House of Representatives

Explanatory Memorandum

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

Chapter 5 - Removal of grouping provisions

Outline of chapter

5.1 This chapter explains the amendments to various taxation Acts following the introduction of the new consolidation measures that have been made in order to reflect the changes to Subdivision 126-B of the ITAA 1997 (about capital gains and losses). These concessions are to be progressively removed in accordance with the introduction of the consolidation regime, as foreshadowed in previous exposure drafts and legislation.

5.2 This chapter also explains modifications to the loss transfer provisions in Subdivisions 170-A and 170-B of the ITAA 1997. The modifications are in addition to those contained in Schedule 3 to the May Consolidation Act. As a result of the introduction of the consolidation regime, those Subdivisions now only apply to a transfer of tax losses or net capital losses if one of the companies is an Australian branch of a foreign bank.

5.3 This bill contains amendments to phase out various other grouping provisions as follows:

•

the phasing out of the thin capitalisation grouping rules are explained in Chapter 6;

•

the foreign tax credit rules for phasing out group transfers are explained in Chapter 9; and

•

the removal of the inter-corporate dividend rebate rules are explained in Chapter 10.

Context of reform

5.4 This bill contains consequential amendments to the removal of former Subdivision 126-B and Division 170 of the ITAA 1997 as contained in the May Consolidation Act. Subdivision 126-B, which deals with CGT rollover relief for asset transfers between members of the same wholly-owned company group, has been removed and replaced by a more limited form of rollover relief between members of a wholly-owned company group.

5.5 The May Consolidation Act limits loss transfers under Division 170 to loss transfers involving an Australian branch of a foreign bank.

5.6 It is necessary to modify Division 170 so it works appropriately in a consolidation environment. In particular to ensure that:

•

a loss that has been transferred to the head company of a consolidated group under Subdivision 707-A continues to be transferable to a foreign bank branch;

•

a loss, made by a branch before the company to which it could have been transferred joined a consolidated group, is transferable to the group; and

•

the amount transferred by the branch to the group approximates the amount that could have been transferred by the branch to companies in the group had they not become members of the group.

Summary of new law

New Subdivision 126-B

5.7 Consequential amendments have been made to various taxation Acts in order to reflect the changes that have been made to Subdivision 126-B of the ITAA 1997 following the introduction of the new consolidation measures.

Retention of loss transfers for foreign bank branches

Transfer: group to branch

5.8 A head company of a consolidated or MEC group can transfer a loss to an Australian branch of a foreign bank.

5.9 Rules are needed to facilitate the transfer if the loss is one that was originally made by a member of the group and transferred to the head company of the group under Subdivision 707-A when that member joined. Broadly, the transfer can occur if the branch and each loss owner (i.e. the original loss-maker and each head company to which the loss is transferred) are members of the same wholly-owned group for the period of that ownership.

Transfer: branch to group

5.10 An Australian branch of a foreign bank can transfer a loss to the head company of a consolidated or MEC group.

5.11 Rules are needed to facilitate the transfer if the loss is one that was made by the branch before a company (the first link company ) to which it could otherwise have transferred the loss joined the group. These are referred to in this explanatory memorandum as pre-joining branch losses. Broadly, the transfer can occur if the branch could have transferred its pre-joining branch loss to:

•

the first link company at the time the company joined the group (assuming it had not joined the group); and

•

every other company in the chain:

-

this is each company to which the branch loss could have been transferred under Subdivision 707-A (assuming the first link company had made the branch loss for the income year in which the branch made it).

5.12 The amount of a pre-joining branch loss that can be transferred by a branch to the head company of a consolidated or MEC group approximates the amount that could have been transferred to the company that joins the group had it not joined the group.

Detailed explanation of new law

Consequential amendments to introduction of new Subdivision 126-B

5.13 As part of the introduction of the consolidation regime, certain grouping provisions applying to wholly-owned groups have been removed and replaced in some cases with limited concessions. The May Consolidation Act contained amendments to this effect dealing with Division 170 and Subdivision 126-B of the ITAA 1997.

5.14 Subdivision 126-B now provides CGT rollover relief for asset disposals which occur between members of the same wholly-owned company group, provided that either the originating company or the recipient company is a non-resident.

5.15 To reflect this alteration, consequential amendments have been made to several provisions in various taxation Acts. The Acts affected are the:

•

Income Tax Assessment Act 1997;

•

Income Tax Assessment Act 1936;

•

Financial Corporations (Transfer of Assets and Liabilities) Act 1993; and

•

Wool Services Privatisation Act 2000 .

