House of Representatives

New Business Tax System (Consolidation) Bill (No. 1) 2002

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)

Chapter 3 - Membership rules

Outline of chapter

3.1 This chapter explains the rules dealing with the formation of a consolidated group, including rules dealing with the types of entities eligible to join such a group. It also explains the notification rules that will apply when there are changes in membership of a consolidated group.

Context of reform

3.2 Consistent with Recommendation 15.1(i) of A Tax System Redesigned , certain groups of wholly-owned entities will be provided with a choice to be taxed as a single consolidated entity.

3.3 In order to give practical meaning to the concept of a single Australian taxpayer, entry into the consolidation regime is generally restricted to those groups who have a resident holding company at the head of the group. Certain wholly-owned groups in Australia that do not have a common Australian holding company between the non-resident parent and the Australian resident subsidiaries may instead choose to form a MEC group. Rules relating to the formation and income tax treatment of MEC groups are discussed in Chapter 4.

3.4 Although consolidation is optional, if a group consolidates, all of the resident holding companys eligible resident wholly-owned subsidiaries, (whether companies, partnerships or trusts) must be included in the consolidated group. This rule is referred to as the all in principle and will also apply to entities acquired in the future.

3.5 The all in principle allows intra-group transactions to be ignored for tax purposes. Consolidation therefore offers major advantages to entity groups in terms of both reduced complexity and flexibility in commercial operations. Departure from the all in principle would add considerable complexity to the consolidation regime and could compromise the integrity of the regime by allowing unintended tax benefits to be obtained from transactions between member and non-member entities.

3.6 In determining whether an entity is a wholly-owned subsidiary, in some cases employee shares are to be disregarded. This gives effect to Recommendation 15.2(a)(i) of A Tax System Redesigned . Debt interests are also to be ignored. This is broadly in line with the proposal in A Tax System Redesigned, whichproposed that the concept of finance shares be used to identify debt. The broad term finance shares has now been superseded by the debt/equity rules in Division 974 of the ITAA 1997 as a basis for identifying debt interests.

3.7 The inclusion of discretionary trusts and hybrid trusts in consolidated groups on the basis of a wholly-owned test departs from the recommendation in A Tax System Redesigned . The new test avoids introducing unnecessary complexity into the regime.

3.8 Certain entities are prevented from being a member of a consolidated group. Broadly, the provisions limiting the types of entities that can be a member of a consolidated group are designed to ensure that consolidated groups generally receive a tax treatment like ordinary Australian resident companies and that, in general, concessional tax treatment is neither effectively gained by nor denied to entities by becoming a member of a consolidated group.

Summary of new law

3.9 The following summarises the key requirements for formation and membership of a consolidated group.

What is a consolidated group? A consolidated group consists of:

·
a head company; and
·
all of the subsidiary members of the group (if any).

In general, before a consolidated group can be brought into being there must be:

·
a consolidatable group in existence; and
·
an effective choice made by the head company of that group to consolidate the group.

What is a consolidatable group? A consolidatable group is a group of entities that is eligible to be consolidated.

A consolidatable group consists of:

·
a head company; and
·
all of the subsidiary members of the group,

provided there is, in addition to the head company, at least one subsidiary member.

What is a head company? A head company is generally an ordinary Australian resident company that is not a subsidiary member of a consolidatable or consolidated group.
What is a subsidiary member of a consolidatable or consolidated group? Broadly, an entity is eligible to be a subsidiary member of a consolidatable or consolidated group if:

·
it is a resident company, trust or partnership;
·
it is a wholly-owned subsidiary of the head company;
·
it would not/does not effectively gain or lose concessional tax treatment by being a subsidiary member of a consolidated group; and
·
any entities interposed between itself and the head company of the group are subsidiary members of the group, nominees or certain non-resident entities.

What entities are excluded from being a member of a consolidated group? Certain entities (such as PDFs) that receive different tax treatment, including concessional tax treatment, compared to ordinary Australian resident companies cannot be a member of a consolidated group. In addition, certain entities that would effectively gain concessional treatment by being a subsidiary member of a consolidated group headed by an ordinary Australian resident company cannot be subsidiary members.
Can the head company revoke the choice to consolidate? No.
What happens when an entity is no longer eligible to be a head company? Any choice to consolidate by the entity will cease to have effect. Therefore, any consolidated group headed by the entity will cease to exist.
What happens when a consolidated group no longer has subsidiary members? The consolidated group will continue to exist even though there are no subsidiary members of the group.
Comparison of key features of new law and current law
New law Current law
Consolidation is available to certain groups of wholly-owned entities that may comprise companies, partnerships and trusts.

Consolidation provisions used to work out whether an entity is a wholly-owned subsidiary of the head company are based on, but are more flexible than, the current definition of 100% subsidiary. This definition is relevant to determining whether an entity is a member of a wholly-owned group.

The rules for consolidation are intended to replace the current grouping provisions. Currently grouping concessions may only be accessed by companies that are members of the same wholly-owned group.

Detailed explanation of new law

What is a consolidated group?

3.10 A consolidated group is brought into existence by a choice to treat a consolidatable group of entities (see paragraphs 3.21 to 3.24) as a consolidated group. The company that was the head company of the consolidatable group on the day from which the choice will take effect is responsible for making the choice. [Schedule 1, item 2, paragraph 703-5(1)(a)]

3.11 When a consolidatable group becomes a consolidated group, all of the members of the consolidatable group will become members of the consolidated group. [Schedule 1, item 2, subsection 703-5(3)]

3.12 The members of a consolidatable group are:

·
the head company; and
·
all of the subsidiary members of the group.

[Schedule 1, item 2, subsection 703-15(1)]

3.13 The cessation of a MEC group can also bring a consolidated group into existence. This will occur if the cessation of a MEC group happens because the entity that is the sole eligible tier-1 company in the MEC group fails to satisfy the conditions for being an eligible tier-1 company and immediately after this time that entity meets the conditions for being a head company of a consolidated group [Schedule 1, item 2, paragraph 703-5(1)(b) and subsection 703-55(1)] . Chapter 4 explains the terms MEC group and eligible tier-1 company.

3.14 When a MEC group converts to a consolidated group, all of the entities that were members of the MEC group immediately before it ceased to exist will become members of the consolidated group. In particular, the company that was the sole eligible tier-1 company of the MEC group will become the head company of the consolidated group and every entity (if any) that was a subsidiary member of the MEC group will become a subsidiary member of the consolidated group. [Schedule 1, item 2, subsection 703-55(2)]

3.15 At any point in time while the consolidated group is in existence, the members of the group will consist of all of the subsidiary members of the consolidated group (if any) together with the head company. [Schedule 1, item 2, subsection 703-15(1)]

3.16 An important effect of these rules is that a subsidiary member does not have an option not to be part of a consolidated group if a choice outlined in paragraph 3.10 has been made or where the consolidated group has been brought into existence by the cessation of a MEC group.

