are to take effect from 1 July 2015.
1.1 What is the Current Treatment?
At the present time, a discount received on the acquisition of shares or options under an ESS
(by reference to market value) is either taxed upfront upon issue or deferred until such time as
the shares are sold (or the option is exercised) or there is no longer any “real risk of forfeiture”.
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However, employees earning less than $180,000 per year that also satisfy a range of
additional conditions may acquire an ESS interest at a discount of up to $1,000 without being
taxed.
In practice the provisions meant that the employee may be subjected to significant taxation
liability before any of the benefit of the ESS interests was realised - creating potential cash-flow
problems.
In many aspects, it was the unwieldy nature of Division 83A ITAA 1997 following the 2009
amendments that fuelled the widespread abandonment of the regime and the steady
proliferation of alternative employee incentive schemes such as “phantom equity schemes” or
“company funded share acquisition schemes”.
1.2 Proposed Changes
The following changes are proposed to the ESS regime:
(a) Options acquired under an ESS can be taxed at a later time – regardless of whether
there is a “real risk of forfeiture”;
(b) The “significant ownership” limitations will be expanded from 5% to 10%, allowing
employees an opportunity to obtain a greater share of ownership in the employer;
(c) The Commissioner will have new powers to approve valuation methods to non-cash
benefits or assets (see below).
(d) The maximum deferral period for both shares and options will be increased from 7 to
15 years. In the case of rights, subject to the fulfilment of certain conditions a deferred
taxing point is extended from when the right becomes exercisable under the particular
scheme rules to when it is actually exercised by employee.
(e) Where an ESS option was not exercised and the discount was taxed upfront, the
employee may be entitled to a refund of income tax paid.
The proposed amendments do not return to the pre-2009 position whereby the acquirer of a
share or right under an ESS could elect to be taxed either on an upfront basis or on a deferred
basis.
1.3 Small Start-up Concession
Employees receiving shares or options under an ESS will not have to include the discount in
their assessable income if the small start-up concession applies. Along with the following
threshold requirements that must be met to access the concession, the usual ESS basic
conditions will apply (i.e. the shares must be held by the employee for at least three years; and
the scheme must meet the broad availability condition).
1.4 Nature of the Employer
The employing company must be an Australian resident unlisted company that:
(a) Has been in existence for less than 10 years when the share or option is issued (if the
employer is part of a group then all companies must have been in existence for less
than 10 years); and
(b) Has a maximum aggregated turnover of less than $50 million.
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1.5 “Small” Discount
For shares, the concession may only be applied if the discount is less than 15% of the market
value of the shares when acquired. In the case of options, the concession may only apply
where the strike price of the option is greater than or equal to the market value of an ordinary
share in the issuing company at the time the option is acquired.
1.6 Capital Gains Tax Treatment
As the income tax treatment of the discount is ignored under this concession, any increase in
the value of the share will be taxed as a capital gain on its eventual disposal, thereby
potentially availing access to CGT concessions (such as Division 115 ITAA 1997 50% general
discount).
The CGT mechanisms for cost base or reduced cost base are determined in accordance with
general principles as follows:
(a) Shares – the cost base or reduced cost base will be the market value of the shares at
the date of acquisition
(b) Options – the first element cost base for the option (as well as the resulting share once
acquired) will include the employee’s cost of acquisition.
1.7 Valuation Methods & Tables
The valuation tables which are used by companies to value employee options are proposed to
be updated in the relevant regulations to reflect current market conditions.
The proposed amendments will also introduce a power for the Commissioner of Taxation to
approve methods for valuing assets and non-cash benefits. If the Commissioner approves a
methodology, it will be binding on the Commissioner. The taxpayer will not be bound to adopt
such methodologies, but may choose to.
The Australian Taxation Office further proposes to consult with stakeholders to develop
standardised documentation and safe-harbour valuation methodologies.
1.8 Practical Perspectives
Whilst the proposed amendments to the taxation of Employee Share Schemes are a clear
improvement on the current regime in many respects (especially the relaxation of the
significant ownership rules from 5% to 10%) it’s unlikely that the new framework will appeal to
all employers in the marketplace.
For example, an industry which is heavily affected by the Employee Share Scheme regime is
technology.
Commentators have already pointed out some of the potential issues as they stand:
(a) Exclusion of Listed or Older Companies - the proposed amendments are prejudicial
to longstanding companies who would benefit from the concession.
Furthermore, the general assumption made by Government that listed companies can
simply obtain capital from the market is potentially misguided – particularly in view of
the underdeveloped venture capital market in Australia.
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(b) Aggregated Turnover Test - the $50M turnover test is a seemingly arbitrary measure.
It does not cater for potential business models that derive low margins. Matt Barrie of
“Freelancer” correctly identified in his article in Smart Company (10 February 2015)
that “an online payment business with a turnover of $50M may only have $500,000 of
gross profit as it operates on a 1% margin”.
From an adviser’s point of view, there are even more fundamental considerations regarding
Employee Share Schemes:
(a) What rights should business owners be granting to employees?
(b) What if the business grows exponentially overnight?
(c) Have the business owners given too much of the business away?
In most tech start-ups, equity really is the only remuneration option businesses have at their
disposal.
