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 4 - Resident wholly-owned subsidiaries of a common foreign holding company

Outline of chapter

4.1 This chapter provides for certain resident wholly-owned subsidiaries of a foreign company to form a consolidated group known as a MEC group.

Context of reform

4.2 Under the membership rules for consolidated groups contained in Chapter 3, a consolidatable group consists of a single resident head company and all the resident wholly-owned subsidiaries of the head company. Without this measure, wholly-owned resident subsidiaries of a foreign resident company would not be able to form a consolidated group in the absence of a resident head company unless they were restructured. The underlying rationale of this measure is to ensure that existing company groups that currently have access to grouping provisions (e.g. loss transfer and CGT rollover) will be able to form a consolidated group despite not having a single resident head company.

Summary of new law

Changes from February 2002 exposure draft

4.3 The rules governing the formation and membership of a MEC group differ significantly from those included in the February 2002 exposure draft. As a result of submissions received, wholly-owned Australian resident subsidiaries of a foreign resident company will now not be prevented from forming a consolidated group where the foreign resident has more than one strand of investment into Australia. Each entry level entity within each strand of investment will be free to choose to:

group with other entry level entities and form a MEC group;
form a consolidated group; or
remain unconsolidated.

4.4 This approach, whilst adding more complexity to the law, will meet the operational needs of certain foreign owned groups which operate their subsidiaries on an autonomous basis.

Formation and membership of a MEC group

4.5 A MEC group is formed by 2 or more eligible tier-1 companies making an irrevocable choice to consolidate a potential MEC group derived from those eligible tier-1 companies. Broadly, an eligible tier-1 company is a company that is the first level of investment in Australia by a foreign resident company. Each of the eligible tier-1 companies making the choice must be wholly-owned subsidiaries of the same non-resident holding company (the top company) on the day the choice takes effect. The eligible tier-1 companies must jointly nominate one of themselves to be the provisional head company of the MEC group. An eligible tier-1 company can only be a provisional head company if all its membership interests are held by entities that are not members of the MEC group.

4.6 A MEC group can also be formed as a result of an ordinary consolidated group converting to a MEC group. This will occur when the head company of the consolidated group is also an eligible tier-1 company of a top company and subsequently one or more other companies become eligible tier-1 companies of the same top company. A MEC group will form in these circumstances if the head company of the consolidated group notifies the Commissioner that a MEC group is to come into existence as a result of the other companies becoming eligible tier-1 companies of the top company.

4.7 The members of a MEC group comprise those eligible tier-1 companies of a top company that made the choice to consolidate the potential MEC group as well as all the resident entities that are wholly-owned subsidiaries of those eligible tier-1 companies. Subsidiaries that are wholly-owned by 2 or more eligible tier-1 companies are also members of a MEC group.

4.8 Where a MEC group is formed as a result of a consolidated group converting to a MEC group, the members of the MEC group comprise the head company and subsidiary members of the former consolidated group, the eligible tier-1 companies that became members of the MEC group at the time it formed as well as all the resident entities that are wholly-owned subsidiaries of those eligible tier-1 companies.

4.9 A MEC group can be expanded after initial formation to include companies that subsequently become eligible tier-1 companies of the top company. The provisional head company is required to notify the Commissioner of the event for such an expansion to be valid. Where an eligible tier-1 company becomes a member in these circumstances, resident entities that are wholly-owned subsidiaries of the company will also become members of the MEC group.

Cessation of a MEC group

4.10 Once formed, a MEC group will continue to exist until the potential MEC group ceases to exist, the group ceases to have a provisional head company or all the members of the MEC group become members of another MEC group following a change in the identity of the top company.

Head company and subsidiary members of a MEC group

4.11 The provisional head company of the MEC group at the end of an income year of that company is treated as the head company of the MEC group for that part of the income year in which the group was in existence. Accordingly, where the MEC group existed throughout the income year, the provisional head company will be treated as the head company from the beginning of the income year - even where the company was only appointed as the provisional head company part way through the income year. The remaining members of the MEC group will be the subsidiary members of the group.

4.12 Subsequent legislation will deal with interactions between the MEC group membership rules and the other aspects of the consolidation measure such as the core rules, the cost setting rules and the rules for losses.

Change in provisional head company

4.13 A MEC group continues to exist following a provisional head company of the group ceasing to satisfy the conditions for being a provisional head company provided another eligible tier-1 company in the group is appointed as a replacement provisional head company no later than 28 days from the time the former provisional head company ceased to satisfy those conditions.

Comparison of key features of new law and current law
New law Current law
A MEC group is treated as a consolidated group and taxed as a single entity. Each entity in a wholly-owned group is taxed as a separate entity. For some purposes, however, company groups can obtain benefits from being treated as a single entity.

Detailed explanation of new law

Formation and membership of a MEC group

How does a MEC group come into existence?

4.14 A MEC group can be formed in one of 2 ways - firstly as a result of a choice being made to form the group and secondly as a result of a consolidated group converting to a MEC group. [Schedule 1, item 2, subsection 719-5(1); Schedule 5, item 13, subsection 995-1(1) of the ITAA 1997]

Choosing to form a MEC group

4.15 A MEC group is formed as a result of a choice by 2 or more eligible tier-1 companies of a top company jointly notifying the Commissioner of their choice to consolidate the potential MEC group derived from those eligible tier-1 companies. The eligible tier-1 companies must specify a day in the notice as the day from which the group will begin to exist, which may be any day after 30 June 2002.

4.16 What constitutes an eligible tier-1 company and a potential MEC group derived from one or more eligible tier-1 companies is discussed in paragraphs 4.65 to 4.69 and 4.42 to 4.53 respectively. Paragraphs 4.108 to 4.119 contain a full discussion on how a choice to form a MEC group is made.

Consolidated group becoming a MEC group

4.17 A MEC group is also formed when a consolidated group converts to a MEC group. The conversion of a consolidated group to a MEC group is referred to as a special conversion event . [Schedule 1, item 2, subsection 719-40(1); Schedule 5, item 28, subsection 995-1(1) of the ITAA 1997]

4.18 A special conversion event will happen if the head company of a consolidated group is an eligible tier-1 company of a top company and one or more other companies subsequently become eligible tier-1 companies of the same top company. [Schedule 1, item 2, paragraphs 719-40(1)(a) to (c)]

4.19 However, a MEC group will only form in these circumstances if the head company of the consolidated group:

notifies the Commissioner that a MEC group is to come into existence as a result of the other companies becoming eligible tier-1 companies of the top company; and
it meets the qualifications for being a provisional head company of the MEC group.

Notification to be given to the Commissioner

4.20 The notification to the Commissioner by the head company of the consolidated group that the MEC group is to form must be in writing and in an approved form and must be given to the Commissioner within the period:

beginning at the time the other companies became eligible tier-1 companies of the top company; and
ending on the day on which the head company of the consolidated group lodges its income tax return for the income year in which the companies became eligible tier-1 companies of the top company.

[Schedule 1, item 2, paragraphs 719-40(1)(e) and 719-40(2)(a)]

4.21 However, if the head company of the consolidated group does not have to give an income tax return for that income year, the period during which the choice can be given will end at the end of the period within which the company would have been required to give an income tax return had it been required to give an income tax return for that period. [Schedule 1, item 2, paragraph 719-40(2)(b)]

4.22 If the head company does not notify the Commissioner within the specified period that the MEC group is to form, the company will continue to be the head company of the consolidated group and the MEC group will be taken not to have formed. The Commissioner may defer the time within which the notification is to be given under section 388-55 of the TAA 1953.