3.17 Further, a change in the composition of a consolidated group will generally not affect its existence, so long as the same head company exists [Schedule 1, item 2, paragraph 703-5(2)(a)] . This means, for example, that if, after a consolidated group comes into existence, there are no subsidiary members of the group and the only member of the group is the head company, the consolidated group will remain in existence. Such a group will consist only of the head company. [Schedule 1, item 2, subsection 703-5(3)]

3.18 However, where the head company no longer satisfies the prerequisites for being a head company, the consolidated group will cease to exist [Schedule 1, item 2, paragraph 703-5(2)(a)] . An example of where this could occur is where the head company becomes a subsidiary member of a consolidatable or consolidated group.

3.19 A consolidated group will also cease to exist if the head company of the group becomes a member of a MEC group. [Schedule 1, item 2, paragraph 703-5(2)(b)]

3.20 The key concept underlying the formation of a consolidated group is in most cases the existence of a consolidatable group. This concept will now be discussed, along with the categories of entities that are members of a consolidatable group.

Consolidatable groups and their members

3.21 Consolidatable group is the label used to describe a type of group that is eligible to be consolidated.

3.22 A consolidatable group consists of:

·
a head company; and
·
all of the subsidiary members of the group.

[Schedule 1, item 2, subsection 703-10(1)]

3.23 As was discussed in paragraph 3.12, an entity that is either a head company or a subsidiary member of a consolidatable group will be a member of that group. [Schedule 1, item 2, subsection 703-15(1)]

3.24 A consolidatable group will only exist if there exists a head company and at least one subsidiary member [Schedule 1, item 2, subsection 703-10(2)] . Generally a head company existing alone without any subsidiary members is not eligible to consolidate. This is not withstanding that a consolidated group can continue to exist even if the group loses all of its subsidiary members after formation and subsequently consists of the head company alone.

What is a head company?

3.25 Broadly, a head company is an entity that:

·
is a company;
·
has an income tax rate that is or equals the general company tax rate applied to some or all of its taxable income (if any);
·
is not a type of entity that is specifically precluded from being a member of a consolidatable or consolidated group;
·
is an Australian resident but not a prescribed dual resident; and
·
is not a subsidiary member of a consolidatable or consolidated group.

[Schedule 1, item 2, subsection 703-15(2), item 1 in the table]

3.26 Note that the definition of head company contained in Division 166 and section 995-1 of the ITAA 1997 will be consequentially amended. [Schedule 3, items 3 to 16; Schedule 5, item 11]

3.27 The first 3 dot points in paragraph 3.25 are collectively referred to as the income tax treatment requirements. The fourth requirement is referred to as the Australian residence requirement, while the fifth requirement is known as the ownership requirement. [Schedule 1, item 2, subsection 703-15(2)]

Income tax treatment requirements

3.28 The income tax treatment requirements are central in ensuring that consolidated groups generally receive a tax treatment like ordinary companies. Subsidiary members of a consolidated group will be treated as parts of the head company rather than as separate entities under the rule providing for single entity treatment for consolidated groups. This means that the tax treatment that is effectively received by subsidiary members of a consolidated group will be determined by the tax treatment that is received by the head company of the group.

Requirement 1: The entity must be a company

3.29 To qualify as a head company, an entity must be a company as defined in section 995-1 of the ITAA 1997.

3.30 A corporate limited partnership will also satisfy this requirement. This is consistent with the objective of ensuring consolidated groups generally receive a tax treatment like ordinary companies because these partnerships are effectively treated as companies for income tax purposes.

3.31 In relation to corporate unit trusts and public trading trusts, these entities cannot be head companies because the tax treatment of these entities is not identical to that of ordinary resident companies. For example, the trust loss measures contained in Schedule 2F of the ITAA 1936 apply to these entities. Also, corporate unit trusts and public trading trusts are currently unable to access all of the grouping concessions that are being replaced by the consolidation measures.

3.32 In the December 2000 exposure draft, entities that were covered by the then proposed non-fixed trust rules were eligible to be a head entity (now head company). This is no longer the case. The previous approach reflected the proposal to afford these entities the same tax treatment as companies.

Requirement 2: The entity must have the general company tax rate (or an equivalent rate) applied to some or all of its taxable income

3.33 This requirement generally excludes companies from being eligible to be a head company of a consolidatable or consolidated group if they receive concessional tax treatment. This is achieved by requiring some or all of the taxable income of a company to be taxed at a rate that is or equals the general corporate tax rate.

3.34 If concessionally taxed companies were able to be a head company of a consolidated group, the concessions that these companies receive may be made available to all entities in the group through the single entity rule. The exclusion is designed to prevent this. Otherwise, consolidation may unintentionally extend these concessions to entities that are not otherwise entitled to them.

3.35 Some companies that have a rate of tax less than the company tax rate applying to some of their taxable income will satisfy requirement 2. These companies will not be excluded from being a member, including a head company, of a consolidated group because those concessional rates often apply only to special types of income that are peculiar to those companies (e.g. life insurance companies). Existing rules that quarantine special classes of income that are subject to concessional rates of tax will apply in the context of a consolidated group.

3.36 Certain non-profit companies that have the corporate tax rate phased in on their taxable income will also satisfy requirement 2. While this is inconsistent with the rationale for requirement 2, if such a company continues to qualify for this special tax treatment when it is a head company of a consolidated group, the maximum benefit that could be obtained from the group (as a consequence of it being headed by the company) is negligible.

Requirement 3: The entity must not be of a type that is specifically excluded from being a member of a consolidatable or consolidated group

3.37 Entities that are specifically excluded from being a member of a consolidatable or consolidated group are detailed in Table 3.1. These entities are prevented from being a member of a consolidatable or consolidated group because of the way their income is treated for income tax purposes [Schedule 1, item 2, subsection 703-20(1)] . Requirement 3 is therefore a further mechanism to exclude from a consolidated group certain entities that do not receive a tax treatment like ordinary companies, including certain entities that receive concessional treatment relative to ordinary Australian resident companies. As discussed in paragraphs 3.33 and 3.34, the application of this feature in the head company context is designed to ensure that the concessions available to such entities do not apply to other members of the consolidated group and that the group receives a tax treatment like an ordinary resident company.

Table 3.1: Entities which cannot be members of a consolidatable or consolidated group
This entity is excluded under because
An entity to which Division 50 of the ITAA 1997 applies. Subsection 703-20(2), item 1 in the table. The total ordinary and statutory income of these companies is exempt from income tax.
A recognised medium credit union (as defined under section 6H of the ITAA 1936). Subsection 703-20(2), item 2 in the table. These credit unions have a threshold placed on the tax payable on their taxable income, even though they are subject to the corporate tax rate.
An approved credit union (as defined under section 23G of the ITAA 1936) that is not a recognised medium credit union or a recognised large credit union (as defined under section 6H of the ITAA 1936). Subsection 703-20(2), item 3 in the table. These credit unions are entitled to an exemption under section 23G of the ITAA 1936 for interest received from non-corporate members.
Certain cooperative companies (as defined under section 117 of the ITAA 1936). Subsection 703-20(2), item 4 in the table. These companies would be allowed a special deduction under paragraph 120(1)(c) of the ITAA 1936 if at the time they applied an amount of their assessable income as described under that paragraph.
An entity that is a PDF (as defined under section 995-1 of the ITAA 1997) at the end of the income year (see paragraph 3.40). Subsection 703-20(2), item 5 in the table. These entities are subject to a concessional rate of tax compared to the general company tax rate.
A company that is a film licensed investment company at the time (as defined in section 375-855 of the ITAA 1997). Subsection 703-20(2), item 6 in the table. Tax losses or net capital losses cannot be transferred to or from these companies. Further, section 375-880 of the ITAA 1997 prevents these companies from claiming deductions for expenditure on a film where the amount spent is an amount of Film Licensed Investment Company concessional capital.
A trust that is:

·
a complying superannuation entity;
·
a non-complying ADF; or
·
a non-complying superannuation fund,

(as those terms are defined in section 267 of the ITAA 1936).

