Senate

Taxation Laws Amendment Bill (No. 3) 1997

Explanatory Memorandum

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

Chapter 14 - Gains and losses

Overview

14.1 Parts 1 to 3 of Schedule 14 of the Bill will amend the Income Tax Assessment Act 1936 (the Act) to allow companies to offset capital losses against capital gains realised in the same year of income in certain circumstances where there has been a change of majority ownership of the company in the year of income. The Bill will also make several associated amendments.

14.2 The associated amendments will:

·
ensure that subvention payments made as consideration for the transfer of a capital or revenue loss will not give rise to a capital gain or capital loss to the payee or payer company;
·
rectify anomalies in the loss and bad debt write-off provisions in recognition of the fact that capital gains can be injected into a company for such purposes as offset against deductions;
·
amend the capital loss provisions to include similar safeguards as currently contained in the revenue loss provisions to prevent manipulation of a business in order to benefit from the same business test relief; and
·
amend the capital loss transfer provisions to give the Commissioner of Taxation unlimited time to amend the assessment of a transferee company where the loss was not in fact incurred by the transferor company.

14.3 Parts 4 and 5 of Schedule 14 of the Bill will amend the Income Tax Assessment Act 1997 (the 1997 Act) and the Income Tax (Consequential Amendments) Act 1997 (the ITCA), where necessary, to reflect the above amendments.

Summary of the amendments

Purpose of the amendments

14.4 Broadly, the amendments align the rules governing the recoupment or transfer of capital losses with the analogous rules relating to revenue losses. The amendments relating to subvention payments clarify the law and are in line with the Commissioner's current practice in administering the existing law. The amendments relating to the anomalies in the loss and bad debt write off provisions ensure that those provisions interact properly with the capital gains tax ( CGT ) provisions.

Date of effect

14.5 The amendments relating to current year capital losses (including the consequential amendments) will apply from the commencement of the 1996-97 year of income [subitem 41(1)] . The amendments relating to revenue losses and subvention payments contained in Part 1 of Schedule 14 apply only to the 1996-97 year of income [subitem 17(1)] . For later laters of income, Parts 4 and 5 of Schedule 14 apply (see paragraph 14.8 below).

14.6 The amendments relating to the rectifying of anomalies in the loss and bad debt write-off provisions will apply to the 1996-97 year of income and any later year of income but have effect only to events happening after 26 March 1997 [subitem 17(2); subitem 41(2)] . The amendment inserting safeguards into the same business test provisions will apply to manipulations in the scope of a company's business activities that occur after 7.30pm EST 20 August 1996 [subitems 41(3) and (4)] .

14.7 The amendment giving the Commissioner unlimited amendment time discussed at paragraph 14.123 below will not apply to taxpayers whose assessments are incapable of being amended by the Commissioner under the existing law on 26 March 1997 [subitem 41(5)]. To illustrate, a taxpayer whose assessment in respect of an earlier year of income cannot be amended by the Commissioner because of, say, the expiry of the 4 year amendment period before 26 March 1997, would be protected from this amendment.

14.8 Parts 4 and 5 of Schedule 14 of the Bill will apply from 1 July 1997, immediately after the commencement of the 1997 Act. [Subclauses 2(6A) and (6B)]

Background to the legislation

Current year losses

14.9 The current year revenue loss provisions contained in Subdivision B of Division 2A of Part III of the Act (comprising sections 50A to 50N) apply so that where there has been a change of majority underlying ownership of a company in a particular year of income ( current year ), deductions relating to current year losses or outgoings may, in certain circumstances, be offset against revenue derived in the same year of income.

14.10 Broadly, the current year revenue loss provisions require the company's year of income to be divided into periods separated by 'disqualifying events'. A disqualifying event in relation to a company is deemed to have occurred at a time during a year of income if one of a number of events has occurred. These events include:

·
a lack of continuity of beneficial ownership in the shares of the company carrying more than 50% of the voting, dividend or capital rights before and after the relevant time ; or
·
where the company had an available loss immediately before the relevant time, the company derived income at the relevant time that would not have been derived by the company if the company did not have the available loss.

14.11 A notional taxable income or a notional loss is calculated in respect of each period. Broadly, a notional loss is allowed to be offset against a notional taxable income of a different period if the majority underlying ownership of the company remains the same or the company carries on the same business.

14.12 Even if the company does not satisfy one of these tests relating to the ownership or business of the company, a deduction in respect of a particular period is allowed to be offset against revenue derived in the same period in working out either the notional taxable income or notional loss in respect of the period. The notional loss may be carried forward and deducted in a subsequent year of income subject to the restrictions applying generally in those years.

14.13 An aspect of the existing CGT provisions that is broadly similar to the revenue loss provisions is that a capital loss incurred by a company during the current year of income can offset a capital gain of that year subject to the company satisfying the majority underlying ownership test or the same business test (although the latter test operates slightly differently in both contexts - see below under 'same business test safeguards' for more discussion on the matter).

14.14 A major difference is that unlike the revenue loss provisions, the existing CGT provisions prevent a company which has failed both the tests in a particular year of income from offsetting capital losses relating to a particular period in the year against capital gains relating to the same period. More specifically, paragraph 160Z(9)(b) deems a capital loss incurred by a company not to have been incurred during a year of income where the tests are not satisfied.

