Chapter 5 - Investments in shares and units

This chapter explains your capital gains tax (CGT) obligations if you sold or otherwise disposed of any shares or units in a unit trust (including a managed fund) in 2004-05. It also explains what happens when you have a CGT event under a demerger. For information about distributions from a unit trust (other than under a demerger) in 2004-05, see chapter 4.

Managed fund

A managed fund is a unit trust. Where we refer to a unit trust in this guide we are also referring to a managed fund.

Some major share transactions

For information about some major share transactions, see appendix 4.

How capital gains tax affects shares and units

For CGT purposes, shares in a company or units in a unit trust are treated in the same way as any other assets.

As a general rule, if you acquire any shares or units on or after 20 September 1985, you may have to pay tax on any capital gain you make when a CGT event happens to them. This would usually be when you sell or otherwise dispose of them. It also includes where you redeem units in a managed fund by switching them from one fund to another. In these cases, CGT event A1 happens. There is a list of all CGT events at appendix 1.

New terms

We may use some terms that are new to you. These words are explained in Definitions. Generally they are also explained in more detail in the section where they first appear.

A CGT event might happen to shares even if a change in their ownership is involuntary - for example, if the company in which you hold shares is taken over or merges with another company. This may result in a capital gain or capital loss.

This chapter also deals with the receipt of non-assessable payments from a company (CGT event G1) while chapter 4 deals with non-assessable payments from a trust (CGT event E4). If you own shares in a company that has been placed in liquidation or administration, CGT event G3 explains how you can choose to make a capital loss when the liquidator or administrator declares the shares (or other financial instruments) worthless.

There are a number of special CGT rules if you receive such things as bonus shares, bonus units, rights, options or non-assessable payments from a company or trust. Special rules also apply if you buy convertible notes or participate in an employee share scheme or a dividend reinvestment plan.

The rest of this chapter explains these rules and has examples showing how they work in practice. The flowcharts at appendix 3 will also help you work out whether the special rules apply to you.

If you need more information about how other income tax provisions affect your share investments, see You and your shares 2004–05 (NAT 2632-6.2005).

Identifying shares or units sold

Sometimes taxpayers own shares or units that they may have acquired at different times. This can happen as people decide to increase their investment in a particular company or unit trust. A common question people ask when they dispose of only part of their investment is how to identify the particular shares or units they have disposed of.

This can be very important because shares or units bought at different times may have different amounts included in their cost. In calculating the capital gain or capital loss when disposing of only part of an investment, you need to be able to identify which ones you have disposed of. Also, when you dispose of any shares or units you acquired before 20 September 1985, any capital gain or capital loss you make is generally disregarded.

If you have the relevant records (for example, share certificates), you may be able to identify which particular shares or units you have disposed of. In other cases, the Commissioner will accept your selection of the identity of shares disposed of.

Alternatively, you may wish to use a 'first in, first out' basis where you treat the first shares or units you bought as being the first you disposed of.

In limited circumstances, the Tax Office will also accept an average cost method to determine the cost of the shares disposed of. You can only use this average cost method when:

• the shares are in the same company
• the shares are acquired on the same day
• the shares have identical rights and obligations, and
• you are not required to use market value for cost base purposes.

Demutualisation of insurance companies

If you hold a policy in an insurance company that demutualises, you may be subject to CGT either at the time of the demutualisation or when you sell your shares (or another CGT event happens). A company demutualises when it changes its membership interests to shares (for example, AMP, IOOF and NRMA). There are similar rules if you are a member of a non-insurance organisation which demutualises.

The insurance company may give you an option either to keep your share entitlement or to take cash by selling the shares under contract through an entity set up by the company.

If it is an Australian insurance company and you choose to keep the shares, you will not be subject to CGT until you sell them or another CGT event happens. If you elect to sell your share entitlement to the company and take cash, you need to include any capital gain on your tax return in the income year in which you entered into the contract to sell the shares, even though you may not receive the cash until a later income year.

The demutualising company will write to all potential 'shareholders' and advise them of the acquisition cost in each instance, sometimes referred to as the 'embedded value'. Even though you did not pay anything to acquire the shares, they have a value that is used as the cost base and reduced cost base for CGT purposes.

If you sell your shares before the insurance company is listed on the stock exchange and you make a capital loss, you disregard the loss.

If you hold a policy in an overseas insurance company that demutualises, you may be subject to CGT at the time of the demutualisation. You should contact the Tax Office for advice if this applies to you.

Share buy-backs

As a shareholder, you may have received an offer from a company to buy back some or all of your shares in the company. If you disposed of shares back to the company under a share buy-back arrangement, you may have made a capital gain or capital loss from that CGT event.

You compare the capital proceeds with your cost base and reduced cost base to work out whether you have made a capital gain or capital loss.

The time you make the capital gain or capital loss will depend on the conditions of the particular buy-back offer.

It may be the time you lodge your application to participate in the buy-back or, if it is a conditional offer of buy-back, the time you accept the offer.

If shares in a company:

• are not bought back by the company in the ordinary course of business of a stock exchange - for example, the company writes to shareholders offering to buy their shares (commonly referred to as 'off-market share buy-back'), and
• the buy-back price is less than what the market value of the share would have been if the buy-back hadn't occurred and was never proposed

the capital proceeds are taken to be the market value of the share minus the amount of any dividend paid under the buy-back.

Under other off-market buy-backs where a dividend is paid as part of the buy-back, the amount paid excluding the dividend is your capital proceeds for the share.

Sam has no capital losses to apply against this capital gain and decides that the discount method will provide him with the better result. He will include $900 ($1,800 × 50%) in his assessable income.