Subsection 703-20(2), item 7 in the table. The taxable income of these entities is subject to tax at rates other than the general company tax rate.

3.38 A company that becomes a PDF during an income year and is still a PDF at the end of the income year will not be eligible to be a member, including a head company, of a consolidated or consolidatable group for the entire income year. [Schedule 1, item 2, subsection 703-20(2), item 5 in the table]

3.39 In the February 2002 exposure draft, companies subject to the mutuality principle were excluded from membership of a consolidatable or consolidated group. Such a company was precluded from being a head company because it does not derive assessable income from its members. Therefore, any amount received by a subsidiary member of a consolidated group headed by such a company from a member of that company would be effectively ignored. The amount would otherwise have been assessable income of the subsidiary member.

3.40 In response to submissions, however, the Government now considers that where a company continues to be subject to the mutuality principle when it is a head company of a consolidated group, the tax outcome outlined in paragraph 3.39 is conceptually appropriate in the context of single entity treatment. The exclusion has therefore been removed.

Australian residence requirements

3.41 Only companies that are Australian residents can be a head company of a consolidatable or consolidated group. This reflects the position that consolidated group treatment is generally only available to Australian resident entities.

3.42 Companies that are prescribed dual residents are ineligible to be a head company of a consolidatable or consolidated group on the basis that prescribed dual residents do not receive the same tax treatment as ordinary resident companies. In particular, wholly-owned groups headed by prescribed dual residents are currently unable to access the grouping concessions that are being replaced by the consolidation measures.

Ownership requirements

3.43 A head company must not be a subsidiary member of a consolidatable or consolidated group. This requirement reflects the general principle that a company can only be either a head company or a subsidiary member of a consolidatable group (whether or not the group is consolidated), but it cannot be both .

3.44 Without this rule, a company could potentially be a member of more than one consolidated group. For example, a company could be a head company of one consolidated group while being a subsidiary member of another consolidated group. This is unworkable, as the activities of the company cannot be appropriately attributed to one group in preference to the other.

3.45 It is possible for an entity to be neither a head company nor a subsidiary member of a consolidatable or consolidated group. This could occur for a number of reasons. An example is where the entity is of a type that is specifically precluded from being a member of a consolidatable or consolidated group (see paragraph 3.37).

3.46 It is also possible for an entity to be a head company of a consolidatable group or consolidated group whilst being a wholly-owned subsidiary of another entity (see paragraphs 3.63 to 3.80 for a discussion on wholly-owned subsidiaries) provided that the head company is not a subsidiary member of a consolidatable or consolidated group.

What is a subsidiary member of a consolidatable or consolidated group?

3.47 An entity is eligible to be a subsidiary member of a consolidatable group or consolidated group if:

·
the entity is a trust, a partnership or a company other than a non-profit company;
·
in the absence of single entity treatment, some or all of its taxable income would be taxed at a rate that is or equals the general company tax rate (applies only if the entity is a company);
·
it is not an entity that is specifically precluded from being a member of a consolidatable or consolidated group;
·
the entity passes an Australian residence test;
·
the entity is a wholly-owned subsidiary of the head company; and
·
any entities that are interposed between the head company and itself are subsidiary members (of the group), nominees or certain non-resident entities.

[Schedule 1, item 2, subsection 703-15(2), item 2 in the table]

3.48 The first 3 requirements are collectively known as the income tax treatment requirements. The fourth requirement is referred to as the Australian residence requirement, and together the fifth and sixth requirements are known as the ownership requirements. [Schedule 1, item 2, subsection 703-15(2)]

3.49 Working out whether an entity is a subsidiary member of a consolidatable or consolidated group is important for 2 reasons:

·
to determine who the members (if any) of a consolidated or consolidatable group are;and
·
an entity that is a subsidiary member of a consolidatable or consolidated group cannot itself be a head company of a consolidated or a consolidatable group.

Income tax treatment requirements

3.50 The income tax treatment requirements have been discussed in paragraphs 3.28 to 3.40 (although the discussion did not extend to trusts, partnerships or the requirement that an entity be a company other than a non-profit company). The earlier discussion focused on the need for a head company to meet these requirements. In this context, requiring a head company to satisfy these conditions ensures consolidated groups generally receive a tax treatment like ordinary companies. It also ensures that, in general, the concessions received by particular entities are not effectively received by all of the subsidiary members of a consolidated group headed by such an entity.

3.51 The reason for limiting the membership requirements in relation to subsidiary members is slightly different. These conditions are directed at preserving an entitys concessional tax treatment. More specifically, the conditions ensure that an entity does not effectively lose relative concessional treatment by being a subsidiary member of a consolidated group headed by a company that does not receive relative concessional treatment. For example, due to the operation of the single entity rule, the income of an entity to which Division 50 of the ITAA 1997 applies would no longer be exempt from income tax if the entity were permitted to be a subsidiary member of a consolidated group headed by an ordinary Australian resident company. It is important to prevent these entities and other concessionally taxed entities from being subsidiary members because, as mentioned in paragraph 3.16, a subsidiary member does not have an option not to be part of a consolidated group if a choice outlined in paragraph 3.10 has been made or where the consolidated group has been brought into existence by the cessation of a MEC group.

3.52 Paragraph 3.51 is also the basis for the exclusion of non-profit companies from subsidiary membership (as these companies receive concessional tax treatment in the sense that they generally have the corporate tax rate phased in on their taxable income). The term non-profit company is defined in subsection 3(1) of the ITRA 1986.

3.53 The income tax treatment requirements also act as an integrity measure to generally prevent certain entities from effectively gaining relative concessional treatment by being a subsidiary member of a consolidated group headed by a company that does receive relative concessional treatment. For example, the income of a non-complying superannuation fund would be concessionally taxed if it were permitted to be a subsidiary member of a consolidated group headed by a company that has some or all of its taxable income taxed at the general company tax rate. This is because the taxable income of a non-complying superannuation fund is taxed at a rate higher than the general company tax rate.

3.54 In the February 2002 exposure draft, companies subject to the mutuality principle were excluded from being a member of a consolidatable or consolidated group on the basis that these companies do not derive assessable income from their members. This exclusion no longer applies and in the context of subsidiary membership, this is appropriate given that intra-group transactions within a consolidated group are ignored for the purposes of determining the head companys income tax liability.

3.55 Companies in addition to trusts and partnerships may be eligible to be subsidiary members of a consolidatable or consolidated group. The inclusion of most trusts as subsidiary members of a consolidated group is appropriate on the basis that income generally maintains its character as it flows through the trust to the beneficiaries or objects. Likewise, most partnerships (other than corporate limited partnerships) are simply conduits through which amounts flow-through to the partners.