14.15 The Bill will amend the CGT provisions to deal with this major difference. As a result of the amendments, the CGT provisions will operate broadly like the revenue loss provisions. More specifically, the amendments will further allow a company to offset capital losses against capital gains incurred in a year of income in certain circumstances where there has been a change in the majority underlying ownership of the company.

Same business test safeguards

14.16 In the existing current year revenue loss provisions, by subsections 50D(5) and 50D(7), same business test relief is not available where a company manipulates the scope of its business activities prior to a contemplated change in its share holdings for the purpose of enabling the company to satisfy the same business test and thus qualify to have losses or income available for offset. These safeguards also appear in the prior year revenue loss and revenue loss transfer provisions.

14.17 However, there are no such safeguards in the same business test applying in relation to capital losses.

Subvention payments

14.18 When a capital or revenue loss is transferred, there will often be a subvention payment made from the transferee company to the transferor company as consideration for the transfer of the loss. The subvention payment is usually equal to the value of the tax benefit of the loss transferred.

14.19 Where a subvention payment is made as consideration for the transfer of the whole or part of a net capital loss from the loss company to the gain company, subsection 160ZP(11) provides that where the loss company is a shareholder in the gain company, the payment will not be income derived by the loss company. Subsection 160ZP(12) provides that a subvention payment will not be a deduction allowable to the gain company. These provisions correspond to subsections 80G(17) and 80G(18) in the revenue loss transfer provisions.

14.20 A deficiency exists in these provisions because they do not deal with the CGT consequences to the loss and gain company when a subvention payment is made. It is possible that an asset for the purposes of the CGT provisions under section 160A may include a loss or the ability to utilise that loss. Consequently, the operation of the CGT provisions may deem a capital gain to accrue to the loss company when the loss is transferred to the gain company. Similarly, when the loss is utilised by the gain company, a capital loss may be incurred.

14.21 It was not intended that a subvention payment give rise to a capital gain to the payee or capital loss to the payer. The Commissioner's current administrative practice gives effect to the policy. To clearly reflect this policy in the law, the income tax law will be amended to ensure that a subvention payment will not result in a capital gain to the loss company or a capital loss to the gain company.

Loss and bad debt write off provisions

14.22 The capital and revenue loss provisions and the bad debt write-off provisions contain terms in recoupment/deductibility tests that do not take account of the introduction of capital gains tax. An example is the definition of 'disqualifying event' applying in the context of current year revenue losses (referred to above). A disqualifying event occurs at a time when a company derives income that it would not have derived if the company did not have the available loss (ie available deductions) immediately before the time. The definition disregards the fact that capital gains can be injected into a company under similar circumstances for the purposes of utilising available deductions.

Unlimited amendment period for capital loss transfers

14.23 A concession applies to wholly owned corporate groups and allows capital losses from one resident group company to be transferred to offset capital gains derived by another resident group company. A similar concession applies to revenue losses within corporate groups.

14.24 In the revenue loss context, the Commissioner is given unlimited time to amend the assessment of a transferee company where it is subsequently found that the loss (or part of the loss) was not in fact incurred by the transferor company.

14.25 In the capital loss context, the Commissioner does not have unlimited time to amend the assessment of a transferee company where all (or part of) a transferred net capital loss was not in fact incurred by the transferor company. The general power to amend applies in this situation and, except in cases of fraud or evasion, the Commissioner generally must amend assessments within 4 years from the date upon which the company furnished to the Commissioner a return determining its taxable income and tax payable.

Explanation of the amendments

Current year capital loss provisions

14.26 The provisions discussed below dealing with the treatment of current year capital gains and losses replace the existing paragraph 160Z(9)(b) and subsection 160Z(9A) [items 28, 29 and 30] . The provisions are based on the current year revenue loss provisions rewritten as part of the Tax Law Improvement Project in the Income Tax Assessment Act 1997 . The definitions for the purposes of these provisions are provided in new sections 160JA and 160JB [item 25] . Section 160ZC of the Act, which deals with the calculation of net capital gains and net capital losses, will have effect subject to new Divisions 3A , 3B and 3C of Part IIIA of the Act [item 31] .

14.27 Items 236 and 237 of the ITCA repealed subsection 160Z(9A) and inserted a new paragraph 160Z(9)(b) into the 1936 Act. As discussed, however, the Bill repealed both of these provisions and replaced them with new Divisions 3A, 3B and 3C of Part IIIA of the 1936 Act. Consequently, items 236 and 237 of the ITCA will be repealed to ensure the provisions of the Bill applies as intended. These items will be taken never to have had any effect. [Items 61 and 64]

14.28 New Division 3A contains the rules for determining the net capital gain or loss of a company for a year of income where the majority underlying ownership of the company has changed and the company does not satisfy the same business test [item 32 - new section 160ZNA] . The tests for determining whether a company has maintained the same majority owners (the ownership tests) are contained in the new Division 3B and the same business test is contained in new Division 3C. These tests are discussed at paragraphs 14.87 to 14.101 below. When is a company required to work out its net capital gain or loss under Division 3A?

Change of ownership

14.29 A company must calculate its net capital gain or loss under Division 3A unless there are persons who had more than a 50% stake in the company during the whole of the year of income. Where the same persons had more than a 50% stake for only part of the year of income and that part of the year commenced at the start of the year of income, the company is not required to calculate its net capital gain or loss under this Division if the company satisfies the same business test for the rest of the year of income ( same business test period ) [item 32 - new subsection 160ZNB(1)] . The same business test is to be applied in relation to the business carried on immediately before the time ( test time ) when the ownership changed [item 32 - new subsection 160ZNB(2)] .

