Capital gains tax update 2003-04

This information has been compiled by the Losses & Capital Gains Tax Centre of Expertise to make you aware of CGT developments which have occurred during the 2003-04 income year. If you require details of CGT developments during the 2004-05 income year, refer to the Capital gains tax update 2004-05.

Legislative changes

Changes to the capital gains tax (CGT) provisions of the Income Tax Assessment Act 1997 (ITAA 1997) are outlined below.

Taxation Laws Amendment Bill (No. 1) 2004 (previously Taxation Laws Amendment Bill (No. 7) 2003) received Royal assent on 30 June 2004. It contained the following CGT related measures.

• Financial Sector Reform (FSR) regime: Subdivision 124-O introduces an automatic roll-over for financial service providers on transition to the Financial Sector Reform (FSR) regime during its transitional period (which ended on 11 March 2004). The roll-over ensures that a capital gain or loss that would otherwise be made when an original asset comes to an end is deferred until a CGT event happens to a replacement asset.
• Tax Office has previously announced that income tax returns would be accepted for the 2001-02 and 2002-03 income years if they were prepared and lodged on the basis that this measure was to be enacted.
• Foreign hybrids: amendments to the ITAA 1936 and ITAA 1997 to treat foreign hybrids as partnerships for all income tax purposes (including capital gains tax). This measure applies from the start of the 2003-04 income year, with taxpayers having an option to apply the amendments from the start of the 2002-03 income year. The amendments providing double tax relief apply, in general, to income years for which amended assessments can still be made
• WWII compensation payments: an amendment to section 118-37 of the ITAA 1997 to provide an exemption for payments relating to persecution suffered and loss of, or damage to, property during the Second World War. This change applies to assessments for the 2001-02 income year and later years.

New International Tax Arrangements (Participation Exemption and Other Measures Bill) 2004 received Royal assent on 29 June 2004. It amends the income tax law to ignore capital gains and losses arising from specified CGT events happening on or after 1 April 2004 to shares in foreign companies which are held either by Australian companies or by controlled foreign companies in certain circumstances. Broadly, the gains or losses will be disregarded to the extent that the foreign company has an underlying active business. These changes apply to relevant CGT events happening on or after 1 April 2004.

Tax Laws Amendment (2004 Measures No. 1) Bill 2004 received Royal assent on 29 June 2004. It contained the following CGT related measures:

• Small business CGT concessions and discretionary trusts: an amendment to the control test used to determine whether an entity is entitled to the small business CGT concessions to ensure that an entity will be taken to control a discretionary trust only if, for any of the four income years before the income year for which access to the small business CGT concessions is sought:
• the trustee paid to, or applied for the benefit of, the entity and/or its small business CGT affiliates any income or capital of the trust, and
• the amount paid or applied to the entity and/or its small business CGT affiliates is at least 40% of the total amount of income or capital paid or applied by the trustee for that income year (subject to the Commissioner's discretion where the amount paid or applied to the entity and/or its small business CGT affiliates is between 40% and 50%).

In addition, distributions to exempt entities and deductible gift recipients will be ignored for the purposes of applying the new control test.

The changes apply from 21 September 1999. However, transitional rules apply for CGT events that happen before the end of the 2003-04 income year. There is also a modification to the new control test for the 2001-02 and prior income years.

• GST input tax credits and cost base: amendments ensure that the GST input tax credits are not taken into account in calculating a capital gain or loss.
• the previous law GST net input tax credits were excluded from only the first three elements of the cost base of a CGT asset acquired after 7.30pm on 13 May 1997. GST net input tax credits were not excluded from the reduced cost base in any circumstances. GST net input tax credits will now be excluded from all elements of the cost base and reduced cost base regardless of when the CGT asset was acquired.

Also, for capital gains or capital losses worked out by reference to an amount other than the cost base or reduced cost base, changes have been introduced to ensure that GST net input tax credits will be excluded from that amount. This exclusion does not exist under the previous law.

The changes apply to CGT events that happen after 19 February 2004. For further information refer to media release Nat 04/012 and the document entitled 'How do I apply for a credit amendment?'