3.56 The inclusion of trusts and partnerships in a consolidated group is also important to ensure generally that companies that are currently members of the same wholly-owned group under section 975-500 of the ITAA 1997 can continue to access grouping benefits within the confines of a consolidated group. Certain trusts and partnerships, for example, may currently form part of the ownership structure of such wholly-owned groups.

Australian resident requirements

3.57 As discussed in paragraph 3.41, the requirement to pass a residency test reflects the general principle that consolidated group treatment is generally only available to Australian resident entities.

3.58 The Australian residence test that must be satisfied depends on the nature of the entity being tested.

The test that applies to companies

3.59 If the entity is a company (including a corporate limited partnership), it must be an Australian resident (but not a prescribed dual resident) [Schedule 1, item 2, subsection 703-15(2), column 3 of item 2 in the table] . The term Australian resident is defined in section 995-1 of the ITAA 1997.

The tests that apply to trusts

3.60 The type of test that needs to be satisfied depends on the type of trust being tested. The purpose of this approach is to avoid overlap with the other separate regimes that presently govern non-resident trusts. It also helps to ensure that the head companys income is subject to income tax only where appropriate taxing rights exist.

3.61 The relevant tests are summarised in Table 3.2.

Table 3.2: Australian residence requirements for trusts
Trust type Tests to be satisfied
A trust other than a unit trust. The trust must be a resident trust estate for the income year for the purposes of Division 6 of Part III of the ITAA 1936.
A unit trust other than a corporate unit trust or a public trading trust. The trust must be:

·
a resident trust estate for the income year for the purposes of Division 6 of Part III of the ITAA 1936; and
·
a resident trust for CGT purposes for the income year.

A corporate unit trust or a public trading trust. The trust must be a resident unit trust (as defined in whichever one of sections 102H and 102Q of the ITAA 1936 is relevant) for the income year.

[Schedule 1, item 2, section 703-25 and subsection 703-15(2), column 3 of item 2 in the table]

Partnerships

3.62 No residency test applies to partnerships (other than corporate limited partnerships) [Schedule 1, item 2, subsection 703-15(2), column 3 of item 2 in the table] because a partnership will be a resident partnership for most income tax purposes where at least one of the partners is a resident. In a consolidation context, this will mean that a partnership whose partners are subsidiary members (having satisfied the Australian residence requirements themselves) will be a resident partnership for most income tax purposes. It is therefore unnecessary to impose a further residency test on partnerships.

Ownership requirements

The entity is a wholly-owned subsidiary of the head company

3.63 The rules for working out whether an entity is a wholly-owned subsidiary of the head company are based on the definition of 100% subsidiary in section 975-505 of the ITAA 1997. Among the differences between the rules for wholly-owned subsidiaries and the section 975-505 definition of 100% subsidiary are that:

·
the rules for wholly-owned subsidiaries apply to companies, partnerships and trusts, whereas section 975-505 only applies to companies; and
·
the rules for wholly-owned subsidiaries (specifically, special rules 1 and 2 outlined in paragraphs 3.72 to 3.80) will treat an entity as a wholly-owned subsidiary in circumstances that would otherwise prevent the entity from being a wholly-owned subsidiary. An example is where minor holdings of shares in a company have been issued under employee share acquisition arrangements. There are no such provisions in section 975-505.

The general test to determine whether an entity is a wholly-owned subsidiary of the head company

3.64 To be a wholly-owned subsidiary of the head company (the holding entity), all of the membership interests in the entity (the subsidiary entity) must be beneficially owned by:

·
the holding entity;
·
one or more wholly-owned subsidiaries of the holding entity; or
·
a combination of the holding entity and one or more wholly-owned subsidiaries of the holding entity.

[Schedule 1, item 2, subsection 703-30(1)]

3.65 This rule is capable of multiple applications. This means that an entity can only be a wholly-owned subsidiary of the head company (the holding entity) if it is either a wholly-owned subsidiary of the holding entity or a wholly-owned subsidiary of a wholly-owned subsidiary of the holding entity. [Schedule 1, item 2, subsection 703-30(2)]

3.66 For the purposes of the general wholly-owned subsidiary test in paragraph 3.64, membership interest means each interest or set of interests or each right or set of rights in relation to an entity by virtue of which you are a member [Schedule 5, item 41, section 960-135] . An entity will be a member of another entity in circumstances set out in Table 3.3.

Table 3.3: Entities and their members
Entity Member
A company. A member of the company or a stockholder in the company.
A partnership. A partner in the partnership.
A trust (except a corporate unit trust or a public trading trust). A beneficiary, unit holder or object of the trust.
A corporate unit trust or a public trading trust. A unit holder of the trust.

[Schedule 5, item 41, subsection 960-130(1)]

3.67 If 2 or more entities jointly hold interests or rights that give rise to membership of another entity, each of them is a member of the other entity. [Schedule 5, item 41, subsection 960-130(2)]

3.68 An entity is not a member of another entity just because it holds interests or rights in that other entity that are debt interests [Schedule 5, item 41, subsection 960-130(3)] . Thus, debt interests do not constitute membership interests. Such interests will therefore be disregarded when determining whether an entity is a wholly-owned subsidiary. Debt interests are disregarded because these interests do not establish control and therefore should not be considered when contemplating the ownership structure of the group.

3.69 Division 974 of the ITAA 1997 explains what a debt interest is. Division 974 will have application from 1 July 2002 for the purposes of the consolidation rules (including the general wholly-owned subsidiary test in paragraph 3.64) to determine whether an interest or right that is held by an entity in relation to another entity on or after 1 July 2002 is a debt interest (and therefore, whether it is a membership interest) in the other entity. This will be the case irrespective of whether the debt and equity test amendments (as defined in item 118 of Schedule 1 to the New Business Tax System (Debt and Equity) Act 2001 ) apply to transactions in relation to the interest or right at the relevant time. [Schedule 2, item 2, section 703-30]

3.70 Non-share equity interests (e.g. a convertible note that is not a debt interest) are rarely relevant in determining ownership of companies. Given that this is the case, for consolidation purposes the equity interest classification rules, contained in Division 974, are not used to determine whether an interest or right that is held by an entity in relation to another entity is a membership interest in that other entity. Other provisions within the income tax law that relate to the ownership of companies, including the current definition of 100% subsidiary in section 975-505 of the ITAA 1997, also generally do not rely on the definition of equity interest and its related concepts. This means, for example, that an interest that is an equity interest under Division 974 may not necessarily be a membership interest for consolidation purposes.

Special rules

3.71 As mentioned in paragraph 3.63, an entity may be treated as if it were a wholly-owned subsidiary despite failing the general test in paragraph 3.64 if the conditions in the special rules are satisfied. These special rules are discussed in paragraphs 3.72 to 3.80.

Special rule 1: Treating entities as wholly-owned subsidiaries by disregarding employee shares

3.72 An entity will be taken to be a wholly-owned subsidiary of another entity, if it is not otherwise so only because certain shares acquired under an ESAS are:

·
beneficially owned in it; or
·
beneficially owned in a company that is interposed between it and another entity.