[Schedule 18, items 1 to 16]

5.16 The majority of the consequential amendments reflect the fact that rollover relief is now applicable only to certain wholly-owned groups. [Schedule 18, items 1, 2 and 8 to 16]

5.17 Further, rollover relief under certain R & D provisions in relation to asset transfers between wholly-owned groups and which were contingent on rollover relief being available under the former Subdivision 126-B, will no longer apply. In effect, corresponding rollover relief under the R & D provisions will only be available where rollover relief has been allowed under the previous version of Subdivision 126-B. This means that this related R & D rollover relief will cease to apply after the former Subdivision 126-B ceases operation. Given that R & D concessions apply only to Australian companies, it is not appropriate to retain rollover relief in any form for transfers of assets involving non-residents. [Schedule 18, items 3 to 7]

Retention of loss transfers for foreign bank branches

5.18 Division 170 of the ITAA 1997 will be modified to ensure it operates appropriately in respect of loss transfers between an Australian branch of a foreign bank and the head company of a consolidated group. [Schedule 12, items 1 to 28]

5.19 A reference in this explanation to a consolidated group includes a MEC group (unless otherwise specified).

Background

5.20 Broadly, Division 170, as amended by Schedule 3 to the May Consolidation Act, limits the ability of companies to transfer losses under that Division to transfers between:

•

an Australian branch (as defined by Part IIIB of the ITAA 1936) of a foreign bank; and

•

the foreign banks resident wholly-owned company subsidiaries provided they are not members of a consolidatable group - that is, a subsidiary may be a single entity or the head company of a consolidated group, but if it is a single entity it cannot be a member of a consolidatable group.

5.21 Division 170 will generally continue to operate as it does currently (i.e. without modification) in respect of such transfers. That is, a loss can be transferred if the transferor (the loss company) and the transferee (the income company) meet the conditions in Division 170. A reference in this explanation to an income company in respect of a tax loss includes a gain company in respect of a net capital loss.

5.22 The conditions in Division 170 can be broadly categorised as:

•

the relationship test:

-

the loss company and the income company must be in existence and members of the same wholly-owned group during the loss year, the deduction year (i.e. the transfer year) and any intervening income year; and

•

the utilisation test:

-

the loss company must not have been prevented from deducting or applying the loss in the deduction year (had it not transferred it); and

-

the income company must also not have been prevented from deducting or applying it for that income year (assuming it had made the loss instead of the loss company and had made it for the income year in which the loss company made it).

5.23 A reference in this explanation to a deduction year in respect of a tax loss includes an application year in respect of a net capital loss. Likewise, a reference to deducting a tax loss includes applying a net capital loss.

5.24 However, the Division 170 conditions will be modified in respect of the transfer of losses made by a company or a foreign bank branch (a branch) before the company joined a consolidated group. The particular modifications depend in part on whether the transfer is from a group to a branch or from a branch to a group. Broadly, they ensure that:

•

the relationship test works appropriately to ensure that the wholly-owned group relationship exists between group members and the branch;

•

the utilisation tests (i.e. the COT and the SBT in Division 165 of the ITAA 1997) work appropriately in testing whether losses can be transferred from a branch to a group; and

•

the amount that can be transferred from a branch to a group reflects the amount that could have been transferred had the group not consolidated.

Transfer from a group to a branch

5.25 Losses transferred from a consolidated group to a branch may be either:

•

losses generated by the group (group losses); or

•

losses transferred, or taken to have been transferred, to the head company of the group under Subdivision 707-A (Subdivision 707-A losses):

-

Subdivision 707-A was introduced by the May Consolidation Act to allow losses of entities joining a consolidated group to be transferred to the head company of the group if certain conditions are met: see Chapter 6 of the explanatory memorandum relating to the May Consolidation Act and Chapter 3 of this explanatory memorandum for further details.

5.26 Division 170 will generally operate as it does currently in relation to the transfer of group losses. However, modifications are required for the transfer of Subdivision 707-A losses. The modifications address the fact that a Subdivision 707-A loss will generally have had two or more owners during the period from the start of the loss year until the end of the transfer year. The owners are the original loss company and each head company to which the loss is transferred under Subdivision 707-A.

5.27 However, those modifications are not intended to change the fact that Division 170 only allows the transfer of losses between companies. Therefore, Subdivision 707-A losses can only be transferred to a branch if the entity that originally made the loss was a company. In the absence of this rule it may be argued that the modifications allow a loss transferred by a trust to the head company of a consolidated group under Subdivision 707-A to be transferred to a branch under Division 170. [Schedule 12, item 4, subsections 170-32(1) and (2) and item 16, subsections 170-132(1) and (2)]

Transfer group to branch: relationship test

5.28 Broadly, each loss owner, while it owned the loss, will be required to have been in existence and a member of the same wholly-owned group as the branch. That is:

•

the original loss company must be a member of the same wholly-owned group as the branch during the loss year while both are in existence and until the loss is transferred to the head company of the consolidated group; and

•

the head company and the branch must maintain the same wholly-owned group relationship from the time the loss was transferred to the group until the end of the income year in which the loss was transferred to the branch (the deduction year) or while they are both in existence during that year.

