Edited version of private ruling

Authorisation Number: 1011608332877

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Ruling

Subject: The proposed reorganisation of Company A and Company C by Shareholders 1 and 2.

Question 1

Will Subdivision 124-G of the Income Tax Assessment Act 1997 (ITAA 1997) apply to Company X, pursuant to subsection 124-380(5), in relation to the reorganisation of Company A?

Answer

Yes.

Question 2

Will Subdivision 124-G of the ITAA 1997 apply to Company X, pursuant to subsection 124-380(6), in relation to the reorganisation of Company C?

Answer

Yes.

Question 3

Will sections 703-70 and 703-75 of the ITAA 1997 apply to Company X in relation to the reorganisation of Company A?

Answer

Yes.

Question 4

Will sections 703-70 and 703-75 of the ITAA 1997 apply to Company X in relation to the reorganisation of Company C?

Answer

No.

Question 5

Will the Commissioner make a determination under section 177F of the Income Tax Assessment Act 1936 (ITAA 1936) in relation to any tax benefit arising for Company X as a consequence of the proposed reorganisation?

Answer

No.

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.

Shareholder 1

Shareholder 1 is an Australian resident company for income tax purposes.

Shareholder 2

Shareholder 2 is an Australian resident company for income tax purposes.

Company A

Company A is an Australian resident company for income tax purposes.

Company C

Company C is an Australian resident company for income tax purposes.

Company X

Company X is an Australian resident company for income tax purposes.

Scheme

It is proposed to reorganise Shareholders 1 and 2's interests to establish a single corporate holding structure for Company A and Company C.

Additional facts for the purposes of Question 5

In addition to the scheme outlined, the following additional facts apply for the purposes of Question 5 of the ruling:

Shareholders 1 and 2 will choose to disregard any capital gain or capital loss that arises on the disposal of their interests in Company A and Company C.

Relevant legislative provisions

Income Tax Assessment Act 1936 177B.

Income Tax Assessment Act 1936 177C.

Income Tax Assessment Act 1936 177F.

Income Tax Assessment Act 1997 124-360.

Income Tax Assessment Act 1997 124-365.

Income Tax Assessment Act 1997 124-380.

Income Tax Assessment Act 1997 703-70.

Income Tax Assessment Act 1997 703-75.

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.

Question 1

Subdivision 124-G of the ITAA 1997 applies where a taxpayer owns shares in a company and under a scheme for reorganising the affairs of the company, disposes of those shares with the result that the taxpayer becomes the owner of new shares in another company. Broadly, roll-over relief is available under this Subdivision for certain business reorganisations where no change occurs in the economic ownership of a particular underlying asset or where the underlying assets in which the taxpayer has an economic interest do not change. In addition, this Subdivision also requires an election to be made to continue the existence of a tax consolidated group where a company is interposed as the new head company of the group. This election is provided under subsection 124-380(5) of ITAA 1997 as follows:

If:

(a) immediately before the completion time, the original company is the *head company of a consolidated group; and

(b) immediately after the completion time, the interposed company is the head company of a *consolidatable group consisting only of itself and the *members of the group immediately before the completion time;

the interposed company must choose that the consolidated group is to continue in existence at and after the completion time.

Note: Sections 703-65 to 703-80 deal with effects of the choice for the consolidated group.

Subsection 124-380(5) of the ITAA 1997 is one of the alternatives that must be satisfied in determining whether roll-over relief is available under section 124-360. Relevantly, subsection 124-360(1) of the ITAA 1997 provides:

You can choose to obtain a roll-over if:

(a) you are a *member of a company (the original company); and

(b) you and at least one other entity (the exchanging members) own all the *shares in it; and

(c) under a *scheme for reorganising its affairs, the exchanging members *dispose of all their shares in it to another company (the interposed company) in exchange for shares in the interposed company (and nothing else);

and the requirements in sections 124-365 and 124-380 are satisfied.

However, in circumstances involving a reorganisation of a tax consolidated group where the interposed company chooses to continue the original tax consolidated group, subsection 124-360(2) of the ITAA 1997 provides:

You are taken to have chosen to obtain the roll-over if:

(a) immediately before the time referred to in section 124-365 as the completion time, the original company is the *head company of a *consolidated group; and

(b) immediately after the completion time, the interposed company is the head company of the group.

Note: The consolidated group continues in existence because of section 703-70.

Additional requirements that must be satisfied in order to obtain the Subdivision 124-G roll-over are provided in sections 124-365 and 124-380 of the ITAA 1997. Firstly, under section 124-365, the reorganisation must result in the economic interests of each former shareholder in the underlying assets of the restructured companies being maintained immediately after the completion time. This is determined by comparing the proportion, as well as the market value ratio, of the shareholder's interest in the total replacement shares issued by the interposed company with the total shares they owned in the original company. Further, the shareholder wishing to choose the roll-over must be an Australian resident (or alternatively satisfy further requirements if the shareholder is a foreign resident).