14.30 If there are persons who had more than 50% of the voting power in the company during part or all of the year of income ( ownership test period ) and there are persons who had rights to more than 50% of the company's dividends and there are persons who had rights to more than 50% of the companys capital distributions during the whole of the ownership test period, then those persons are taken to have had more than a 50% stake in the company during the period [item 32 - new subsection 160ZNC(1)] . The tests for determining whether the conditions in subsection 160ZNC(1) are satisfied are contained in new Division 3B (discussed below under 'ownership tests') [item 32 - new subsections 160ZNC(2) and 160ZNC(3)] . (Alternative rules applying to listed public companies and their subsidiaries are discussed at paragraphs 14.41 to 14.68 below.)

Change of control

14.31 A company must also calculate its net capital gain or loss under this Division if:

·
during the year of income, a person begins to control or becomes able to control the voting power in the company for the purpose of gaining a benefit or advantage for the person or someone else in relation to how the Act applies; and
·
the company does not satisfy the same business test for the rest of the year of income after the person has gained the control [item 32 - new section 160ZND] .

14.32 The person can gain control directly or indirectly through one or more interposed entities.

Determination of net capital gain or net capital loss

14.33 When a company is required to work out its net capital gain or loss under Division 3A, the year of income is divided into periods. The first period commencs at the start of the year of income, each later period starts immediately after the end of the previous period and the last period ends at the end of the year of income. Each period except the last ends at the earlier of:

·
the latest time that would result in persons having more than a 50% stake in the company during the whole of the period (outlined at paragraphs 14.29 and 14.30 above); or
·
the earliest time when a person begins to control the voting power in the company in a manner outlined in subsection 160ZND(1) (outlined at paragraph 14.31 above) [item 32 - new section 160ZNE] .

14.34 However, if the company satisfies the same business test for all of the periods when they are considered as a single period, then the separate periods are considered to be a single period [item 32 - new subsection 160ZNE(4)] . The same business test is applied to the business the company carried on immediately before the end of the first of the periods.

14.35 The company is required to work out the notional net capital gain or notional net capital loss for each period as if each period were a year of income [item 32 - new subsection 160ZNE(5)] . A company has a notional net capital gain for a period if the sum of:

·
the total capital gains that accrued to the company in the period; and
·
any amounts required to be included in the company's assessable income under section 97 or section 98A that are capital gains (to the extent that they are reasonably related to the period);
exceeds the sum of the capital losses that were incurred by the company in the period. [Item 32 - new subsections 160ZNF(1) and 160ZNF(4)]

14.36 A notional net capital loss is incurred for a period if the total capital losses that accrued to the company in the period exceeds the sum of:

·
the total capital gains that accrued to the company in the period; and
·
any amounts required to be included in the company's assessable income under section 97 or section 98A that are capital gains (to the extent that they are reasonably related to the period). [Item 32 - new subsections 160ZNF(2) and 160ZNF(4)]

14.37 If the company does not have a notional net capital loss for any of the periods in the year of income, Division 3A has no further application and the companys net capital gain is calculated under section 160ZC. [Item 32 - new section 160ZNF(3)]

14.38 A capital gain is taken to accrue, or a capital loss it taken to be incurred, in respect of the disposal of a particular asset at the time of disposal . [Items 26 and 27 - amended paragraphs 160Z(1)(a) and (b)]

14.39 The company's net capital gain for the year of income is the sum of:

·
the company's total notional net capital gains for any periods in the year; and
·
any amounts required to be included in the company's assessable income under section 97 or section 98A that form part of a net capital gain that are not reasonably related to a particular period;
reduced by the amount of any net capital losses in respect of earlier years of income that may be applied under section 160ZC. [Item 32 - new subsection 160ZNG(1)].

14.40 The sum of the companys notional net capital losses in the year of income is taken to be a net capital loss that was incurred by the company in respect of the year of income. [Item 32 - new subsection 160ZNG(2)]

Tracing the ownership of shares in a listed public company

14.41 Divisions 3A and 3B of the Bill are modified by the special rules for listed public companies , and their 100% subsidiaries , contained in proposed Divisions 3CA, 3CB, 3CC and 3CD of Part IIIA of the 1936 Act. The rules will provide an alternative for establishing the continuity of majority underlying ownership of shares in a listed public company. The rules are designed to assist listed public companies trace who owns their shares.

14.42 These special rules are based on the analogous provisions contained in the 1997 Act. The equivalent provisions in the 1997 Act are:

1936 Act 1997 Act
Division 3CA Subdivision 166-B
Division 3CB Subdivision 166-D
Division 3CC Subdivision 166-F
Division 3CD Subdivision 166-G

14.43 A detailed discussion of the special tracing rules can be found in chapter 8 of the Explanatory Memorandum to the 1997 Act.

14.44 The new rules will differ from the standard test for continuity of majority underlying ownership in new Division 3B in two major aspects:

·
testing for ownership will be periodic rather than at all times during the income year;
·
when a company is required to establish who are its ultimate beneficial owners the following rules will apply:

(a)
all registered shareholdings of the company that are less than one per cent will be taken to be owned by a notional shareholder; and
(b)
direct or indirect holdings of a complying superannuation fund, complying approved deposit fund or certain types of company will be deemed to be beneficially held by that fund or company.

