Edited version of private ruling

Authorisation Number: 1011589407908

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Ruling

Subject: Part IVA

Will the Commissioner of Taxation apply Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) to cancel any tax benefit under the arrangement described in this ruling?

Yes.

This ruling applies for the following period

Year ended 30 June 2008.

The scheme commenced on

1 July 2007

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

The trust sold its interest in Company A for a significant capital gain. The shares were acquired after 19 September 1985 and therefore the capital gain falls within section 102-5 of the Income Tax Assessment Act 1997 (ITAA 1997) for the purpose of determining the net capital gain under that subsection.

Prior to 30 June 2008, the trust invested the minimum amount allowed for a "tax effective investment". Investors in the project are considered to be carrying on a business of primary production as per the Product Ruling for the Project. The trust then held that it was carrying on a business for the income year.

The trust is a holding trust that mainly held shares in Company A and prior to the investment in the Project was not carrying on a business.

The trust exceeded the maximum net asset value test for the purposes of the income tax small business capital gains tax (CGT) concessions.

The trust advised that it entered into the Project for the purpose of minimising tax and that the tax effective investment was with a reputable project manager and was supported by a Product Ruling.

The trust applied for a Private Ruling which was obtained. The ruling found that the basic conditions in section 152-10 of the ITAA 1997 were satisfied and that the trust was eligible for the small business CGT concessions in Division 152 of the ITAA 1997 including the small business 50% reduction.

However, it was specifically noted in the Private Ruling that Part IVA of the ITAA 1936 was not considered and may apply to the arrangement.

It is for this reason that the trust seek a further ruling on the application of Part IVA.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 177A

Income Tax Assessment Act 1936 Section 177C

Income Tax Assessment Act 1936 Subsection 177D(b)

Income Tax Assessment Act 1997 Section 102-5

Income Tax Assessment Act 1997 Section 115-100

Income Tax Assessment Act 1997 Section 152-205

Reasons for decision

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

The general anti-avoidance provisions section 177D

The Tax Office considers that the general anti-avoidance provisions (known as Part IVA) apply where a 'scheme' has been entered into for the 'dominant purpose' of obtaining a 'tax benefit'.

Section 177D of the ITAA 1936 provides that Part IVA applies to a scheme in connection with which the taxpayer has obtained a tax benefit if, after having regard to eight specified factors, it would be concluded that a person who entered into or carried out the scheme, or any part of it, did so for the purpose of enabling the taxpayer to obtain the tax benefit.

Is there a Scheme?

For Part IVA to apply there must be a 'scheme' within section 177A of the ITAA 1936, through which a taxpayer obtains a 'tax benefit'. Additionally, the scheme must have been implemented for the dominant purpose of enabling the taxpayer to obtain the tax benefit, within section 177C of the ITAA 1936.

Section 177A of the ITAA 1936 defines a scheme to include 'any agreement, arrangement, understanding, promise or undertaking …and whether or not enforceable … and any scheme, plan, proposal, action, course of action or course of conduct'.

The Commissioner is of the opinion that the scheme is the investment in the Project by the trust.

Is there a Tax Benefit?

Under section 177C of the ITAA 1936 a tax benefit received in relation to a scheme is any of the following four amounts:

· An amount that was not included in the assessable income of the taxpayer, where that amount would have been included, or might reasonably be expected to be included, in the assessable income of the taxpayer if the scheme had not been entered into.

· An amount for a deduction being allowable to the taxpayer, where that deduction would not have been allowable, or might reasonably be expected not to have been allowable, to the taxpayer if the scheme had not been entered into.

· An amount of a capital loss being incurred by the taxpayer, where that amount would not have been, or might reasonably be expected not to have been, incurred by the taxpayer if the scheme had not been entered into.

· An amount of a foreign tax credit being allowable to the taxpayer, where that foreign tax credit would not have been allowable, or might reasonably be expected not to have been allowable, to the taxpayer if the scheme had not been entered into.

