Edited version of your written advice

Authorisation Number: 1012697394988

Ruling

Subject: Marriage breakdown

Questions and Answers:

1. Does the payment of your share of loans by the private company under orders of the Family Court result in an assessable dividend to you under section 44 of the Income Tax Assessment Act 1936 (ITAA 1936)?

Yes

2. Are you assessable on your share of the capital gain made as a result of the sale of Property A?

Yes

This ruling applies for the following period:

Year ended 30 June 2014

The scheme commenced on:

1 July 2013

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.

You and your spouse separated.

You and your spouse were the two shareholders of a private company, (the Company). You both were also the directors of the Company.

The Company conducted its business at Property A.

You and your spouse jointly owned Property A and received rent from the Company. You showed your share of the rental income and deductions in your tax returns.

In the relevant income year you and your spouse started proceedings for the separation of property.

You resigned as director of the Company.

You have provided the final consent orders which went before the Magistrates Court under the Family Law Act 1975 (FLA). You and your spouse were parties to the proceedings before the Family Court of Australia.

Clause X of the consent orders states that upon completion of the sale of Property A and the business, the parties cause the Company to disburse the net proceeds of sale in certain matters, which included the repayment of loans (business and private) which were in joint name with your spouse.

Clause Y of the consent orders require the husband and wife do all things and pass all necessary resolutions to cause the company not to distribute to the husband rents and/or profits from the use of Property A and/or the operation of the business after a certain date and upon doing so the specific spouse be solely liable for and indemnify the other spouse against any taxation liability(s) of whatsoever nature and kind that in any way relates to the use of Property A and/or the operation of the business incurred in their names and/or the name of the company.

The business and property A were sold in the relevant income year.

You did not receive any income from the sale of the business or from the sale of property A.

Relevant legislative provisions

Income Tax Assessment Act 1936 Subsection 6(1)

Income Tax Assessment Act 1936 Section 44

Income Tax Assessment Act 1997 Section 104-10

Income Tax Assessment Act 1997 Section 102-20

Income Tax Assessment Act 1997 Section 108-7

Reasons for decision

Repayment of loans by company

Section 44 of the Income Tax Assessment Act 1936 (ITAA 1936) includes dividends paid by a company to a shareholder in that shareholder's assessable income depending on whether they are, or are taken to be, paid out of profits derived by the company.

The word 'dividend' is defined in subsection 6(1) of the ITAA 1936 to include:

(a) any distribution made by a company to any of its shareholders, whether in money or other property.

The meaning of distribution:

The meaning of 'distribution' in context has been judicially considered and held:

• to at least involve a dealing out or bestowal;

• to encompass a very broad range of applications of company property and money to shareholders while the company is a going concern;

• to undoubtedly be of wide import and concerned with the manner in which the shareholder receives the benefit of the dividend, emphasising that, in whatever manner the dividend reaches the shareholder it is to be regarded as assessable income;

• that the legal form of the transaction and the capacity in which the benefit is conferred on the shareholder will be relevant factors;

• to not require the existence of the conditions necessary to declare a lawful dividend under the Corporations Act.

It is also to be observed the construction of paragraph 44(1)(a)(i) of the ITAA 1936 is silent on the cause of the private company in making the distribution.

Paid out of profits:

In terms of whether a distribution has been paid out of profits, paragraphs 15 and 16 of TR 2003/8 relevantly states:

15. In deciding whether, as a question of fact, a distribution has been made out of profits derived by the company in cases where the distribution is not formally acknowledged as such, a substantive approach should be adopted. There does not need to be a formal debiting of an account of profit of the company. So long as the market value of the company assets exceeds the total amount (as shown in its books of account) of its liabilities and share capital what remains is profits. If the distribution is not debited to share capital the distribution is one of profits.

16. Such an approach was adopted by the NSW Supreme Court in Masterman v. FCT 85 ATC 4015. In reaching its decision that the payment to shareholders in that case was a payment out of profits derived by the company, the court noted (at page 4030) that the company was solvent and that there was no evidence that the relevant payment was out of non-profit sources, and that 'commonsense would require that the company be kept solvent and that only surplus amounts not putting that requirement at risk be paid out'.

A dividend for tax purposes:

It follows for tax purposes that it does not matter whether a dividend is intended or predicated upon any particular process. All that is required is a factual enquiry as to whether there is a distribution and whether it is made out of profits.

Your circumstances

You were a shareholder of the Company. Under the Family Court proceeding, you and your spouse became parties to the Court proceeding. Family Court orders obligated the Company to repay your share of a number of loans. It does not matter if these loans were private or related to the business.

In your case both of the following are present:

(a) a bestowal by the private company upon the shareholder in terms of the transfer of property; and

(b) both in substance and legal form there is a Court ordered appropriation of private company profits to the shareholder.

The Commissioner does not consider the authorities support a proposition that just because the distribution of profits is pursuant to a Court order that should alter characterisation as a dividend for tax purposes. The Court order is merely the impetus for the directors in resolving to make the distribution. Therefore, consistent with the approach in TR 2003/8, an assessable dividend arises under section 44 of the ITAA 1936.

In conclusion, whilst we appreciate your particular circumstances, the payment of your share of the loans by the private company is assessable to you as a dividend under section 44 of the ITAA 1936 and needs to be included in your income tax return.

Capital gains tax

You make a capital gain or capital loss when a capital gains tax (CGT) event happens to a CGT asset.

In certain cases where an asset or a share of an asset is transferred from one spouse to another after their marriage breaks down, any CGT is deferred (rolled over) until a later CGT event happens. In the case of a disposal, for roll-over to apply the transferor must dispose of the asset to the transferee spouse.

In your case, the property was not transferred to your spouse. It was sold to an unrelated third party. Therefore the marriage breakdown roll-over provisions do not apply to you. The legislation does not allow for the Commissioner to exercise any discretion in matters of this nature.

The most common CGT asset is a CGT event A1 which occurs when you dispose of a CGT asset. The time of the event is when you enter into the contract for its disposal or if there is no contract when the change of ownership occurs.

CGT event A1 occurred when Property A was disposed of. The property was in joint name with your spouse.

For CGT purposes, individuals who own a CGT asset as joint tenants are treated as if they own a separate CGT asset with each holding identical interests (50%) in the property. Any capital gain or capital loss is split equally between the individuals.

Court orders or consent orders made under the Family Law Act 1975 that stipulate a percentage amount each party is to receive from the disposal of assets does not affect how the CGT legislation is applied to properties acquired jointly. Apportionment of the proceeds for CGT purposes is made according to the legal interests registered on the title.

It is acknowledged that the consent orders state that your spouse will be solely liable and indemnify you against any taxation liability as a result of the sale of Property A as well as other matters relating to the consent orders. However, in accordance with your ownership interest, you are liable for 50% of the capital gain made on the disposal of Property A. The consent orders give you the right to have your spouse cover some of your tax liability.

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