Edited version of private ruling

Authorisation Number: 1011815561780

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Ruling

Subject: State or Territory Body status and the availability of prior year losses

Issue 1 - State or territory body

Question 1

Is ACo Pty Ltd (A Co) a state or territory body (STB) exempt from Commonwealth income tax under section 24AM of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

Yes.

This ruling applies for the following periods:

Year ending 30 June 2011.

The scheme commences on:

1 July 2010.

Issue 2 - Prior year tax losses

Question 1

Subject to the satisfaction of the 'same business test' under section 165-13 of the Income Tax Assessment Act 1997 (ITAA 1997) and adjustment for the net exempt income derived in the period that ACo is a STB; are the tax losses incurred by ACo during the period before it became a STB available for offset against taxable income derived by ACo for an income year in the period after it is no longer a STB?

Answer

Yes.

This ruling applies for the following periods:

Year ending 30 June 2011.

The scheme commences on:

1 July 2010.

Relevant facts and circumstances

The scheme

ACo Pty Ltd (ACo) is a private company limited solely by shares.

Prior to 1 July 2010 the shares in ACo were held by various entities including individuals and private companies.

A Deed was made by the State with former shareholders and other relevant parties. The parties to the Deed agreed to effect the termination through:

· the purchase by the State of the shares in ACo;

· the termination of the previous Terminating Agreements; and

· the giving of the release set out in the Deed.

Under the Deed, the State purchased 100% of the issued shares in ACo. The State continues to hold 100% of the issued shares.

ACo has not entered into any other deed of arrangement in relation to the ownership or control of the company since the acquisition by the state of 100% of the issued shares.

Prior to 1 July 2010 ACo had incurred tax losses.

Assumptions

The acquisition of the shares by the State will result in a failure of the continuity of ownership test by ACo under section 165-12 of ITAA1997.

Prior to applying tax losses to offset ACo's total assessable income for an income year, the tax losses will be reduced to the extent of any net exempt income derived by ACo during that income year, whilst within the STB period, as required under section 36-17 of ITAA1997.

Any income of ACo that would have been taxable in an income year, but for the STB status of ACo, will constitute net exempt income of ACo and consequently will reduce the quantum of tax losses available to offset ACo's total assessable income in that year.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 24AM.

Income Tax Assessment Act 1936 Section 24AN.

Income Tax Assessment Act 1936 Section 24AO.

Income Tax Assessment Act 1936 Section 24AT.

Income Tax Assessment Act 1936 Section 24AY.

Income Tax Assessment Act 1936 Section 24AW.

Income Tax Assessment Act 1997 Section 36-10.

Income Tax Assessment Act 1997 Section 36-17.

Income Tax Assessment Act 1997 Subsection 36-17(3)

Income Tax Assessment Act 1997 Subsection 36-25

Income Tax Assessment Act 1997 Subdivision 165-E

Income Tax Assessment Act 1997 Section 165-210.

Further issues for you to consider

We have limited our ruling to the questions raised in your application. There may be related issues that you should consider including:

The Commissioner has not determined whether the entity passes the Continuity of Ownership Test (COT) under section 165-12 of the ITAA 1997; or, whether the entity satisfies the Same Business Test (SBT) under section 165-13.

Generally the SBT is performed at each time you want to apply any prior year tax losses that may be available at the end of an income year against a profit arising in an income year (this is often referred to as a recoupment year). The SBT may allow losses to be deductible, despite change in the ownership or control of the company's shares. The SBT is only available after ascertaining that you do not pass the COT.

Satisfying the SBT relies on examination and comparison of the business that you are carrying on with the business you have carried on in the past, at certain points in time. Taxation Ruling TR 1999/9 sets out the Commissioner's view of the SBT.

Reasons for decision

Issue 1 Question 1

Detailed reasoning

General discussion of the law

Section 24AM of the Income Tax Assessment Act 1936 (ITAA 1936) states that income of a State or Territory Body (STB) is exempt from income tax unless section 24AN applies to the STB.

Section 24AN of the ITAA 1936 states income derived by an STB is not exempt from income tax under division 1AB of the ITAA 1936 if, at the time that income is derived, the STB is an excluded STB.

Further, sections 24AO to 24AS of the ITAA 1936 provide five ways in which a body can be regarded an STB. In particular, section 24AO of the ITAA 1936 provides that a body is an STB if:

(a) it is a company limited solely by shares; and

(b) all the shares in it are beneficially owned by one or more government entities.

Section 24AT of the ITAA 1936 defines the meaning of 'excluded STB', 'government entity' and 'territory', and provides that in this Division:

excluded STB is an entity that:

(a) at a particular time, is prescribed as an excluded STB in relation to that time; or

(b) is a municipal corporation or other local governing body (within the meaning of section 50-25 of the Income Tax Assessment Act 1997); or

(c) is a public educational institution to which any of paragraphs 50-55(a) to (c) of the Income Tax Assessment Act 1997 applies; or

(d) is a public hospital to which any of paragraphs 50-55(a) to (c) of the Income Tax Assessment Act 1997) applies; or

(e) is a superannuation fund.

government entity means:

(a) a State; or

(b) a Territory; or

(c) another STB that is not an excluded STB.

