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Ruling

Subject: Capital gains tax event and cost base

Issue 1

Question 1

Does CGT event A1 occur as a result of the on-sale of a CGT asset?

Answer

No

Question 2

If the answer to question 1 is no, does CGT event D1 occur as a result of the on-sale of the CGT asset?

Answer

Yes.

Question 3

If the answer to question 1 is no, can the Commissioner confirm that no net capital gain will arise in relation to the on-sale of the CGT asset?

Answer

Not applicable.

Issue 2

Question 1

Is the Entity A's cost base of the on-sale of the CGT asset the same as the acquisition price for the CGT asset provided to Entity B?

Answer

No.

Question 2

If not, what is the cost base of the on-sale of the CGT asset to Entity C?

Answer

The cost base of the CGT event D1 is the incidental costs of creating the contractual right.

Question 3

If the answer to question 1 is no, can the Commissioner confirm that no net capital gain will arise in relation to the on-sale of the CGT asset?

Answer

No, a net capital gain is made if, and to the extent, the proceeds received from creating the contractual right exceed the incidental costs of creating the contractual right.

This ruling applies for the following period:

Year ended 30 June 2012

The scheme commences on:

1 July 2011

Relevant facts and circumstances

The scheme the subject of this Ruling has been ascertained from the following documents:

· Application for private ruling

· Offer of sale from Entity A to Entity C

· Contract for sale between Entity B and Entity A

· Contract for sale between Entity A and Entity C.

Relevant legislative provisions

Section 104-10 of the Income Tax Assessment Act 1997

Section 110-25 of the Income Tax Assessment Act 1997

Division 112 of the Income Tax Assessment Act 1997

Subsection 112-30(1) of the Income Tax Assessment Act 1997

Division 116 of the Income Tax Assessment Act 1997

Reasons for decision

Issue 1

Question 1

Section 104-10 of ITAA 1997 provides:

CGT event A1 happens if you *dispose of a *CGT asset.

You dispose of a *CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event or by operation of law. However, a change of ownership does not occur if you stop being the legal owner of the asset but continue to be its beneficial owner.

A CGT asset is defined in subsection 108-5(1) of ITAA 1997 as:

A CGT asset is:

(a) any kind of property; or

(b) a legal or equitable right that is not property.

By contract, Entity A acquired the business of Entity B. The CGT asset which can be identified from the contract is the goodwill of the business.

Taxation Ruling TR 1999/16 Income tax: capital gains: goodwill of a business provides at paragraph 12:

As explained more fully at paragraph 85 of this Ruling, goodwill is the product of combining and using the tangible, intangible assets of a business for such purposes and in such ways that custom is drawn to it. The attraction of custom is central to the legal concept of goodwill. Goodwill is a quality or attribute that derives among other things from using or applying other assets of a business. It may be site, personality, service, price or habit that obtains custom. It is more accurate to refer to goodwill as having sources than it is to refer to it as being composed of elements. Goodwill is a composite thing. It is one whole. It is an indivisible item of property that is legally distinct from the sources from which it emanates. It is something that attaches to a business and is inseparable from the conduct of a business. It cannot be dealt with separately from the business with which it is associated.

The acquisition for Entity A was based on a valuation method customary in the industry of Entity B and which did not account for potential opportunities for an Entity C type business. Accordingly goodwill acquired by Entity A being that of the business of Entity B was that of such an Entity, i.e. a business which did not include that of one carried out by Entity C.

From the above we conclude that the CGT asset provided by Entity A to Entity C, a right, was not a CGT asset acquired from Entity B or a CGT asset that existed prior to being created by the contract between Entity A and Entity C.

Accordingly, CGT event A1 does not occur as a result of the contract between Entity A and Entity C as it is not a disposal of an existing CGT asset.

Question 2

Section 104-35 of ITAA 1997 provides:

Section 104-35 Creating contractual or other rights: CGT event D1

104-35(1) CGT event D1 happens if you create a contractual right or other legal or equitable right in another entity.

104-35(2) The time of the event is when you enter into the contract or create the other right.

104-35(3) You make a capital gain if the capital proceeds from creating the right are more than the incidental costs you incurred that relate to the event. You make a capital loss if those capital proceeds are less.

The CGT asset disposed of by Entity A to Entity C was a right. This right was created by the contract between Entity A and Entity C.

In accordance with section 104-35 of ITAA 1997, the relevant CGT event is D1.

Question 3

Not applicable

Issue 2

Question 1

As previously provided in the answer to issue 1 question 1, it is considered that the CGT asset provided by Entity A to Entity C, the right, was not a CGT asset acquired from Entity B or a CGT asset that existed prior to being created by the contract between Entity A and Entity C.

Cost base

Pursuant to section 110-25 of ITAA 1997, the cost base of a CGT asset is made up of five elements:

1. money or property given for the asset

2. incidental costs of acquiring the CGT asset or relate to the CGT event

3. costs of owning the asset

4. capital costs to increase or preserve the value of your asset or to install or move it

5. capital costs of preserving or defending your ownership of or rights to your asset.