14.45 This means the notional shareholder, fund or company will beneficially own the relevant shares for the purposes of establishing if the company has maintained majority underlying ownership.

14.46 To determine whether the current year capital loss provisions in Divisions 3A and 3CA will apply, (that is, whether the majority underlying ownership and same business tests have been failed), regard will now be had to Divisions 3B, 3C, 3CB, 3CC and 3CD.

14.47 The definitions for the purposes of the proposed new special tracing rules are contained in new section 160JA . Division 3E of the Bill, which outlines when a person has a 'shareholding interest' in a company, has been omitte. 'Shareholding interest' is defined in section 175-65 of the 1997 Act. The term 'constituent document' has also been omitted from sections 160ZNN and 160ZNO and replaced with 'constitution' , which is defined in section 995-1 of the 1997 Act.

Proposed Division 3CA - Calculating a net capital gain or net capital loss

14.48 Proposed Division 3CA modifies the way in which Division 3A applies to a listed public company and its 100% subsidiaries. Division 3A details how to calculate a net capital gain or net capital loss of a company for a year of income in which there has been a change in majority underlying ownership and the same business test is not satisfied.

14.49 The tests for finding out whether a listed public company has maintained majority underlying ownership are now contained in proposed Divisions 3CB, 3CC and 3CD. [New section 160ZNSA]

14.50 A company can choose that Division 3CA will not apply to modify the operation of Division 3A. The company must choose on or before the day it lodges its return for the year of income, or before a later day if the Commissioner allows. [New section 160ZNSE]

14.51 New subsection 160ZNSB(1) provides that Division 3CA will only apply to a company where the company is a listed public company at all times during the year of income (the test period ). Division 3CA will also apply to a company which is not a listed public company if the company is a 100% subsidiary of a listed public company at all times during the subsidiary's year of income [new section 160ZNSD] . In this case, Division 3CA will apply as if the subsidiary company were a listed public company.

14.52 A listed public company and its wholly owned subsidiaries will satisfy the majority underlying ownership test for the purposes of Division 3A if there is no abnormal trading in the company's shares during the test period [new subsection 160ZNSB(2)] . If there is abnormal trading but the company has maintained substantial continuity of ownership as between the start of the test period and the time of the abnormal trading, the company will also be taken to have satisfied the majority underlying ownership test [new subsection 160ZNSB(3)] .

14.53 If there is abnormal trading and no substantial continuity of ownership, the company will be taken to have failed the majority underlying ownership test [new subsection 160ZNSB(4)] . In this case, if the company satisfies the same business test for the rest of the year of income (the same business test period ) after the first abnormal trading, the company will not be subject to Division 3A [new subsection 160ZNSB(5)] .

14.54 If the company is required to calculate its net capital gain or net capital loss under Division 3A, the income year is divided into periods according to when there is a failure to maintain majority underlying ownership. [New section 160ZNSC]

Proposed Division 3CB - Tests for determining ownership

14.55 Proposed Division 3CB contains the tests for determining whether a listed public company has maintained the same owners as between two points in time. Proposed Divisions 3CC and 3CD contain rules to assist the company to satisfy these ownership tests. [Newsection160ZNSF]

14.56 If there is substantial continuity of ownership as between the start of the test period and another time (test time) during the test period, then a company will be taken to have maintained majority underlying ownership.

14.57 Substantial continuity of ownership will occur when:

·
the same persons (not companies) have more than 50 per cent of the voting power in the company both at the start of the test period and immediately after the other test time; and
·
the same persons (not companies) own the rights to more than 50 per cent of the company's dividends and capital distributions both at the start of the test period and immediately after the other test time. [New section 160ZNSG]

14.58 To determine whether a condition in section 160ZNSG is satisfied, an ownership test for that condition must be applied. The ownership tests basically provide that the ownership rights can be held directly or indirectly through one or more interposed entities [new sections 160ZNSH, 160ZNSI and 160ZNSJ] . There is provision for tracing through interposed entities to disclose the ultimate beneficial owners.

14.59 The rules in Division 3B (generally designed to overcome arrangements affecting beneficial ownership) also apply for the purposes of an ownership test. [New section 160ZNSK]

Proposed Division 3CC - How to treat shareholdings of less than 1 per cent

14.60 Proposed Division 3CC modifies how the ownership tests apply to a listed public company (head company) if the company has voting, dividend or capital shareholdings of less than 1 per cent [new section 160ZNSM] . The Division will also apply where another listed public company is interposed between the head company and certain persons (none of them companies). The certain persons are those who control the voting power in the head company indirectly through the interposed company or have the right to receive for their own benefit, and indirectly through the interposed company, any dividends or capital distributions the head company may pay [new section 160ZNSN] . The interposed company must have voting, dividend or capital shareholdings of less than 1 per cent [new subsection 160ZNSN(3)] . These rules will assist listed public companies to satisfy the ownership tests in Division3CB.

14.61 When applying the ownership tests at a particular time, a company will not be required to trace through to the ultimate beneficial owners where the registered shareholding is less than 1 per cent (except where those shares are part of a substantial shareholding ). The total of such holdings will be treated as if they were held by a single notional entity and the ownership rights attached to those shares will be taken to be the rights of that notional shareholder only. The notional shareholder will be treated as a person other than a company. [New subsections 160ZNSO(1) and 160ZNSO(3)]

14.62 Similarly, if another listed public company is interposed between the head company and those persons, all shareholdings of less than 1 per cent in the interposed company will be treated as if they were held by a different single notional entity, which will also be treated as a person other than a company [new subsections 160ZNSO(2) and 160ZNSO(3)] . Again, the company will not have to trace through the interposed company to the persons who beneficially own those shares in the interposed company.

