Edited version of private advice

Authorisation Number: 1051812942201

Date of advice: 4 March 2021

Ruling

Subject: Conditions for a rollover under subdivision 124-N of ITAA 1997

Question 1

Does the proposed arrangement satisfy the requirements of Subdivision 124-N of the Income Tax Assessment Act 1997?

Answer

Yes

Question 2

Can the original unitholders in the Unit Trust choose a rollover under section 124-870 of the Income Tax Assessment Act 1997?

Answer

Yes

This ruling applies for the following period:

1 July 20XX to 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

A unit trust (Unit Trust) operates a business.

A company is the trustee of the unit trust (the Company). All business assets are held by the Company in its capacity as the trustee for the Unit Trust. The Company has never carried out commercial activities, or held any assets, except in its capacity as a corporate trustee.

The current unitholders in the Unit Trust are:

•         A, which owns 10% of the units, and

•         B, which owns 90% of the units.

The units in the Unit Trust carry fixed entitlements to income and capital. Those interests do not carry any discretionary entitlements.

The Company currently has XX shares on issue. A and B hold the shares in the same proportions as their respective unitholdings in the Unit Trust: A holds X share (10%), and B holds X shares (90%).

The Company currently has one class of shares on issue: the same rights attach to all shares.

The Company is not an exempt entity.

The Company, A, and B are Australian residents.

The parties propose to restructure the business through the following steps during the 20XX income year:

Step 1: the Unit Trust will transfer all business assets to the Company, in its own capacity.

Step 2: A and B will transfer all their units in the Unit Trust to the Company, in its own capacity.

Step 3: The Company will issue XXX new shares to A and B, in the same proportions to their original shareholdings:

•         XXX shares to A (10%)

•         XXXX shares to B (90%)

After Step 3, the original XX shares in the Company will remain on issue.

Step 4: the Unit Trust will be wound up within 6 months of the start of Step 1.

The XXX new shares issued under Step 3 will carry the same rights as the original XX shares on issue before the proposed restructure. The Company does not issue any other shares as part of the arrangement.

Steps 1, 2 and 3 happen in a very short period, virtually simultaneously. There will be no significant changes in the market value of the business assets between the beginning of Step 1 and the end of Step 3.

Relevant legislative provisions

Section 124-855 of the Income Tax Assessment Act 1997

Section 124-860 of the Income Tax Assessment Act 1997

Section 124-870 of the Income Tax Assessment Act 1997

Section 104-10 of the Income Tax Assessment Act 1997

Reasons for decision

All legislative references are to the Income Tax Assessment Act 1997.

Question 1

Does the proposed arrangement satisfy the requirements of Subdivision 124-N of the Income Tax Assessment Act 1997?

Summary

Yes. The proposed arrangement will satisfy the requirements of Subdivision 124-N. The original unitholders in the Unit Trust will receive replacement interests in the Company. Those replacement interests will be held in the same proportions as their original units in the Unit Trust. The market value of the replacement interests will be substantially the same as their original units.

Detailed reasoning

Broadly, subdivision 124-N allows for capital gains and losses to be disregarded where a unit trust disposes of CGT assets to a company as part of a business restructure, which meets certain requirements.

Section 124-855 prescribes requirements for the 124-N rollover:

•         a trust, or 2 or more trusts (the transferor) dispose of all their CGT assets to a company limited by shares (the transferee)

•         CGT event E4 is capable of applying to all of the units and interests in the transferor

•         if there are 2 or more transferors, units and interests in each transferor must be owned in the same proportions by the same beneficiaries

•         other requirements specified in section 124-860 are met.

The proposed arrangement satisfies these requirements:

•         the Unit Trust (the transferor) will dispose of all its CGT assets to the Company (the transferee)

•         CGT Event E4 could apply to payments made by the Unit Trust to its unitholders in respect of those units

•         there is only 1 transferor

•         the other requirements in section 124-860 are met, as explained below.

Section 124-860 prescribes further requirements, including:

•         all the CGT assets owned by the transferor must be disposed of to the transferee during the trust restructuring period: subsection 124-860(1). Subsection 124-860(2) defines the 'trust restructuring period' as the period which:

-        starts just before the first CGT asset is transferred to the transferee, and

-        ends when the last CGT asset is transferred to the transferee

•         the transferee must not be an exempt entity: subsection 124-860(3)

•         the transferee must have never carried on commercial activities, have CGT assets, or losses: subsection 124-860(4). However, subsection 124-860(5) says this requirement doesn't apply where the transferee is the trustee of the transferor.

Subsection 124-860(6) prescribes that, just after the end of the trust restructuring period:

•         (a) each entity that owned interests in a transferor just before the start of the trust restructuring period must own replacement interests in the transferee in the same proportion as it owned those interests in that transferor, and

•         (b) the market value of the replacement interests each of those entities owns in the transferee must be at least substantially the same as the market value of the interests it owned in the transferor or transferors just before the start of the trust restructuring period.