However, we have established that the relevant CGT event is D1. Subsection 104-35(3) of ITAA 1997 restricts the cost base of a CGT event D1 to the incidental costs that relate to the event.

Subsection 104-35(3) of ITAA 1997, for the purposes of CGT event D1, states:

104-35(3) You make a capital gain if the capital proceeds from creating the right are more than the incidental costs you incurred that relate to the event. You make a capital loss if those capital proceeds are less.

Section 110-35 of ITAA 1997 stipulates the incidental costs which may be included in the cost base.

Section 110-35 of ITAA 1997 provides that there are 10 incidental costs you may have incurred in acquiring the asset or for the CGT event that happens to it including its disposal and that they are:

1. remuneration for the services of a surveyor, valuer, auctioneer, accountant, broker, agent, consultant or legal advisor

2. costs of transfer

3. stamp duty or other similar duty

4. costs of advertising or marketing (but not entertainment) to find a seller or buyer

5. costs relating to the making of any valuation or apportionment to determine your capital gain or capital loss

6. search fees relating to an asset (such as fees to check land titles and similar fees, but not travel costs to find an asset suitable for purchase)

7. the cost of a conveyancing kit (or a similar cost)

8. borrowing expenses (such as loan application fees and mortgage discharge fees)

9. expenditure that

· is incurred by the head company of a consolidated group to an entity that is not a member of the group, and

· reasonably relates to a CGT asset held by the head company, and

· is incurred because of a transaction that is between members of the group.

10. expenditure (also known as termination or exit or similar fees) that is incurred as a direct result of your ownership of a CGT asset ending.

Question 2

Subsection 104-35(3) of ITAA 1997 restricts the cost base of a CGT event D1 to the incidental costs that relate to the event.

Subsection 104-35(3) of ITAA 1997, for the purposes of CGT event D1, states:

104-35(3) You make a capital gain if the capital proceeds from creating the right are more than the incidental costs you incurred that relate to the event. You make a capital loss if those capital proceeds are less.

Section 110-35 of ITAA 1997 stipulates the incidental costs which may be included in the cost base.

Section 110-35 of ITAA 1997 provides that there are 10 incidental costs you may have incurred in acquiring the asset or for the CGT event that happens to it including its disposal and that they are:

1. remuneration for the services of a surveyor, valuer, auctioneer, accountant, broker, agent, consultant or legal advisor

2. costs of transfer

3. stamp duty or other similar duty

4. costs of advertising or marketing (but not entertainment) to find a seller or buyer

5. costs relating to the making of any valuation or apportionment to determine your capital gain or capital loss

6. search fees relating to an asset (such as fees to check land titles and similar fees, but not travel costs to find an asset suitable for purchase)

7. the cost of a conveyancing kit (or a similar cost)

8. borrowing expenses (such as loan application fees and mortgage discharge fees)

9. expenditure that

· is incurred by the head company of a consolidated group to an entity that is not a member of the group, and

· reasonably relates to a CGT asset held by the head company, and

· is incurred because of a transaction that is between members of the group.

10. expenditure (also known as termination or exit or similar fees) that is incurred as a direct result of your ownership of a CGT asset ending.

Pursuant to subsection 104-35(3) of the ITAA 1997, the cost base of the CGT event D1 is the incidental costs of creating the contractual right.

Question 3

Subsection 104-35(3) of ITAA 1997, for the purposes of CGT event D1, states:

104-35(3) You make a capital gain if the capital proceeds from creating the right are more than the incidental costs you incurred that relate to the event. You make a capital loss if those capital proceeds are less.

Capital proceeds

For most CGT events your capital proceeds are amounts of money or the value of any property you receive or are entitled to receive.

In some cases, pursuant to Division 116 of the ITAA 1997, you are taken to have received the market value of the asset at the time of the CGT event where:

· You receive nothing in exchange for a CGT asset.

· Your capital proceeds are more or less than the market value of the CGT asset, and you and the purchaser were not dealing with each other at arm's length in connection with the event.

You are taken to be dealing at arm's length with someone if each party acts independently and neither party exercises influence or control over the other in connection with the transaction.

In the circumstances of this case, Entity A received or were entitled to receive $X from Entity C as provided in the contract between them. so clearly more than nothing was received in exchange for the CGT asset.

The Application provides that Entity A and Entity C were dealing with each other at arm's length, accordingly it is considered that the capital proceeds from the CGT event was $X.

Cost base

As provided in the answers to question 1 and 2 above:

· Pursuant to subsection 104-35(3) of the ITAA 1997, the cost base of the CGT event D1 is the incidental costs of creating the contractual right.

· The CGT asset provided by Entity A to Entity C, the right, was not a CGT asset acquired from Entity B but a CGT asset created by the contract between Entity A and Entity C.

No information has been provided as to the actual incidental costs incurred in creating the right.

Pursuant to subsection 104-35(3) of the ITAA 1997, a net capital gain is made if (and to the extent) the proceeds received from creating the contractual right exceed the incidental costs of creating the contractual right.

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