14.63 For each of the ownership rights, the notional shareholder will be taken to have rights no greater than those it had at the start of the test period. [New section 160ZNSP]

14.64 Division 3CC will not apply to the head company unless, at the ownership test time, all the voting shares in the company have the right to receive more than 75 per cent of any dividends the company may pay or any distributions of capital of the head company. [Newsection160ZNSR] .

14.65 Division 3CC will not apply for the purposes of section 160ZNSB if the Commissioner considers it reasonable to assume that the head company would not satisfy the ownership test if it were not for the rules in Division 3CC. [New section 160ZNSS] Proposed Division 3CD - Superannuation and approved deposit funds

14.66 Proposed new Division 3CD contains rules in regards to interposed superannuation funds , approved deposit funds and special companies which will assist listed public companies to satisfy the ownership tests in Division 3CB. [New section 160ZNST]

14.67 A listed public company will not have to trace through any complying superannuation funds, complying approved deposit funds or special companies that are interposed between the company and certain persons (none of them companies). The certain persons are those who control any of the voting power in the company (indirectly through the fund or special company) or have the rights to its dividends or capital (directly and indirectly through the fund or special company). [Newsubsections 160ZNSU(1) and 160ZNSV(1)]

14.68 If the fund or special company has more than 50 members, the fund or company will be treated as a person other than a company who holds the respective ownership rights [new subsections 160ZNSU(2) and 160ZNSV(2)] . If the fund has 50 members or less, each member will be treated as a person other than a company who controls a fixed proportion of the ownership rights [new subsections 160ZNSU(3) and 160ZNSV(3)] .

Consequential amendments resulting from current year capital loss rules

Commissioner's amendment period

14.69 Subsection 170(13) has been amended. The amendment extends the Commissioner's power to amend an assessment within 6 years after the date upon which tax became payable under an assessment for the purpose of giving effect to new section 160ZND, new sections 160ZNM to 160ZNR and Division 3D. [Item 40 - amended subsection 170(13)]

14.70 This gives the Commissioner a power which already exists in respect of current year revenue losses.

14.71 Item 248 of the ITCA inserted a new subsection 170(13) into the 1936 Act. However, the subsection does not contain references to the relevant provisions of the new current year capital loss provisions in the Bill. Thus, item 248 will be amended to include references to new sections 160ZND, 160ZNM to ZNR (inclusive) and to new Division 3D of Part IIIA of the 1936 Act. [Item 63]

Other consequential amendments

14.72 Subparagraph 160ZP(7AAA)(b)(i) (inserted by Taxation Laws Amendment Bill (No. 2) 1997 ) has been replaced by a new subparagraph. The repealed provision referred to paragraph 160Z(9)(b) which has been repealed by item 29 of this Schedule and replaced with the new Divisions 3A to 3D. Under the new subparagraph 160ZP(7AAA)(b)(i), a net capital loss can only be transferred to a company if, subject to any other conditions required to be satisfied under subsection 160ZP(7), the company is not required to:

·
calculate a net capital gain or net capital loss for the gain year under Division 3A (ie the current year capital loss provisions); and
·
calculate a net capital loss for the gain year under Division 3D (ie the anti-avoidance provisions). [Item 33 - new subparagraph 160ZP(7AAA)(b)(i)]

14.73 For the purposes of determining whether a company is required to calculate a net capital gain or net capital loss under Divisions 3A, subsection 160ZNF(3) is to be disregarded. Subsection 160ZNF(3) provides that Division 3A has no further application if the company does not have a notional net capital loss for any of the periods in the year (see paragraph 14.64 above). Accordingly, a company will be treated as being required to calculate a net capital gain under Division 3A even if the company is not required to do so under subsection 160ZNF(3) (ie because the company does not have a notional net capital loss for any of the periods in the year). [Item 34 - new subsection 160ZP(7AAB]

14.74 For the purposes of determining whether a company is required to calculate a net capital loss under Division 3D, the gain company is to assume that it has incurred a capital loss at the beginning of the gain year. The capital loss is equal to the amount of a net capital loss sought to be transferred [item 34 - new subsection 160ZP(7AAC)]. This will ensure, for example, that the anti-avoidance provisions in Division 3D (discussed below) will be effective in preventing a transferred net capital loss from being available for offset against a capital gain that would not have accrued to the gain company if the loss were not available.

14.75 Further, subsection 160ZP(9) and (9A) have been replaced by new subsection 160ZP(9). The new provision broadly reflects the underlying policy of the repealed provisions but recognises the fact that the current year capital loss provisions are now contained in Divisions 3A to 3D. Under the new provision, a net capital loss is prevented from being transferred in the year of income in which the loss was incurred if the transferor company is required to calculate the net capital loss under Division 3A (ie current year capital loss provisions) or Division 3D (ie anti-avoidance provisions). [Item 36 - new subsection 160ZP(9)]

14.76 The ITCA Act repealed subsection 160ZP(9A) and inserted new paragraphs 160ZP(9)(a) and 160ZP(9)(b) into the 1936 Act. As mentioned, this Bill proposes to repeal these provisions and replace them with a new subsection 160ZP(9), which recognises the fact that the current year capital loss provisions are now contained in Divisions 3A to 3D of Part IIIA of the 1936 Act. Consequently, items 241 and 242 of the ITCA Act will be repealed to ensure the provisions of the Bill apply as intended. These items will also be taken never to have had any effect. [Items 62 and 64]

Consequential amendments to current year revenue loss provisions

14.77 Under the existing current year revenue loss provisions [subparagraph 50B(4)(a)(i) of the Act], a notional taxable income or notional loss for a particular period in a year of income is calculated by taking into account any amounts that would be included in the taxpayer's assessable income if the period were a year of income. Assessable income includes a net capital gain [subsection 160ZO(1)].

