Company A was incorporated in 1990 and has two shareholders, Mr and Mrs A, who each own one ordinary share in company A, and have done so since 1990. Mr A and Mrs A are both controlling individuals and employees of company A. Company A sold its business that it commenced in 1990 on 1 March 2002, with settlement taking place on 1 June 2002. The company has had at least 80% of its assets as active assets at all times.
The company chose the active asset reduction to apply to the disposal of goodwill. On 1 July 2002 the company enters into liquidation. The CGT exempt amount is immediately distributed to Mr and Mrs A.
Can Mr and Mrs A potentially take advantage of the CGT discount, the small business 50% reduction and the small business retirement exemption on disposal of their shares in the course of winding up company A?
The NTAA view is that TD 2001/14 provides that section 47 of the ITAA 1936 will not apply to the exempt amount, so a capital gain could arise to Mr and Mrs A on cancellation of their shares. The shares have been held for more than 12 months and section 115-45 would not operate to deny the discount on any capital gain. In addition, the small business 50% reduction and the small business retirement exemption can potentially apply. In particular, we believe that the shares would meet the active asset test under section 152-35.
Tax Office response
CGT discount
Whether the CGT discount will be available will depend on the operation of section 115-45 and the calculations necessary under subsections 115-45(4), (5), (6) and (7). Where all the proceeds from the sale of the assets were paid out to shareholders as a final distribution within 18 months of the deregistration of the company (such amounts being capital proceeds for CGT event C2 happening to the shares), the company would have no assets at the time of, or just before, the ending of the shares. In this case, the second and third conditions in subsections 115-145(4) and (5) would not be met (because both sides of the formula are equal (being zero)) and the CGT discount would therefore be available.
Small business concessions
The shares may potentially satisfy the active asset test in relation to any capital gain made on those shares on the winding up of the company. The Tax Office has consulted with Treasury who have confirmed the outcome is intended. In particular, the 'relevant business' for subparagraph 152-35(a)(ii) purposes is the one which ceased to be carried on by company A. As the cessation of the business pre-dates the CGT event happening to the shares, the subparagraph 152-35(a)(ii) test is the relevant test. As the company has always had at least 80% of its assets active (at least up until the cessation of the business), and assuming the 12-month (or such longer period as is allowed) requirement is satisfied, then just before the cessation of the business the shares would be active assets because subparagraph 152-40(3)(b)(i) would be satisfied. As such, the small business concessions will be available if the other conditions are satisfied.
If, however, the company's active assets are progressively sold before the cessation of the business such that the market values of the active assets fall below the 80% threshold in subparagraph 152-40(3)(b)(i), it is likely the shares will not be active assets just before the cessation of the business. This is because it is unlikely, in a liquidation context, that the proceeds from the sale of the active assets will be held pending the acquisition of new active assets such that they could be counted in the 80% test under subparagraph 152-40(3)(b)(ii).
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