This is achieved by treating those shares as not existing. [Schedule 1, item 2, subsections 703-35(2) and (3)]

3.73 The purpose of this special rule is to ensure an entity can be part of a consolidatable group if it is only the presence of these shares that is preventing it from being part of that group. Without this rule, it is likely the benefits of being in a consolidated group will be denied to an entity whose equity is effectively wholly-owned by a head company of a consolidatable group. [Schedule 1, item 2, subsection 703-35(1)]

3.74 Shares issued under an ESAS arrangement will only be disregarded if:

·
the percentage of ordinary shares owned by entities under the scheme does not exceed 1% of the number of ordinary shares in the company [Schedule 1, item 2, subsection 703-35(4)] ; and
·
the additional criteria outlined in paragraph 3.75 are met.

3.75 The additional criteria are as follows:

·
the share must have been acquired:

-
by the entity in relation to the employment of the entity or services provided by the entity in accordance with subsections 139C(1) and (2) of the ITAA 1936; or
-
as the result of the exercise of a right that the entity acquired in the circumstances set out in those subsections;

·
all of the shares available for acquisition under the scheme must be ordinary shares or rights in respect of ordinary shares;
·
at the time the share was acquired, the entity did not hold a legal or beneficial interest in more than 5% of the shares in the company, and was not in a position to cast or control the casting of more than 5% of the maximum number of votes at a general meeting, as required by subsections 139CD(6) and (7) of the ITAA 1936;
·
the company is not covered by section 139DF of Division 13A of the ITAA 1936 because the business of the company is the acquisition, sale or holding of shares, securities or other investments, and the entity is employed by both that company and another company in the same company group; and
·
at the time at which the share was acquired, an offer to acquire shares or rights in the company or in a holding company must have been available to 75% of the permanent employees of the employing company (the employer).

[Schedule 1, item 2, subsection 703-35(5)]

3.76 If all of the conditions in paragraph 3.75 are satisfied except the last mentioned condition, the share may still be disregarded if the Commissioner has made a determination under subsection 139CD(8) of the ITAA 1936 that this condition was taken to have been satisfied because the Commissioner considered that the employer had done everything reasonably practicable to ensure the condition was satisfied. [Schedule 1, item 2, subsection 703-35(6)]

3.77 The criteria in paragraphs 3.75 and 3.76 are broadly based on the rules in Division 13A of Part III of the ITAA 1936, which provides generally for the taxation treatment of shares and rights acquired under employee share schemes. However, as implied by paragraphs 3.75 and 3.76, not all of the requirements of Division 13A must be met for a share to be disregarded. In particular, the shares or rights do not have to be issued at a discount (i.e. for a consideration less than the market value of the share or right).

Special rule 2: Treating entities held through non-fixed trusts as wholly-owned subsidiaries

3.78 An entity (the test entity) will nevertheless be treated as a wholly-owned subsidiary of another entity despite there being a trust that is not a fixed trust interposed between it and the head company of the group. This is achieved by treating the interposed trust as a fixed trust and all of its objects as beneficiaries. [Schedule 1, item 2, subsection 703-40(2)]

3.79 The purpose of this special rule is to ensure that an entity is not prevented from being a subsidiary member of a consolidatable or consolidated group just because there is a trust other than a fixed trust interposed between the test entity and the head company of the group. [Schedule 1, item 2, subsection 703-40(1)]

3.80 Due to the nature of the interposed trust, it may not be possible to beneficially own membership interests in the test entity. This means that, in the absence of special rule 2, it may not be possible for the test entity to be a wholly-owned subsidiary of the head company (and thus a subsidiary member of a consolidatable or consolidated group). This result would be an unnecessary compromise of the all in principle.

Any entities that are interposed between the head company and itself are subsidiary members (of the group), nominees or certain non-resident entities

3.81 Any entities interposed between the entity being tested (the test entity) and the head company of a consolidatable or consolidated group must be either:

·
a subsidiary member of the group; or
·
an entity that holds membership interests in the test entity or a subsidiary member of the group (that is interposed between the head company and the test entity) only as a nominee of one or more entities that are members of the group.

[Schedule 1, item 2, subsections 703-45(1) and (2)]

3.82 In the absence of this requirement, an entity could be a subsidiary member of a consolidatable or consolidated group despite there being a non-member entity (other than a nominee) interposed between it and the head company that was ineligible to be a subsidiary member of the group.

3.83 If an entity (other than a nominee) within the ownership structure of a consolidated group is not a member of the consolidated group, the integrity of the consolidation regime (including the single entity rule) may be compromised by allowing unintended benefits to be obtained from transactions between member and non-member entities, unless special rules were developed to eliminate these unintended consequences.

3.84 On the other hand, it is desirable to allow interposed entities that are nominees of either the head company or a subsidiary member of the group to remain external to the group because this leads to the intended result of reflecting the substance underlying common membership interest holding arrangements and does not compromise the objects of single entity treatment.

3.85 In certain circumstances, the interposed entity requirements in paragraph 3.81 are relaxed to allow certain resident companies, trusts and partnerships to be members of a consolidatable or consolidated group despite one or more non-member foreign resident entities being interposed between the resident entities and the head company of the group [Schedule 1, item 2, subsection 703-45(1)] . The rules in paragraph 3.81 are relaxed in order to relieve certain wholly-owned groups of the burden of restructuring.

3.86 The test to establish whether an entity (the test entity) can be a subsidiary member of a consolidatable or consolidated group despite the existence of one or more interposed non-resident entities will be determined by the nature of the entity being tested. The relevant tests (referred to as the interposed foreign resident tests) are outlined in paragraphs 3.87 and 3.88 and illustrated in Example 3.6.

Interposed Foreign Resident Tests

The test that applies where the test entity is a company

3.87 Where the test entity is a company, it will qualify as a subsidiary member of a consolidatable or consolidated group if:

·
there is at least one entity interposed between the test entity and the head company of the group that is either:

-
a foreign resident company (referred to as a non-resident company); or
-
a trust that does not meet the residency requirements set out in Table 3.2 (referred to as a non-resident trust);

·
each entity interposed between the test entity and the head company of the group is one of the following:

-
an entity that is a subsidiary member of the group;
-
a non-resident company;
-
a non-resident trust;
-
an entity that holds membership interests in an entity interposed between it and the test entity, or in the test entity, only as a nominee of one or more entities each of which is a member of the group, a non-resident trust or a non-resident company; or
-
a partnership, where each partner is a non-resident company or a non-resident trust; and

·
the test entity would be a subsidiary member of the group if it was assumed that each of the following interposed entities was a subsidiary member of the group:

-
each interposed entity that is a non-resident company; and
-
each interposed entity that is a non-resident trust.

[Schedule 1, item 2, subsection 703-45(3)]

The test that applies where the test entity is a trust or partnership

3.88 If the test entity is a trust or partnership, it will be a subsidiary member of a consolidatable or consolidated group provided that it would be a subsidiary member of the group had the head company beneficially owned all of the membership interests beneficially owned by each company that qualifies as a subsidiary member because the test in paragraph 3.87 is satisfied. [Schedule 1, item 2, subsection 703-45(4)]

3.89 The interposed foreign resident tests effectively allow the interposed non-resident entities to be disregarded for the purposes of determining who is a subsidiary member of a consolidatable or consolidated group. However, the non-resident entities will not themselves become subsidiary members of the consolidatable or consolidated group.