The trust purchased the investment before the end of the 2007-08 income year, which allows it to qualify as a small business entity [because it was carrying on a business in the 2007-08 income year] and to claim the small business tax concession.

The capital gain is reduced by the 50% discount percentage under section 115-100 of the ITAA 1997 then by 50% under the small business tax concessions under section 152-205 of the ITAA 1997. More concessions may possibly be applied which may reduce the gain to zero.

The trust would not ordinarily be able to apply the small business CGT concessions (Division 152 of the ITAA 1997), as it does not satisfy the maximum net asset value test.

The trust would obtain a tax benefit because if the scheme had not been entered into or carried out it might reasonably be expected that the trust's income would not have been reduced by the small business tax concession amount.

Whether a scheme has been carried out for the dominant purpose of enabling a taxpayer to obtain a tax benefit is determined according to the provisions of section 177D of the ITAA 1936. Under section 177D of the ITAA 1936, it would be concluded that the person who entered into or carried out the scheme did so for the purpose of enabling the relevant taxpayer to obtain a tax benefit in connection with the scheme, whether or not that person who entered the scheme is the relevant taxpayer or one of the other taxpayers. Additionally, subsection 177D(b) of the ITAA 1936 sets out a number of tests to be applied in determining the purpose of a scheme.

The eight factors required to be considered in connection with the broader scheme are:

· the manner in which the scheme was entered into or carried out

· the form and substance of the scheme

· the time at which the scheme was entered into and the length of the period during which the scheme was carried out

· the result in relation to the operation of this Act that, but for this Part, would be achieved by the scheme

· any change in the financial position of the relevant taxpayer that has resulted, will result, or may reasonably be expected to result, from the scheme

· any change in the financial position of any person who has, or has had, any connection (whether of a business, family or other nature) with the relevant taxpayer, being a change that has resulted, will result or may reasonably be expected to result, from the scheme

· any other consequence for the relevant taxpayer, or for any person referred to in subparagraph (vi), of the scheme having been entered into or carried out, and

· the nature of any connection(whether of a business, family or other nature) between the relevant taxpayer  and any person referred to in subparagraph (vi).

The factors under subsection 177D(b) of the ITAA 1936 are examined below.

(i)       the manner in which the scheme was entered into or carries out

A capital gain was made on the sale of Company A shares.

The trust had invested the minimum amount allowed for a "tax effective investment".

The trust then claimed that it was a small business entity for the income year and was entitled to the small business CGT concessions including the 50% reduction on the capital gain.

(ii)       the form and substance of the scheme

Case law suggests that not only does this require the Commissioner to consider the legal form of the arrangement but the underlying substance of the arrangement. That is, whether or not the legal form of the arrangement is consistent with what is really taking place. In this case, you submit that there is no real difference between the "form" of entering into the project and the "substance".

The investment into the Project was a straightforward investment.

The form of the scheme was that the trust entered into two separate and unrelated transactions, that is, the making of the capital gain and the entering into the project.

However, in substance, the participation in the project enabled the trust to satisfy the basic conditions for the small business CGT concessions (notwithstanding that it was only considered to be in business for a short time in the income year). Without the participation in the project, the trust would be unable to apply the small business CGT concessions to the capital gain from the sale of the Company A shares.

(iii)      the time at which the scheme was entered into and the length of the period during which the scheme was carried out

Prior to 30 June 2008, the trust invested in the project.

This means that the trust is treated as a small business entity for the income year and claim entitlement to the small business CGT concessions including the 50% reduction on the capital gain.

The trust entered the scheme just prior to the 30 June 2008. It was from this time the trust was considered to be carrying on a business for the income year. The sale of the shares and then entering into the project just prior to the end of the income year is a strong indication that the trust entered into the arrangement for the sole or dominant purpose of obtaining a tax benefit (that is, the claiming of the small business CGT concessions).

(iv)      the result in relation to the operation of this Act that, but for this Part, would be achieved by the scheme

Although the trust was not carrying on a business just prior to the end of the income year, the scheme investment allows the trust to be treated as a small business entity for the income year and claim entitlement to the small business CGT concessions including the 50% reduction on the capital gain.