4.23 The notification must also specify those companies which are to become members of the MEC group as a result of becoming eligible tier-1 companies of the top company. Not all the eligible tier-1 companies of the top company will be eligible to become members of the MEC group. The head company will only be able to specify a particular company as joining the MEC group if:

it was not a member of a MEC group at the time it became an eligible tier-1 company of the top company; or
it was a member of a MEC group at that time but the head company also specifies each company who was an eligible tier-1 company of that MEC group as joining the new MEC group provided they are eligible.

[Schedule 1, item 2, paragraphs 719-40(1)(e) and (f)]

4.24 The head company of the consolidated group is prevented from specifying some, but not all, of the eligible tier-1 companies of a MEC group because specifying only some would cause the MEC group of which the eligible tier-1 companies were members to cease to exist. The cessation of the MEC group in these circumstances would be inconsistent with the irrevocability status of a choice to consolidate a potential MEC group. Requiring the head company to specify all of the eligible tier-1 companies who were members of the MEC group ensures either:

that the MEC group continues to exist with those companies as eligible tier-1 company members; or
that the MEC group ceases to exist with those eligible tier-1 companies becoming members of the new MEC group formed as a result of the special conversion event.

The head company must meet qualifications to be a provisional head company

4.25 A special conversion event will only happen if the head company of the consolidated group would meet the qualifying conditions for being a provisional head company of the MEC group were it to form. A company will meet these conditions if:

the company is an eligible tier-1 company of a top company; and
no membership interests in the company are beneficially owned by another member of the group.

4.26 As the head company of the consolidated group is an eligible tier-1 company, the first condition is automatically met. The second condition will be met if none of the membership interests in the head company are beneficially owned by another member of the potential MEC group derived from the head company and all of the companies that became eligible tier-1 companies of the top company. [Schedule 1, item 2, paragraph 719-40(1)(d)]

Example 4.1

Second qualifying condition for being a provisional head company, example 4.1

X Co is a foreign resident company with a wholly-owned Australian resident subsidiary A Co who is the head company of a consolidated group comprising itself and D Co. X Co subsequently acquires another foreign resident company Y Co who has 2 wholly-owned Australian resident subsidiaries B Co and C Co. A special conversion event will occur if A Co notifies the Commissioner in writing no later than the time it lodges its income tax return for the income year in which B Co and C Co became eligible tier-1 companies of the top company, X Co, that it wishes the MEC group to form.The notice provided to the Commissioner by A Co must specify which eligible tier-1 companies are to join the MEC group. If B Co and C Co had not previously formed a MEC group, A Co could specify both of those companies to join the group or alternatively specify either of them to join. If B Co and C Co had previously formed a MEC group, A Co must specify both of those companies to join the group, otherwise the MEC group will not form.If notification is given by A Co to the Commissioner within the specified period, the MEC group will form with effect from the time B Co and C Co became eligible tier-1 companies of the top company X Co. A Co will be the provisional head company of the MEC group as none of the membership interests in it are beneficially owned by members of the potential MEC group derived from A Co, B Co and C Co. If some of the membership interests in A Co were held by a member of the potential MEC group derived from A Co, B Co and C Co, A Co would not satisfy the qualifying conditions for being the provisional head company of a MEC group which would cause the MEC group not to form.

A MEC group becoming a consolidated group

4.27 A MEC group may also convert to a consolidated group in some circumstances - a full discussion on when a MEC group may become a consolidated group is contained in paragraphs 3.13 and 3.14.

A MEC group and a consolidated group to be mutually exclusive

4.28 A choice made by an eligible tier-1 company to form a consolidated group will not have effect if it is a member of a MEC group. Similarly, an eligible tier-1 company cannot choose to form a MEC group if it is a member of a consolidated group. Chapter 3 contains a full discussion on when a choice to form a consolidated group will have effect. Paragraphs 4.108 to 4.119 contain a full discussion on when a choice can be made to form a MEC group.

Membership of a MEC group

4.29 The members of a MEC group at any time will comprise the members of the potential MEC group derived from the eligible tier-1 companies who are members of the MEC group at that time [Schedule 1, item 2, subsections 719-5(2) to (4)] . The membership of a potential MEC group derived from one or more eligible tier-1 companies is discussed in paragraphs 4.42 to 4.53.

4.30 One of the members of the MEC group who is an eligible tier-1 company will be taken to be the head company of the group. The remaining members of the MEC group will be treated as subsidiary members of the group [Schedule 5, item 29, subsection 995-1(1) of the ITAA 1997] . Which eligible tier-1 company is taken to be the head company of the group is discussed in paragraphs 4.106 and 4.107. [Schedule 1, item 2, section 719-25]

Eligible tier-1 companies that are member of the MEC group

4.31 The eligible tier-1 companies that are members of a MEC group consist of:

the eligible tier-1 companies which are called for the purposes of this explanatory memorandum the original eligible tier-1 companies ; and
the eligible tier-1 companies which are called for the purposes of this explanatory memorandum the new eligible tier-1 companies .

Original eligible tier-1 companies

4.32 The companies that qualify as the original eligible tier-1 companies of a MEC group differ depending on whether the MEC group was formed:

as a result of a choice by 2 or more eligible tier-1 companies to consolidate the potential MEC group derived from those companies; or
as a result of a special conversion event happening.

A MEC group formed by a choice

4.33 The original eligible tier-1 companies who are members of a MEC group formed by choice are those companies who were a party to the choice and which have continued to be eligible tier-1 companies of the top company since the day that the choice to consolidate the potential MEC group had effect. [Schedule 1, item 2, subsection 719-5(2)]

A MEC group formed by a special conversion event

4.34 The original eligible tier-1 companies who are members of a MEC group formed by a special conversion event are:

the head company of the consolidated group who notifies the Commissioner that the MEC group is to form as a result of the special conversion event happening; and
each of the eligible tier-1 companies specified by the head company in that notice as joining the MEC group.

4.35 However a company will only qualify as an original eligible tier-1 company if it has continued to be an eligible tier-1 company of the top company since the time that the special conversion event happened. [Schedule 1, item 2, subsection 719-5(3)]

New eligible tier-1 companies

4.36 A company will be a member of a MEC group as a new eligible tier-1 company if:

after the MEC group is formed it becomes an eligible tier-1 company of the top company; and
the provisional head company of the MEC group notifies the Commissioner that the company is to become a member of the MEC group.

[Schedule 1, item 2, paragraphs 719-5(4)(a) to (c) and subsection 719-5(5)]

4.37 The notification to the Commissioner by the provisional head company of the MEC group must be in writing and in an approved form and must be given to the Commissioner within the period:

beginning at the time the other companies became eligible tier-1 companies of the top company; and
ending on the day on which the head company of the MEC group lodges its income tax return for the income year in which the companies became eligible tier-1 companies of the top company.

[Schedule 1, item 2, paragraphs 719-5(6)(a) to (d)]

4.38 However, if the head company of the MEC group does not have to give an income tax return for that income year, the period during which the choice can be given will end at the end of the period within which the company would have been required to give an income tax return had it been required to give an income tax return for that period. [Schedule 1, item 2, paragraphs 719-5(6)(a) to (c) and (e)]

4.39 If the notification is not received by the Commissioner within the period specified, the Commissioner has a discretion under section 388-55 of the TAA 1953 to defer the time within which the notification is to be given.

