In the relevant income year PEP Pty Ltd (PEP) owned 100% of Sabu Products Pty Ltd (Sabu). Sabu operates a business of manufacturing and marketing various commercial products. All shares in Sabu were acquired post 20 September 1985.
All shares in PEP are owned by six members of the Butcher family - Fred and Wendy Butcher and their four children - Al, Mark, Karen and Judy. Each family member has 10 ordinary shares in PEP which were acquired after 20 September 1985.
During the relevant income year, Sabu's managing director was Fred Butcher, with his son Al Butcher, as technical manager. However bitter management disagreements between Al and Fred on how Sabu should be run occurred, which led to discord within the entire Butcher family.
The ongoing and continual feuds between Al and Fred encouraged the Butcher family members to agree to sell Sabu to Al's company - Al Butcher Pty Ltd (ABP). It was agreed between the family, that Sabu should be demerged from PEP prior to the sale.
Accordingly, on the same day the demerger occurred, Fred, Wendy and their children sold their demerged interests in Sabu to Al's company ABP and
Fred resigned as Sabu's managing director. Al became Sabu's sole director and manager.
Applicant's stated reasons for demerger
PEP provided the following reasons for the demerger:
- It was necessary for commercial reasons as Sabu's business future was in jeopardy due to the family disputes regarding its management; and
- Due to the disputes, it was crucial that changes were made to the ownership and management of Sabu to ensure no further disputes arose.
Commissioner's analysis and decision
In examining the current demerger proposal in relation to the relevant circumstances stated in subsection 45B(8), the Commissioner took into account the following factors:
- The demerger was conditional on the subsequent sale of Sabu. They occurred on the same day. The facts indicate that the demerger was undertaken for a more than incidental purpose in moving the ownership interests in Sabu to the owners of PEP in a tax effective way, rather than facilitating a restructure of the Sabu business (paragraphs 73 to 78 and 89 of PS LA 2005/21);
- While there is a genuine commercial reason for Al's company acquiring the shares in Sabu, where there exists more than one purpose for a demerger, the tax purpose must be incidental and subordinate to the other substantial purpose or purposes. It is the Commissioner's view that a substantial purpose in this case is to obtain a tax benefit for the Butcher family members who sold their interests in Sabu. Although there is a significant non-tax reason to sell Sabu, there is no objective commercial explanation for the demerger discernible from the facts.
The Commissioner would take the view that the manner, form, substance and timeframe of the scheme, all indicate that there was a significant purpose for the shareholders of PEP to obtain a tax benefit. Accordingly, the Commissioner would make a determination under paragraph 45B(3)(b) of the ITAA 1936 that section 45C of the ITAA 1936 apply to the demerger benefit provided under the scheme.