Edited version of your private ruling

Authorisation Number: 1012375809860

Ruling

Subject: Same business test

Question

Will X company as head company of X company income tax consolidated group (X Group) satisfy the same business test (SBT) in Division 165 in respect of tax losses incurred prior to the Continuity of Ownership Test (COT) failure where the losses are sought to be deducted in the recoupment year.

Answer

No

This ruling applies for the following periods:

The recoupment year.

The scheme commences on:

The scheme has already commenced.

Relevant facts and circumstances

X company is an Australian resident public company listed on the Australian Securities Exchange (ASX) and is the head company of an income tax consolidated group (X Group).

X company entered into a share sale agreement (SSA) and a merger agreement (MA) to acquire A company and its subsidiaries.

The completion of the SSA occurred on Date E when X company acquired 100% of the shares in A company and 100% control of A company, a business in the same industry as X company.

As consideration for the acquisition of shares in A company and its subsidiaries, X company issued fully paid ordinary shares to the vendors. Consequently, the merger as effected by the MA and SSA resulted in a change in ownership of X company. Following the completion of the merger with the issue of shares on Date E, greater than 50% of the issued shares in X company were held by the vendors and the existing X company shareholders held a minority portion of the issued ordinary shares in X company.

Due to the change in shareholding in X company arising as a result of the merger on Date E, X company fails to satisfy the COT under Division 166 of the ITAA 1997 as a result of a greater than 50% change in ultimate shareholding of the company.

Prior to Date E, X company carried on two main business activities. The principal business activity, M activity was in the development phase, it's other main business activity, N activity commenced production shortly before Date E. X company also carried on other business activities being investments and cash deposits.

During the recoupment year X company's principal business was the A company business and it's other main business was the development of its former principal business activity, M activity. X company sold N activity as it was a 'non-core asset' of X company.

The acquisition of the A company business provided X company with an opportunity to acquire a strategic asset to accelerate the development of activity M.

The acquisition of the A company business complemented X company's long term business strategy.

A substantial material change to the revenue, expenses, total assets, total liabilities and contributed equity of X company resulted immediately following the completion of the SSA (Date E).

During the recoupment year X company's main source of revenue was from the A company business. Material changes have also occurred to the X company's major customers, the number of employees and the corporate structure.

Several subsidiaries in the X Group have been disposed of after the test time and several subsidiaries have been acquired at and after the test time.

Several investment assets held by X company have been disposed of and several additional investment assets have acquired after the test time, before the SBT period and during the SBT period.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subdivision 36-A.

Income Tax Assessment Act 1997 subsection 36-17.

Income Tax Assessment Act 1997 section 36-25.

Income Tax Assessment Act 1997 Division 165.

Income Tax Assessment Act 1997 Subdivision 165-A.

Income Tax Assessment Act 1997 section 165-5.

Income Tax Assessment Act 1997 section 165-10.

Income Tax Assessment Act 1997 section 165-12.

Income Tax Assessment Act 1997 subsection 165-13.

Income Tax Assessment Act 1997 section 165-210.

Income Tax Assessment Act 1997 subsection 165-210(1).

Income Tax Assessment Act 1997 subsection 165-210(2).

Income Tax Assessment Act 1997 paragraph 165-210(2)(a).

Income Tax Assessment Act 1997 paragraph 165-210(2)(b).

Income Tax Assessment Act 1997 subsection 165-210(3).

Income Tax Assessment Act 1997 Division 166.

Income Tax Assessment Act 1997 section 166-5(4).

Income Tax Assessment Act 1997 section 166-5(5).

Income Tax Assessment Act 1997 section 166-5(6)(b).

Tax Laws Amendment Bill (No. 5) 2003 Schedule 7.

Reasons for decision

All subsequent legislative references in this Ruling are to the ITAA 1997 unless otherwise indicated.

Summary

X company as head company of X company income tax consolidated group (X Group) will not satisfy the same business test (SBT) in Division 165 in respect of tax losses incurred prior to the Continuity of Ownership Test (COT) failure where the losses are sought to be deducted in the recoupment year.