[Schedule 12, item 4, subsections 170-32(1) to (3) and item 16, subsections 170-132(1) to (3)]

5.29 A Subdivision 707-A loss may pass through more than one consolidated group before being transferred to a branch. If the loss is transferred under Subdivision 707-A from one head company (the old head company) to another head company (new head company) because the old head company becomes a subsidiary member of the new head companys group, the old head company must be in existence and a member of the same wholly-owned group as the branch from the time of the Subdivision 707-A transfer to it until the loss is transferred to the new head company. Thereafter, the new head company must retain the appropriate relationship with the branch. [Schedule 12, item 4, subsections 170-32(4) and (5) and item 16, subsections 170-132(4) and (5)]

5.30 There is no requirement that the original loss-maker, or any later owner of the loss, be a member of the consolidated group at the time the group transfers the loss to the branch. This matches the rules for utilisation of Subdivision 707-A losses. That is, for those losses, there is no requirement that the original loss-maker that transferred the loss to the group be a member of the group when the group seeks to recoup the loss.

Transfer group to branch: utilisation test

5.31 No modifications are required to the utilisation test as it applies to the head company. The head company will be taken to have made the Subdivision 707-A loss in the income year in which it was transferred to it. That date of incurrence is used as the basis for testing its ability to use the loss (rather than the income year in which it was actually made). Nonetheless the correct outcome is achieved. This is because a Subdivision 707-A loss will already have satisfied modified versions of the company loss utilisation tests in order to have been transferred from the original loss-maker to the head company.

5.32 However, a modification is required to the utilisation test as it applies to the branch. The modification ensures that the branch tests its ability to utilise the loss on the assumption that it made the loss for the original loss year. In the absence of this modification the branch would have tested on the basis of the (refreshed) income year for which the head company is taken to have made the Subdivision 707-A loss. [Schedule 12, item 1, subsection 170-15(3) and item 13, subsection 170-115(3)]

Transfer group to branch: order

5.33 A head company transferring losses to a branch must do so in this order:

•

group losses;

•

COT concessional losses:

-

these are Subdivision 707-A losses that a group uses in accordance with the transitional concession in section 707-350 of the transitional provisions in the May Consolidation Act; and

•

other Subdivision 707-A losses:

-

these are Subdivision 707-A losses that a group uses in accordance with the available fraction method.

[Schedule 12, item 11, subsections 170-55(3) to (5); item 21, subsections 170-155(2) to (4); item 24, section 170-55; item 27, section 170-155]

Transfer group to branch: pre-Part IIIB losses

5.34 The rules allowing the Division 170 transfer of a Subdivision 707-A loss (by testing the branchs relationship with each loss owner) do not change the fact that a loss cannot be transferred under Division 170 to a branch if the original loss-maker made the loss for an income year starting before 1 July 1994.

5.35 A Subdivision 707-A loss is refreshed in the hands of each new loss owner in that it is taken to have been made by the new loss owner in the income year in which it was transferred to it, rather than the date it was actually made by the original loss-maker. This refreshing will not have the effect of bringing pre-Part IIIB losses within Part IIIB. That is because the relationship test must be satisfied from the original loss year. Part of that test requires the branch to have been in existence during the loss year. A foreign bank branch is unable to satisfy the in existence aspect of the relationship test for pre-Part IIIB losses.

5.36 Pre-Part IIIB losses can only be transferred under the Financial Corporations (Transfer of Assets and Liabilities) Act 1993 . Rules will be introduced in a later bill to ensure those rules continue to operate appropriately in a consolidation environment.

Transfer from a branch to a group

5.37 Division 170 will also be modified in respect of the transfer of certain losses from a branch to the head company of a consolidated group. More specifically, the rules will allow pre-joining branch losses to be transferred to a group. A pre-joining branch loss is a loss made by the branch relating to a period before the relevant company joined the group. In this context, the relevant company is a company to which the branch could have transferred the loss had the company not joined the group.

5.38 Essentially Division 170 is modified to allow the branch to track its relationship with the original company through a consolidated group of which that company becomes a member. Also, it can track its relationship further through a chain of consolidated groups if the original head company became a subsidiary member of another consolidated group and so on. The company with which the branch had the original relationship during its loss year is called the first link company. The branch can then transfer the loss to the group if it could have transferred it to the first link company and to each successive company in the chain.