This reduces the discount capital gain by half that amount and may reduce the gain to zero.

There is a flow on effect for the beneficiaries of the trust, reducing their tax on the net income of the trust estate distributed to them.

(v) any change in the financial position of the relevant taxpayer that has resulted, will result, or may reasonably be expected to result, from the scheme

The reduction in the discount capital gain, has a flow on effect of reducing the tax payable for the beneficiaries of the trust.

(vi) any change in the financial position of any person who has, or has had, any connection (whether of a business, family or other nature) with the relevant taxpayer, being a change that has resulted, will result or may reasonably be expected to result, from the scheme

There is not likely to be a change for any other parties.

(vii)    any other consequence for the relevant taxpayer, or for any person referred to in subparagraph (vi), of the scheme having been entered into or carried out, and

The only immediate change in financial position of the trust and beneficiaries involved in the scheme is the tax benefit from obtaining of the deduction (as described in Product Ruling) and being able to take advantage of the small business CGT concessions.

The deduction relating to being a participant in the project for income year is the minimum deduction that can be claimed for a participant in the scheme.

The small business CGT concessions available to the trust because of its participation in the scheme is that the trust will be able to apply section 152-205 of ITAA 1997 in relation to the capital gain arising on the sale of the shares. The shares were sold and the trust will be able to reduce any capital gain remaining after applying step three of the method statement in subsection 102-5(1) of ITAA 1997 by 50%, and possibly further reduce this gain by applying the "retirement concession".

(viii)    the nature of any connection (whether of a business, family or other nature) between the relevant taxpayer  and any person referred to in subparagraph (vi)

There is no related party connection between the trust and the managers of the Project.

Cases

In Federal Commissioner of Taxation v. Spotless Services Ltd (1996) 186 CLR 404; 96 ATC 5201; (1996) 34 ATR 183, the High Court held that a scheme can fall within the meaning of Part IVA even though there is a commercial purpose as long as the dominant purpose is to obtain a tax benefit.

In FC of T v. Hart 2004 ATC 4599 (Hart), the High Court held that the fact that a scheme is directed to a commercial end does not preclude the operation of Part IVA if the particular means adopted was predominantly for the purpose of obtaining a tax benefit. In considering whether a scheme was entered into predominantly for the purpose of obtaining a tax benefit, the alternative forms which the transaction might have taken must be considered.

In the Hart decision the High Court also made the following statements at 2004 ATC 4611 in considering the argument whether a commercial transaction can be held to be a scheme:

51. It is important to bear steadily in mind that, as was pointed out in the joint reasons of six members of the Court in FC of T v Spotless Services Limited & Anor,^[41] ``Part IVA is to be construed and applied according to its terms, not under the influence of `muffled echoes of old arguments' concerning other legislation''<sup>[42]</sup>. That applies to all aspects of Pt IVA. Whether considering what is a ``scheme'', or considering other provisions of Pt IVA, it is necessary to eschew arguments that proceed from unstated premises about choice^[43] or the drawing of false dichotomies^[44] between ``rational commercial decisions'' and obtaining a tax benefit. It is important to identify why that is so.

52. There is no doubt that ``tax laws affect the shape of nearly every business transaction''.^[45] But as was said in the joint reasons in Spotless:^[46]

``... A particular course of action may be, to use a phrase found in the Full Court judgments, both `tax driven' and bear the character of a rational commercial decision. The presence of the latter characteristic does not determine the answer to the question whether, within the meaning of Pt IVA, a person entered into or carried out a `scheme' for the `dominant purpose' of enabling the taxpayer to obtain a `tax benefit'.''

Always the question must be whether the terms of the Act apply to the facts and circumstances of the particular case.

Conclusion

As per the facts stated and the reasons given above, it would be concluded that the trust entered into or carried out the scheme for the purpose of enabling it to obtain the tax benefit. Therefore, Part IVA of the ITAA 1936 may be applied to cancel any tax benefit obtained by the trust under the scheme.

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