14.78 Subparagraph 50B(4)(a)(i) of the Act will be amended to prevent an amount of net capital gain from being included twice - in the calculation of a notional taxable income or notional loss under the current year revenue loss provisions and also in the calculation of a notional net capital gain or loss under the new Division 3A of Part IIIA. [Item 2]

14.79 The Bill will also ensure that where a company's taxable income for a year of income is calculated under the current year revenue loss provisions, the taxable income will include a net capital gain for the year. The net capital gain may be calculated under either section 160ZC (ie normal rules) or Division 3A (ie current year capital loss rules). [Item3 - amended paragraph 50C(2)(b)]

Amendments to the 1997 Act

14.80 The current year revenue loss provisions in the 1997 Act will also be amended. Amended subsection 165-65(3) of the 1997 Act will ensure that a company's taxable income for a year of income, calculated under the current year revenue loss provisions, will include a net capital gain for the year. [Item 46]

14.81 In addition, new paragraph 165-70(3)(f) will ensure that a company's tax loss for a year of income will be calculated by taking into account any net capital gain accrued in the year of income. [Item 47]

14.82 Also, new subsection 165-60(6A) will prevent a net capital gain from being included in the calculation of a notional taxable income or notional loss. [Item 44]

Sections 97 and 98A amounts

14.83 The existing current year revenue loss provisions require all amounts that are to be included as assessable income (ie including a net capital gain) under section 97 or section 98A that are reasonably related to a particular period in a year to be included in the calculation of a company's notional taxable income or notional loss for the period. The provisions provide further that such amounts not reasonably attributed are to be included in the calculation of the net capital gain or loss for the year of income.

14.84 Since the assessable income of a taxpayer includes a net capital gain and section 97 or section 98A amounts are to be taken into account under the new Division 3A, amendments have been made to the current year revenue loss provisions to prevent double counting. More specifically, subsection 50E(1) and subsection 50B(1) have been amended to exclude section 97, 98A amounts that are capital gains. [Items 1 and 4]

Amendments to the 1997 Act

14.85 New subsections 165-60(2A) and 165-60(7) of the 1997 Act will be amended to exclude section 97 and section 98A amounts that are capital gains. [Items 43 and 45]

14.86 New section 170-25 of the 1997 Act will now include the CGT consequences for the payment for a transferred tax loss. Specifically, a capital gain will not accrue to a payee company because of the receipt of consideration for the transfer of a tax loss. In addition, a capital loss will not be incurred by the payer company because of the giving of the consideration for the amount of the tax loss. [Items 48]

Ownership tests

14.87 New Division 3B contains the tests for determining whether a company has maintained the same owners in a year of income. The primary test states that persons will have more than 50% of the voting power, more than 50% of the companys dividends or more than 50% of the companys capital distributionsduring the period where there are persons who at all times during the ownership test period beneficially own shares that carry:

·
the right to exercise more than 50% of the voting power in the company [item 32 - new subsection 160ZNH(1)] ;
·
the right to receive more than 50% of any dividends that the company may pay [item 32 - new subsection 160ZNI(1)] ; or
·
the right to receive more than 50% of any distribution of capital of the company [item 32 - new subsection 160ZNJ(1)] .

14.88 The alternative test states that persons will have more than 50% of the voting power, more than 50% of the companys dividends or more than 50% of the companys capital distributions during the period if it is the case, or reasonable to assume, that there are individuals who:

·
between them control or are able to control the voting power in the company at all times during the ownership test period, whether directly or indirectly through one or more interposed entities [item 32 - new subsection 160ZNH(2)] ; or
·
at all times during the ownership test period, have between them the right to receive for their own benefit, whether directly or indirectly through one or more interposed entities, more than 50% of any dividends that the company may pay [item 32 - new subsection 160ZNI(2)] or more than 50% of any distribution of capital of the company [item 32 - new subsection 160ZNJ(2)] .

14.89 Entity is defined in new section 160JB to mean an individual, a body corporate or politic, a partnership or trust, a superannuation fund or any other unincorporated association or body of persons. [Item 25]

14.90 A condition of the primary test will be satisfied notwithstanding that a person does not beneficially own exactly the same shares at all times during the ownership test period [item 32 - new subsection 160ZNK(1)] . A private company must satisfy a condition of the primary test for the test to be satisfied whereas a public company is taken to have satisfied the primary test if it is reasonable to assume it has done so [item 32 - new subsection 160ZNK(2)] . In addition, a test for a condition can be satisfied by one person [item 32 - new section 160ZNL] .