Detailed reasoning

The deductibility of tax losses by a corporate entity is governed by Subdivision 36-A.

Section 36-17 allows a corporate tax entity to deduct a tax loss in a later income year.

Item 2 of section 36-25 states where a company wants to deduct a tax loss it cannot do so unless:

· the same people owned the company during the loss year, the income year and any intervening year; and

· no person controlled the company's voting power at any time during the income year who did not also control it during the whole of the loss year and any intervening year; or

· the company has satisfied the same business test (SBT).

Item 2 refers to Subdivision 165-A for special rules. Section 165-5 provides that in carrying out the same business it must also enter into no new kinds of transactions and conduct no new kinds of business

Section 165-10 states that a company cannot deduct a tax loss unless either:

(a) it meets the conditions in section165-12 (which is about the company maintaining the same owners); or

(b) it meets the conditions in section165-13 (which is about the company satisfying the same business test).

X company is eligible to deduct tax losses under Subdivision 165-A as modified by Division 166.

As provided by in subsection 166-5(4), X company has failed the COT in section 165-12 on Date E.

However, if X company satisfies the same business test for the income year (same business test period), it is taken to have satisfied the condition in section 165-13 (subsection 166-5(5)).

Paragraph166-5(6)(b) provides the time when the business is compared to the same business test period,

The SBT is contained in section 165-210. Subsection 165-210(1) states that 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. Subsection 165-210(2) states 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.

Subsection 165-210(3) states that 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.

Test time and SBT period

To satisfy the SBT, X company must carry on the same business throughout the year in which the loss is deducted (the SBT period) as it carried on immediately before the test time, being Date E.

Elements of the SBT

To satisfy the SBT in respect of its prior year losses, X company must be able to satisfy a positive test, 2 negative tests and an anti-avoidance tests:

1. A positive test - the same business test - during the SBT period, the company must carry on the same business that it carried on immediately before the SBT test time (subsection 165-210(1));

2. A negative test - the new business test - during the SBT period, the company must not derive assessable income from carrying on a business of a kind that it did not carry on before the SBT test time (paragraph 165-210(2)(a));

3. A further negative test - the new transaction test - during the SBT period, the company must not derive assessable income, in the course of its business operations, from a transaction of a kind that it had not entered into before the SBT test time (paragraph 165-210(2)(b)); and

4. the anti-avoidance test - the company did not commence certain business activities before the test time for the purpose of satisfying the SBT (subsection 165-210(3)).

The positive test - subsection 165-210(1)

Subsection 165-210(1) states:

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.

The positive limb of the SBT requires a comparison of the business carried out throughout the SBT period, with the business carried on immediately before the test time (section 165-210(1)). To satisfy the SBT, X company must carry on the same business throughout the year in which the loss is deducted (the SBT period) as it carried on immediately before the test time, being immediately before Date E.

The Commissioner's views of the meaning of 'same' are set out in Taxation Ruling TR 1999/9. Paragraph 8 states that 'same business' means the business of the company as an entirety, or its 'overall business'.

Paragraph 25 of TR 1999/9 explains the positive test: "it looks to see whether the business of the company in the year of recoupment is actually the same business that was carried on at the change-over. The same business test is intended to ensure continuing identity between the whole of the business activities carried on by the taxpayer at the change-over and the whole of the business activities carried on by the taxpayer during the period of recoupment.'

Paragraphs 38 to 40 of TR 1999/9 discuss situations where there have been changes in activities. Paragraph 38 explains that the same business "..does not mean that the business carried on by the taxpayer during the year of recoupment must be identical in every respect with the business that was carried on immediately before the change-over. A business may be the same, even though there have been some changes in the way in which it is carried on, provided the identity of the business is not changed."

Paragraph 39 explains further:

"Mere expansion or contraction of the taxpayer's business may not result in the change in the identity of the business carried on by the taxpayer. In Avondale Motors, Gibbs J said:

'In some circumstances a company may expand or contract its activities, it may close an old shop and open a new one, without starting a new business, but the only conclusion that can be drawn from all the circumstances of the present case is that the business of the taxpayer after 15 March 1968 was different from that which it carried on before that date.