4.40 Not all companies that become eligible tier-1 companies of the top company will be eligible to become new eligible tier-1 members of the MEC group. The provisional head company of the MEC group will only be able to specify a particular company as joining the group if:

it was not a member of another MEC group at the time it became an eligible tier-1 company of the top company; or
it was a member of another MEC group at that time but the provisional head company also specifies each company who was an eligible tier-1 company of that other MEC group as joining the new MEC group provided they are eligible.

[Schedule 1, item 2, paragraphs 719-5(4)(c) and (d)]

4.41 The provisional head company of the MEC group is prevented from specifying some, but not all, of the eligible tier-1 companies of the other MEC group because specifying only some would cause the other MEC group to cease to exist. The cessation of the other MEC group in these circumstances would be inconsistent with the irrevocability status of the choice to consolidate that MEC group. Requiring the provisional head company to specify all of the eligible tier-1 companies who were members of the other MEC group ensures either:

that the other MEC group continues to exist with those companies as eligible tier-1 company members; or
that the other MEC group ceases to exist with those eligible tier-1 companies becoming new eligible tier-1 company members of the MEC group of which the provisional head company is a member.

Example 4.2

Provisional head company to specify all of the eligible tier-1 companies, example 4.2

X Co is a foreign resident company with 2 wholly-owned Australian resident subsidiaries, A Co and B Co, who are members of a MEC group. A Co is the provisional head company of the MEC group. X Co subsequently acquires another foreign resident company Y Co who has 3 wholly-owned Australian resident subsidiaries C Co, D Co and E Co.C Co and D Co may become new eligible tier-1 company members of the MEC group comprising A Co and B Co if the provisional head company of that group, A Co, notifies the Commissioner in writing that it wishes those companies to become members of the group. The notification must be given to the Commissioner no later than the day on which A Co, the head company of the group, lodges its income tax return for the income year in which C Co and D Co became eligible tier-1 companies of the top company, X Co.The notice provided to the Commissioner by A Co must specify which eligible tier-1 companies are to join the MEC group. If C Co and D Co had not previously formed a MEC group, A Co could specify both of those companies to join the group or alternatively specify either of them to join. If C Co and D Co had previously formed a MEC group, A Co must specify both of those companies to join the group.If notification is given by A Co to the Commissioner within the specified period, the companies specified will be taken to have become new eligible tier-1 company members of the MEC group with effect from the time those companies became eligible tier-1 companies of the top company X Co.

What is a potential MEC group?

4.42 Identifying who are members of a potential MEC group is important as the membership of a MEC group at a particular time will comprise all the members of the potential MEC group derived from the eligible tier-1 companies who are members of the MEC group at that time. The membership of a potential MEC group derived from one or more eligible tier-1 companies of a top company consists of:

those eligible tier-1 companies;
those entities who qualify under what is called for the purposes of this explanatory memorandum the standard membership tests ; and
those entities who qualify under what is called for the purposes of this explanatory memorandum the interposed foreign resident entity tests .

[Schedule 1, item 2, subsection 719-10(1); Schedule 5, item 22, subsection 995-1(1) of the ITAA 1997]

Standard membership tests

4.43 The following entities will qualify to be members of a potential MEC group derived from one or more eligible tier-1 companies under the standard membership tests:

all the companies who are wholly-owned subsidiaries of an eligible tier-1 company of a top company from which the potential MEC group is being derived and which:

-
are an Australian resident company, but not a prescribed dual resident;
-
are not a non-profit company as defined in subsection 3(1) of the ITRA 1986; and
-
meet the income tax treatment requirements discussed in paragraphs 3.28 to 3.40 for being a member of a consolidated group;

all the trusts who are wholly-owned subsidiaries of an eligible tier-1 company of a top company from which the potential MEC group is being derived and which:

-
meet the Australian residency requirements discussed in paragraphs 3.60 and 3.61 - a trust that meets these requirements is referred to in the remainder of this chapter as a resident trust; and
-
is not of a type which is specifically excluded from being a member of a consolidated group - paragraph 3.37 contains a list of these types of trusts; and

all the partnerships who are wholly-owned subsidiaries of an eligible tier-1 company of a top company from which the potential MEC group is being derived.

[Schedule 1, item 2, subsection 719-10(1), columns 1 and 2 and paragraph (a) in column 3 in the table]

4.44 For the purpose of determining whether an entity is a wholly-owned subsidiary of an eligible tier-1 company, it is to be assumed that all the membership interests that are beneficially owned by the eligible tier-1 companies from which the potential MEC group is being derived are owned by a single one of those eligible tier-1 companies. [Schedule 1, item 2, subsection 719-10(1), paragraph (b) in column 3 in the table]

4.45 An entity will only qualify to be a member of a potential MEC group under the standard membership tests if each entity interposed between the eligible tier-1 company and the entity being tested are also members of the potential MEC group or, alternatively, hold membership interests only as a nominee of one or more entities each of which is a member of the potential MEC group. [Schedule 1, item 2, subsections 719-10(2) and (3)]

4.46 As the members of the potential MEC group will become the members of the MEC group, allowing an entity to be interposed who is not a member of the potential MEC group could result in inappropriate capital gains and losses arising upon a subsequent disposal of membership and debt interests in the entity. The gains and losses could arise because value shifting adjustments would not be made to those interests if value was shifted between other members of the MEC group.

Interposed foreign resident entity tests

4.47 The interposed entity requirements outlined in paragraph 4.45 are relaxed in a specific set of circumstances to allow certain resident companies, trusts and partnerships to become members of the potential MEC group despite one or more foreign resident entities being interposed between the resident entities and an eligible tier-1 company of the top company from which the potential MEC group is being derived.

4.48 The interposed foreign resident entity tests are designed to allow resident entities to become members of a potential MEC group without requiring the group to restructure in order for the entities to qualify under the standard membership tests.

4.49 Different tests apply under the interposed foreign resident entity tests depending on whether the entity is a company or a trust or partnership.

Tests for companies

4.50 A company will qualify as a member of a potential MEC group under these tests if:

there is at least one entity interposed between the company and an eligible tier-1 company of a top company from which the potential MEC group is being derived that is either:

-
a foreign resident company; or
-
a trust that does not meet the residency requirements set out in paragraph 3.61 - a trust that does not meet these requirements is referred to in the remainder of this chapter as a non-resident trust;

each entity interposed between the company and an eligible tier-1 company of the top company from which the potential MEC group is being derived is either:

-
an entity that qualifies as a member of the potential MEC group under either the standard membership tests or the interposed foreign resident entity tests;
-
a foreign resident company;
-
a non-resident trust;
-
an entity that holds membership interests only as a nominee of one or more of the previously mentioned entities; or
-
a partnership, where each partner is a foreign resident company or a non-resident trust; and

the company would qualify under the standard membership tests if it was assumed that each of the following interposed entities was a member of the potential MEC group:

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

[Schedule 1, item 2, subsection 719-10(4)]

Tests for trusts or partnerships

4.51 A trust or partnership will qualify as a member of a potential MEC group under the interposed foreign resident entity tests if it would qualify under the standard membership tests if it was assumed that each company that satisfied the interposed foreign resident entity tests were one of the eligible tier-1 companies of the top company from which the potential MEC group is being derived. [Schedule 1, item 2, subsection 719-10(5)]

4.52 The interposed foreign resident entity tests effectively allow the interposed foreign resident entities to be disregarded for the purposes of determining who is a member of a potential MEC group. The foreign resident entities will not themselves become members of the potential MEC group under the interposed foreign resident entity tests. Example 4.3 illustrates further which entities qualify as members of a potential MEC group under these tests.

