Edited version of private advice

Authorisation Number: 1051832543951

Date of advice: 5 May 2021

Ruling

Subject: Restructure rollover

Question

Will entity A meet the requirements to apply the Small Business Restructure Rollover under Subdivision 328-G of the Income Tax Assessment Act 1997 (ITAA 1997) for the proposed restructure?

Answer

Yes.

This ruling applies for the following periods

Year ended 30 June 20XX

Year ended 30 June 20XX

The scheme commenced on

1 July 20XX

Relevant facts

Entity A has operated a business on land for several decades.

The business has been managed by entity B, entity C and entity D for approximately the last xx years.

Due to management conflict that is now compromising business efficiency, entity B, C and D wish to restructure the business so that entity A can be managed/operated by entity B and entity C, and a new entity, entity E can be managed by entity D.

The two businesses will be run on the same land as the original business.

As part of the restructure, depreciating assets and livestock will be transferred from entity A to entity E at book value.

The two businesses will run in the same manner and total quantity as the original business.

The two businesses will sell principally to the same customers, and buy principally from the same suppliers, as the original business.

Entity A and entity E have each made a Family Trust election, nominating the same test individual. The specified test individual is entity F.

Entity A and entity E are small business entities, are residents and have both chosen to apply the rollover.

The primary beneficiaries of the trusts have been provided.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 40-85

Income Tax Assessment Act 1997 Section 40-340

Income Tax Assessment Act 1997 Section 40-345

Income Tax Assessment Act 1997 Section 70-90

Income Tax Assessment Act 1997 Subdivision 328-G

Income Tax Assessment Act 1997 Section 328-430

Income Tax Assessment Act 1997 Section 328-440

Income Tax Assessment Act 1997 Section 328-450

Income Tax Assessment Act 1997 Section 328-455

Reasons for decision

Restructure of small business

Subdivision 328-G of the ITAA 1997 allows flexibility for owners of small business entities to restructure their businesses and the way their business assets are held while disregarding tax gains and losses that would otherwise arise. It provides roll over relief for certain small business restructures. The roll over relief is available in relation to assets where the assets are transferred as part of a genuine business restructure.

Subsection 328-430(1) of the ITAA 1997 outlines the requirements for the roll-over and states:

A roll-over under this Subdivision is available in relation to an asset that, under a transaction, an entity (the transferor) transfers to one or more other entities (transferees) if:

(a) the transaction is, or is a part of, a genuine restructure of an ongoing *business; and

(b) each party to the transfer is an entity to which any one or more of the following applies:

(i) it is a *small business entity for the income year during which the transfer occurred;

(ii) it has an *affiliate that is a small business entity for that income year;

(iii) it is *connected with an entity that is a small business entity for that income year;

(iv) it is a partner in a partnership that is a small business entity for that income year; and

(c) the transaction does not have the effect of materially changing:

(i) which individual has, or which individuals have, the ultimate economic ownership of the asset; and

(ii) if there is more than one such individual - each such individual's share of that ultimate economic ownership; and

(d) the asset is a *CGT asset (other than a *depreciating asset) that is, at the time the transfer takes effect:

(i) if subparagraph (b)(i) applies - an *active asset; or

(ii) if subparagraph (b)(ii) or (iii) applies - an active asset in relation to which subsection 152-10(1A) is satisfied in that income year; or

(iii) if subparagraph (b)(iv) applies - an active asset and an interest in an asset of the partnership referred to in that subparagraph; and

(e) the transferor and each transferee meet the residency requirement in section 328-445 for an entity; and

(f) the transferor and each transferee choose to apply a roll-over under this Subdivision in relation to the assets transferred under the transaction.

Note, the roll-over of a depreciating asset transferred in the restructuring of a small business is addressed in item 8 of the table in subsection 40-340(1) of the ITAA 1997.

Paragraph 328-430(1)(a) - genuine restructure of an ongoing business

Paragraph 328-430(1)(a) requires that the transaction is, or is part of, a genuine restructure of an ongoing business.

Whether a transaction is or is part of a 'genuine restructure of an ongoing business' is a question of fact that is determined having regard to all of the circumstances surrounding the restructure.

Law Companion Ruling LCR 2016/3 (LCR 2016/3) Small Business Restructure Roll-over: genuine restructure of an ongoing business and related matters provides guidance on whether a transaction will be part of a 'genuine restructure of an ongoing business'.

LCR 2016/3 states that a genuine restructure of an ongoing business is one that could be reasonably expected to deliver benefits to small business owners in respect of their efficient conduct of the business. It can encompass a restructure of the way in which business assets are held where that structure is likely to have been adopted had the business owners obtained appropriate professional advice when setting up the business.