Shares in a company in liquidation or administration

If a company is placed in liquidation or administration, company law restricts the transfer of shares in the company. This means that, in the absence of special CGT rules, you may not be able to realise a capital loss on shares that have become worthless unless you declare a trust over them.

In certain circumstances, you can choose to realise a capital loss on worthless shares before dissolution (if you acquired the shares on or after 20 September 1985). This applies if you own shares in a company and a liquidator declares in writing that there is no likelihood you will receive any further distribution in the course of winding up the company. The liquidator's declaration can still be made after you receive a distribution during the winding-up.

The law (CGT event G3) has been changed so that you can now choose to make a capital loss if a company administrator declares in writing after 21 March 2005 that shares are worthless. Under the changes, financial instruments relating to a company (not just shares) can also be declared worthless by a liquidator or administrator after 21 March 2005.

Financial instruments include (but are not limited to) convertible notes, debentures, bonds, promissory notes, loans to the company, futures contracts, forward contracts and currency swap contracts relating to the company, and rights or options to acquire any of these (including rights or options to acquire shares in a company). Many financial instruments may be referred to as securities.

If you make this choice, you will make a capital loss equal to the reduced cost base of the shares (or financial instruments) at the time of the liquidator's or administrator's declaration. The cost base and reduced cost base of the shares (or financial instruments) are reduced to nil just after the liquidator or administrator makes the declaration.

These rules do not apply:

• to a financial instrument where any profit made on the disposal or redemption of it would be included in your assessable income or any loss would be deductible - such as a traditional security or qualifying security
• to a right acquired under an employee share scheme
• to a share acquired under an employee share scheme if it is a qualifying share, you did not make a section 139E election in relation to the share under the employee share rules, and the declaration by the liquidator or administrator was made no later than 30 days after the 'cessation time' for the share (for more information about employee share schemes , see ESS interests with a taxing point before 1 July 2009) or
• to units in unit trusts or financial instruments relating to trusts.

For general information about capital losses on worthless shares and a list of declarations made in relation to major companies in the last three years, see our fact sheet Investments in a company in liquidation or administration.

If no declaration is made by a liquidator or administrator or you have not chosen to make a capital loss following a declaration by a liquidator or administrator, you may make a capital loss on your shares or financial instruments when a court order is given to dissolve the company. Also, if a company is wound up voluntarily, shareholders may realise a capital loss either three months after a liquidator lodges a return showing that the final meeting of the company has been held, or on another date declared by a court. The cancellation of shares as a result of the dissolution of the company is an example of CGT event C2.

Takeovers and mergers

If a company in which you own shares is taken over or merges with another company, you may have a CGT obligation if you are required to dispose of your existing shares or they are cancelled.

In certain circumstances, if you acquire new shares in the takeover or merged company, you may be able to defer paying CGT until a later CGT event happens. For more information, see Scrip-for-scrip rollover.

Some takeover or merger arrangements involve an exchange of shares. In these cases, when you calculate your capital gain or capital loss, your capital proceeds will be the market value of the shares received in the takeover or merged company at the time of disposal of your original shares.

If you receive a combination of money and shares in the takeover or merged company, your capital proceeds are the total of the money and the market value of the shares you received at the time of disposal of the shares.

The cost of acquiring the shares in the takeover or merged company is the market value of your original shares at the time you acquire the other shares, reduced by any cash proceeds.

To correctly calculate the capital gain or capital loss for your original shares, you will need to keep records (in addition to the usual records) showing the parties to the arrangement, the conditions of the arrangement and the capital proceeds.

As each takeover or merger arrangement will vary according to its own particular circumstances, you need to get full details of the arrangement from the parties involved.

The capital proceeds received for each share in ABC Ltd is $2 ($1.25 market value of each XYZ Ltd share plus 75 cents cash). Therefore, as the cost base of each ABC Ltd share is $1.50, Desiree will make a capital gain of 50 cents ($2 − $1.50) on each share, a total of $250.

The cost base of the newly acquired XYZ Ltd shares is the market value of the shares in ABC Ltd ($2) less the cash amount received ($0.75) - that is, $1.25 each or a total of $625 (500 × $1.25).

Scrip-for-scrip rollover

If a company in which you owned shares was taken over and you received new shares in the takeover company, you may be entitled to scrip-for-scrip rollover. You may also be eligible for this rollover if you exchange a unit or other interest in a fixed trust, for a similar interest in another fixed trust.

Scrip-for-scrip rollover is not available if a share is exchanged for a unit or other interest in a fixed trust, or if a unit or other interest in a fixed trust is exchanged for a share.

You can only choose the rollover if you have made a capital gain from such an exchange on or after 10 December 1999. Rollover does not apply to a capital loss.

Rollover is only available if the exchange is in consequence of an arrangement that results in the acquiring entity (or the wholly owned group of which it is a member) becoming the owner of 80% or more of the original company or trust.

For companies, the arrangement must be one in which all owners of voting shares in the original entity can participate. For trusts, this means all owners of trust voting interests in the original entity or, if there are no voting interests, all owners of units or other fixed interests can participate.

There are special rules if a company or trust has a small number of shareholders or beneficiaries or there is a significant common stakeholder. You will need to seek information from the company or trust about whether the conditions have been satisfied.

The rollover allows you to disregard the capital gain made from the original shares, units or other interest. You are taken to have acquired the replacement shares, units or other interest for the cost base of the original interest.

You can apply the CGT discount when you dispose of new shares providing the combined period that you owned the original shares and the new shares is at least 12 months. The same applies to units in a trust. Note that you have to deduct any capital losses (including unapplied net capital losses from earlier years) from your capital gains before applying the CGT discount.

You may only be eligible for partial rollover if you exchange shares, units or interests for similar interests in another entity (replacement interest) plus something else, usually cash.