Examples of the operation of the membership rules

3.90 Examples 3.1 to 3.6 demonstrate the application of the membership rules in some different circumstances.

Example 3.1

Operation of the membership rules, example 3.1

Holbrook Co is an ordinary Australian resident company that beneficially owns 100% of the membership interests in Shellharbour Co, another ordinary Australian resident company, and is the only beneficiary of Seymour Trust, which is an Australian resident fixed trust (that complies with section 703-25).In turn, Shellharbour Co beneficially owns 100% of the membership interests in Sunbury Co, an ordinary Australian resident company and is an object of Sorrento Trust, an Australian resident non-fixed trust (that complies with section 703-25), along with Holbrook Co.Seymour Trust beneficially owns 100% of the membership interests in Symonston Co, an ordinary Australian resident company, and 100% of the membership interests in Stuttgart Co, which is a non-resident company.Assume in this example that neither Seymour Trust nor Sorrento Trust are trusts of a type that are specifically precluded from being a member of a consolidatable or consolidated group (see section 703-20). What entity or entities are eligible to be a head company? Only Holbrook Co is a head company in this example.Applying subsection 703-15(2), item 1 in the table, Holbrook Co:

·
meets the income tax treatment requirements because:

-
it is a company;
-
it has the general company tax rate applied to some or all of its taxable income; and
-
it is not a type of entity that is specifically precluded from being a member of a consolidatable or consolidated group (see section 703-20);

·
meets the Australian residence requirements because it is an Australian resident and not a prescribed dual resident; and
·
meets the ownership requirements because it is not a wholly-owned subsidiary of an entity that meets the income tax treatment and the Australian residence requirements.

Shellharbour Co, Sunbury Co and Symonston Co meet the income tax treatment and Australian residence tests (being ordinary Australian resident companies). However, they do not meet the ownership requirements as they are wholly-owned subsidiaries of another entity that meets the income tax treatment and Australian residence requirements - Holbrook Co.Seymour Trust and Sorrento Trust do not satisfy the income tax treatment requirements because they are not companies. Also, they are wholly-owned subsidiaries of a holding entity, Holbrook Co, and thus fail the ownership requirements.Being a non-resident company that is a wholly-owned subsidiary of a holding entity, Holbrook Co, Stuttgart Co fails the Australian residence and ownership requirements. What entity or entities are subsidiary members? Shellharbour Co, Seymour Trust, Sunbury Co, Sorrento Trust and Symonston Co are subsidiary members of a consolidatable group with Holbrook Co as the head company.Shellharbour Co is a subsidiary member of the consolidatable group headed by Holbrook Co under subsection 703-15(2), item 2 in the table because Shellharbour Co:

·
meets the income tax treatment requirements because:

-
it is a company other than a non-profit company;
-
it has some or all of its taxable income taxed at the general company rate; and
-
it is not an entity that is specifically precluded from being a member of a consolidatable or consolidated group (see section 703-20);

·
meets the Australian residence requirements because it is an Australian resident and not a prescribed dual resident; and
·
meets the ownership requirements because it is a wholly-owned subsidiary of Holbrook Co (because all of the membership interests in Shellharbour Co are beneficially owned by holding entity, Holbrook Co).

Seymour Trust is a subsidiary member of a consolidatable group headed by Holbrook Co under subsection 703-15(2), item 2 in the table. This is because Seymour Trust is an Australian resident trust (satisfying section 703-25) that is not covered by the list of entities that are specifically precluded from being a member of a consolidatable or consolidated group and it is a wholly-owned subsidiary of holding entity, Holbrook Co (all of its membership interests are beneficially owned by Holbrook Co). That is, Seymour Trust meets the income tax treatment, Australian residence and ownership tests.Sunbury Co, Sorrento Trust and Symonston Co are also subsidiary members of a consolidatable group headed by Holbrook Co under subsection 703-15(2), item 2 in the table. Sunbury Co and Symonston Co are ordinary Australian resident companies and Sorrento Trust is a resident trust (satisfying section 703-25) that is not covered by the list of entities that are specifically precluded from being a member of a consolidatable or consolidated group. These entities therefore satisfy the income tax treatment and Australian residence requirements. Sunbury Co and Symonston Co meet the ownership requirements because all of their membership interests are beneficially owned by wholly-owned subsidiaries of Holbrook Co (Shellharbour Co in the case of Sunbury Co and Seymour Trust in the case of Symonston Co). Further, each entity that is interposed between either Sunbury Co or Symonston Co and holding entity Holbrook Co is a subsidiary member of Holbrook Co. Sorrento Trust satisfies the ownership requirements as together Holbrook Co and Shellharbour Co, a wholly-owned subsidiary of Holbrook Co, beneficially own all of its membership interests. Further, Shellharbour Co, which is interposed between Sorrento Trust and Holbrook Co, is a subsidiary member of Holbrook Co. Subsection 703-30(2) ensures that the previous applications of the wholly-owned subsidiary rule for Shellharbour Co and Seymour Trust (explained earlier in this example) also apply in testing Sunbury Co, Sorrento Trust and Symonston Co.Stuttgart Co is not eligible to be a subsidiary member of a consolidatable group as it fails the Australian residence requirements - it is a non-resident company. What consolidatable groups are there? There is one consolidatable group, whose members consists of Holbrook Co as the head company and Shellharbour Co, Seymour Trust, Sunbury Co, Sorrento Co and Symonston Co as subsidiary members. If Holbrook Co makes an effective choice to consolidate the group under section 703-50, this group will become a consolidated group under paragraph 703-5(1)(a).

Example 3.2 Assume the same facts as Example 3.1, except Hotham Co, an ordinary Australian resident company, acquires 100% of the shares in Holbrook Co and becomes the beneficial owner of all of the membership interests in Holbrook Co. What consolidatable groups are there? Again there is only one consolidatable group, however now Hotham Co is the head company.Holbrook Co loses its status as a head company because it has become a wholly-owned subsidiary of another entity that meets the income tax and residency requirements (Hotham Co) - see subsection 703-15(2), column 4 of item 1 in the table. Therefore, under subsection 703-15(2), item 2 in the table, Holbrook Co becomes a subsidiary member of the consolidatable group headed by Hotham Co. If Holbrook Co had chosen to consolidate the group in Example 3.1, that consolidated group would cease to exist - see paragraph 703-5(2)(a).Under subsection 703-15(2), item 2 in the table, Shellharbour Co, Seymour Trust, Sunbury Co, Sorrento Trust and Symonston Co are all subsidiary members of a consolidatable group headed by Hotham Co.Hotham Co must make a choice to consolidate this group before it becomes a consolidated group.

Example 3.3

Operation of the membership rules, example 3.3

This example modifies Example 3.1, the differences being:

·
ABC is a nominee of Holbrook Co and holds all of the shares in Shellharbour Co on behalf of Holbrook Co; and
·
Seymour Trust is a non-fixed trust.