Example 4.3

Example 4.3 illustrates further which entities qualify as members of a potential MEC group under these tests

Assume B Co and C Co are eligible tier-1 companies of a top company, A Co. C Co holds all the membership interests in a foreign resident company, D Co. D Co has 2 wholly-owned Australian resident subsidiaries, an Australian resident company, E Co, and a resident trust, F. E Co also holds all the membership interests in another foreign resident company, G Co. G Co has 2 wholly-owned Australian resident subsidiaries, a resident trust, H, and an Australian resident company, I Co.Assume B Co and C Co, both of which are eligible tier-1 companies, have chosen to form a MEC group. The membership of the MEC group will consist of the members of the potential MEC group derived from those eligible tier-1 companies.E Co will qualify as a member of the potential MEC group derived from B Co and C Co under the interposed foreign resident entity tests because there is only one entity interposed between it and the eligible tier-1 company of the top company and that entity is a foreign resident company. Trust F will also qualify as a member under the interposed foreign resident entity tests as it would satisfy the standard membership tests if it was assumed that E Co was an eligible tier-1 company from which the potential MEC group is being derived.Trust H will not satisfy either the standard membership tests or the interposed foreign resident entity tests. Trust H cannot be a member of the group because, as intra-group transactions within a MEC group are disregarded, it would not be possible to calculate the net income of the trust for the purpose of assessing the beneficiary, G Co, who would not be a member of the group.I Co will also not satisfy either the standard membership tests or the interposed foreign resident entity tests. I Co cannot be a member of the group as there is a resident entity, Trust H, interposed between it and an eligible tier-1 company of the top company from which the potential MEC group is being derived who is not a member of the group. Whilst the interposed foreign resident entity tests allow certain entities to be interposed that are not members of the group, each of those entities must be foreign resident entities.If Trust H was instead a company, both H Co and I Co would be members of the potential MEC group under the interposed foreign resident entity tests.

A potential MEC group may consist of a single entity

4.53 A potential MEC group derived from an eligible tier-1 company may consist of that company alone. Whilst it is arguable that a potential MEC group would be in existence in these circumstances in any event, subsection 719-30(6) is included in this bill to counter arguments that a potential MEC group, being a group of entities, must consist of at least 2 entities. [Schedule 1, item 2, subsection 719-10(6)]

What is a wholly-owned subsidiary?

4.54 An entity is a wholly-owned subsidiary of another entity if all the membership interests in the subsidiary entity are beneficially owned by the holding entity or a wholly-owned subsidiary of the holding entity or any combination of the holding entity and its wholly-owned subsidiaries. Paragraphs 3.63 to 3.70 contain a full discussion on when an entity will be a wholly-owned subsidiary of another entity.

4.55 In determining whether an entity is a wholly-owned subsidiary, certain employee shares are allowed to be held in a company without affecting the wholly-owned status of the company. Special rules also apply to ensure that an entity that is held through a non-fixed trust is not prevented from being treated as a wholly-owned subsidiary. The rules relating to employee shares and non-fixed trusts are discussed in paragraphs 3.71 to 3.80. [Schedule 1, item 2, sections 719-30 and 719-35]

What is a top company?

4.56 The top company is the reference point from which all Australian resident wholly-owned subsidiaries are identified. It is these wholly-owned subsidiaries that may become members of a potential MEC group.

4.57 A top company must be a foreign resident company and, in general, must not be a wholly-owned subsidiary of another company [Schedule 5, item 36, subsection 995-1(1) of the ITAA 1997] . This ensures the widest possible group of Australian resident subsidiaries who currently access grouping benefits (such as loss transfer) together can become members of the same MEC group if they choose. [Schedule 1, item 2, paragraph 719-20(1)(a) and item 1 in the table]

4.58 A top company may be a wholly-owned subsidiary of a foreign resident trust even where that trust has a wholly-owned Australian resident subsidiary. The foreign trust is not used as the reference point for identifying the Australian resident subsidiaries eligible to become members of the one MEC group because any wholly-owned Australian resident subsidiary of the trust would not currently be able to access grouping benefits with any wholly-owned Australian resident subsidiaries of the foreign resident company.

4.59 A company will still qualify as a top company if it is a wholly-owned subsidiary of an Australian resident company:

that is a prescribed dual resident;
that is of a type which is specifically excluded from being a member of a consolidated group - paragraph 3.37 contains a list of these types of companies; or
where no part of its taxable income (if any) would be taxable at a rate that is or equals the general company tax rate.

[Schedule 1, item 2, subsection 719-20(1), column 4 of item 1 in the table]

4.60 A foreign resident company will not qualify as a top company if it is a wholly-owned subsidiary of an Australian resident company that does not satisfy any of the 3 tests listed in paragraph 4.59. This is because wholly-owned Australian resident subsidiaries of the foreign resident company will qualify as subsidiary members of a consolidated group or a consolidatable group under the rules discussed in paragraphs 3.85 to 3.89 - those rules being the equivalent tests for consolidated groups to the interposed foreign resident entity tests discussed in paragraphs 4.47 to 4.52. Example 4.4 illustrates the operation of those rules.

Example 4.4

Example 4.4 illustrates the operation of rules discussed in paragraphs 3.85 to 3.89

Assume that A Co and B Co are both Australian resident companies and wholly-owned subsidiaries of a foreign resident company F Co. In general, F Co will not qualify as a top company as it is a wholly-owned subsidiary of another company, X Co. However, F Co will qualify as a top company if X Co is, for example, a company of a type which is specifically excluded from being a member of a consolidated group.X Co cannot qualify as a top company as it is an Australian resident company. If X Co satisfies the tests for being a head company of a consolidated group, A Co and B Co may qualify as subsidiary members of a consolidated group under the rules discussed in paragraphs 3.85 to 3.89 - those rules being the equivalent tests for consolidated groups to the interposed foreign resident entity tests discussed in paragraphs 4.47 to 4.52.

What is a tier-1 company?

4.61 The membership of a MEC group consists of the members of a potential MEC group derived from the eligible tier-1 companies of the top company who are members of the MEC group. Accordingly, identifying whether a company is an eligible tier-1 company is fundamental to determining the membership of the MEC group. The first step in identifying whether a company is an eligible tier-1 company is determining whether the company meets the tests for being a tier-1 company.

4.62 A company will be a tier-1 company if:

it is a wholly-owned subsidiary of a top company;
it is an Australian resident and not a prescribed dual resident;
it has all or some of its taxable income (if any) taxed at a rate that is or equals the general company tax rate;
it is not a company of a type which is specifically excluded from being a member of a consolidated group - paragraph 3.37 contains a list of these types of companies; and
it must not be a wholly-owned subsidiary of a company that is an Australian resident other than one:

-
that is a prescribed dual resident;
-
that is of a type which is specifically excluded from being a member of a consolidated group - paragraph 3.37 contains a list of these types of companies; or
-
where no part of its taxable income (if any) would be taxable at a rate that is or equals the general company tax rate.