This is because rollover applies only to the replacement interest. You will need to apportion the cost base of the original interest between the replacement interest and the cash (or other proceeds not eligible for rollover).

If your original shares, units or other interests were acquired before 20 September 1985 (pre-CGT), you are not eligible for scrip-for-scrip rollover. Instead, you acquire the replacement interest at the time of the exchange and the replacement interest is no longer a pre-CGT asset. However, if the arrangement is one that would otherwise qualify for scrip-for-scrip rollover, the cost base of the replacement interest is its market value just after the acquisition.

Demergers

A demerger involves the restructuring of a corporate or fixed trust group by splitting its operations into two or more entities or groups. Under a demerger the owners of the head entity of the group (that is, the shareholders of the company or unit holders of the trust) acquire a direct interest (shares or units) in an entity that was formerly part of the group (the demerged entity).

New rules for demergers

There are new rules that apply to eligible demergers that happen on or after 1 July 2002. The following are major demergers which are subject to these new rules - you will find specific details in appendix 4:

• BHP Billiton Ltd demerger of BHP Steel Ltd (now known as BlueScope)
• WMC Ltd (renamed Alumina) demerger of WMC Resources Ltd
• CSR Ltd demerger of Rinker Group Ltd.

AMP demerger

The AMP demerger that happened in 2003-04 was not subject to the new rules.

Our fact sheet, AMP group demerger: How it affects Australian resident shareholders and the AMP demerger calculator help you work out the capital gain or capital loss you made on the demerger and the cost base of your AMP and HHG shares immediately after the demerger.

If you used the AMP demerger calculator before December 2004, your 'AMP shares - cost base report' may be incorrect if, in the calculation. your two largest share parcels appear one after the other in the report and the difference between the two share parcels 10 shares or less. This will affect very few shareholders. If your cost base report has these features, use the AMP demerger calculator on our website and prepare a new cost base report.

If you have disposed of your shares and the cost bases you used were incorrect, you need to recalculate your capital gain or capital loss. If you have already lodged your tax return and the net capital gain is incorrect, you need to amend your tax return. For information on how to do this, contact the Tax Office on 13 28 61 and tell us you need an amendment due to the anomaly in the AMP demerger calculator.

Demergers that happen on or after 1 July 2002

If you received new interests in a demerged entity under an eligible demerger that happened on or after 1 July 2002, you need to be aware of the following CGT consequences:

• you may be entitled to choose rollover for any capital gain or capital loss you make under the demerger, and
• you must calculate the cost base and reduced cost base of your interests in the head entity and your new interests in the demerged entity immediately after the demerger.

Note: The head entity will normally advise you whether it has undertaken an eligible demerger. The Tax Office may have provided advice to the head entity in the form of a class ruling.

Rollover relief available

To choose rollover relief, the demerger must be an eligible demerger. The head entity will usually advise you of this.

If you choose rollover relief:

• you disregard any capital gain or capital loss made under the demerger, and
• your new interests in the demerged entity are acquired on the date of the demerger. However, if a proportion of your original interests was acquired before 20 September 1985 (pre-CGT), the same proportion of your new interests in the demerged entity is treated as pre-CGT assets.

If you do not choose rollover relief:

• you cannot disregard any capital gain or capital loss made under the demerger, and
• all your new interests in the demerged entity are acquired on the date of the demerger.

Cost base calculations

You must recalculate the first element of the cost base and reduced cost base of your remaining original interests in the head entity and calculate your new interests in the demerged entity. You must make these calculations whether you choose rollover or not, or if no CGT event happens to your original interests under the demerger.

The calculation will depend on whether you have pre-CGT original interests in the head entity.

Cost base calculations where you do not have pre-CGT interests

You work out the cost base and reduced cost base of your remaining post-CGT original interests and your post-CGT new interests immediately after the demerger. You do this by spreading the total cost base of your post-CGT original interests (immediately before the demerger) over both your remaining post-CGT original interests and your post-CGT new interests. The following steps explain how to do this.

Step 1	Add the cost bases of your post CGT original interests immediately before the demerger. (Do not reduce your total cost base by any capital amounts returned to you under the demerger and do not include indexation.)
Step 2	Use the relevant percentages to apportion the step 1 amount between: your post-CGT original interests in the head entity, and your post-CGT new interests in the demerged entity. The head entity should advise you of the relevant percentages to use.
Step 3	Divide the cost base apportioned to the head entity interests (from step 2) by the number of remaining post-CGT original interests you own.
Step 4	Divide the cost base apportioned to the demerged entity interests (from step 2) by the number of post-CGT new interests you own.

These amounts will form the first element of the cost base and reduced cost base of your post-CGT original interests and post-CGT new interests.

Cost base calculations where you have pre-CGT interests

If you choose rollover

If you choose rollover and a proportion of your original interests are pre-CGT, the same proportion of your new interests will be treated as pre-CGT interests. It is not necessary to calculate the cost base and reduced cost base for your pre-CGT interests.

You calculate the cost base and reduced cost base of your remaining post-CGT original interests and your post-CGT new interests are calculated in the same way as shown in the example above.

There is no change to the acquisition date of your original interests.

If you do not or cannot choose rollover

If you do not or you cannot choose rollover (for example, because a CGT event did not happen to your original interests), the new interests that you receive for your pre-CGT original interests are treated as post-CGT interests. You work out the cost base of these new interests under the ordinary cost base rules (this will generally be equal to the capital return and dividend distributed from the head entity that is applied to acquire those new interests).

Note: It may be to your advantage not to choose rollover for new interests you receive for your pre-CGT original interests - such as where the reduced cost bases of those new interests calculated under the ordinary cost base rules mean you will make a capital loss when you dispose of them.