Subsection 124-860(7) allows for certain interests to be disregarded for the purposes of subsection (6). Broadly, this applies where entities which held no more than X shares before the restructure, own a low percentage of the total market value of all shares after the restructure.

Subsection 124-860(1)

This requirement is met. The Unit Trust (the transferor) has disposed of all CGT assets to the Company (the transferee).

The meaning of 'dispose' in this context is affected by section 104-10, which says:

•         you dispose of a CGT asset if there is a change of ownership from you to another entity

•         however, a change of ownership does not occur if you stop being the legal owner but continue to be its beneficial owner.

In Ellison v Sandini Pty Ltd [2018] FCAFC 44 at paragraph 93, Jagot J concluded that a disposal under section 104-10 will occur if there is a change of beneficial ownership but not legal ownership. ATO ID 2010/72 concluded that there will be a disposal under section 104-10, when a corporate trustee ceases to hold an asset in its capacity as trustee, and begins to hold it in its own capacity.

Under this arrangement, there has been a change of beneficial ownership because the Company holds the assets on trust before the restructure. The Unit Trust's beneficiaries (A and B) are the beneficial owners before the restructure, but the Company will be the beneficial owner after the restructure. The relevant trust restructuring period will start just before the Unit Trust transfers the first business asset, and end when it transfers the last business asset.

Steps 1, 2 and 3 happen in a very short period, virtually simultaneously. Therefore, the Unit Trust will be treated as having 'disposed' of its assets to the Company during the trust restructuring period, even though the Company will remain the legal owner of those assets.

Subsection 124-860(3)

This requirement is met, because the Company (the transferee) is not an exempt entity.

Subsection 124-860(4)

This requirement doesn't apply because the Company (the transferee) is the trustee of the Unit Trust (the transferor).

Subsection 124-860

Paragraph 124-860(6)(a) requires that, after the restructure, the transferor's original unit holders own 'replacement interests' in the transferee in the same proportions as their unit holding in the transferor. While the phrase 'replacement interests' is not asterixed, paragraph 124-870(1)(b) uses the phrase to mean shares in the transferee, which are received in exchange for the ending of ownership of units under a trust restructure.

Under the proposed arrangement, the unit holders will be issued with new shares in the Company (the transferee), in the same proportions as their original unit holdings in the Unit Trust (the transferor). Those new shares in the Company can be treated as 'replacement interests' for the purposes of subsections 124-860(6) and 124-870(1), because they are received in exchange for transferring units in the Unit Trust to the Company. Therefore, paragraph 124-860(6)(a) is satisfied.

Paragraph 124-860(6)(b) requires that, after the restructure, the market value of the original unit holders' replacement interests (in the transferee) is 'at least substantially the same' as the market value of their original interests (in the transferor).

All business assets will be transferred from the Unit Trust to the Company, and there will be no significant changes in the market value of those business assets during the trust restructuring period. Therefore, the market value of the Unit Trust before the restructure will be substantially the same as the market value of the Company after the restructure.

The replacement shares in the Company will be the newly issued XXX shares. The only other interest in the Company will be the original 10 shares which will remain on issue. The original shares and newly issued shares are within the same class, and carry the same rights. Therefore, the market value of the XXX replacement shares will represent over 99.99% of the market value of the Company. Therefore, the market value of the 'replacement interests' in the Company will be 'at least substantially the same' as the market value of the units in the Unit Trust before the restructure. The requirement in paragraph 124-860(6)(b) is satisfied. In these circumstances, subsection 124-860(7) is not relevant.

Question 2

Can the original unitholders in the Unit Trust choose a rollover under section 124-870 of the Income Tax Assessment Act 1997?

Summary

Yes. The original unitholders in the Unit Trust can choose a rollover under section 124-870. Their units will end under a trust restructure in exchange for replacement interests in the Company.

Detailed reasoning

Section 124-870 prescribes requirements for the unitholders to apply the rollover to their original units in the transferee. Broadly:

•         the unitholders must own units or interests in the transferor (original interests): paragraph 124-870(1)(a)

•         their ownership of their original interests must end under a trust restructure in exchange for shares in the transferee (replacement interests): paragraph 124-870(1)(b)

•         foreign residents cannot choose a roll-over unless the replacement interests are taxable Australian property just after they are acquired: subsection 124-870(3).

While 'exchange' is not defined, the Macquarie Dictionary online[1] says meanings of 'exchange' include to part with, give up, or change something for something else, or to give and receive reciprocally/interchange.

A and B will satisfy these requirements:

•         they are the original unitholders in the Unit Trust

•         the ownership of all their units will end under the restructure

•         they have received the new shares in the Company

•         their ownership of the new shares in the Company takes the place of the units they transferred to the Company: this is consistent with the ordinary meaning of an 'exchange'

•         they are Australian residents.

Since the requirements in section 124-870 are satisfied, A and B can choose a rollover.

[1] Macmillan Publishers Australia, The Macquarie Dictionary online, www.macquariedictionary.com.au, accessed 12 February 2021.

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