[Schedule 1, item 2, paragraph 719-20(1)(b) and item 2 in the table; Schedule 5, item 35, subsection 995-1(1)]

4.63 Because tier-1 companies are potentially capable of becoming the head company of a MEC group, the category of entities who qualify as tier-1 entities is restricted to companies. This is consistent with the membership rules for consolidated groups which allow only companies to be head entities of a group. Chapter 3 contains more details on why only companies can be the head entity of a group.

4.64 In applying the tests for determining whether an entity is a tier-1 company, special rules will apply to treat certain companies as wholly-owned subsidiaries of another Australian resident company in some circumstances. Example 4.5 illustrates the operation of those rules. [Schedule 1, item 2, subsection 719-20(2)]

Example 4.5

Example 4.5 illustrates the tests for determining whether an entity is a tier-1 company

Assume that A Co, B Co, C Co and D Co are all Australian resident companies. F Co is the top company. A Co, B Co and D Co could all potentially be tier-1 companies as none of them is a wholly-owned subsidiary of another Australian resident company. Despite this, special rules will apply to treat D Co as a wholly-owned subsidiary of another Australian resident company because all of the membership interests in D Co are beneficially owned by B Co and C Co both of which are wholly-owned subsidiaries of the top company F Co.

What is an eligible tier-1 company?

4.65 Only those tier-1 companies that qualify as eligible tier-1 companies can become members of a MEC group. Allowing all tier-1 companies to become members of a MEC group could result in inappropriate capital gains and losses arising upon a subsequent disposal of membership and debt interests in certain entities that are interposed between 2 tier-1 companies. The gains and losses could arise because value shifting adjustments would not be made to those interests if value was shifted between other members of the MEC group.

4.66 A tier-1 company will not qualify as an eligible tier-1 company if:

there is at least one entity interposed between it and the top company which meets one of the tests listed in paragraph 4.67; and
one of the following entities holds a membership interest in that particular interposed entity:

-
another tier-1 company of a top company;
-
a wholly-owned subsidiary of another tier-1 company of a top company; or
-
an entity that holds membership interests only as a nominee of one or more of the previously mentioned entities.

[Schedule 1, item 2, subsections 719-15(1) and (2) and paragraph 719-15(3)(c); Schedule 5, item 9, subsection 995-1(1) of the ITAA 1997]

4.67 An interposed entity will only disqualify a tier-1 company from being an eligible tier-1 company if it meets one of the following tests:

it is a company that is a foreign resident;
it is a company that is a prescribed dual resident;
it is a non-resident trust;
it is a resident trust that is not a wholly-owned subsidiary of another tier-1 company of the top company;
it is an entity of a type which is specifically excluded from being a member of a consolidated group - paragraph 3.37 contains a list of these types of companies;
it is a non-profit company as defined in subsection 3(1) of the ITRA 1986 and is a wholly-owned subsidiary of another tier-1 company of the top company; or
it is a company that is an Australian resident where no part of its taxable income (if any) would be taxable at a rate that is or equals the general company tax rate.

[Schedule 1, item 2, paragraph 719-15(3)(a)]

4.68 An interposed entity that meets one of the tests in paragraph 4.67 will not disqualify a tier-1 company from being an eligible tier-1 company if the entity only holds membership interests as a nominee of one or more entities each of which is:

another tier-1 company of the top company; or
an entity that is a wholly-owned subsidiary of another tier-1 company of a top company.

[Schedule 1, item 2, paragraph 719-15(3)(b)]

4.69 In working out whether a tier-1 company meets the tests for being an eligible tier-1 company, several of the tests require ascertaining whether a particular entity is a wholly-owned subsidiary of another tier-1 company of the top company. In applying those tests, it is to be assumed that all the membership interests that are beneficially owned by tier-1 companies of the top company were owned by a single tier-1 company of the top company. [Schedule 1, item 2, subsection 719-15(4)]

Example 4.6

Example of working out whether a tier-1 company meets the test for being an eligible tier-1 company

A foreign resident holding company, A Co, has wholly-owned subsidiaries B Co and C Co, which are also foreign resident companies. In turn, B Co and C Co have wholly-owned subsidiaries that are Australian resident companies D Co and E Co, and F Co, respectively. E Co has an Australian resident wholly-owned subsidiary G Co.A Co will qualify as the top company and D Co, E Co and F Co will qualify as tier-1 companies of the top company. However, only D Co and E Co will qualify as eligible tier-1 companies of the top company. F Co will not qualify as an eligible tier-1 company of the top company as there is a foreign resident company, C Co, interposed between it and another tier-1 company, E Co, of the top company.F Co will also not qualify as a member of the potential MEC group derived from the eligible tier-1 companies D Co and E Co under the interposed foreign resident entity tests discussed in paragraphs 4.47 to 4.52 as it is not a wholly-owned subsidiary of either of those eligible tier-1 companies. F Co would be able to choose to form a consolidated group provided it has at least one subsidiary member.

Application of sections 703-20 and 703-25

4.70 The tests in Division 719 for determining whether an entity is a top company, a tier-1 company or a member of a potential MEC group are to be applied at any particular point in time during an income year. However, the definitions of those terms refer to certain tests contained in section 703-20 (about entities who are not eligible to be members of a consolidated group) and section 703-25 (about Australian residence requirements for trusts) which are based on an income year.

4.71 For the purpose of applying the tests in Division 719 which apply at a particular point in time, the tests contained in sections 703-20 and 703-25 will be satisfied if the time occurs within the income year referred to in those sections. [Schedule 1, item 2, section 719-45]

When does a MEC group cease to exist?

4.72 A MEC group comprising the members of a potential MEC group derived from one or more eligible tier-1 companies of a top company will cease to exist when:

the potential MEC group ceases to exist;
there is a change in the identity of the top company and the eligible tier-1 companies that were members of the group immediately before the change become members of another MEC group immediately after the change; or
there ceases to be a provisional head company of the group.

[Schedule 1, item 2, subsection 719-5(7)]

4.73 The 3 events which cause a MEC group to cease to exist are discussed in detail in paragraphs 4.74 to 4.86.

A potential MEC group ceasing to exist

4.74 A potential MEC group derived from one or more eligible tier-1 companies will cease to exist when:

none of those companies are eligible tier-1 companies of the top company; or
there is a change in the identity of the top company and the eligible tier-1 companies that were members of the group immediately before the change are not the same as the eligible tier-1 companies that are members of the group immediately after the change.

[Schedule 1, item 2, subsection 719-10(7)]

No eligible tier-1 companies

4.75 A potential MEC group must be derived from at least one eligible tier-1 company for it to be in existence. Thus a potential MEC group will cease to exist when there are no longer any eligible tier-1 companies of the top company from which the potential MEC group was derived remaining. [Schedule 1, item 2, paragraph 719-10(7)(a)]

Example 4.7

Example of No eligible tier-1 companies

A Co is an eligible tier-1 company of a top company, F Co, and is a member of a MEC group. The membership of the MEC group comprises the members of the potential MEC group derived from A Co, which would consist of A Co and B Co.If F Co disposes of some, but not all, of its membership interests in A Co, A Co would cease to be an eligible tier-1 company of the top company. As A Co is no longer an eligible tier-1 company, the potential MEC group that was previously derived from A Co would cease to exist. This would cause the MEC group to also cease to exist.The MEC group may automatically convert to a consolidated group in these circumstances provided A Co satisfies the conditions for being the head company of a consolidated group.