5.39 In the absence of these tracking rules a branch may not be able to transfer a pre-joining branch loss because the identity of the company to which it could originally have transferred the loss has been subsumed as a result of that company becoming a subsidiary member of a consolidated group.

5.40 Therefore, a branch that is unable to satisfy the conditions in Division 170 for a loss transfer to the head company of a consolidated group will nonetheless be taken to have satisfied them if it meets the conditions in respect of each company in the chain. [Schedule 12, item 4, subsection 170-33(1) and item 16, subsection 170-133(1)]

Transfer branch to group: identifying a chain of companies

5.41 The primary tests for establishing a chain of companies are:

•

first, identify any company that became a subsidiary member of a consolidated group after the start of the branch loss year [Schedule 12, item 4, paragraph 170-33(2)(a) and item 16, paragraph 170-133(2)(a)] ;

•

second, assume that company made the branch loss for the income year in which the branch made it [Schedule 12, item 4, paragraph 170-33(2)(c) and item 16, paragraph 170-133(2)(c)] ; and

•

third, determine whether, on the basis of that assumption, the loss would have been incurred by the head company to which the branch is seeking to transfer the loss because of one or more transfers of the loss under Subdivision 707-A [Schedule 12, item 4, paragraph 170-33(2)(c) and item 16, paragraph 170-133(2)(c)] .

5.42 If the head company would have incurred the loss on the basis of that assumption, there is a chain of companies in respect of the loss. The company referred to in the first dot point above is the first link company (subject to it also satisfying the tests discussed in paragraphs 5.46 and 5.47). The first link company may be a single entity or the ex-head company of a consolidated group.

5.43 Every other company to which the first link company could have transferred the loss on the basis of the assumption in the second dot point is part of the chain. The head company of the group to which the branch is seeking to transfer its pre-joining loss is the last company in the chain - it is the entity that Division 170 calls the income company. Any company in the chain that comes between the first link company and the income company is referred to in this explanatory memorandum as an intervening link company.

5.44 The next step is to determine whether the branch could have transferred its pre-joining loss to the first link company and to every other company in the chain. It does this using the modified relationship and utilisation tests discussed in paragraphs 5.50 to 5.52. Broadly, the branch and the first link company must satisfy the relevant tests until that company joins the group. Thereafter, the tests must be satisfied in respect of the branch and each successive company in the chain.

5.45 A branch may be able to establish more than one chain (ending at the same income company) in respect of a single loss. It is important that a branch establish each possible chain for the loss. This is because the assumption that the branch loss is made by the first link company in the chain ensures the loss is notionally included in a loss bundle. These loss bundles are used as the basis for determining the amount of the loss that can be transferred. This is discussed in more detail in paragraphs 5.62 to 5.75.

Transfer branch to group: first link company

5.46 The branch must have been able to transfer its pre-joining loss to the first link company under Subdivision 170-A or 170-B when the first link company joined a consolidated group. The following assumptions are made in determining whether the branch could have transferred the loss to the first link company at that time:

•

the deduction year is the trial year:

-

the trial year generally starts 12 months before and ends immediately after an entity joins a consolidated group. See Chapter 6 of the explanatory memorandum relating to the May Consolidation Act for a more detailed explanation of the trial year concept;

•

the trial year did not start before the loss year:

-

this ensures that using the 12 month trial year period does not have the effect of extending the test time back before the start of the loss year if the loss year and the deduction year overlap;

•

the link company did not become a subsidiary member of that group at that time but continued as a separate entity:

-

this enables the first link company to be tested on the basis that it is a single entity rather than a part of the groups head company; and

•

the link company had enough assessable income or capital gains for the trial year:

-

this effectively overrides the fact that losses may only be transferred under Division 170 to the extent that the transferee has income or gains against which the loss can be offset (but only for the purpose of testing the first link company).

[Schedule 12, item 4, paragraph 170-33(2)(b) and item 16, paragraph 170-133(2)(b)]

5.47 The test is whether the branch could have transferred its pre-joining loss to the first link company for the trial year on the basis of the other assumptions listed in the previous paragraph. Framing the test in this way ensures that it will only be met if both the relationship and the utilisation tests are satisfied. Also, the assumption that the first link company is taken to have made the loss (set out in the second dot point of paragraph 5.41) ensures that the first link company tests its ability to use the loss for the trial year by reference to the general loss rules as modified by Subdivision 707-A.

5.48 The first link company does not have to be a member of the group to which the branch transfers its pre-joining loss. That is, the branch loss is still transferable to the group even if the first link company has left the group. However, because the loss is still transferable to the group it is not also transferable to the first link company that has exited. This flows naturally from the single entity rule. That is, as a result of the single entity rule the link company will not be regarded as having been in existence as a separate entity while it was a subsidiary member of the group - rather it is treated as a part of the head company.