You calculate the cost base and reduced cost base of your remaining post-CGT original interests and your post-CGT new interests (other than those received for pre-CGT original interests) in the same way as shown in the example above - except that you ignore the new interests received for pre-CGT original interests in the calculation.

There is no change to the acquisition date of your original interests.

Using the discount method if you sell your shares after the demerger

If you sell your new interests in the demerged entity after the demerger, you must have owned those interests for at least 12 months from the date you acquired the corresponding original interests in the head entity in order to use the discount method.

However, you calculate the 12 months from the date of demerger if you:

• did not choose rollover relief and you received new interests in the demerged entity which relate to pre-CGT interests in the head entity, or
• acquired your new interests without a CGT event happening to your original interests.

Demergers calculator and other products and information

We have a demergers calculator on our website to help you make these calculations.

We also have other products to assist you, such as a question and answer sheet for BHP Billiton shareholders.

You can access these from the demergers homepage on our website at ato.gov.au/demergers (follow the link under 'Shareholder information').

Dividend reinvestment plans

Some companies ask their shareholders whether they would like to participate in a dividend reinvestment plan. Under these plans, shareholders can choose to use their dividend to acquire additional shares in the company instead of receiving a cash payment. These shares are usually issued at a discount on the current market price of the shares in the company.

For CGT purposes, if you participate in a dividend reinvestment plan you are treated as if you had received a cash dividend and then used the cash to buy additional shares.

Each share (or parcel of shares) acquired in this way - on or after 20 September 1985 - is subject to CGT. The cost base of the new shares includes the price you paid to acquire them - that is, the amount of the dividend.

Bonus shares

Bonus shares are additional shares a shareholder receives for an existing holding of shares in a company. If you dispose of bonus shares received on or after 20 September 1985, you may make a capital gain. You may also have to modify the cost base and reduced cost base of your existing shares in the company if you receive bonus shares.

The cost base and reduced cost base of bonus shares depend on whether the bonus shares are assessable as a dividend.

As a result of changes to the company law and taxation laws, the paid-up value of bonus shares is now generally not assessable as a dividend. An exception to this rule is where you have the choice of being paid a cash dividend or of being issued shares under a dividend reinvestment plan. These shares are treated as dividends and the amount of the dividend is included in your assessable income.

The following table explains how the time of issue of your bonus shares affects whether the paid-up value of the bonus shares is assessed as a dividend.

Date	Implications of timing of bonus shares
From 20 September 1985 to 30 June 1987 inclusive	Many bonus shares issued were paid out of a company's asset revaluation reserve or from a share premium account. These bonus shares are not usually assessable dividends.
From 1 July 1987 to 30 June1998 inclusive	The paid-up value of bonus shares issued is assessed as a dividend unless paid from a share premium account.
From 1 July 1998	The paid-up value of bonus shares issued is not assessed as a dividend unless part of the dividend was paid in cash or paid as part of a dividend reinvestment plan.

There are other, less common, circumstances where bonus shares will be assessed as a dividend - for example, where:

• the bonus shares are being substituted for a dividend to give a tax advantage, or
• the company directs bonus shares to some shareholders and dividends to others to give them a tax benefit.

Flowchart 1 in appendix 3 summarises the different rules applying to different bonus shares issued on or after 20 September 1985.

For more information about bonus shares, see More information.

Bonus shares issued where no amount is assessed as a dividend

Original shares acquired on or after 20 September 1985

If your bonus shares relate to other shares that you acquired on or after 20 September 1985 (referred to as your original shares) your bonus shares are taken to have been acquired on the date you acquired your original shares. If you acquired your original shares at different times, you will have to work out how many of your bonus shares are taken to have been acquired at each of those times.

Calculate the cost base and reduced cost base of the bonus shares by apportioning the cost base and reduced cost base of the original shares over both the original and the bonus shares. Effectively, this results in a reduction of the cost base and reduced cost base of the original shares. You also include any calls paid on partly paid bonus shares as part of the cost base and reduced cost base that is apportioned between the original and the bonus shares.

Original shares acquired before 20 September 1985

Your CGT obligations depend on when the bonus shares were issued and whether they are fully paid or partly paid. For more information, see flowchart 1 in appendix 3.

Bonus shares issued where the paid-up value is assessed as a dividend

If the paid-up value of bonus shares is assessed as a dividend, you may have to pay CGT when you dispose of the bonus shares, regardless of when you acquired the original shares.

Original shares acquired on or after 20 September 1985

If your bonus shares relate to original shares that you acquired on or after 20 September 1985, the acquisition date of the bonus shares is the date they were issued. Their cost base and reduced cost base includes the amount of the dividend, plus any call payments you made to the company if they were only partly paid.

Exception - Bonus shares received before 1 July 1987

The exception to this rule is bonus shares you received before 1 July 1987. They are taken to be acquired on the date you acquired your original shares. Their cost base is calculated as if the amount was not taxed as a dividend (see Bonus shares issued where no amount is assessed as a dividend).

Original shares acquired before 20 September 1985

The rules that apply where you acquired your original shares before 20 September 1985 depend on when the bonus shares were issued and whether they were partly paid or fully paid. For further details, see flowchart 1 in appendix 3.

The bonus shares have an acquisition date of 1 February 1997. If Mark holds the bonus shares for 12 months from that date, when he sells them he can use the indexation method to calculate his capital gain. Amounts payable to a company on shares in the company can be indexed only from the date of actual payment. In Mark's case, he can only index the $250 call payment from the date he paid it (1 July 1997).

However, indexation on the $250 dividend included in his assessable income on the issue of the bonus shares was available from 1 February 1997. This is different from the indexation treatment of amounts paid to acquire assets in other circumstances where indexation is available from the time the liability to make the payment arises. The indexation rules are explained in more detail in chapter 2.

