ATO Interpretative Decision
ATO ID 2004/881
Income Tax
Proposed share capital reduction by a property developerFOI status: may be released
This ATOID provides you with the following level of protection:
If you reasonably apply this decision in good faith to your own circumstances (which are not materially different from those described in the decision), and the decision is later found to be incorrect you will not be liable to pay any penalty or interest. However, you will be required to pay any underpaid tax (or repay any over-claimed credit, grant or benefit), provided the time limits under the law allow it. If you do intend to apply this decision to your own circumstances, you will need to ensure that the relevant provisions referred to in the decision have not been amended or repealed. You may wish to obtain further advice from the Tax Office or from a professional adviser.
Issue
Does section 45B of the Income Tax Assessment Act 1936 (ITAA 1936) apply such that the Commissioner is able to make a determination under subsection 45B(3) of the ITAA 1936 that section 45C of the ITAA 1936 applies to treat the amount of the return of capital as an unfranked dividend paid out of the profits of the company?
Decision
No. Section 45B of the ITAA 1936 will not apply in respect of the return of capital and the distribution will not be treated as a dividend for income tax purposes.
Facts
The company is a single purpose entity - its sole purpose being to acquire, develop and sell a particular parcel of land as a residential subdivision.
The company initially borrowed money to purchase the land. It then raised equity through the issue of shares at $1 each and used those funds to repay the loan.
Approximately 50% of the company's developed lots have now been sold and settled.
The directors of the company intend that, as profits emerge from the subdivision and sale of resultant lots, dividends would be paid to the shareholders. The company's dividend history demonstrates that virtually all realised profits have been distributed. The directors also intend that as capital is released from the sale of the land over the life of the project it would be progressively returned to the shareholders.
The company proposes a return of capital to shareholders, being approximately 30% of the shareholders' initial investment of 30 cents per share.
Reasons for Decision
Section 45B of the ITAA 1936 does not apply because not all the conditions in subsection 45B(2) of the ITAA 1936 are satisfied.
Subsection 45B(2) of the ITAA 1936 sets out the conditions under which section 45B of the ITAA 1936 applies. This section applies if:
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- there is a scheme under which a person is provided with a capital benefit by a company
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- under the scheme, a taxpayer (the relevant taxpayer) who may or may not be the person provided with the capital benefit, obtains a tax benefit, and
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- having regard to the relevant circumstances of the scheme, it would be concluded that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for a purpose (whether or not the dominant purpose but not including an incidental purpose) of enabling the relevant taxpayer to obtain a tax benefit.
The distribution is a 'scheme' within the broad meaning of that term, for the purposes of section 45B of the ITAA 1936.
The meaning of 'provided with a capital benefit' is found in subsection 45B(5) of the ITAA 1936. A person is provided with a capital benefit if:
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- shares in a company are issued to the person
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- there is a distribution to the person of share capital, or
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- the company does something in relation to shares that has the effect of increasing the value of the shares held by that person.
As the distribution will be debited against the company's share capital account, there will be a provision of a capital benefit as defined by subsection 45B(5) of the ITAA 1936.
A further requirement of subsection 45B(2) of the ITAA 1936 is that a taxpayer (the relevant taxpayer) must obtain a tax benefit. The relevant taxpayer need not be the person who is provided with the capital benefit. Obtaining a tax benefit is defined in subsection 45B(9) of the ITAA 1936 to mean circumstances where the amount of tax payable, or any other amount payable under the income tax law by the relevant taxpayer would, apart from this section, be less than the amount that would have been payable, or would be payable at a later time than it would have been payable, if the capital benefit had been a dividend.
Shareholders will obtain a tax benefit, within the meaning of subsection 45B(9) of the ITAA 1936, as the amount of tax payable from treatment of a return of capital distribution under the capital gains and losses provisions would, apart from the operation of section 45B of the ITAA 1936, be less than the amount that would be payable if the distribution had instead been a dividend.
Although there is a scheme under which shareholders are provided with a capital benefit and would obtain a tax benefit, it is not considered that the scheme was entered into, or carried out, for a more than incidental purpose of enabling shareholders to obtain the tax benefit.
Subsection 45B(8) of the ITAA 1936 sets out circumstances that are relevant to determining whether any person has the requisite degree of purpose of enabling a taxpayer to obtain a tax benefit.
Paragraph 45B(8)(a) of the ITAA 1936 refers to the extent to which the distribution is attributable to the profits of the company.
The distribution would be attributable to capital because the proportion of the land (that constitutes the business structure of the company) that has been developed and sold is greater than the proportion of contributed equity being returned, that is, 50% of the total number of lots expected to be developed have been sold and settled as compared to 30% of contributed equity being returned. Also, the company has a history of regularly distributing virtually all its profits as dividends.
These circumstances indicate that enabling shareholders to obtain a tax benefit is no more than an incidental purpose of entering into, or carrying out, the scheme.
The Commissioner will not make a determination in terms of subsection 45B(3) of the ITAA 1936 that section 45C of the ITAA 1936 applies in relation to the capital benefit.
Date of decision: 3 November 2004Year of income: Year ended 30 June 2005
Legislative References:
Income Tax Assessment Act 1936
section 45B
section 45C
ATO ID 2004/652
Keywords
Capital reductions
Share capital
Date reviewed: 5 June 2017
ISSN: 1445-2782