Transfer branch to group: intervening link companies

5.49 The branch must also satisfy the Division 170 conditions in respect of each link company between the first link company and the income company. There may be one or more intervening link companies. [Schedule 12, item 4, subsection 170-33(4) and item 16, subsection 170-133(4)]

5.50 The branch will satisfy the relationship test in respect of an intervening link company if the branch and each intervening link company were in existence and members of the same wholly-owned group for the period:

•

starting when the loss would have been transferred to the intervening link company under Subdivision 707-A; and

•

ending when the loss would have been transferred under Subdivision 707-A by that intervening link company to the next company in the chain.

[Schedule 12, item 4, subsection 170-33(3) and item 16, subsection 170-133(3)]

5.51 This modification builds on the requirement that the pre-joining branch loss must have been able to have been transferred under Subdivision 707-A from the first link company, through the intervening link companies, to the income company. The relationship test period matches the notional period of loss ownership for each intervening link company.

5.52 On that same basis, the utilisation test will have been satisfied by each intervening link company. That is, the utilisation test will have been satisfied because an entity will only be identified as an intervening link company if the branch loss could notionally have been transferred to it under Subdivision 707-A.

5.53 Again, there is no requirement that an intervening link company be a member of the group when the branch transfers its pre-joining loss to the group.

Transfer branch to group: income company (chain)

5.54 The last company in the chain is the head company of the group to which the branch seeks to transfer its pre-joining loss.

5.55 The relationship test will be met if the branch and the income company are in existence and members of the same wholly-owned group for the period consisting of the income companys notional loss ownership period, being the period:

•

starting when the loss would have been transferred to the income company under Subdivision 707-A; and

•

ending at the end of the income year in which the loss is sought to be transferred (i.e. the deduction year).

[Schedule 12, item 4, subsection 170-33(5) and item 16, subsection 170-133(5)]

5.56 The income company tests its ability to utilise the loss on the assumption that it incurred the branch loss for the income year in which it would notionally have been transferred to it under Subdivision 707-A. [Schedule 12, item 1, subsection 170-15(4); item 9, subsections 170-42(3) and (4); item 13, subsection 170-115(4); item 19, subsections 170-142(3) and (4)]

5.57 The branch tests its ability to use its pre-joining loss on the basis of its actual loss year. No modification is needed to ensure that.

Transfer branch to group: income company (no chain)

5.58 There are 2 further cases in which modifications are required even though there is no chain of companies as set out in paragraphs 5.41 to 5.45. They are:

•

the income company became the head company of a consolidated group after the start of the branch loss year [Schedule 12, item 9, paragraph 170-42(1)(a) and item 19, paragraph 170-142(1)(a)] ; and

•

the income company is the head company of a MEC group but some time after the end of the branch loss year and before the end of the deduction year a new eligible tier-1 company joined the group [Schedule 12, item 9, paragraph 170-42(1)(b) and item 19, paragraph 170-142(1)(b)]:

-

this includes the case where the MEC group formed as a result of converting from an ordinary group.

5.59 No modification is needed to the relationship test because in these cases there has effectively been no change in the identity of the group company to which the branch could have transferred the loss.

5.60 However, the utilisation test is applied to the income company on the assumption that it made the branch loss for the income year in which the branch made the loss. [Schedule 12, item 9, subsection 170-42(2) and item 19, subsection 170-142(2)]

5.61 This assumption is also relevant in determining the amount of the pre-joining branch loss that can be transferred. This is discussed in paragraphs 5.62 to 5.75.

Transfer branch to group: amount is limited

5.62 The last modification limits the amount of a pre-joining branch loss that can be transferred to the head company of a consolidated group. This modification replaces the limit in subsections 170-45(2) and (3) of the ITAA 1997, though for pre-joining branch losses only. This modification is intended to ensure that the amount transferred to the consolidated group reflects the amount that could have been transferred had the group not consolidated.

5.63 In the absence of this modification, the branch could transfer so much of its pre-joining losses as could be offset against the head companys income and gains. This would, as a result of the single entity rule, include the income and gains attributable to all group members, regardless of whether the branch could otherwise have transferred its losses to those members.

5.64 The limit builds on the assumptions discussed in paragraphs 5.41 and 5.42 that treat the branch pre-joining loss as having been made by the income company. This allows an available fraction to be calculated for the loss and to be used in limiting the amount of the loss that can be used - in the same way that the annual usage of Subdivision 707-A losses is limited by their available fraction.