If Mark disposes of the shares after 11.45am (by legal time in the ACT) on 21 September 1999, he can calculate his capital gain using either the indexation method or the discount method.

Bonus units

If you have received bonus units on or after 20 September 1985, you may make a capital gain when you dispose of them.

The CGT rules for bonus units are similar to those for bonus shares. However, the rules do not apply if the bonus units are issued by a corporate unit trust or a public trading trust.

When the unit trust issues the bonus units, they will generally tell you what amount (if any) you have to include in your assessable income. You need to keep a record of that information to work out your CGT obligation when you dispose of them.

Flowchart 2 in appendix 3 summarises the rules applying to bonus units issued on or after 20 September 1985.

Bonus units issued where no amount is included in assessable income

Original units acquired on or after 20 September 1985

If your bonus units relate to other units that you acquired on or after 20 September 1985, your bonus units are taken to have been acquired on the date you acquired your original units. If you have original units that you acquired at different times, you will have to work out how many of your bonus units are taken to have been acquired at each of those times.

Calculate the cost base and reduced cost base of the bonus units by apportioning the cost base and reduced cost base of the original units over the original units and the bonus units. Effectively, this results in a reduction of the cost base and reduced cost base of the original units. You also include any calls paid on partly paid bonus units that are apportioned between the original units and the bonus units as part of the cost base and reduced cost base.

Original units acquired before 20 September 1985

The rules that apply if you acquired your original units before 20 September 1985 depend on when the bonus units were issued and whether they were partly paid or fully paid. For further details, see flowchart 2 in appendix 3.

Bonus units issued where an amount is included in assessable income

If you include any amount in your assessable income as a result of the issue of bonus units, their acquisition date is the date they were issued, regardless of when you acquired the original units.

The cost base and reduced cost base of the bonus units is the amount included in your assessable income as a result of the issue of those units, plus any calls you made if they were only partly paid.

If the bonus units were issued before 20 September 1985, any capital gain or capital loss is disregarded as they are pre-CGT assets.

Rights or options to acquire shares or units

If you own shares or units, you may be issued rights or options to acquire additional shares or units at a specified price.

Rights and options issued directly to you from a company or trust for no cost

You are taken to have acquired the rights and options at the same time as you acquired the original shares or units. Therefore, if you acquired the original shares or units before 20 September 1985, you disregard any capital gain or capital loss you make when the rights or options expire or are sold as they are pre-CGT assets.

If you acquired the original shares or units on or after 20 September 1985, you make a capital gain if the capital proceeds on the sale or expiry of the rights or options are more than their cost base. You make a capital loss if the reduced cost base of the rights or options is more than those capital proceeds.

Rights and options you paid to acquire from a company or trust - or that you acquired from another person

If you acquired your rights or options on or after 20 September 1985, they are treated much like any other CGT asset and are subject to CGT.

Flowcharts 3 and 4 in appendix 3 summarise the different rules applying to the treatment of rights or options to acquire shares or units.

Exercising rights or options to acquire shares or units

Many people decide to exercise their rights or options to acquire new shares or units rather than sell them. In this case, no CGT is payable at the time you exercise the rights or options unless the right or option is to acquire units and was issued by the trustee before 28 January 1988.

The acquisition date of the shares or units is the date of exercise of the rights or options.

If you exercise the rights or options on or after 20 September 1985, some special rules apply for calculating the cost base and reduced cost base of shares or units acquired as a result. These rules are outlined below (but do not apply to a right or option to acquire units that was issued by the trustee before 28 January 1988).

Rights or options issued directly to you from a company or trust for no cost

The amount included in the cost base and reduced cost base of the shares or units you acquire depends on when you acquired your original shares or units.

Original shares or units acquired before 20 September 1985

The first element of the cost base and reduced cost base for the shares or units you acquire on exercising your rights or options is:

• the market value of the rights or options at the time you exercise them, plus
• the amount you pay for the shares or units, plus
• if the rights or options are exercised on or after 1 July 2001 and, as a result, you include an amount in your assessable income - that amount.

Original shares or units acquired on or after 20 September 1985

The first element of the cost base and reduced cost base for the shares or units you acquire on exercising your rights or options is simply:

• the amount you pay for the shares or units, plus
• if the rights or options are exercised on or after 1 July 2001 and, as a result, you include an amount in your assessable income - that amount.

Rights or options issued directly to you from a company or trust that you paid to acquire

The amount included in the cost base and reduced cost base of the shares or units you acquire depends on when you acquired your rights or options.

Rights or options acquired before 20 September 1985

If the rights or options were exercised on or after 20 September 1985 the first element of the cost base and reduced cost base for the shares or units is the sum of:

• the market value of the rights or options at the time you exercise them, plus
• the amount you paid for the shares or units.

Rights or options acquired on or after 20 September 1985

The first element of the cost base and reduced cost base for the shares or units you acquire on exercising your rights or options is the sum of:

• the amount you pay for the rights or options, plus
• the amount you pay for the shares or units on exercising the rights or options.

Rights or options you acquired from an entity other than the company or trust that issued them

The following rules apply if you acquired the rights or options to acquire shares or units from an entity other than the company or unit trust which issued the rights or options - for example, from a shareholder of the company.

The amount included in the cost base and reduced cost base of the shares or units you acquire depends on when you acquired your rights or options.

Rights or options acquired before 20 September 1985

If the rights or options were exercised on or after 20 September 1985 the first element of the cost base and reduced cost base for the shares or units is:

• the market value of the rights or options at the time you exercise them, plus
• the amount you pay for the shares or units, plus
• if the rights or options are exercised on or after 1 July 2001 and, as a result, you include an amount in your assessable income - that amount.