What consolidatable groups are there? There is only one consolidatable group consisting of Holbrook Co as head company and Shellharbour Co, Seymour Trust, Sunbury Co, Sorrento Trust and Symonston Co as subsidiary members.Holbrook Co is a head company in this example for reasons cited in Example 3.1.Applying subsection 703-15(2), item 2 in the table, Shellharbour Co meets the income tax treatment and Australian residence requirements as it is an ordinary Australian resident company. It meets the ownership requirements because it is a wholly-owned subsidiary of Holbrook Co (Holbrook Co beneficially owns all of the membership interests in Shellharbour Co despite these shares being held by ABC). In this example, the exception in section 703-45 applies to ensure that Shellharbour Co is a subsidiary member of a consolidatable group headed by Holbrook Co despite there being a non-member entity interposed between Holbrook Co and Shellharbour Co, as the non-member entity is ABC which holds membership interests in Shellharbour Co as a nominee of head company, Holbrook Co. ABC is not a subsidiary member of the consolidatable group headed by Holbrook Co as it fails the ownership requirements (its membership interests are not beneficially owned by Holbrook Co and it is therefore not a wholly-owned subsidiary of Holbrook Co).Seymour Trust, Sunbury Co and Sorrento Trust are subsidiary members of a consolidatable group headed by Holbrook for reasons discussed in Example 3.1. However, there is one difference flowing from the introduction of ABC - being the application of section 703-45. In this scenario, section 703-45 is satisfied because each entity interposed between either Sunbury Co or Sorrento Trust and Holbrook Co is either a subsidiary member of Holbrook Co (Shellharbour in this instance) or a nominee of head company, Holbrook Co (ABC).Being an ordinary resident company, Symonston Co satisfies the income tax treatment and Australian residence tests in subsection 703-15(2), item 2 in the table. Under section 703-40, it is a wholly-owned subsidiary of Holbrook Co because it would have been a wholly-owned subsidiary of Holbrook Co had Seymour Trust been a fixed trust and Holbrook Co been a beneficiary (rather than an object). It therefore satisfies the ownership requirements in subsection 703-15(2), item 2 in the table.As discussed in Example 3.1, Stuttgart Co cannot be a subsidiary member of a consolidatable group headed by Holbrook Co as it fails the Australian residence requirements (it is a non-resident company).

Example 3.4

Operation of the membership rules, example 3.4

This is a modified version of Example 3.1. The differences are:

·
Hawthorn Co is a PDF throughout the income year and replaces Holbrook Co;
·
Southampton Co is a non-resident company and replaces Shellharbour Co;
·
Smiggins Co is an ordinary Australian resident company and replaces Seymour Trust; and
·
Stapley Co replaces Stuttgart Co and is an ordinary Australian resident company whose membership interests are 99% beneficially owned by Smiggins Co and Oslo Co, a non-resident company, beneficially owns the other 1% of the membership interests.

What entity or entities are eligible to be a head company? Sunbury Co, Smiggins Co and Stapley Co are eligible to be head companies under subsection 703-15(2), item 1 in the table.Both Sunbury Co and Smiggins Co meet the income tax treatment and Australian residence requirements, being ordinary Australian resident companies. They are both wholly-owned subsidiaries of another entity (Hawthorn Co in the case of Smiggins Co, and Southampton Co and Hawthorn Co in the case of Sunbury Co). However, they both satisfy the ownership tests because they are not wholly-owned subsidiaries of entities that meet the income tax treatment and Australian residence requirements (discussed later in this example).Being an ordinary Australian resident company, Stapley Co satisfies the income tax treatment and Australian residence requirements. It meets the ownership requirements because it is not a wholly-owned subsidiary of another entity that meets the income tax treatment and Australian residence requirements.Hawthorn Co, Southampton Co, Sorrento Trust and Symonston Co are not eligible to be head companies for the following reasons:

·
Hawthorn Co fails the income tax treatment requirements because it is an entity that is specifically precluded from being a member of a consolidatable or consolidated group - see section 703-20;
·
Southampton does not meet the Australian residence requirements because it is a non-resident company;
·
Sorrento Trust does not meet the income tax treatment criterion because it is an entity other than a company; and
·
Symonston Co is a wholly-owned subsidiary of an entity that meets the income tax treatment and Australian residence requirements (all of its membership interests are beneficially owned by Smiggins Co).

What entity or entities are subsidiary members? Symonston Co qualifies as a subsidiary member of a consolidatable group headed by Smiggins Co under subsection 703-15(2), item 2 in the table. Being an ordinary Australian resident company Symonston Co satisfies the income tax treatment and Australian residence requirements. It meets the ownership requirements because it is a wholly-owned subsidiary of Smiggins Co. What consolidatable groups are there? There is only one consolidatable group consisting of Smiggins Co as the head company and Symonston Co as a subsidiary member.For there to be a consolidatable group there must exist a head company and at least one subsidiary member - see subsection 703-10(2). Although Sunbury Co and Stapley Co meet the definition of head company, they are not head companies of a consolidatable group as neither Sunbury Co nor Stapley Co have any subsidiary members. If either of these entities were to become the beneficial owner of all of the membership interests in an entity eligible to be a subsidiary member, a consolidatable group would exist at that time. What if the interests owned by Oslo were debt interests? The interests owned by Oslo would be disregarded for the purposes of working out whether Stapley Co was a wholly-owned subsidiary of another entity because these interest do not constitute membership interests as defined in section 960-135. With these interests disregarded, Stapley Co would be treated as if it were a wholly-owned subsidiary of holding entity, Smiggins Co. Stapley Co would therefore be a subsidiary member of the consolidatable group headed by Smiggins Co.

Example 3.5

Operation of the membership rules, example 3.5

In this example, all of the entities are ordinary Australian resident companies (companies that are Australian residents and not prescribed dual residents, taxed at the general company tax rate and not subject to any concessions).Company A and Company B are wholly-owned subsidiaries of holding entity, Head Co, as Head Co beneficially owns all of the membership interests in these companies.Collectively, Company A and Company B beneficially own all of the membership interests in Company C, disregarding the shares beneficially owned in Company C that were issued under employee share acquisition arrangements. Thus, Company C is a wholly-owned subsidiary of holding entity, Head Co. Company D is also a wholly-owned subsidiary of Head Co as it is a wholly-owned subsidiary of Company B, which is a wholly-owned subsidiary of Head Co. This means that Company E is a wholly-owned subsidiary of holding entity, Head Co, too (because Company C and Company D together beneficially own all the membership interests in Company E, and are themselves wholly-owned subsidiaries of Head Co).There are no entities interposed between Company C, Company D or Company E and Head Co that are ineligible to be subsidiary members of a consolidatable group headed by Head Co.Therefore, a consolidatable group of entities exist consisting of Head Co as the head company and Company A, Company B, Company C, Company D and Company E as subsidiary members.

