Senate

Taxation Laws Amendment Bill (No. 4) 1995

Supplementary Explanatory Memorandum

Amendments, requests for amendments and new item to be moved on behalf of the Government(Circulated by authority of the Treasurer,the Hon Ralph Willis, MP)

Demutualisation of insurance companies

Amendments 6 to 24

Request for amendments 8 and 9

Purpose of the amendments

2.1 The Bill proposes amendments to the Income Tax Assessment Act 1936 to provide a framework for the taxation treatment of certain transactions associated with the demutualisation of life and general insurance companies. The amendments to the Bill will ensure that the new provisions apply appropriately in relation to transactions that occur in the course of, or as a consequence of, the demutualisation of a life or general insurance company.

Explanation of the amendments

Definition of 'mutual insurance company'

2.2 Proposed new section 121AB defines a 'mutual insurance company' for demutualisation purposes as either an insurance company, the profits of which are divisible only amongst policyholders in the company (new paragraph 121AB(1)(a)), or a company that satisfies all of the conditions set out in new paragraph 121AB(1)(b). These conditions are discussed further at paragraph 2.4 below. Currently, the term 'policyholder' is not defined. Amendment 18 proposes new section 121AEA which provides that where, pursuant to the exercise of a power under the articles of association of an insurance company, a person is entitled to exercise rights as a policyholder, then that person may be taken to be a policyholder for the purposes of the demutualisation provisions.

2.3 Whether, and the extent to which, a person is taken to be a policyholder under these circumstances is subject to the discretion of the Commissioner of Taxation. An example of the circumstances in which the Commissioner would exercise his discretion to deem a class of persons to be policyholders for the purposes of the demutualisation provisions is where a fiduciary is entitled to receive shares on behalf of the trustee of a superannuation fund.

Division of profits

2.4 Paragraph 121AB(1)(b) currently provides that a company limited by guarantee, the profits of which are not divisible amongst members on winding up, and which has never divided it's profits amongst members, will be a 'mutual insurance company' for the purposes of the demutualisation provisions. By amendments 6 and 7 of the schedule these requirements are modified. In order to be a 'mutual insurance company' or a 'mutual affiliate company' for the purposes of the demutualisation provisions (and provided that the other criteria in new sections 121AB and 121AC are satisfied), a company must not have divided profits amongst members in the 10 years prior to the announcement of the demutualisation taxation arrangements on 9 May 1995.

Definition of 'mutual affiliate company'

2.5 The definition of 'mutual affiliate company' currently proposed by new section 121AC requires that all of the policyholders of a 'mutual insurance company' must be members of the 'mutual affiliate company'.

2.6 An amendment is proposed to the definition of 'mutual affiliate company' so that a company which:

is limited by guarantee;
is not an insurance company;
has not divided its profits amongst members in the 10 years prior to 9 May 1995; and
has at least 75% of the policyholders of a 'mutual insurance company' as members

will be a 'mutual affiliate company' for the purposes of the demutualisation provisions. [Amendment 7]

Definition of 'policyholder member group'

2.7 The Bill provides a deemed cost for shares in the demutualised entity distributed to members of a 'mutual insurance company' in exchange for the extinguishment of their membership rights (sections 121AS and 121AT which introduce Tables 1 and 2). The deemed cost will only apply to shares issued to members of the 'policyholder member group'. New subsections 121AE(4) and (5) generally define the 'policyholder member group' as consisting of members or policyholders of a 'mutual insurance company, and is extended to include other groups such as employees of the company, charities, and former policyholders.

Amendment consequential to the amendment of the definition of 'mutual affiliate company'

2.8 A technical amendment to new subsection 121AE(5) (which defines the 'policyholder member group' in relation to a demutualisation of a 'mutual insurance company' and 'mutual affiliate company') is proposed as a consequence of the changes to the definition of 'mutual affiliate company' described at paragraph 2.6 above. Subsection 121AE(5) provides that the 'policyholder member group' includes only members of the 'mutual affiliate company' and not policyholders or members of the associated 'mutual insurance company'. Because it will no longer be necessary for all of the policyholders in the 'mutual insurance company' to be members of the 'mutual affiliate company', the 'policyholder member group' in subsection 121AE(5) is expanded to include policyholders in the 'mutual insurance company'. [Amendment 7]

Beneficiaries of single member superannuation funds

2.9 The 'policyholder member group' in relation to both a 'mutual insurance company' and a 'mutual affiliate company' currently includes a beneficiary of a single member superannuation fund where the trustee of the fund is a policyholder or member of the 'mutual insurance company'.