Rights or options acquired on or after 20 September 1985

If you did not pay anything to acquire the rights or options from another entity, the first element of the cost base and reduced cost base for the shares or units you acquire on exercising them is simply:

• the amount you paid for the shares or units, plus
• if the rights or options are exercised on or after 1 July 2001 and, as a result, you include an amount in your assessable income - that amount.

If you did pay to acquire the rights or options, the first element of the cost base and reduced cost base of the shares or units you acquire on exercising them is:

• the amount you actually paid for the rights or options, plus
• the amount you paid for the shares or units, plus
• if the rights or options are exercised on or after 1 July 2001 and, as a result, you include an amount in your assessable income - that amount.

Flowcharts 3 and 4 in appendix 3 summarise the different rules applying to the treatment of rights or options to acquire shares or units.

CGT discount on shares or units acquired from exercise of rights or options

You can only use the discount method to calculate your capital gain from an asset if you own it for at least 12 months. In calculating any capital gain on shares or units you acquire from the exercise of a right or option, the 12-month period applies from the date you acquire the shares or units (not the date you acquired the right or option).

Convertible interests

Convertible notes

A convertible note (which is one type of convertible interest) is another type of investment you can make in a company or unit trust. A convertible note earns interest on the amount you pay to acquire the note until the note's expiry date. On expiry of the note, you can either ask for the return of the money paid or convert that amount to acquire new shares or units.

Convertible notes you acquired after 10 May 1989 will generally not be subject to CGT if you sold or disposed of them before they were converted into shares. Instead, you include any gain you make on your tax return as ordinary income and any loss you make is included as a deduction.

For more information, see You and your shares 2004–05.

If you have sold or disposed of a convertible note that you acquired before 11 May 1989, phone the Business Tax Infoline on 13 28 66. When you phone, make sure you know the date you acquired the convertible note as this may affect the tax treatment.

Conversion of notes to shares

The tax treatment that applies when your convertible notes are converted to shares depends on when you acquired the convertible notes, the type of convertible note, when the conversion occurred and when the convertible note was issued.

Shares acquired by the conversion of a convertible note on or after 20 September 1985 will be subject to CGT when they are sold or disposed of as the shares are taken to be acquired when the conversion happens.

You may have acquired the convertible note on or after 20 September 1985 and, as a traditional security or qualifying security, you have already included the gain you made on the conversion of the note on your tax return as income (or as a deduction if you made a loss).The way you calculate the cost base of the shares varies depending on whether the notes converted to shares before 1 July 2001 or on or after that date. See Table: Treatment of convertible notes acquired after 10 May 1989 for a summary.

Convertible notes issued after 14 May 2002

There has been a change to the tax treatment of convertible notes issued by a company after 14 May 2002 if the notes are traditional securities.

Under the change:

• any gains you make when these notes are converted or exchanged for ordinary shares in a company will not be ordinary income at the time of conversion or exchange, and any losses you make will not be deductible
  
• instead, any gains or losses you make on the later sale or disposal of the shares (incorporating any gain or loss that would have been made on the conversion or exchange of the notes) will be:
  • subject to CGT if you are an ordinary investor, or
  • ordinary income (or deductible, in the case of a loss) if you are in the business of trading in shares and other securities.
   

If you are an individual who is an ordinary investor, this change means you will be able to get the benefit of the CGT discount if you own the shares for more than 12 months. The table below sets out how you calculate the cost base.

Conversion of notes to units

Convertible notes - converted before 1 July 2001

If the convertible note is a traditional security, the first element of the cost base and reduced cost base of the units is their market value at the time of conversion. You disregard any capital gain or capital loss made on their conversion to units in the unit trust.

If the convertible note is not a traditional security and was issued by the unit trust after 28 January 1988, the first element of the cost base and reduced cost base of the units includes both the cost of the convertible note and any further amount payable on the conversion. You disregard any capital gain or capital loss made on their conversion to units in the unit trust.

Table: Treatment of convertible notes acquired after 10 May 1989

Convertible note	Converted before 1 July 2001	Converted on or after 1 July 2001
The note is a traditional security (see note 1) that was issued before 15 May 2002	You include gain on conversion as income (or loss on conversion is deducted). Cost base of shares includes their market value at the date the convertible notes were converted.	You include gain on conversion as income (or loss on conversion is deducted). Cost base of shares includes cost base of the convertible note, any amount paid on conversion and any amount included in your assessable income on conversion.
The note is a traditional security (see note 1) that was issued after 14 May 2002	-	You disregard gain (or loss) on conversion. Cost base of shares includes cost base of the convertible note and any amount paid on conversion.
The note is qualifying security (see note 2).	You include accrued gains as income and include any gain on conversion as income (or deduct any loss on conversion). Cost base of shares includes amounts paid to acquire the note and any amount paid on conversion.	You include accrued gains as income and include any gain on conversion as income (or deduct any loss on conversion). Cost base of shares includes cost base of the convertible note, any amount paid on conversion and any amount included in your assessable income on conversion.

Note 1: A traditional security is one that is not issued at a discount of more than 1.5%, does not bear deferred interest and is not capital indexed. It may be, for example, a bond, a deposit with a financial institutions or a secured or unsecured loan.

Note 2: A qualifying security is one that has a deferred income element - that is, it is issued under terms such that the investor's return on investment (other than periodic) will be greater than 1.5% per annum.

Convertible notes - converted after 1 July 2001

If the convertible note is a traditional security the first element of the cost base and reduced cost base of the units includes:

• the cost base of the convertible note, plus
• any amount paid on conversion, plus
• any amount included in your assessable income on conversion.

You disregard any capital gain or capital loss made on their conversion to units in the unit trust.