Secondly, under section 124-380 of the ITAA 1997, the shares issued in the interposed company must not be redeemable shares and must be held by the shareholders from the time they are issued to the completion time. Just after the completion time, for the purposes of this scheme, those shareholders must own all of the shares in the interposed company.

In respect of the reorganisation of Company A, the requirements for a Subdivision 124-G roll-over, as set out in the preceding paragraphs, will be satisfied.

As initially mentioned, in addition to the requirements discussed above, special rules apply in circumstances where the original company is the head company of a tax consolidated group. Where the original tax consolidated group is able to continue to exist pursuant to subsection 124-380(5) of the ITAA 1997, the Subdivision 124-G roll-over is taken to have been chosen by the member (subsection 124-360(2) of the ITAA 1997).

In the present case, Company X will be able to make a choice under subsection 124-380(5) of the ITAA 1997.

Question 2

Following on from the reasons for Question 1 above, in cases where subsection 124-380(5) of the ITAA 1997 does not apply, subsections 124-380(6) and (7) require the interposed company to choose that section 124-385 applies as follows:

124-380(6) If subsection (5) of this section does not apply, the interposed company must choose that section 124-385 apply.

124-380(7) In either case, the interposed company must make the choice within 28 days after the completion time, or within such further time as the Commissioner allows. The choice cannot be revoked.

However, in relation to the reorganisation of Company C, Company X will not be eligible to make a choice under subsection 124-380(5) of the ITAA 1997.

Accordingly, Company X is required to make an election within 28 days after the completion time that section 124-385 of the ITAA 1997 applies for the purposes of determining the cost base of its shares in Company C.

Question 3

Sections 703-70 and 703-75 of the ITAA 1997 set out some of the effects of a choice to continue a tax consolidated group after an interposed company becomes the new head company. Relevantly, section 703-65 provides:

Sections 703-70 to 703-80 set out the effects if a company (the interposed company) chooses under subsection 124-380(5) that a *consolidated group is to continue in existence at and after the time referred to in that subsection as the completion time.

Note: The choice is one of the conditions for a compulsory roll-over under Subdivision 124-G on an exchange of shares in the head company of a consolidated group for shares in the interposed company.

Section 703-70 of the ITAA 1997 provides the mechanics involved in a new head company choosing to continue an existing tax consolidated group as follows:

(1) The *consolidated group is taken not to have ceased to exist under subsection 703-5(2) because the company referred to in subsection 124-380(5) as the original company ceases to be the ^*head company of the group.

(2) To avoid doubt, the interposed company is taken to have become the ^*head company of the *consolidated group at the completion time, and the original company is taken to have ceased to be the head company at that time.

Note: A further result is that the original company is taken to have become a subsidiary member of the group at that time. Section 703-80 deals with the original company's tax position for the income year that includes the completion time.

(3)

A provision of this Part that applies on an entity becoming a ^*subsidiary member of a ^*consolidated group does not apply to an entity being taken to have become such a member as a result of this section, unless the provision is expressed to apply despite this subsection.

Note: An example of the effect of this subsection is that there is no resetting under section 701-10 of the tax cost of assets of the original company that become assets of the interposed company because of subsection 701-1(1) (the single entity rule).

(4)

To avoid doubt, subsection (3) does not affect the application of subsection 701-1(1) (the single entity rule).

Section 703-75 of the ITAA 1997 sets out the manner in which the new head company will inherit the history of the former head company as follows:

(1) Everything that happened in relation to the original company before the completion time:

(a) is taken to have happened in relation to the interposed company instead of in relation to the original company; and

(b) is taken to have happened in relation to the interposed company instead of what would (apart from this section) be taken to have happened in relation to the interposed company before that time;

just as if, at all times before the completion time:

(c) the interposed company had been the original company; and

(d) the original company had been the interposed company.

Note: This section treats the original company and the interposed company as having in effect exchanged identities throughout the period before the completion time, but without affecting any of the original company's other attributes.

(2) To avoid doubt, subsection (1) also covers everything that, immediately before the completion time, was taken, because of:

(a) section 701-1 (Single entity rule); or

(b) section 701-5 (Entry history rule); or

(c) one or more previous applications of this section; or

(d) section 719-90 (about the effects of a change of head company of a MEC group);

to have happened in relation to the original company.

(3) Subsections (1) and (2) have effect:

(a) for the head company core purposes in relation to an income year ending after the completion time; and

(b) for the entity core purposes in relation to an income year ending after the completion time; and

(c) for the purposes of determining the respective balances of the *franking accounts of the original company and the interposed company at and after the completion time.

(4) Subsections (1) and (2) have effect subject to:

(a) section 701-40 (Exit history rule); and

(b) a provision of this Act to which section 701-40 is subject because of section 701-85 (about exceptions to the core rules in Division 701).

Note: An example of provisions covered by paragraph (b) of this subsection is Subdivision 717-E (about transferring to a company leaving a consolidated group various surpluses under the CFC and FIF rules in Parts X and XI of the Income Tax Assessment Act 1936).