Change in identity of the top company

4.76 A potential MEC group derived from one or more eligible tier-1 companies of a top company will also cease to exist as a result of a change in identity of the top company if the eligible tier-1 companies that are members of the group immediately before the change in identity of the top company differ from the eligible tier-1 companies that are members of the group immediately after the change. [Schedule 1, item 2, paragraph 719-10(7)(b)]

4.77 The identity of a top company would change, for instance, where the former top company becomes a wholly-owned subsidiary of another foreign resident company or where the top company disposes of the membership interests it holds, either directly or indirectly, in the eligible tier-1 companies.

4.78 A change in identity of a top company will not affect the continuity of a potential MEC group derived from one or more eligible tier-1 companies if the eligible tier-1 companies that were members of the group immediately before the change are the same as the eligible tier-1 companies that are members of the group immediately after the change. [Schedule 1, item 2, paragraphs 719-10(8)(a) to (d)]

4.79 Furthermore, the change in identity of the top company will not affect the status of any of those companies as eligible tier-1 companies of the top company. This is important because a company will only qualify as either an original eligible tier-1 company member or a new eligible tier-1 company member of a MEC group if it has been an eligible tier-1 company of the top company at all times since:

in the case of an original eligible tier-1 company member - since the group came into existence; and
in the case of a new eligible tier-1 company member - since the company became an eligible tier-1 company of the top company.

4.80 By ensuring a companys status, as an eligible tier-1 company of a top company is not affected by a change in identity of the top company, the eligible tier-1 companies would continue to qualify as either original eligible tier-1 company members or new eligible tier-1 company members of the MEC group. [Schedule 1, item 2, paragraphs 719-10(8)(a) to (c) and (e)]

Example 4.8

Change in identity of the top company

The foreign resident company A Co has 2 foreign resident wholly-owned subsidiaries B Co and C Co. B Co and C Co have Australian resident wholly-owned subsidiaries D Co and E Co, and F Co and G Co respectively. F Co has an Australian resident wholly-owned subsidiary H Co.D Co, E Co, F Co and G Co, all of which are eligible tier-1 companies, choose to form a MEC group on 1 September 2002 the members of which comprise the members of the potential MEC group derived from those eligible tier-1 companies. Scenario 1 On 30 May 2003, A Co simultaneously sells all of its membership interests in B Co and C Co to X Co and Y Co respectively. X Co and Y Co are 2 separate independent parties who are not members of the same wholly-owned group. The change in identity of the top company will cause the potential MEC group derived from D Co, E Co, F Co and G Co to cease to exist because the eligible tier-1 companies who were members of the potential MEC group immediately before the change are not the same as the eligible tier-1 companies that are members of the group immediately after the change.As the potential MEC group has ceased to exist, the MEC group comprising the members of the potential MEC group derived from D Co, E Co, F Co and G Co will also cease to exist. Scenario 2 On 30 May 2003, Y Co acquires all the membership interests in C Co. This will cause F Co, G Co and H Co to cease to be members of the potential MEC group as F Co and G Co are no longer eligible tier-1 companies of the top company A Co. As F Co and G Co have ceased to be eligible tier-1 companies of the top company, those companies along with H Co will cease to be members of the MEC group. The MEC group, comprising the members of the potential MEC group derived from D Co and E Co, will continue to exist.On 30 June 2003, X Co acquires all of the membership interests in B Co. X Co will be the new top company. The potential MEC group derived from D Co and E Co will continue to exist after the change in identity of the top company because both companies were eligible tier-1 companies of the top company, A Co, before the change in top company and continue to be eligible tier-1 companies of the new top company, X Co, after the change.The change in identity of the top company will also not affect the continuation of the MEC group as the change will not affect the status of D Co and E Co as eligible tier-1 companies of the top company. Accordingly, D Co and E Co would continue to be original eligible tier-1 company members of the MEC group. Scenario 3 On 30 May 2003, X Co acquires all of the membership interests in A Co. X Co will be the new top company. The potential MEC group derived from D Co, E Co, F Co and G Co will continue to exist after the change in identity of the top company because those companies were eligible tier-1 companies of the top company, A Co, before the change in top company and continue to be eligible tier-1 companies of the new top company, X Co, after the change.The change in identity of the top company will also not affect the continuation of the MEC group as the change will not affect the status of D Co, E Co, F Co and G Co as eligible tier-1 companies of the top company. Accordingly, D Co, E Co, F Co and G Co would continue to be original eligible tier-1 company members of the MEC group.If the eligible tier-1 companies had chosen to form 2 MEC groups (one comprising D Co and E Co and the other F Co and G Co) instead of the one group, the change in identity of the top company would produce the same outcome. The potential MEC group derived from D Co and E Co and the potential MEC group derived from F Co and G Co would both continue to exist. In addition, the change in identity of the top company would not affect the status of any of those companies as original eligible tier-1 company members of their respective MEC groups.

Eligible tier-1 companies become members of another MEC group

4.81 A MEC group comprising the members of a potential MEC group derived from one or more eligible tier-1 companies of a top company will cease to exist when:

there is a change in the identity of the top company; and
the eligible tier-1 companies that were members of the MEC group immediately before the change become members of another MEC group immediately after the change.

[Schedule 1, item 2, paragraph 719-5(7)(b)]

4.82 Eligible tier-1 companies would become members of another MEC group following a change in identity of a top company if:

they became original eligible tier-1 company members of a MEC group which formed as a result of a special conversion event happening upon the companies becoming eligible tier-1 companies of the new top company; or
they became new eligible tier-1 company members of an existing MEC group.

Example 4.9

Eligible tier-1 companies become members of another MEC group

On 1 July 2003, A Co and B Co choose to form a MEC group the members of which comprise the members of the potential MEC group derived from those companies. A Co is appointed as the provisional head company of the group. Also on 1 July 2003, C Co and D Co choose to form a separate MEC group.On 1 September 2004, X Co acquires all of the membership interests in Y Co. As a result of C Co and D Co becoming eligible tier-1 companies of the new top company X Co, A Co, the provisional head company of the MEC group, may notify the Commissioner in writing specifying that C Co and D Co are to join the MEC group comprising A Co, B Co and E Co.If notification is given to the Commissioner by A Co, C Co and D Co will become new eligible tier-1 company members of that group. As C Co and D Co have become members of another MEC group, the MEC group of which they were previously members will cease to exist.Assume now that instead of A Co and B Co forming a MEC group on 1 July 2003, B Co instead chooses to form a consolidated group consisting of itself as head company and E Co as a subsidiary member. As a result of C Co and D Co becoming eligible tier-1 companies of the new top company X Co, B Co, the head company of the consolidated group, may notify the Commissioner in writing that a MEC group is to form and specify C Co and D Co as becoming original eligible tier-1 company members of that MEC group.If notification is given to the Commissioner by B Co, the MEC group of which C Co and D Co were previously members will cease to exist as both companies have become members of another MEC group immediately after the change in identity of the top company.