5.65 In the case of a chain of companies the pre-joining branch loss is taken to have been made by the income company if it could have been transferred to the income company under Subdivision 707-A on the assumption that it was made by the first link company. Where there is no chain, the assumption is simply that the income company made the loss.

5.66 One implication of these assumptions is that the branch loss is notionally included in a loss bundle. If the first link company actually transfers its own losses to the income company (or an intervening link company) then the branch loss will be notionally included within that existing bundle. If the first link company does not transfer any actual losses, then a notional loss bundle will be created to house the branch loss. The same implications can be drawn where there is no chain. That is, the branch loss will be included in a loss bundle taken to have been transferred from the income company to itself in its capacity as head company.

5.67 There is one other circumstance in which a pre-joining branch loss is included in a loss bundle. That is where the income company is the head company of a MEC group but, sometime after the end of the branch loss year and before the end of the deduction year, a new eligible tier-1 company joined the group. Any group losses held by the head company at that time are taken to have been transferred by the head company to itself and are given an available fraction: see the discussion in Chapter 3.

5.68 The branch loss is also included in a loss bundle at that time on the assumption that group losses are also transferred at that time. This ensures that the amount of the branch loss that can be transferred is limited to an available fraction worked out in respect of the original group members and not the new eligible tier-1. If a branch loss is also a pre-joining loss in respect of the new eligible tier-1, a separate bundle and fraction will be created for the loss in respect of the tier-1.

5.69 The same branch loss may be included in more than one loss bundle if, for example, there is more than one chain of companies in respect of the loss. However, the method for calculating the limit (discussed in paragraph 5.75) ensures that the branch cannot transfer in total more than the actual amount of the loss.

5.70 An available fraction is calculated for each of the actual or notional loss bundles containing the branch loss. This is provided for by the rules contained in Subdivision 707-C of the May Consolidation Act and the special rules contained in this bill about available fractions for MEC groups.

5.71 That available fraction will be adjusted if any of the adjustment events listed in the table in subsection 707-320(2) of the May Consolidation Act occur (e.g. on each notional transfer of the loss from the first link company to the income company or if capital is injected into a member of a group during a period it is taken to be an owner of the loss). In this way the available fraction, whether it is notional or actual, will keep pace with the groups other available fractions so that together they cannot total more than one.

5.72 However, if a loss bundle containing a branch loss would otherwise be entitled to use an increased available fraction as a result of applying the value donor transitional concession in Schedule 3 to the May Consolidation Act, that increased available fraction cannot be used in determining the limit. That is, the available fraction worked out without regard to the value donor concession must be used in determining the amount of pre-joining losses a branch can transfer to the head company of a consolidated group. [Schedule 12, item 24, section 170-45 and item 27, section 170-145]

5.73 Any head company in the chain may cancel the notional transfer of a branch loss in respect of a particular loss bundle. It may choose to do this, for example, to avoid making available fraction adjustments in respect of that loss bundle (though that could only be achieved if the bundle contained no actual losses). But if the branch loss (or more correctly its notional transfer) is cancelled, then the branch is not entitled to transfer any amount to the income company in respect of its loss bundle. This cancellation facility matches that which exists for actual Subdivision 707-A transferred losses. [Schedule 12, item 23, subsection 707-315(5)]

5.74 As discussed in paragraph 5.69, a branch loss may be included in more than one loss bundle. Cancelling it in respect of one bundle does not mean it is cancelled in respect of other loss bundles or that the branch itself cannot use the loss. [Schedule 12, item 23, subsection 707-315(6)]

Transfer branch to group: amount is limited - method statement

5.75 The amount of pre-joining tax losses or net capital losses transferred by the branch cannot exceed the amount worked out like this:

•

identify each (notional and actual) loss bundle that is assumed to include the pre-joining branch losses:

-

the same pre-joining branch loss may be included in more than one loss bundle;

•

for each loss bundle, work out the maximum amount of the pre-joining branch losses that can be used by applying the rules for Subdivision 707-A losses contained in section 707-310 of the May Consolidation Act assuming that:

-

the branch losses can only be deducted after other actual Subdivision 707-A losses of the same sort in the loss bundle are deducted; and

-

if there are 2 or more pre-joining branch losses of the same sort in the loss bundle they are to be deducted in the order in which the branch incurred them; and

•

total the results for each loss of a particular sort in all relevant loss bundles:

-

this total becomes the total amount of the branch losses of that sort that can be transferred to the income company.

[Schedule 12, item 10, subsection 170-45(4) and item 20, subsection 170-145(7)]

5.76 See Example 5.1 and 5.2 for further information on how the limit is calculated.

Example 5.1

A group consolidates on 1 July 2002. There are two subsidiary company members A and B that have been members of the same wholly-owned group as an Australian branch of a foreign bank since 1 July 1996. The head company (HC) is also a member of the same wholly-owned group as the branch but only from the 1998-1999 income year.