14.91 For the purposes of a test, the Commissioner may treat particular shares as not being beneficially owned by a person at a particular time during the ownership test period if, before or during the year of income:

·
an arrangement was entered into which related to, affected or depended for its operation on, the beneficial interest (or the value of that interest) in the shares, a right relating to the shares or the exercise of such a right;
·
the arrangement was entered into to reduce or eliminate an entitys liability to income tax for a year of income. [Item 32 - new section 160ZNM]

14.92 For the purposes of a test, shares are taken never to have carried particular rights during a year of income if the Commissioner is satisfied that the shares stopped carrying those rights, or may stop carrying those rights, after the year of income. This must occur because of the companys constituent document as in force at some time during the year of income or because of an arrangement entered into before or during the year of income. [Item 32 - new section 160ZNN]

14.93 Alternatively, shares are taken to have carried particular rights at all times during a year of income if the Commissioner is satisfied that the shares started carrying those rights, or may start carrying those rights, after the year of income. Again, this must occur because of the companys constituent document as in force at some time during the year of income or because of an arrangement entered into before or during the year of income. [Item 32 - new section 160ZNO]

14.94 Redeemable shares beneficially owned by a person during the year of income are not taken into account in determining whether a test is satisfied [item 32 - new section 160ZNP] . Sections 160ZNM, 160ZNN, 160ZNO and 160ZNP will not affect how shares, and rights carried by shares, are counted for the purposes of determining the total voting power in the company or a companys total dividends payable or total distributions of capital [item 32 - new section 160ZNQ] .

14.95 Shares that are beneficially owned by a person who dies will continue to be owned beneficially by the person, for the purposes of a test, so long as they are owned by the trustee of the persons estate or are beneficially owned by a beneficiary of the estate. [Item 32 - new section 160ZNR]

Same business test

14.96 New Division 3C contains the same business test that is to be applied for the purposes of new Divisions 3A and 3B. The new provisions replicate the current year revenue loss provisions rewritten as part of the Tax Law Improvement Project in the Income Tax Assessment Act 1997 . The 1997 Act reflects the same business test applying in the current year capital loss rules in subsection 160Z(9A) of the Act, except to the extent that subsection 160Z(9A) does not contain safeguards.

14.97 As mentioned at paragraphs 14.16 and 14.17 above, the absence of safeguards in the existing same business test in the capital loss rules causes the test to be deficient. To overcome this deficiency, the same business test in the new Division 3C incorporates the safeguards to prevent taxpayers from manipulating the scope of their business activities to satisfy the test.

14.98 The general rule is that the same business test will be satisfied if throughout the same business test period it carries on the same business as it carried on immediately before the test time. [Item 32 - new subsection 160ZNS(1)]

14.99 However, the company will not satisfy the same business test if:

·
at any time during the same business test period, it derives assessable income from a business of a kind that it did not carry on before the test time; or
·
at any time during the same business test period, it derives assessable income from a transaction of a kind that it had not previously entered into in the course of its business operations before the test time. [Item 32 - new subsection 160ZNS(2)]

14.100 Safeguards have been inserted to deem a company to have failed the same business test if:

·
before the test time, it commences a business not previously carried on or initiates a transaction in the course of its business operations not previously entered into in order to be deemed to have carried on the same business as required under the general rule outlined at paragraph 14.59 above;
·
at any time during the same business test period, it incurs expenditure in carrying on a business of a kind that it did not carry on before the test time;
·
at any time during the same business test period, it incurs expenditure as a result of a transaction of a kind that it had not entered into in the course of its business operations before the test time. [Item 32 - new subsections 160ZNS(3) and (4)]

14.101 The amendments inserting the safeguards will apply to an assessment in respect of any year of income where the assessment is affected by actions of a taxpayer causing the taxpayer to fail the same business test if those actions occur after 7.30pm EST on 20 August 1996. [Item 41 - subsections (3) and (4)]

Anti avoidance provisions

14.102 New Division 3D contains anti-avoidance measures dealing with capital losses of companies. The Division broadly reflects the operation of the current law.

14.103 The Commissioner may disallow capital losses of a company, or parts of them, for a year of income if a capital gain ( injected capital gain ) accrued to the company in the year of income which would not have accrued if the company had not incurred those losses [item 32 - new subsection 160ZNT(1)] . The disallowed losses may exceed the injected capital gain.

14.104 The Commissioner may also disallow a deduction or a capital loss of a company for a year of income to the extent that the company would not have incurred the deduction or loss if some or all of a capital gain accrued in the year of income had not accrued. [Item 32 - new subsection 160ZNU(1)]

14.105 However, the Commissioner cannot disallow capital losses or deductions if the continuing shareholders will benefit from the accrual of the injected capital gain, or from any profit or advantage that arises from the incurring of the deduction or loss, to an extent that the Commissioner thinks is fair and reasonable having regard to their interests in the company. [Item 32 - new subsections 160ZNT(2) and 160ZNU(2)]

14.106 Continuing shareholders are the individuals who have shareholding interests in the company both immediately before the injected capital gain accrued, or the deduction or capital loss was incurred, and immediately afterwards. [Item 32 - new subsection 160ZNT(4)]

14.107 New Division 3E outlines when a person has a shareholding interest in a company. Specifically, a person has a shareholding interest if the person is the beneficial owner of shares in the company or an interest in shares in the company. A person will also have a shareholding interest if the person has a shareholding interest in another company and the other company has a shareholding interest in the company. [Item 32 - new section 160ZNY]

14.108 The Commissioner may also disallow a deduction or a capital loss of a company if:

·
a person other than the company obtains a tax benefit in connection with a scheme and the scheme would not have been entered into if the company had not incurred the deduction or the capital loss ( available expense ) [item 32 - new subsection 160ZNV(1)] ; or
·
a person obtains a tax benefit in connection with a scheme and the scheme would not have been entered into or carried out if the capital gains that accrued to the company ( available capital gains ) had not accrued before the deductions or capital losses were incurred and had not accrued in the same year of income as the deductions or capital losses were incurred [item 32 - new subsection 160ZNV(2)] .