Similarly, if the convertible note is not a traditional security and was issued by the unit trust after 28 January 1988, the first element of the cost base and reduced cost base of the units includes:

• the cost base of the convertible note, plus
• any amount paid on conversion, plus
• any amount included in your assessable income on conversion.

You disregard any capital gain or capital loss made on their conversion to units in the unit trust.

Employee share schemes

Some companies encourage employees to participate in employee share schemes by offering them discounted shares or rights (including options) to acquire shares. Employee share scheme income tax rules (ESS tax rules) apply to this discount.

If the employee acquires 'qualifying shares or rights' (those that satisfy certain ESS tax rules), the employee can choose when they include the discount given on the shares or rights in their assessable income.

The employee includes the discount in their assessable income:

• In the income year they acquire shares or rights, if the employee makes an election under the ESS tax rules. The discount is calculated at the date the shares or rights were acquired.

or

• In the income year that 'cessation time' of the shares or rights occurs. For shares, the cessation time is usually the earlier of employment ceasing or when the disposal restrictions cease and forfeiture conditions expire on the shares. For rights, the cessation time is usually the earlier of employment ceasing or the exercise of the rights to acquire the shares. The discount is calculated at the date of cessation time.

If the employee acquires shares or rights that are not qualifying shares or rights, the employee includes the discount, calculated at the date the shares or rights were acquired, in their assessable income for the income year in which they acquired them.

The first element of the cost base of the shares or rights is their market value as determined under the ESS tax rules at the date the discount was calculated. If a CGT event happens to, or in relation to, the shares or rights, the capital gain or capital loss is calculated under the rules that apply to that event.

If an arm's length CGT event A1 (sale or disposal of a CGT asset), CGT event C2 (cancellation, surrender or similar ending), E1 (creating a trust over a CGT asset), E2 (transferring a CGT asset to a trust) or E5 (beneficiary becoming entitled to a trust asset) happens to the shares or rights (or any shares acquired as a result of exercise of the rights) within 30 days of cessation time, the capital gain or capital loss is disregarded.

If an employee makes an election under the ESS tax rules, special rules apply if the employee acquires a beneficial interest in the shares or rights - that is, the shares or rights were acquired on their behalf by the trustee of an employee share trust but, due to restrictions, the trustee is unable to dispose of them on behalf of the employee.

If the employee acquired their beneficial interest before 5.00pm (by legal time in the Australian Capital Territory) on 27 February 2001, the cost base of the shares or rights is either:

• their market value at the date the employee became absolutely entitled to the shares or rights (the date the disposal restrictions are lifted and the trustee can sell them on behalf of, or transfer them to, the employee), or
• if the employee chooses, their market value at the date the employee acquired the beneficial interest.

However, the 12-month ownership requirement for the 50% CGT discount commences from the date the employee acquired absolute entitlement in the shares or rights.

If the employee acquired the beneficial interest after 5.00pm (by legal time in the Australian Capital Territory) on 27 February 2001, the cost base of the shares or rights is their market value at the date the employee acquired the beneficial interest. The 12-month ownership requirement for the 50% CGT discount commences from the date the employee acquired the beneficial interest in the shares or rights.

For cost base purposes, the market value of the shares or rights is established under the ESS tax rules.

Elections under the ESS tax rules must be made by the employee in writing and should be kept with their tax return for the relevant income year.

If a liquidator or administrator declares that rights acquired under an employee share scheme are worthless, no capital loss is available. For employee shares that are declared worthless, a capital loss is only available in certain circumstances - see Shares in a company in liquidation or administration.

For more information, see ESS interests with a taxing point before 1 July 2009.

CGT implications for employee shares and rights under a corporate restructure

The law has been changed so that if employee shares or rights are exchanged for replacement shares or rights in a new company under a corporate restructure that happens on or after 1 July 2004, automatic rollover relief may be available so that there is no taxing point under the ESS tax rules. Corporate restructures affected include mergers, demergers and 100% takeovers. Any capital gain or capital loss made on the employee shares or rights because of the restructure will be disregarded where this rollover relief applies.

For more information, see ESS –Rollover relief.

Stapled securities

Stapled securities are created when two or more different securities are legally bound together so that they cannot be sold separately. Many different types of securities can be stapled together. For example, many property trusts have their units stapled to the shares of companies with which they are closely associated.

The effect of stapling depends on the specific terms of the stapling arrangement. The issuer of the stapled security will be able to provide you with detailed information on their particular stapling arrangement. However, in general the effect of stapling is that each individual security retains its character and there is no variation to the rights or obligations attaching to the individual securities.

Although a stapled security must be dealt with as a whole, the individual securities that are stapled are treated separately for tax purposes. For example, if a share in a company and a unit in a unit trust are stapled, you:

• continue to include separately in your income tax return dividends from the company and trust distributions from the trust, and
• work out any capital gain or capital loss separately for the unit and the share.

Because each security that makes up your stapled security is a separate CGT asset, you must work out a cost base and reduced cost base for each separately.

If you acquired the securities after they were stapled (for example, you bought the stapled securities on the ASX), you do this by apportioning, on a reasonable basis, the amount you paid to acquire the stapled security (and any other relevant costs) between the various securities that are stapled. One reasonable basis of apportionment is to have regard to the portion of the value of the stapled security that each security represented. The issuer of the stapled security may provide assistance in determining these amounts.

If you acquired your stapled securities as part of a corporate restructure you will, during the restructure, have owned individual securities that were not stapled. The way you work out the cost base and reduced cost base of each security depends on the terms of the stapling arrangement.

The stapling does not result in any CGT consequences for you, because the individual securities are always treated as separate securities. However, there may be other aspects of the whole restructure arrangement which will result in CGT consequences for you.

When you dispose of your stapled securities you must divide the capital proceeds (on a reasonable basis) between the securities that make up the stapled security and then work out whether you have made a capital gain or capital loss on each security.