The branch made losses for the 1996-1997 and 1997-1998 income years that it has not recouped (pre-joining losses). The total net capital losses are for those years $3,000 and tax losses $5,000.

Subsidiary As net capital loss of $60 and tax losses of $800 were transferred to HC under Subdivision 707-A on joining the group. Subsidiary B had no losses at the time it joined the group.

The loss bundle including losses transferred from A gets an available fraction of 0.2. The branchs losses for which the conditions in section 170-33 (or 170-133) are satisfied are treated as if A made them and they are therefore transferred to HC and hypothetically included in the same loss bundle as other losses transferred from A under Subdivision 707-A.

The branchs losses are also similarly hypothetically included in loss bundle B. The loss bundle gets an available fraction of 0.15.

For the 2002-2003 income year HC has a capital gain of $1,000 (no capital losses) and other assessable income of $6,000 (no deductions).

Loss bundle A income and gains against which transferred losses (including hypothetically included branch losses) may be utilised:

capital gains 0.2 * $1,000 = $200


Maximum Subdivision 170-B transfer from the branch in respect of loss bundle A is $200 - $60 (actual bundle capital loss that must be applied first) = $140

The branch may transfer $140 pre-joining net capital losses hypothetically included in the loss bundle. The notional net capital gain is

$200 - ($60 + $140) = $0


Other income against which tax losses in the loss bundle may be utilised is:

0.2 * $6,000 = $1,200


Maximum tax loss transfer from the branch in respect of loss bundle A is $1,200 - $800 (actual loss bundle tax loss that must be deducted first) = $400

The branch may transfer $400 pre-joining tax losses hypothetically included in loss bundle A.

Assessable income ($)		Deductions ($)
net capital gain	0
other assessable income	1,200	707-A tax losses	800
		pre-joining branch tax losses	400
Total	1,200	Total	1,200

Notional taxable income for loss bundle A is $1,200 - $1,200 = $0

Loss bundle B income and gains against which transferred losses (including hypothetically transferred branch losses) may be applied:

capital gains 0.15 * $1,000 = $150


Maximum Subdivision 170-B transfer of capital losses from the branch in respect of the loss bundle B is $150 - $0 (actual loss bundle capital loss that must be applied first) = $150

The branch may transfer $150 pre-joining net capital losses hypothetically included in loss bundle B.

Other income against which tax losses in the loss bundle may be utilised is

0.15 * $6,000 = $900


Maximum tax loss transfer from branch of losses hypothetically included in loss bundle A is $900 - $0 (actual loss bundle tax loss to be deducted first) = $900

The branch may transfer $900 pre-joining tax losses hypothetically included in loss bundle B.

Assessable income ($)		Deductions ($)
net capital gain	0		0
other assessable income	900	707-A tax losses	0
		pre-joining tax losses transferred from branch	900
Total	900	Total	900

Notional taxable income for loss bundle B is $900 - $900 = $0

Therefore, the following loss amounts can be utilised by the head company:

Actual loss bundle losses
Net capital losses	$60
Tax losses	$800
Transfer from branch
Net capital losses	$140 + $150 = $290
Tax losses	$400 + $900 = $1,300

Work out the HCs taxable income by first working out HC net capital gain

Gains ($)		Net capital losses ($)
Capital gain	1,000	from bundles	60
		pre-joining transferred from branch	290
Total	1,000	Total	350

HCs net capital gain is $1,000 - $350 = $650

HCs taxable income

Assessable income ($)		Deductions ($)
Net capital gain	650
Other assessable income	6,000	actual loss bundle tax losses	800
		pre-joining tax losses transferred from branch	1,300
Total	6,650	Total	2,100

Taxable income $6,650 - $2,100 = $4,550

The branch and HC enter into an agreement that the branch transfers:

•

$290 pre-joining net capital losses; and

•

$1,300 pre-joining tax losses,

to the HC for the income year.

Example 5.2

The facts are the same as in Example 5.1 but the income year is 2003-2004. The group made a net capital loss of $200 and a tax loss of $2,999 for the 2002-2003 income year. The branch also made a net capital loss of $500 and a tax loss of $900 for that income year.