No provisional head company of the group

4.83 A MEC group comprising the members of a potential MEC group derived from one or more eligible tier-1 companies of a top company will cease to exist when there ceases to be a provisional head company of the MEC group. [Schedule 1, item 2, paragraph 719-5(7)(c)]

4.84 The eligible tier-1 companies who make the choice to consolidate the potential MEC group derived from those eligible tier-1 companies must jointly appoint one of those companies to be the provisional head company of the group. If a MEC group is formed as a result of a special conversion event happening, the head company of the consolidated group which notifies the Commissioner in writing that the MEC group is to form, is taken to be the provisional head company of the group.

4.85 Where a company ceases to be the provisional head company of a MEC group, a replacement provisional head company must be appointed by the remaining eligible tier-1 companies in the group. Notification of the replacement provisional head company must be given to the Commissioner within 28 days of the cessation. The Commissioner has a discretion under section 388-55 of the TAA 1953 to defer the time for lodgement of the notification.

4.86 Failure to appoint a replacement within the specified period will result in the MEC group ceasing to exist with effect from the time that the group ceased to have a provisional head company. If a replacement company is appointed, the appointment will take effect from the time that the previous provisional head company ceased to qualify as the provisional head company. A change in provisional head company of a MEC group will therefore not affect the continuation of the group provided a replacement is appointed within the period allowed for notification.

Provisional head company of a MEC group

Who qualifies as a provisional head company?

4.87 A company must satisfy 2 conditions to qualify as the provisional head company of a MEC group.

Condition 1

4.88 A company will only qualify as a provisional head company of a MEC group if:

it is an eligible tier-1 company of the top company; and
no membership interests in the company are beneficially owned by entities that are members of the MEC group.

[Schedule 1, item 2, subsection 719-65(1)]

4.89 Membership interests in the provisional head company must be beneficially owned by entities that are not members of the MEC group to ensure the rules which set a cost for assets of group members, as discussed in Chapter 5, can apply as intended upon formation of the MEC group.

Condition 2

4.90 The second qualifying condition only applies if a company is appointed as a provisional head company of the MEC group because a cessation event has occurred in relation to the previous provisional head company of the group. To be appointed as a provisional head company of the MEC group in these circumstances, a company must have been a member of the group since the beginning of the income year of the former provisional head company in which the cessation event happened. [Schedule 1, item 2, subsections 719-65(2) and (3)]

4.91 An exception will apply where:

the MEC group was formed as a result of a choice being made by 2 or more eligible tier-1 companies of a top company to consolidate the potential MEC group derived from those eligible tier-1 companies; and
the cessation event happened in the income year of the first provisional head company of the MEC group in which the group came into existence.

4.92 Where these circumstances exist, a company will qualify to be the provisional head company of the group if it has been a member of the group since the time the group came into existence. [Schedule 1, item 2, subsections 719-65(2) and (3)]

4.93 The provisional head company must be a member of the MEC group from the beginning of the income year in which the cessation event happens because a provisional head company may eventually become the head company of the MEC group for the whole of the income year. Without this requirement, the head company would be assessed, in its capacity as head company of the group, on income it derived in its own capacity prior to joining the group during the income year.

Accounting period of a replacement provisional head company

4.94 A replacement provisional head company of a MEC group must take on the same accounting period as that adopted by the first provisional head company of the group. This will ensure continuity and prevent the accounting period of the head company of the group exceeding 12 months. [Schedule 1, item 2, section 719-70]

4.95 The eligible tier-1 companies in a MEC group may have different accounting periods pre-consolidation. If the accounting period of a replacement provisional head company was not taken to be the same as that adopted by the former provisional head company, different accounting periods would apply depending on who was appointed as the replacement provisional head company of the group. [Schedule 1, item 2, section 719-70]

4.96 The adoption of the former provisional head companys accounting period by the replacement provisional head company does not prevent the latter company from requesting leave from the Commissioner to adopt an accounting period that ends on another date.

How does a company become the provisional head company?

4.97 How a company is appointed as a provisional head company of a MEC group differs depending on whether:

the company is appointed as the first provisional head company of the group; or
as a subsequent provisional head company of the group.

First provisional head company of a MEC group

4.98 The method of appointment of the first provisional head company of a MEC group differs depending on whether the group was formed:

as a result of a choice being made by 2 or more eligible tier-1 companies to consolidate the potential MEC group derived from those eligible tier-1 companies; or
as a result of a special conversion event happening.

A MEC group formed by a choice

4.99 At the time a notice of choice to form a MEC group is given to the Commissioner, the eligible tier-1 companies who made the choice must jointly appoint one of those companies which satisfy the qualifying conditions to be the provisional head company of the group [Schedule 5, item 24, subsection 995-1(1) of the ITAA 1997] . The appointment of the provisional head company must be included in the notice of choice and will start to have effect at the time the MEC group comes into existence. [Schedule 1, item 2, subsections 719-60(1) and (4)]

A MEC group formed from a special conversion event

4.100 If a MEC group is formed as a result of a special conversion event happening in relation to a potential MEC group, the head company of the consolidated group that notifies the Commissioner in writing that the MEC group is to form will be taken to have been appointed by the eligible tier-1 company members of the MEC group as the provisional head company of the group [Schedule 5, item 24, subsection 995-1(1) of the ITAA 1997] . The appointment of the company as the provisional head company of the group starts to have effect at the time the event happens. [Schedule 1, item 2, subsection 719-60(2)]

4.101 Once a company that qualifies as a provisional head company is appointed as the provisional head company of a MEC group, the company remains the provisional head company of the group until a cessation event happens to the company. The appointment of the provisional head company cannot be revoked or resigned. A cessation event happens when either:

the company ceases to exist; or
the company ceases to satisfy the qualifying conditions for being a provisional head company.

[Schedule 1, item 2, subsections 719-60(5) and (6); Schedule 5, item 5, subsection 995-1(1) of the ITAA 1997]

Subsequent provisional head company of a MEC group

4.102 If a cessation event happens to the provisional head company of a MEC group, the Commissioner must be notified of another company that has been appointed as the provisional head company within 28 days after the event [Schedule 5, item 24, subsection 995-1(1) of the ITAA 1997] . Notification of the appointment must be given to the Commissioner in writing in an approved form and must be made jointly by all the companies that were eligible tier-1 company members of the group just after the cessation event. The Commissioner has a discretion under section 388-55 of the TAA 1953 to defer the time for lodgement of the notice. [Schedule 1, item 2, subsection 719-60(3)]

4.103 If a cessation event happens to a provisional head company more than 28 days before a choice to form a MEC group is given to the Commissioner, notification of the appointment of a replacement provisional head company must instead be given to the Commissioner on the day the notice of the choice is given. [Schedule 1, item 2, subsection 719-60(3)]

4.104 If the Commissioner is not notified of the replacement provisional head company within the specified time, the MEC group will cease to exist at the time the cessation event happens to the last provisional head company of the group.