Tax Laws Amendment (2004 Measures No 2) Bill 2004 received Royal assent on 25 June 2004. It contained the following CGT related measures:

• CGT event K6 and demergers: an amendment to ensure that CGT event K6 does not apply to interests in a demerged entity when the combined period that the head entity and the demerged entity have been continuously listed on a stock exchange is at least five years. Previously there was an exclusion from CGT event K6 for membership interests in entities that had been continuously listed on a stock exchange for at least five years. Membership interests in demerged entities are not eligible for this exception unless the demerged entity had itself been listed on a stock exchange for five years. This amendment ensures that CGT event K6 is not triggered by the disposal of new interests in demerged entities. It applies to shares or units acquired under a demerger on or after 1 July 2002.
• Cost base and reduced cost base - assumed CGT event: amendments have been made to sections 110-25 and 110-55 to clarify that whenever it is necessary for an entity to calculate the cost base or reduced cost base of a CGT asset in the absence of a CGT event, the entity will be required to assume (for that purpose only) that a CGT event has happened. The amendments do not refresh the acquisition time of the CGT asset, nor do they result in any of the elements of the cost base or reduced cost base becoming the first element of the cost base. Although this amendment was identified as necessary in a consolidation context and is included in Schedule 2 with consolidation amendments, it is applies generally for CGT purposes for assessments for the 1998-99 and later income years.
• CGT and consolidation
• CUTs and PTTs: amendments to the consolidation membership rules to allow a corporate unit trust (CUT) or a public trading trust (PTT) to make an election to be treated like a head company of a consolidated group. In doing this, they also make an irrevocable election to be treated like a company for income tax and other related purposes. When applying the income tax law to a CUT or PTT that elected to be treated as a head company, it may be necessary in some circumstances to read references in the law to the word share to mean unit in a trust. In a CGT context this may be relevant when applying the scrip for scrip roll-over provisions in Subdivision 124-M. This amendment will apply from 1 July 2002.
• MECs and interposed head companies: an amendment to Subdivision 124-G has been made to align the notification period with the requirements in section 703-60 that is, to within 28 days of the completion of the exchange of shares. Subdivision 124-G provides CGT roll-over relief where a taxpayer exchanges shares in one company for shares in another company as part of a company reorganisation. Where the original company is the head company of a consolidated group immediately before the exchange of shares and immediately after the completion of the exchange, the interposed company is the head company of a consolidatable group consisting of itself and the members of the group immediately before the exchange of shares. The interposed company must choose whether the consolidated group is to continue in existence. Currently this choice must be made within two months of the exchange of shares. However, this time period conflicts with the notice requirements in section 703-60 for events affecting a consolidated group. This amendment applies to choices made after 25 June 2004 the date this Bill received Royal assent.
• Roll-over under Subdivision 126-B: amendments have been made to Subdivision 126-B to provide that roll-over is not available for the transfer of a CGT asset from an Australian resident company that is a member of a consolidatable group. Roll-over may be available for the transfer of an asset from an Australian resident company that is the head company of a consolidated group or a member of a MEC group. This amendment applies from 1 July 2002.

Taxation Laws Amendment Bill (No. 2) 2004 received Royal Assent on 23 March 2004. It contained the following CGT related measures:

• General value shifting regime: transitional provisions will exclude indirect value shifts relating mainly to services from the general value shifting regime. These measures apply where the indirect value shifts occur before the beginning of a losing entity’s 2003-04 income year (or the beginning of a losing entity’s 2004-05 year, where the losing entity’s 2002-03 income year ends before 30 June 2003).
• Sugar industry exit grants: an amendment to 118-37 of the ITAA 1997 will disregard any capital gain or capital loss made from a CGT event relating directly to a sugar industry exit grant paid under the Sugar Industry Reform Program.
• Demutualisation of friendly societies that carry on life insurance business: amendments will ensure investors who receive shares in certain friendly societies that demutualise get the same benefits of a CGT roll-over as other taxpayers in similar circumstances.

New Business Tax System (Taxation of Financial Arrangements) Bill (No. 1) 2003 received Royal assent on 17 December 2003. It contained the following CGT related measures:

• Conversion or exchange of certain financial instruments: The taxing point has now been removed for traditional securities issued after 14 May 2002 that convert or exchange into ordinary shares. Thus, gains made when exchangeable interests are converted to, or exchanged for shares will not be ordinary income at the time of conversion and losses made will not be deductible. Instead, gains and losses will be recognised when the shares are sold or disposed of. Changes have also been made to the cost base and reduced cost base provisions for shares acquired on disposal or redemption of an exchangeable interest.
• Foreign currency gains and losses: A statutory framework for the tax treatment of certain foreign currency gains and losses has now been introduced. Most of these changes take effect from 1 July 2003. The regime is based on the general principle that foreign currency gains are included in an entity's assessable income and foreign currency losses are generally deductible. However, there are some exceptions.

An important exception relates to certain short term foreign exchange (forex) gains or losses arising under a transaction for the acquisition or disposal of a capital asset. These gains and losses will be integrated into, or match the character of, the gain or loss calculation applicable to the asset, provided that the due date for payment is within 12 months of acquiring the asset or disposing of it for tax purposes.