There are inherent dangers in offering staff and managers ordinary voting shares in any small
business. It can be incredibly difficult to claw back these interests if a commercial dispute
arises – particularly after the business value has increased significantly.
It may very well be that in the right circumstances alternative schemes such as “phantom
equity” still have their place – provided, as in any scenario, the upfront structuring and taxation
issues can be managed.
2. Limited Recourse Borrowing Arrangements – Proposed “Look-Through”
Tax Treatment
Since the introduction of the Limited Recourse Borrowing Arrangement (LRBA) regime in 2007,
many advisers have grappled with the correct income tax treatment for income derived under
this structure.
Was it the custodian trustee or the self-managed superannuation fund (SMSF) trustee who
was to be assessed on the income?
After five years of promises to legislate in this area, the Government has finally released an
exposure draft of the Tax and Superannuation Laws Amendment (2015 Measures No.2) Bill
2015: Instalment Warrants (the ED) which proposes to deal with this question amongst others.
2.1 What is the Purpose of the ED?
In broad terms, the ED seeks to effectively disregard the LRBA’s custodian trustee for income
tax purposes by:
(a) Treating the SMSF as the owner of the acquirable asset from the date that it was
acquired by the custodian trustee; and
(b) Confirming that CGT Event E5 will not apply upon the payment of the final loan
instalment.
This treatment has been dubbed a “look-through” approach, and would apply to assets held as
part of arrangements which conform with s67A of the Superannuation Industry (Supervision)
Act 1993 (SIS Act).
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Importantly, if the legislation is enacted, the look-through tax treatment for assets acquired
under a LBRA will apply from July 2007 onward.
2.2 Practical Considerations
Whilst the proposed legislation finally provides a legal context for the tax treatment, for most
advisers it will simply serve to validate the practices which have already been adopted by the
accounting industry at large. That is to say, many accountants are likely to continue to:
(a) Treat any assessable income derived under the LBRA as assessable income of the
SMSF who would report same in its tax return;
(b) Claim any tax deductions relating to the LBRA at the SMSF level;
(c) Record the acquirable asset as an asset of the SMSF in its financial statements; and
(d) Opt against the lodgement of an income tax return for the custodian trustee.
Transfer Duty - Queensland
The Queensland Government amended the Duties Act 2001 (Qld) (“the Act”) in 2013 to include
specific transfer duty exemptions for LRBAs. The exemptions found in ss130A and 103B of the
Act take effect retrospectively (from 26 October 2011).
Until that point, many advisers were utilising the nominee exemption found in s22(3) of the Act
to exempt the transfer of the property from the custodian trustee as agent to the SMSF as
principal once the loan had been repaid.
You will need to refer to the relevant duties legislation in each jurisdiction where the LRBA is
established outside of Queensland.
GST
The Government is yet to align the industry GST treatment of LRBAs with the GST legislation.
The Commissioner’s views in respect of the GST implications for “bare trustees” are set out in
GST Ruling GSTR 2008/3, although there remains an element of uncertainty as to whether all
LRBA arrangements would be covered by this pronouncement.
2.3 Summary
The proposed tax treatments will not diminish the need for advisers to remain mindful of the
broader taxation and superannuation law implications which may arise at any stage of a LBRA
(e.g. GST, Transfer Duty, Non-Arm’s Length Income, Related Party Loan issues).
Every LRBA must be adequately documented to not only comply with section 67A of the SIS
Act but to make allowances for the potential impact of the above issues.
2.4 Further Reading
In our Professional Adviser Series in 2013 we addressed a number of practical considerations
confronting adviser’s when structuring and administering LRBAs.
Our paper “SMSF Limited Recourse Borrowing Arrangements: Some Practice Aspects” can be
accessed at http://www.taxevents.com.au/index.php/resources.
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3. The Enforcement of SMSF Administrative Penalties – The ATO Speaks
The commencement of the administrative penalty regime for self-managed superannuation funds
(“SMSF”) brought with it a number of practical questions for advisers.
Would the administrative penalties be strictly applied?
How did the Australian Taxation Office (“ATO”) intend to practically enforce the penalties?
If the ATO’s recent statements on the subject are reliable the answers may well be starting to emerge.
At the SMSF Association’s National Conference in February 2015, the Australian Taxation Office
(ATO) confirmed the process that it proposed to undertake in circumstances where an Auditor
Contravention Report (“ACR”) has been lodged for a self-managed superannuation fund (“SMSF”).
In summary, the ATO plans to contact trustees shortly after an ACR is lodged to confirm that they are
in fact aware of the breach that has occurred and enquire as to the trustee’s actions to remedy same. If
the ATO is not satisfied with the trustee’s response or perceives the trustee to be unwilling to
cooperate they intend to escalate the situation to audit and apply the relevant penalty.
It is not clear how the Commissioner’s wider powers to issue Rectification or Education Notices fit into
this framework. One might assume that the responses obtained by the ATO during this process would
inform the Commissioner which action or combination of actions is most appropriate.
It is clearly important that advisers inform their clients of the ATO’s expectations during this process.
A summary of the administrative penalties are provided below for reference purposes:
A penalty unit is currently $170.
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