Application of the law

ACo is a company limited solely by shares and all of those shares are beneficially owned by the State, which is a government entity within the meaning set out under section 24AT of the ITAA 1936.

Further, ACo does not fall within the categories of excluded STB set out under section 24AT of the ITAA 1936, in that ACo is not:

· at a particular time, prescribed as an excluded STB in relation to that time, or

· a municipal corporation or other local governing body (within the meaning of section 50-25 of the Income Tax Assessment Act 1997 (ITAA 1997)); or

· a public educational institution to which any of paragraphs 50-55(a) to (c) of the ITAA 1997 applies, or

· a public hospital to which any of paragraphs 50-55(a) to (c) of the ITAA 1997 applies, or

· a superannuation fund.

Therefore, it is considered that ACo is a state or territory body (STB) exempt from Commonwealth income tax under section 24AM of the ITAA 1936.

Issue 2 Question 1

Detailed reasoning

General discussion of the law

Division 1AB of the ITAA 1936 operates, among other things, to exempt the income of wholly-owned state and territory bodies from income tax. Subdivision B of Division 1AB operates to ensure that any losses made by an STB in the period from 1 July 1995 until the body is sold to private interests, are extinguished when the body is privatised.

There is no stated intention in explanatory material accompanying the introduction of the relevant legislation, nor any explicit provisions within Division 1AB, to affect the availability of tax losses made in income years prior to the income year in which a company commences to be an STB.

Section 36-17 of the ITAA 1997 sets out the rules on how corporate tax entities may deduct tax losses from a loss year in a later income year.

Subsection 36-17(2) of the ITAA 1997 applies if a company had no net exempt income in a later year and the company's total assessable income exceeds the entity's total deductions (a recoupment year), the entity may choose to offset any amount of the available loss.

Subsection 36-17(3) of the ITAA 1997 applies if a company has net exempt income in a later year and the company's total assessable income exceeds the entity's total deductions (a recoupment year). This subsection requires that you first deduct the tax loss from your net exempt income.

Subsection 36-17(4) of the ITAA 1997 deals with the situation where you have net exempt income, however your deductions in an income year exceed your total assessable income (a loss). Similarly to Subsection 31-17(3), you are required to offset the excess of the deductions against net exempt income.

The entity may also choose to offset any amount of, or none of (nil), the available loss under subsections 36-17(2) and (3), however that choice is limited by circumstances set out under subsection 36-15(5), which provides:

The choice that the entity has under subsection (2) or (3) for the later income year is subject to both of the following:

(a) the entity must choose a nil amount if, disregarding the tax loss and other tax losses of the entity, the entity would have an amount of excess franking offsets for that year;

(b) if, disregarding the tax loss and other tax losses of the entity, the entity would not have an amount of excess franking offsets for that year - the entity must not choose an amount that would result in the entity having an amount of excess franking offsets for that year.

In other words, you can only deduct a tax loss from your total assessable income to the extent that the tax losses are not required to be deducted from the net exempt income in accordance with subsections 36-17(3) and (4) of the ITAA 1997.

An exception to this is contained in section 24AY of the ITAA 1936, which provides that prior year tax losses are not deductible:

If a body is an STB on the last day of a year of income in which it incurs a tax loss, the tax loss is not allowable as a deduction from the body's assessable income of a later year of income unless the body is an STB on the first day of that later year of income.

Section 36-25 of the ITAA 1997 provides special rules about tax losses of certain entities. This section states that where a company wants to deduct a tax loss, it cannot do so unless it passes the Continuity of Ownership Test (COT) or, if the entity does not satisfy the COT, the company satisfies the Same Business Test (SBT).

The SBT is set out under Subdivision 165-E of the ITAA 1997, where section 165-210 provides that:

165-210(1) A company satisfies the same business test if throughout the same business test period it carries on the same business as it carried on immediately before the test time.

165-210(2) However, the company does not satisfy the same business test if, at any time during the same business test period, it derives assessable income from:

(a) a business of a kind that it did not carry on before the test time; or

(b) a transaction of a kind that it had not entered into in the course of its business operations before the test time.

165-210(3) The company also does not satisfy the same business test if, before the test time, it:

(a) started to carry on a business it had not previously carried on; or

(b) in the course of its business operations, entered into a transaction of a kind that it had not previously entered into;

and did so for the purpose, or for purposes including the purpose, of being taken to have carried on throughout the same business test period the same business as it carried on immediately before the test time.

165-210(4) So far as the same business test is applied for the purpose of Subdivision 165-B (which is about working out the taxable income and tax loss for the income year of change of ownership or control), the company also does not satisfy the test if, at any time during the same business test period, it incurs expenditure:

(a) in carrying on a business of a kind that it did not carry on before the test time; or

(b) 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.

Application of the law

As the SBT operates in relation to analysis of specific events and specific times in the course of carrying on a business throughout a specific period, and certain of those necessary events and times relevant to the test have not yet occurred; it cannot be determined at this time whether ACo satisfies the SBT under section 165-210 of the ITAA 1997.

Therefore, subject to the satisfaction of the same business test under section 165-13 of the ITAA 1997 and adjustment for the net exempt income derived in the period that ACo is a STB, the tax losses incurred by ACo during the period before it became a STB will be available for offset against taxable income derived by ACo in the period after it is no longer a STB.

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