Loss bundle A income and gains against which transferred losses (including hypothetically included branch losses) may be utilised:

capital gains 0.2 ($1,000 - $200 group capital loss) = $160


Maximum Subdivision 170-B transfer from the branch of hypothetically included branch losses in loss bundle A is $160 - $60 (actual loss bundle capital loss to be applied first) = $100

The branch may transfer a pre-joining net capital loss of $100 hypothetically included in that loss bundle. The notional net capital gain is $160 - (60 + $100) = $0

Other income against which tax losses in the loss bundle may be utilised is 0.2 ($6,000 - $2,999 group loss) = $600

Maximum tax loss transfer from branch of hypothetically included branch losses in loss bundle A is $600 - $600 (loss bundle tax loss) = $0

The branch may not transfer any pre-joining tax losses in relation losses hypothetically included in loss bundle A as there is no income left for that loss bundle against which the loss may be deducted.

Assessable income ($)		Deductions ($)
Net capital gain	0
Other assessable income	600	loss bundle A tax losses	600
		pre-joining tax losses transferred from branch	0
Total	600	Total	600

Notional taxable income for loss bundle A is $600 - $600 = $0

Loss bundle B income and gains against which transferred losses (including notional losses) may be applied:

capital gains 0.15 * ($1,000 - $200 group capital loss) = $120


Maximum Subdivision 170-B transfer of capital losses from the branch of hypothetically included branch losses in loss bundle B is $120 - $0 (actual loss bundle capital loss to be applied first) = $120.

The branch may transfer $120 pre-joining net capital losses hypothetically included in loss bundle B.

The notional net capital gain is $120 - $120 = $0

Other income against which tax losses in the loss bundle may be utilised is 0.15 ($6,000 - $2,999 group loss) = $450. There are no actual loss bundle losses.

The branch may transfer $450 pre-joining tax losses hypothetically included in loss bundle B.

Assessable income ($)		Deductions ($)
Net capital gain	0
Other assessable income	450	loss bundle B tax losses	0
		pre-joining tax losses transferred from branch	450
Total	450	Total	450

Notional taxable income for loss bundle B is $450 - $450 = $0

Therefore, the following loss maximum amounts can be utilised by the head company:

Groups prior year losses
Net capital losses	$200
Tax losses	$2,999
Loss bundle losses
Net capital losses	$60
Tax losses	$600
Transfer from branch in respect of the loss bundles
Net capital losses	$100 + 120 = $220
Tax losses	$450

Work out the HCs taxable income by first working out HC notional net capital gain

Gains ($)		Net capital losses ($)
Capital gain	1,000	Group (prior year)	200
		from loss bundles	60
		pre-joining transferred from branch	220
Total	1,000	Total	480

HCs notional net capital gain is $1,000 - $480 = $520

The branch also has a net capital loss of $500 that it can transfer to the group (loss made at the time the consolidated group is in existence). That loss is transferred to the group. The groups net capital gain is $520 - $500 = $20

HCs notional taxable income

Assessable income ($)		Deductions ($)
Net capital gain	20	group prior year tax loss	2,999
Other assessable income	6,000	loss bundle tax losses	600
		pre-joining losses transferred from branch	450
Total	6,020	Total	4,049

Notional taxable income $6,020 - $4,049 = $1,971

The branch has a prior year tax loss of $900 that it can transfer to the group (loss made at the time the consolidated group is in existence). That loss is transferred to the group. The groups taxable income is $1,971 - $900 = $1,071.

The branch and the HC enter into an agreement that the branch transfers:

•

$220 pre-joining net capital losses;

•

$450 pre-joining tax losses;

•

$500 post-joining net capital losses; and

•

$900 post-joining tax losses,

to the HC for the income year.

Application and transitional provisions

Retention of loss transfers for foreign bank branches

5.77 The amendments made by this bill to Division 170, and to the transitional provisions in Schedule 3 to the May Consolidation Act, apply to deduction or application years ending after 1 July 2002. [Schedule 12, items 12, 22, 25 and 28]

5.78 The 2 amendments to the transitional provisions in Schedule 3 to the May Consolidation Act are:

•

in transferring losses under Division 170 from the head company of a consolidated group to a foreign bank branch, the head company must transfer its concessional losses after its group losses but before its other Subdivision 707-A transferred losses [Schedule 12, item 24, section 170-55 and item 27, section 170-155] ; and

•

in transferring losses under Division 170 from a foreign bank branch to the head company of a consolidated group, the maximum amount that can be transferred is set by reference to an available fraction worked out without regard to the value donor transitional concession [Schedule 12, item 24, section 170-45 and item 27, section 170-145] .

Consequential amendments

5.79 Minor consequential amendments have been made to certain headings and notes in Division 170 to reflect the introduction of the consolidation regime and the fact that Division 170 now only applies to loss transfers involving an Australian branch of a foreign bank. [Schedule 12, items 2, 3, 5, 6, 7, 8, 14, 15, 17, 18 and 26]