4.105 The appointment of a replacement provisional head company comes into effect after the cessation event happens provided the company satisfies the qualifying conditions for being a provisional head company at that time. [Schedule 1, item 2, subsections 719-60(3) and (4)]

A provisional head company to be treated as the head company

4.106 If the income year of a company that is the provisional head company of a MEC group ends, the provisional head company is taken to have been the head company of the MEC group for the whole of its income year or for the period the MEC group was in existence if that is less than the income year. [Schedule 1, item 2, subsections 719-75(1) and (2); Schedule 5, item 11, subsection 995-1(1) of the ITAA 1997]

4.107 If a MEC group ceases to exist, the company that is the provisional head company immediately before the time the MEC group ceases to exist is taken to be the head company of the MEC group for that part of its income year in which the group was in existence. [Schedule 1, item 2, subsection 719-75(3); Schedule 5, item 11, subsection 995-1(1) of the ITAA 1997]

Choosing to form a MEC group

Who can make a choice to form a MEC group

4.108 A MEC group can only be formed when there are at least 2 eligible tier-1 companies of the same top company. A MEC group can be formed from any 2 or more eligible tier-1 companies of a top company and there is no restriction on more than one MEC group being formed in relation to the same top company. A MEC group cannot begin to exist if there is only one eligible tier-1 company. However, a single eligible tier-1 company may choose to form a consolidated group provided it has at least one subsidiary member.

4.109 To form a MEC group, 2 or more eligible tier-1 companies of a top company must jointly notify the Commissioner of their choice to consolidate the potential MEC group derived from those eligible tier-1 companies. The notification to the Commissioner must be in writing and in the approved form.

4.110 The notice must state the date the group is to form, which must be after 30 June 2002. Once the choice to form a MEC group takes effect, which will be from the day specified in the notice, it cannot be revoked and the specification of the commencement day cannot be altered. [Schedule 1, item 2, subsections 719-50(1) and (2) and subsection 719-55(1)]

4.111 An eligible tier-1 company may not make a choice to consolidate a potential MEC group if:

it is already a member of a consolidated group; or
it is already a member of a MEC group.

[Schedule 1, item 2, paragraph 719-50(1)(c)]

4.112 Preventing an eligible tier-1 company from making a choice to form a MEC group in these circumstances ensures the irrevocability aspect of an earlier choice to form either a MEC group or a consolidated group is not disturbed.

Time period for giving the choice to the Commissioner

4.113 The notice informing the Commissioner of the choice to form a MEC group must be given to the Commissioner at any time during the period:

beginning on the day the group commences; and
ending on the day on which the first head company of the group lodges its income tax return for the income year in which the group came into existence.

[Schedule 1, item 2, paragraphs 719-50(3)(a) to (d)]

4.114 However, if the head company of the group does not have to give an income tax return for that income year, the period during which the choice can be given will end at the end of the period within which the company would have been required to give an income tax return had it been required to give an income tax return for that period. [Schedule 1, item 2, paragraphs 719-50(3)(a) to (c) and (e)]

Eligible tier-1 company ceases to exist before a choice is made

4.115 A choice to consolidate a potential MEC group must be made by all the eligible tier-1 companies who will become original eligible tier-1 company members of the MEC group. However, as a choice to consolidate a potential MEC group is not required to be given to the Commissioner until the date of lodgement of the head companys income tax return for the income year in which the group commenced, it is possible that an eligible tier-1 company may cease to exist prior to the choice being made.

4.116 If an eligible tier-1 company that was in existence on the day the MEC group would commence has ceased to exist prior to the day on which the choice is given to the Commissioner, the company may still become an original eligible tier-1 company member of the MEC group despite not being a party to the choice.

4.117 If, having regard to all relevant circumstances, it would be reasonable to conclude that the company would have been a party to the choice had it continued to exist, the company that has ceased to exist will be taken to have authorised the company that is the first head company of the MEC group to have made the choice on its behalf. Where it is reasonable to reach this conclusion, the company will become an original eligible tier-1 company member from the time the group came into existence. [Schedule 1, item 2, paragraphs 719-50(4)(a) to (d)]

4.118 The company is also taken to have authorised the first head company of the group to have made an appointment of the first provisional head company of the group on its behalf as well as any subsequent appointment of a replacement provisional head company where the appointment has effect prior to the time when the company ceased to exist. [Schedule 1, item 2, paragraphs 719-50(4)(a) to (c) and (e)]

The choice contains incorrect information

4.119 If the notification of the choice to form a MEC group contains information that is materially incorrect, the choice will not take effect unless the Commissioner notifies the provisional head company that the choice is effective. [Schedule 1, item 2, subsections 719-55(2) and (3)]

Example 4.10

The choice contains incorrect information

A foreign resident holding company, A Co has wholly-owned subsidiaries B Co and C Co, which are also foreign resident companies. In turn, B Co and C Co have wholly-owned Australian resident subsidiaries D Co and E Co, and F Co and G Co, respectively. F Co has an Australian resident wholly-owned subsidiary H Co.D Co, E Co, F Co and G Co all qualify as eligible tier-1 companies. Various MEC groups could be formed comprising any combination of 2 or more of the eligible tier-1 companies of the top company A Co. As F Co is the head company of a consolidatable group, it will not be able to form a MEC group with other eligible tier-1 companies if it has already made a choice to form a consolidated group. Similarly an eligible tier-1 company that has already made a choice to become a member of a MEC group would not be eligible to make a choice to become a member of another MEC group.Assume D Co, E Co and F Co jointly choose to consolidate the potential MEC group derived from those eligible tier-1 companies. D Co, E Co and F Co must specify in the notice of choice the company that will be the provisional head company of the group. D Co and F Co both satisfy the qualifying conditions for being a provisional head company. E Co does not satisfy the conditions for being a provisional head company as D Co holds some of the membership interests in E Co. Providing the company appointed as the provisional head company still qualifies as a provisional head company at the end of its income year, it will be the head company of the MEC group for the whole of the income year or for the period the MEC group was in existence if that is less than a year.

Notification of events

4.120 The provisional head company of a MEC group is required to notify the Commissioner of certain changes to the membership of a MEC group. The notification must be in an approved form and, in general, must be given to the Commissioner within 28 days of the change to the membership of the group. [Schedule 1, item 2, subsection 719-80(1), column 3 in the table and paragraph 719-80(2)(c)]

4.121 The following changes to the membership of a MEC group will require notification by the provisional head company of the group:

an entity becoming a member of a MEC group; and
an entity ceasing to be a member of a MEC group.

[Schedule 1, item 2, subsection 719-80(1), items 1 and 2 in the table]

4.122 In addition, the company that is the provisional head company of a MEC group must notify the Commissioner if it ceased to be the provisional head company of the group. If the company ceased to be the provisional head company because it ceased to exist, the notification is instead to be made by the person, if any, who was the public officer of the company just before it ceased to exist. [Schedule 1, item 2, subsection 719-80(1), item 3 in the table]

4.123 The 28 day period within which notification of a change in membership must be given to the Commissioner is extended in some cases. An extension beyond 28 days applies where:

the change in membership occurs more than 28 days before the day on which notice of the choice to form the MEC group is given to the Commissioner; or
the change in membership occurs in relation to a MEC group that formed as a result of a special conversion event happening and the change occurs more than 28 days before the day on which notice of the choice to form the consolidated group, which subsequently converted to a MEC group, is given to the Commissioner.

4.124 Where the circumstances for an extension of time exist, the notification is instead to be given to the Commissioner on the same day as the choice to form the MEC group or the consolidated group is given to the Commissioner. [Schedule 1, item 2, paragraphs 719-80(2)(a) and (b)]

Application and transitional provisions

4.125 The consolidation regime will apply from 1 July 2002.

Consequential amendments

4.126 Consequential amendments have been made to subsection 995-1(1) to include references to new dictionary terms. [Schedule 5, items 5, 9, 11, 13, 22, 24, 28, 29, 35 and 36]


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