2.10 Amendments are proposed to new subsections 121AE(4) and (5) in relation to single member superannuation funds to ensure that, where a beneficiary of a single member superannuation fund is a policyholder member, the trustee of the superannuation fund will not also be a policyholder member for the purpose of the demutualisation provisions [Amendments 8, 9, 11, 12, 13, 14, 16 and 17]

2.11 A further amendment provides that a member of a superannuation fund of which a wholly owned subsidiary of a 'mutual insurance company' or 'mutual affiliate company' is the trustee will be a policyholder member subject to a number of conditions [amendments 12 and 17] . These conditions are:

the fund must not be a standard employer sponsored fund. (The term 'standard employer sponsored fund' is defined at section 16 of the Superannuation Industry (Supervision) Act 1993); and
the member's benefits in the fund must consist solely of the proceeds (including the earnings) of a life insurance policy or policies in the mutual insurance company of which the trustee is a subsidiary.

Employees

2.12 The Bill proposes that the 'policyholder member group' will include employees of a 'mutual insurance company' and a 'mutual affiliate company' (new subparagraphs 121AE(4)(c)(i) and 121AE(5)(b)(i)). Amendments 10 and 15 propose that employees of wholly owned subsidiaries of mutual insurance companies and mutual affiliate companies can also be policyholder members for demutualisation purposes.

Technical amendments

Cost base of shares in a mutual insurance company and mutual affiliate company

2.13 Table 1 (proposed by new section 121AS) provides that, prior to listing, shares issued to policyholder members will have a deemed cost for CGT purposes equal to the embedded value of a life insurance company or the net tangible assets of a general insurance company. The applicable amount is spread across all of the shares in the demutualised entity. Where a holding company is interposed between the policyholder members and the insurance company (or a series of companies are interposed) the deemed cost will also apply to shares held by the interposed company in the 'mutual insurance company'. Under demutualisation method 7, set out at new section 121AL, a demutualisation arrangement may relate to a 'mutual insurance company' and a 'mutual affiliate company'. Currently the total embedded value or net tangible assets of both companies is spread equally between all of the shares issued to the interposed entity (section 121AS, table 1 item 6 and note 2).

2.14 An amendment to the Bill is proposed so that the deemed cost of shares in a 'mutual insurance company' and a 'mutual affiliate company' respectively will reflect the actual value of each company as measured by the embedded value or net tangible assets of that company. This proposed amendment is introduced as a request for amendment. [Requests for amendments 8 and 9]

Discount rate assumption for the purposes of calculating the embedded value of a mutual life insurance company

2.15 As discussed at paragraph 2.13 above, the embedded value of a life insurance company is relevant in determining the deemed cost of shares issued in the course of the demutualisation of the company. The Bill sets out a number of assumptions that are relevant in calculating the embedded value of a 'mutual life insurance company' (section 121AM). The definition of the 'capital reserve adequacy shortfall percentage' (relevant to the discount rate assumption) at new subsection 121AM(6) refers to amounts which are 'predicted'. An amendment is proposed that will substitute a reference to a 'projection' rather than a prediction. This is consistent with actuarial practice and Actuarial Guidance Note GN 252, to which the provisions relate. [Amendments 19, 20 and 21]

2.16 Subsection 121AM(8), which deals with expenditure assumptions for the purpose of calculating the embedded value of a 'mutual life insurance company', does not provide for any expenditure assumption to be made for the period between the commencement of the demutualisation (on the 'demutualisation resolution day' - new subsection 121AD(3)) and the 'applicable accounting day' (which is the end of the accounting period prior to the demutualisation resolution day - new subsections 121AM(3) and 121AM(4)). An amendment to the Bill is proposed so that expenditure up until the demutualisation resolution day can be considered in determining expenditure assumptions. [Amendment 22]

Typographical error

2.17 Table 1 describes the taxation consequences of certain transactions undertaken in the course of a demutualisation. Amendments to items 5 and 6 of table 1 to refer to amounts actually paid or given for a demutualisation share or interest are proposed (currently the provision refers to an amount paid or gained ). [Amendments 23 and 24]


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