...

It does not, of course, follow that a business will not be the same because there have been some changes in the way in which it is carried on; some cases under sec 80E may give rise to questions of degree which do not arise in the present case.' "

However, paragraph 40 states: ".. as a practical matter, expansion or reduction of business activities, if carried to a sufficient extreme, is likely to amount to more than a mere change in the scale of the business carried on by the taxpayer and so may result in a change in the identity of the business." And "Moreover, the evolution of a business is not necessarily the same as mere expansion and may lead to change such that the business can no longer be described as the same business as that carried on immediately before the change-over,…".

Paragraph 44 of TR 1999/9 considers organic growth and states:

"However, if a company acquires and merges with its original business another undertaking or enterprise, even if the amalgamated businesses are of a similar kind, the company fails the same business test when, considered as a whole, the business of the company in the year of recoupment cannot fairly be regarded as the same, albeit expanded, business carried on at the change-over. This could occur, for example, if a company whose original business had greatly contracted, commenced, or acquired as a going concern, another distinct undertaking of the same kind that preponderated in the overall business of the taxpayer."

To determine the business X company carried on immediately before the SBT test time involves looking at all the things done and the activities carried on by the taxpayer in the course of that business, i.e. during the period beginning at the change-over and extending into the past to a point where it can be said the same business was not being carried on (paragraph 35 of TR 1999/9).

Paragraph 59 of TR 1999/9 summarises how to determine whether the same business test is satisfied:

"There are various relevant factors to take into account in determining whether the same business test is satisfied by a taxpayer. A single factor or matter might be so important that it determines the issue but, usually, it is a combination of factors, appropriately weighted, that decides whether the same business is carried on during the period of recoupment. A factor that in isolation has little weight, may in combination with other factors have great weight and, conversely, something that is significant when it appears with other changes, may have no importance when it appears alone. Nor is it only changes that must be weighed: answering the question of whether the business carried on in the year of recoupment is the same business carried on at change-over requires one to have due regard to what remains the same. In determining whether the same business test is satisfied, significant weight is given to changes after the change-over in the income producing product or service of the taxpayer, how it is produced, acquired or provided and/or changes in the market for that product or service. But even these are a question of fact and degree often to be decided in the context where some expansion or contraction would be expected."

Paragraph 60 of TR 1999/9 provides guidelines (a) to (i) in determining whether a taxpayer has satisfied the SBT.

The A company business carried on by X company at the test time

X company has contended that the business activities of the A company business were carried out by X company at the test time as the SSA was executed on Date D and X company has consequently acquired economic exposure to the assets and activities of A company and the operation of the business of A company from Date D.

However, the execution of the SSA on Date E is the date from which all the contractual rights and obligations begin and from which point any term of time commences. The SSA specifies the obligations, the conditions precedent, each party are to fulfil for the sale and purchase and the completion.

X company shareholder approval was obtained after Date D and before Date E.

The SSA makes it clear that the acquisition of the A company business took place pursuant to the SSA on the completion date, being Date E which was upon fulfilment of the conditions precedent. X company was not carrying on the A company business because it did not own it.

Conclusion

In weighing up all the factors, X company will not satisfy the positive test contained in subsection 165-210(1) for the SBT period.

The leading case on the SBT is Avondale Motors (Parts) Pty Ltd v FCT (1971) 124 CLR 97 where the term 'same' was interpreted to mean identical and not merely the same kind of business or similar.

The X company business immediately before the SBT test time is not the same business as the X company business throughout the SBT test period although it is a similar business.

The business of X company at the test time and throughout the SBT test period included the M activity but the A company business preponderated the overall business of X company throughout the SBT test period.

X company has changed the character of its business from that of a development business to that of a production business.

As X company has failed the positive test it will not be necessary to consider the negative tests in subsections 165-210(2)(a), 165-210(2)(b) and 165-210(3).

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