As discussed above, in relation to the reorganisation of Company A, Company X will have a choice under subsection 124-380(5) of the ITAA 1997. Accordingly, sections 703-65 to 703-80 of the ITAA 1997 will apply.

Question 4

As discussed above, sections 703-70 and 703-75 of the ITAA 1997 set out some of the effects of a choice to continue a tax consolidated group after an interposed company becomes the new head company. Relevantly, section 703-65 provides the following:

Sections 703-70 to 703-80 set out the effects if a company (the interposed company) chooses under subsection 124-380(5) that a *consolidated group is to continue in existence at and after the time referred to in that subsection as the completion time.

As discussed in the reasons to Question 2 above, in relation to the reorganisation of Company C, Company X will not have the choice under subsection 124-380(5) of the ITAA 1997. Accordingly, sections 703-65 to 703-80 of the ITAA 1997 will not apply.

Question 5

Part IVA of the ITAA 1936 (Part IVA) is a general anti-avoidance provision. Its role is to ensure that the purpose of the primary operative provisions is not defeated in circumstances where the other provisions should, but have not, operated.

Part IVA gives the Commissioner the discretion to cancel a 'tax benefit' that has been obtained, or would, but for section 177F of the ITAA 1936, be obtained, by a taxpayer in connection with a scheme to which Part IVA applies. This discretion is found in subsection 177F(1) of the ITAA 1936.

Before the Commissioner can exercise the discretion in subsection 177F(1) of the ITAA 1936, the requirements of Part IVA must be satisfied. These requirements are contained in section 177D of the ITAA 1936 which broadly provides that Part IVA applies where:

1. a 'tax benefit', as identified in section 177C, was or would, but for subsection 177F(1), have been obtained;

2. the tax benefit was or would have been obtained in connection with a 'scheme' as defined in section 177A; and

3. having regard to section 177D, the scheme is one to which Part IVA applies.

The requirements are further discussed below.

Scheme

A scheme, for the purposes of Part IVA, is broadly defined in section 177A of the ITAA 1936 and includes:

(a) any agreement, arrangement, understanding, promise or undertaking, whether express or implied and whether or not enforceable, or intended to be enforceable, by legal proceedings; and

(b) any scheme, plan, proposal, action, course of action nor course of conduct.

The scope of this definition has been considered in a number of judgments, most notably being the judgment of the High Court in Hart v. FC of T [2005] FCA 1748; 2005 ATC 5022; (2005) 61 ATR 519. This case confirmed the view that the definition of 'scheme' in section 177A of the ITAA 1936 is extremely wide. According to the judgment in this case, a scheme can be narrowly defined as a single step or event and it is not relevant to ask whether that scheme is capable of standing on its own.

In the present circumstances, the scheme consists of the series of transactions identified in the facts of this ruling.

Tax benefit

For Part IVA to apply, a taxpayer must have obtained, or would but for section 177F of the ITAA 1936 obtain, a tax benefit in connection with a scheme.

Subsection 177C(1) of the ITAA 1936 provides that a reference to the obtaining of a tax benefit by a taxpayer in connection with a scheme shall be read as a reference to:

…

(b) a deduction being allowable to the taxpayer in relation to a year of income where the whole or a part of that deduction would not have been allowable, or might reasonably be expected not to have been allowable, to the taxpayer in relation to that year of income if the scheme had not been entered into or carried out;…

and, for the purposes of this Part, the amount of the tax benefit shall be taken to be:

…

(d) in a case to which paragraph (b) applies - the amount of the whole of the deduction or of the part of the deduction, as the case may be, referred to in that paragraph;…

The identification of a tax benefit for the operation of Part IVA necessarily requires consideration of the income tax consequences of an 'alternative hypothesis' or an 'alternative postulate' (referred to as the counterfactual). This is what would have happened or might reasonably be expected to have happened if the particular scheme had not been entered into or carried out (Federal Commissioner of Taxation v. Hart [2004] HCA 26; 217 CLR 216; 206 ALR 207; 2004 ATC 4599; 55 ATR 712 at [6] per Gleeson CJ and McHugh, and at [66] per Gummow and Hayne JJ).

In this case, a counterfactual should accord with Shareholders 1 and 2's commercial objective of merging the businesses of Company A with that of Company C.

However, when the scheme is compared with a reasonable counterfactual, a tax benefit cannot be identified.

It should also be noted that Shareholders 1 and 2 have advised that they will disregard any capital gain or capital loss that would otherwise be realised or incurred on the disposal of their shares in Company A and Company C under section 124-360 of the ITAA 1997. Therefore, no tax benefit results.

Conclusion

As the requirements of Part IVA are not satisfied, the Commissioner will not make a determination under section 177F of the ITAA 1936 to apply the general anti-avoidance rules in Part IVA to cancel the tax benefit arising as a consequence of the scheme.

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