Example 3.6

Operation of the membership rules, example 3.6

This example illustrates how the interposed foreign resident tests in paragraphs 3.87 and 3.88 are intended to operate.C is an Australian resident company that beneficially owns 100% of the membership interests in D, a non-resident company. D in turn beneficially owns all of the membership interests in E, an Australian resident company.E beneficially owns all of the membership interests in G, a non-resident company and is the only beneficiary of F, which is a resident fixed trust.G is the only beneficiary of H, a resident fixed trust and beneficially owns all of the membership interests in I, an Australian resident company.In this example it can be assumed that:

·
C is eligible to be a head company of a consolidatable or consolidated group under subsection 703-15(2), item 1 in the table;
·
E & I (Australian resident companies) and F & H (Australian resident fixed trusts ) satisfy the income tax treatment and Australian resident requirements under subsection 703-15(2), item 2 in the table that are prerequisite conditions for being a subsidiary member of a consolidatable or consolidated group. Being non-resident companies, D and G fail the later requirements and thus, these entities are unable to be subsidiary members of a consolidatable or consolidated group; and
·
D, E, F, G, H and I are wholly-owned subsidiaries of head company, C. These entities therefore satisfy the first limb of the ownership requirements under subsection 703-15(2), item 2 in the table that need to be met in order to qualify as a subsidiary member of a consolidatable or consolidated group.

The remaining requirement relevant to determining whether E, F, H and I can qualify as subsidiary members of a consolidatable or consolidated group headed by C is therefore the second limb of the ownership requirements, specifically the interposed foreign resident tests outlined in paragraphs 3.87 and 3.88.E satisfies the interposed foreign resident test in paragraph 3.87 because there is only one entity interposed between it and the head company, C, and that entity (D) is a foreign resident company. Further, E would otherwise qualify as a subsidiary member if it was assumed that D was a subsidiary member of the group. E is therefore eligible to be a subsidiary member of the consolidatable or consolidated group headed by C.F satisfies the interposed foreign resident test in paragraph 3.88 as it would be a subsidiary member of the group if it was assumed that C (the head company) beneficially owned all of the membership interests that were beneficially owned by E. F therefore qualifies as a subsidiary member of the consolidatable or consolidated group headed by C.H does not meet the interposed foreign resident test in paragraph 3.88 because it would not be a subsidiary member of the group if it was assumed that C (the head company) beneficially owned all of the membership interests that were beneficially owned by E. H is therefore not eligible to be a subsidiary member. H cannot be a subsidiary member of the group because, as intra-group transactions within a consolidated group are ignored, it would not be possible to calculate the net income of the trust for the purpose of assessing the beneficiary, G, who would not be a member of the group.I does not meet the interposed foreign resident test in paragraph 3.87 and consequently will also not qualify as a subsidiary member. I does not satisfy the interposed foreign resident test as there is a resident entity, H, interposed between it and C, the head company of the group, who is not a member of the group. Whilst the interposed foreign resident tests allow certain non-member entities to be interposed between the head company of the group and the test entity, each of those entities must be foreign resident entities.Therefore, one consolidatable group (or consolidated group - if e.g., a choice under section 703-50 has been made by C) of entities exist consisting of C as the head company and E and F as subsidiary members. If H was instead a company, both H and I would satisfy the conditions in the interposed foreign resident tests and qualify as subsidiary members of the group too.

How does a head company choose to consolidate a consolidatable group?

3.91 A choice to consolidate a consolidatable group must be in the approved form and must specify a day (after 30 June 2002) from which the group will be consolidated. The company that makes the choice must have been the head company of the consolidatable group on the day specified in the choice. However, the company that makes the choice need not be the head company of the group when it gives the Commissioner the choice (unless the choice is given to the Commissioner on the day specified in the choice). [Schedule 1, item 2, subsections 703-50(1) and (4)]

3.92 The choice may be given to the Commissioner on any day within the period beginning on the day specified in the choice and ending on the day that the groups first consolidated income tax return is lodged. However, if there is no requirement to lodge this income tax return, the choice can be given to the Commissioner on any day within the period, beginning on the day specified in the choice and ending on the last day within the period that lodgement of such an income tax return would have been required had there been a requirement to lodge this return. [Schedule 1, item 2, subsection 703-50(3)]

3.93 Once given to the Commissioner, the choice is irrevocable and remains effective until the consolidated group ceases to exist. [Schedule 1, item 2, subsections 703-50(2) and (4)]

3.94 Further, the day specified in the notice of choice, from which the group will be consolidated, cannot be amended. [Schedule 1, item 2, subsection 703-50(2)]

3.95 A choice has no effect if the Commissioner is satisfied that the notice of choice contains information that is incorrect in a material particular. The Commissioner may nevertheless give effect to an incorrect choice of this type by giving the head company written notice that the choice is effective. [Schedule 1, item 2, subsections 703-50(5) and (6)]

3.96 A choice to consolidate under the ordinary membership rules for consolidated groups, the subject of this chapter, will have no effect where it is given by a company that is a member of a MEC group on the date specified in the choice (on or after which the group would otherwise have been treated as consolidated). [Schedule 1, item 2, subsection 703-50(7)]

Events affecting a consolidated group

Membership changes generally do not affect the existence of a consolidated group

3.97 Consistent with the principle that the choice of a head company to consolidate is irrevocable, a change in the membership of a consolidated group will generally not affect the existence of that consolidated group. The consolidated group will continue to exist so long as the same head company exists as a head company, unless the head company becomes a member of a MEC group. [Schedule 1, item 2, subsection 703-5(2)]

Notice of events affecting a consolidated group

3.98 The head company must give notice to the Commissioner in the approved form within 28 days of an entity becoming a member of a consolidated group, or within 28 days of the exit of a subsidiary member from a consolidated group. [Schedule 1, item 2, subsection 703-60(1), items 1 and 2 in the table]

3.99 If a consolidated group ceases to exist, the company that was the head company of the group must notify the Commissioner within 28 days of that event in the approved form. [Schedule 1, item 2, subsection 703-60(1), item 3 in the table]

3.100 If an event outlined in paragraph 3.98 or 3.99 happens to a consolidated group that comes into existence by a choice to consolidate being given to the Commissioner (see paragraph 3.10), and the event happens more than 28 days before the choice is made, the company that makes the choice must give notice to the Commissioner in the approved form of the event at the same time as the choice is made [Schedule 1, item 2, subsection 703-60(2)] . For example, a company that gives the Commissioner a choice to consolidate a consolidatable group of entities must at the same time notify the Commissioner in the approved form of any entities that have become subsidiary members of the consolidated group more than 28 days before the choice is given to the Commissioner.

3.101 The requirements in paragraphs 3.98 or 3.99 do not apply if a consolidated group that comes into existence because a MEC group ceases to exist (see paragraph 3.13) comes into existence before a notice of choice to consolidate that MEC group is given to the Commissioner, and an event in the relevant paragraph happens to the consolidated group more than 28 days before a notice of choice to consolidate that MEC group is given. In these circumstances, the head company of the consolidated group must give the Commissioner notice in the approved form of the event at the same time as the notice of choice to consolidate the MEC group is given. [Schedule 1, item 2, subsection 703-60(3)]

3.102 Section 388-55 of the TAA 1953 allows the Commissioner to defer the time within which an approved form is required to be given to the Commissioner.

Application and transitional provisions

3.103 The consolidation regime will apply from 1 July 2002.

Consequential amendments

3.104 Consequential amendments have been made to subsection 995-1(1), Subdivision 960-G and Division 166 of the ITAA 1997 [Schedule 3, items 3 to 16; Schedule 5, items 1, 6, 7, 11, 14 to 17, 29 and 39] . Amendments have also been made to section 703-30 of the Income Tax (Transitional Provisions) Act 1997 [Schedule 2, item 2, section 703-30] .


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