Note: Other tax provisions may apply upon disposal of some securities - for example, you include a gain made on a traditional security in your assessable income under other tax provisions.

Non-assessable payments

You may need to adjust the cost base of shares or units for CGT calculations if you receive a non-assessable payment without disposing of your shares or units. A payment or distribution can include money and property.

You need to keep accurate records of the amount and date of any non-assessable payments on your shares and units.

Non-assessable payments after a recent restructure

As a result of recent stapling arrangements, some investors in managed funds have received units which have a very low cost base. The payment of certain non-assessable amounts in excess of the cost base of the units will result in these investors making a capital gain.

Non-assessable payments from a company (CGT event G1)

Non-assessable payments to shareholders are not very common and would generally be made only if a company has shareholder approval to reduce its share capital - for example, to refund part of the paid-up value of shares to shareholders. Before 1 July 1998, a company needed court approval to reduce its share capital.

If you receive a non-assessable payment from a company (that is, a payment that is not a dividend), you need to adjust the cost base of the shares at the time of the payment. If the amount of the non-assessable payment is not more than the cost base of the shares at the time of payment, you reduce the cost base and reduced cost base by the amount of the payment.

You make a capital gain if the amount of the non-assessable payment is more than the cost base of the shares. The amount of the capital gain is equal to the excess. If you make a capital gain, you reduce the cost base and reduced cost base of the shares to nil. You cannot make a capital loss from the making of a non-assessable payment.

Interim liquidation distributions that are not dividends can be treated in the same way as other non-assessable payments under CGT event G1.

The exception is if the payment is made to you by a liquidator after the declaration and the company is dissolved within 18 months of such a payment. In that case, you include the payment as capital proceeds on the cancellation of your shares (rather than you making a capital gain at the time of the payment). In preparing your tax return, you may delay declaring any capital gain until your shares are cancelled unless you are advised by the liquidator in writing that the company will not cease to exist within 18 months of your receiving the payment.

Non-assessable payments from a unit trust (CGT event E4)

Unit trusts often make non-assessable payments to unit holders. Your CGT obligations in this situation are explained in chapter 4.

When you sell the units, you must adjust their cost base and reduced cost base. The amount of the adjustment is based on the amount of non-assessable payments you received during the income year up to the date of sale. You use the adjusted cost base and reduced cost base to work out your capital gain or capital loss.

Non-assessable payments under a demerger

If you receive a non-assessable payment under an eligible demerger, you do not deduct the payment from the cost base and the reduced cost base of your shares or units. Instead you adjust your cost base and reduced cost base under the demerger rules. You may make a capital gain on the non-assessable payment if it exceeds the cost base of your original share or unit, although you will be able to choose CGT rollover.

An eligible demerger is one that happens on or after 1 July 2002 and satisfies certain tests. The head entity will normally advise shareholders or unit holders if this is the case.

For more information about demergers, see chapter 5.

Investments in foreign hybrids

If you have an investment in a foreign hybrid, the tax treatment from 1 July 2003 or optionally from 1 July 2002 has changed. A foreign hybrid is an entity that was taxed in Australia as a company but taxed overseas as a partnership. This can include a limited partnership, a limited liability partnership and a US limited liability company. Investors in these entities are now treated for Australian tax purposes as having a partnership interest. Previously, the investors were treated as shareholders and distributions they received were taxed as dividends. Further information is available on our website.

General value shifting regime (GVSR)

If you own shares in a company or units (or other fixed interests) in a trust, you may be affected by value shifting rules. The value shifting rules may apply to you if:

• you have interests in a company or trust in which equity or loan interests have been issued or bought back at other than market value, or varied such that the values of some interests have increased while others have decreased (direct value shifts on interests), or
  
• you have interests in an entity whose dealings (such as providing loans or other services, or transferring assets) with another entity are neither at market value nor arm's length and both entities are under the same control or ownership (indirect value shifting).

For more information on whether the GVSR rules apply to you, see General value shifting regime – who it affects. For detailed information on the operation of the rules, see the General value shifting regime.

Using the capital gain or capital loss worksheet for shares

In the example on this page, Tony uses the indexation method, the discount method and the 'other' method to calculate his capital gain so he can decide which method gives him the best result. This example shows you how to complete the Capital gain or capital loss worksheet (PDF, 87KB)This link will download a file at the back of this guide to calculate your capital gain when you acquire or dispose of shares.

See chapter 2 for a description of each method and when you can use each one.

Remember that if you bought and sold your shares within 12 months, you must use the 'other' method to calculate your capital gain. If you owned your shares for 12 months or more, you may be able to use either the discount method or the indexation method, whichever gives you the better result.

Because each share in a parcel of shares is a separate CGT asset, you can use different methods to work out the amount of any capital gain for shares within a parcel. This may be to your advantage if you have capital losses to apply.

For example, Belinda acquired a parcel of 1,000 shares on 1 December 1992. She sold them on 31 July 2004. Because she has capital losses, Belinda chooses to work out her capital gain from 460 of her shares using the indexation method. She uses the discount method to work out the capital gain from the other 540 shares.

Dividends paid by listed investment companies (LIC) that include LIC capital gain

If a LIC pays a dividend to you that includes a LIC capital gain amount, you may be entitled to an income tax deduction.

You can claim a deduction if:

• you are an individual
• you were an Australian resident when a LIC paid you a dividend
• the dividend was paid to you after 1 July 2001, and
• the dividend included a LIC capital gain amount.

The amount of the deduction is 50% of the LIC capital gain amount. The LIC capital gain amount will be shown separately on your dividend statement.

You do not show the LIC capital gain amount at item 17 on your tax return (supplementary section) - or item 9 if you use the tax return for retirees.