Edited version of private advice

Authorisation Number: 1051815036300

Date of advice: 12 March 2021

Ruling

Subject: Similar business test

Question

Does Entity A satisfy the conditions of the business continuity test ('similar business') in section 165-211 of the Income Tax Assessment Act 1997 (ITAA 1997), in order to utilise available losses, in the period ended 30 June 20XX?

Answer

Yes.

This ruling applies for the following period:

Year ending 30 June 20XX.

The scheme commences on:

1 July 20XX.

Relevant facts and circumstances

Entity A is an Australian private company registered on 30 August 20XX.

The core business of Entity A is as a Managed Service Provider in the XX industry.

Entity A had a change in ownership on 18 August 20XX. Shareholder A sold 50% of their ownership share in Entity A to Shareholder B. Shareholder A was the 100% shareholder of Entity A before this time.

Entity A's Business Assets

Since the change of ownership Entity A used the same tangible and intangible assets to generate income (that is, Entity A used the same physical office, key employees, management and website) to the 20XX income year.

The management structure of Entity A remained the same during this period.

Entity A owned the same intangible assets including intellectual property and goodwill in this period:

Entity A's Business Activities

The activities, operations and identity of the business did not change during this period.

Entity A offered the same services to customers.

Entity A had a similar client base and geographical market during this period. This included small business and SME customers across the following industries:

•         Accounting and finance;

•         Construction;

•         Engineering;

•         Professional services;

•         Hospitality;

•         Fast moving consumer goods;

•         Manufacturing; and

•         Technology and Distribution.

Entity A's turnover for the period was accounted for on a cash basis.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 165-10;

Income Tax Assessment Act 1997 section 165-12;

Income Tax Assessment Act 1997 subsection 165-12(1);

Income Tax Assessment Act 1997 subsection 165-12(2);

Income Tax Assessment Act 1997 subsection 165-12(3);

Income Tax Assessment Act 1997 subsection 165-12(4);

Income Tax Assessment Act 1997 section 165-13;

Income Tax Assessment Act 1997 section 165-210;

Income Tax Assessment Act 1997 section 165-211;

Income Tax Assessment Act 1997 subsection 165-211(2);

Income Tax Assessment Act 1997 paragraph 165-211(2)(a);

Income Tax Assessment Act 1997 paragraph 165-211(2)(b);

Income Tax Assessment Act 1997 paragraph 165-211(2)(c);

Income Tax Assessment Act 1997 paragraph 165-211(2)(d).

Reasons for decision

All legislative references are to the Income Tax Assessment Act 1997 (ITAA 1997) unless otherwise indicated.

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

(a)  it meets the conditions in section 165-12 (which is about the company maintaining the same owners) (continuity of ownership test); or

(b)  it meets the condition in section 165-13 (which is about the company satisfying the business continuity test).

In determining whether section 165-10 prevents a company from deducting a tax loss, the ownership test period is the period from the start of the loss year to the end of the income year.

Section 165-12 addresses the requirements for a company to maintain the same owners. These are:

•         There must be persons who had more than 50% of the voting power in the company at all times during the ownership test period (subsection 165-12(2)).

•         There must be persons who had rights to more than 50% of the company's dividends at all times during the ownership test period (subsection 165-12(3)).

•         There must be persons who had rights to more than 50% of the company's capital distributions at all times during the ownership test period (subsection 165-12(4)).

In your case, you have advised that Entity A does not satisfy the conditions of the continuity of ownership test set out in section 165-12. This is because Shareholder A sold 50% of his ownership in Entity A on 18 August 20XX.

Entity A will only be entitled to deduct its carried forward tax losses incurred prior to the continuity of ownership test failure if it meets the conditions of the 'business continuity test' in section 165-13.

The 'business continuity test' is satisfied by a company meeting the conditions of the 'same business test' in section 165-210 or the 'similar business test' in section 165-211.

You have not provided information to show that Entity A satisfies the 'same business test' in section 165-210, therefore the 'same business test' is not considered by this ruling.

On this basis, we have considered that in order to access the losses in the 20XX income year, whether Entity A satisfies the similar business test in section 165-211.

Under the similar business test, companies and listed widely held trusts will be able to utilise tax losses made from carrying on a business, if it carries on a similar business in the income year when it wants to use the loss (the 'similar business test period') as it carried on immediately before the change of ownership or control that caused the company to fail the continuity of ownership test (the 'test time').

Subsection 165-13(2) provides that the company must satisfy the business continuity test for the income year (business continuity test period). The test is applied to the business the company carried on immediately before the 'test time'.

The 'test time' is worked out according to the table in subsection 165-13(2). In this case item 1 of the table in subsection 165-13(2) is the relevant item, which sets out that the 'test time' is the latest time that it is practicable to show during the 'ownership test period'.

In your case the test time is 18 August 20XX and the business continuity test period is the period immediately before the test time until the 20XX income year.

Subsection 165-211(2) provides that, without limiting the matters that may be taken into account in ascertaining whether the company's current business is similar to its former business, the following must be taken into account:

(a) the extent to which the assets (including goodwill) that are used in its current business to generate assessable income throughout the business continuity test period were also used in its former business to generate assessable income;

(b) the extent to which the activities and operations from which its current business generated assessable income throughout the business continuity test period were also the activities and operations from which its former business generated assessable income;

(c) the identity of its current business and the identity of its former business;

(d) the extent to which any changes to its former business result from development or commercialisation of assets, products, processes, services or marketing or organisational methods of the former business.

Application to your circumstances

During the business continuity test period, Entity A maintained and continued to use the same assets of the previous business, including tangible assets such as the same office premises, key employees and management structure as well as intangible assets such as intellectual property and goodwill. On this basis, it is considered that the first factor contained in paragraph 165-211(2)(a) is satisfied.

During the business continuity test period, Entity A maintained the income generating activities and operations that were previously undertaken prior to the company's change in ownership. This included the same services being offered to customers, a similar client base and geographical market and similar sales methods being employed during this period. Therefore, it is considered that the second factor outlined in paragraph 165-211(2)(b) is satisfied.

The third factor compares the current identity of the business with that of the business carried on before the test time. It is considered that Entity A maintained the identity of the former business and therefore the third factor in paragraph 165-211(2)(c) is satisfied.

The fourth factor requires an assessment of the extent to which changes to the business resulted from the development or commercialisation of assets, products, processes, services or marketing or organisational methods of the business. It is considered that Entity A used and maintained the assets, products, processes, services and organisational methods of the former business and that no material changes arose. Therefore, the fourth factor contained in paragraph 165-211(2)(d) is taken to be satisfied.

The Commissioner is satisfied that Entity A meets the requirements of the similar business test set out in section 165-211 in order to utilise its carry forward losses in the 20XX income year.

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