14.109 The disallowed deduction or capital loss cannot exceed the available expense but it may exceed the available capital gains.

14.110 However, the Commissioner cannot disallow capital losses or deductions under section 160ZNV if the person who obtains the tax benefit had a shareholding interest in the company at some time during the year of income and the Commissioner considers the tax benefit to be fair and reasonable having regard to that shareholding interest. [Item 32 - new subsection 160ZNV(3)]

14.111 Where a capital loss is disallowed, this means that the capital loss cannot be taken into account in determining whether a net capital gain accrued to the taxpayer in the year of income. [Item 32 - new subsections 160ZNT(3), 160ZNU(3) and 160ZNV(4)]

14.112 If a company has a taxable income for a year of income because the Commissioner disallows deductions of the company for that year of income, the company may also have a loss for the year of income. The loss is equal to the sum of the deductions disallowed less the net exempt income for the year of income. [Item 32 - new section 160ZNW]

14.113 If a company has a net capital gain for a year of income because the Commissioner disallows capital losses of the company for the year of income, the company may also have a net capital loss for the year of income. The loss is equal to the sum of the disallowed capital losses in the year of income. [Item 32 - new section 160ZNX]

Subvention payments

14.114 A net capital loss can be transferred between resident companies within the same 100% owned group where the conditions in subsection 160ZP(7) of the Act are met. As discussed at paragraphs 14.15 to 14.18 above, consideration (for example, a subvention payment) may be given by the gain company to the loss company for the transfer of the net capital loss. Where the loss company receives consideration for the transfer of the whole or a part of a net capital loss from the gain company, and the loss company is a shareholder in the gain company, then a capital gain will not accrue to the loss company because of the receipt of the consideration and the consideration will not be income of the loss company. [Item 37 - new subsection 160ZP(11)]

14.115 Similarly, the gain company will not incur a capital loss when the transferred capital loss is utilised and the consideration given will not be an allowable deduction to the gain company. [Item 37 - new subsection 160ZP(12)]

14.116 Consequential amendments have been made as a result of new subsections 160ZP(11) and 160ZP(12), to reflect that for CGT purposes, consideration for the transfer of a loss may not only consist of monetary payment. [Item 38 - amended subsection 160ZP(13), item 39 - amended subsection 160ZP(14)]

14.117 The corresponding revenue loss provisions have also been amended to ensure there will be no capital gain or loss for the loss or income company where consideration is given for the transfer of a revenue loss. [Item 16 - new subsection 80G(17), item 16 - new subsection 80G(18)]

Loss and bad debt write off provisions

14.118 Amendments have been made to the current year revenue loss provisions (in particular, section 50H) to ensure that references to income include references to capital gains. This is necessary because a revenue loss is deductible against a net capital gain. Similar amendments have also been made to the recoupment tests in section 80DA of the Act.

14.119 Finally, amendments have been made to the bad debt write-off provisions (ie section 63B), also to ensure that a reference to income will include a capital gain. The amendments are necessary because a bad debt deduction can also be offset against a net capital gain.

14.120 The following amendments have been made to ensure that provisions dealing with the derivation of income for the purpose of offsetting deductions also deal with the accrual of capital gains for the same purpose. The amendments are:

·
amended paragraph 50H(1)(e) [item 5];
·
new subsection 50H(3A) [item 6];
·
amended subsection 50H(5) [item 7];
·
new subsection 50H(10) [item 8];
·
amended paragraph 63B(1)(a) [item 18];
·
amended subsection 63B(2) [items 19 and 20];
·
amended subsection 63B(3) [item 21];
·
amended subsection 63B(8) [items 22, 23 and 24];
·
amended paragraph 80DA(1)(a) [item 9];
·
amended subsection 80DA(2) [items 10 and 11];
·
amended subsection 80DA(3) [item 12 ]; and
·
amended subsection 80DA(8) [items 13, 14 and 15].

Amendments to the 1997 Act

14.121 Proposed Part 4 of Schedule 14 of the Bill will amend Division 175 of the 1997 Act to reflect the above amendments. More specifically, the following provisions are amended at items 49 to 58 :

·
amended subsection 175-10(1);
·
amended subsection 175-10(2);
·
new subsection 175-20(1);
·
amended subsection 175-20(2);
·
amended subsection 175-20(3);
·
new paragraph 175-30(2)(b);
·
amended subsection 175-30(2).

14.122 As a consequence of the amendments to sections 175-10 and 175-20, subsection 995-1(1) of the 1997 Act, which contains the definitions for the purposes of the Act, will be amended to replace the definition of injected income with a definition of injected amount. [Items 59 and 60]

Unlimited amendment period for capital loss transfers

14.123 New subsection 160ZP(8D) will give the Commissioner unlimited time to amend the assessment of a transferee company where a transferred net capital loss (or part of the loss) was not in fact incurred by the transferor company. [Item 35]


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