CGT events K10 and K11 have been introduced to deal with certain short-term forex realisation gains or losses. If these events happen, the gains or losses are not included as ordinary income or allowable deductions. Instead, the taxpayer is treated as having made capital gains or capital losses equal to the amount of the forex realisation gain or loss.

To reduce compliance costs taxpayers can elect to disregard foreign currency gains or losses on certain foreign currency bank accounts with balances of no more than A$250,000. Alternatively, taxpayers can choose the retranslation option. This allows foreign currency gains and losses to be brought to account by annually restating the balance by reference to the exchange rate prevailing at the beginning and end of each year, and taking into account withdrawals and deposits at the exchange rates prevailing at the time of the respective withdrawals and deposits. This removes the requirement for taxpayers to calculate a foreign currency gain or loss on each deposit to, or withdrawal from, the account.

Other consequential amendments include the addition of section 960-50 of the ITAA 1997 which is a general provision setting rules for the translation of amounts of foreign currency for the purposes of the ITAA 1997 including the CGT provisions. Previously the CGT rules were found in section 103-20 of the ITAA 1997.

Taxation Laws Amendment Bill (No. 8) 2003 received Royal Assent on 21 October 2003. It contained the following CGT related measures:

• CGT event L8: This event has been introduced to provide for a capital loss where there is an excess of allocable cost amount on joining a consolidated group that cannot be allocated to reset cost base assets because of the restriction on the cost that can be allocated to reset cost base assets held on revenue account.
• Conservation covenants: The availability of income tax deductions has been extended to land owners who enter into certain conservation covenants with the Commonwealth, a State, a Territory or a local governing body or an authority of the Commonwealth, State or Territory. Previously deductions were only allowable if the covenant was entered into with certain deductible gift recipients and prescribed private funds. The change affects covenants entered into on or after 1 July 2002. The availability of a deduction is relevant in determining the amount of capital proceeds received if CGT event D4 happens.

Taxation Laws Amendment Bill (No. 3) 2003 received Royal assent on 14 October 2003. It introduced changes to the CGT provisions concerning employee share schemes (ESSs) to ensure that the law operates as intended.

The amendments apply where the ESS is operated through a trust and the employee chooses to be taxed under the employee share provisions of the income tax law at the time those provisions treat the employee as acquiring the shares or rights. The amendments are intended to ensure that:

• capital gains or capital losses that arise while the shares or rights are held in trust are recognised, and
• the 12-month minimum qualifying period for the CGT 50% discount begins from the time the trustee acquires the shares.

These changes generally affect shares or rights acquired under an ESS through a trust after 27 February 2001. However, there are some exceptions.

Taxation Laws Amendment Bill (No. 4) 2003 received Royal Assent on 30 June 2003. It contained the following CGT related measures:

• Worker entitlement funds: A CGT roll-over has been introduced for a fund that amends or replaces its trust deed in order to be approved as an approved worker entitlement fund under subsection 58PB(2) of the Fringe Benefits Tax Amendment Act 1986. The roll-over applies to CGT events that happen after 1  April 2003.
• Non-assessable non-exempt income measure: establishes a framework for, and standardises the concept of, non–assessable non-exempt income. A CGT example of non-assessable non-exempt income is contained in subsection 152-110(2) of the ITAA 1997 about income from a CGT event occurring to a small business asset owned by a company or trust for 15 years. The amendments generally apply to assessments for the 2004 income year. However, there are exceptions.

The following substantive amendments have been made to the CGT provisions as a result of this measure:

• subsection 104-71(1) of the ITAA 1997 has been amended to disregard distributions of non-assessable non-exempt income thereby widening the range of things disregarded for the purposes of CGT event E4. Previously the provision disregarded excluded exempt income and exempt income subject to withholding tax.
• section 118-12 of the ITAA 1997 has been amended to disregard capital gains and losses made from an asset used solely to produce exempt income or non-assessable non-exempt income.
• paragraph 104-185(1)(e) of the ITAA 1997 has been amended so that CGT event J2 will happen if a replacement asset for a small business roll-over starts to be used solely to produce exempt income or non-assessable non-exempt income.

Taxation Laws Amendment Bill (No. 2) 2003 as originally introduced contained a measure that provided a four-year exemption for first-time temporary residents for most foreign source income, including capital gains. This Bill was subsequently passed. However, the temporary resident measure was removed from the Bill as it was not passed by the Senate. On 8 December 2003 the Government announced that it would not be proceeding with this measure.

Taxation Laws Amendment Act (No. 1) 2004 received Royal Assent on 30 June 2004. It introduced the following amendment:

• CGT rollover for financial services reform (FSR) transitions: this overview gives financial services providers information about their eligibility for CGT rollover relief on transitions to the FSR regime.

Last Modified: Wednesday, 25 October 2006