Paragraph 7 of LCR 2016/3 outlines the following features that indicate a transaction is, or is part of, a genuine restructure of an ongoing business:

•         It is a bona fide commercial arrangement undertaken in a real and honest sense to:

-        facilitate growth, innovation and diversification

-        adapt to changed conditions, or

-        reduce administrative burdens, compliance costs and/or cash flow impediments.

•         It is authentically restructuring the way in which the business is conducted as opposed to a 'divestment' or preliminary step to facilitate the economic realisation of assets.

•         The economic ownership of the business and its restructured assets is maintained.

•         The small business owners continue to operate the business through a different legal structure. For example, there is continued use of the transferred assets as active assets of the business, there is continuity of employment of key personnel, and continuity of production, supplies, sales or services.

•         It results in a structure likely to have been adopted had the small business owners obtained appropriate professional advice when setting up the business.

In your circumstances, the decision to undertake a restructure follows management concerns and the business efficiency. In considering the full circumstances, the proposed restructure aligns to the requirements of being a genuine restructure of an ongoing business under paragraph 328-430(1)(a).

Paragraph 328-430(1)(b) - small business entity

As entity A and entity E are both a small business entity for the 2019-20 income year, subparagraph 328-430(1)(b)(i) is satisfied, thereby satisfying the requirement under paragraph 328-430(1)(b).

Paragraph 328-430(1)(c) - ultimate economic owner

A key condition of the roll over relief is that the transaction must not materially change the ultimate economic ownership of the transferred assets. That is, the economic ownership of the business and its restructured assets is maintained.

Ordinarily, a discretionary trust will not satisfy the ultimate economic ownership test because the economic interests that the objects of such a trust have in the trust's assets are not fixed in proportion and depend on the exercise of the trustee's discretion.

However, section 328-440 of the ITAA 1997 provides an alternative ultimate economic ownership test for discretionary trusts.

Where a discretionary trust is involved in a small business restructure, the ultimate economic ownership of the assets will be considered to be maintained if:

•         immediately before and/or after the transaction takes effect, the asset is included in the property of a non-fixed trust that was a family trust, and

•         every individual who, just before and just after the transfer took effect, had ultimate economic ownership of the asset was a member of the family group of that family trust.

If there is more than one individual who is an ultimate economic owner of an asset, there is an additional requirement that each of those individuals' shares of that ultimate economic ownership be materially unchanged, maintaining the same proportionate ownership in the asset. That is, for a roll-over to be available, the individuals must maintain the same proportionate ownership in the asset after a transfer as they did before the transfer.

Ultimate economic ownership of the assets to be transferred under the proposed transfer will remain with the same family group and in the same proportionate ownership, therefore satisfying the requirements under paragraph 328-430(1)(c).

Paragraph 328-430(1)(d) - active assets

The depreciating assets and livestock are owned and used by entity A in the course of carrying on its business and satisfy the requirements of paragraph 328-430(1)(d).

Paragraph 328-430(1)(e) - residency

As both entity A and entity E are Australian residents for tax purposes, the requirement under paragraph 328-430(1)(e) will be satisfied.

Paragraph 328-430(1)(f) - roll-over choice

Both entity A and entity E will choose to apply the roll-over under Subdivision 328-G in relation to the assets transferred under the proposed transfer, therefore, the requirement under paragraph 328-430(1)(f) will be satisfied.

Conclusion

As each of the requirements under subsection 328-430(1) will be satisfied, the John Foss Family Trust will be eligible to choose roll-over relief under Subdivision 328-G in relation to the proposed transfer.

Transfer of assets

Law Companion Ruling LCR 2016/2 Small Business Restructure Roll-over: consequences of a roll-over provides information on the practical application of the roll-over.

Where the restructure requirements are met, there are tax-neutral consequences for the small business entity that restructures the ownership of the assets of the business without changing the ultimate economic ownership of the assets.

That is, under the small business restructure roll-over, a transfer of an asset has no direct income tax consequences, except as provided for under Subdivision 328-G of the ITAA 1997 (section 328-450 of the ITAA 1997).Related roll-over relief for depreciating assets is available under section 40-340 of the ITAA 1997.

The income tax law applies as if the transfer takes place for the asset's roll-over cost (subsection 328-455(1) of the ITAA 1997. The roll-over of a depreciating asset transferred in a small business restructure is addressed in item 8 of the table in subsection 40-340(1) of the ITAA 1997. The transferee can deduct the decline in value of the depreciating asset using the same method and effective life that had been used by the transferor.

The roll-over cost for a depreciating asset is the transferor's adjustable value just before the transfer takes effect (item 8 of subsection 40-340(1), subsection 40-345(2) and section 40-85 of the ITAA 1997).

In this case, no amount is included in entity A's assessable income, or deduction allowed, as a result of a balancing adjustment event under Division 40 (capital allowances) for the transfer of depreciating assets.

Entity E can deduct the decline in value of the depreciating assets using the same method and effective life (or remaining effective life, if using the prime cost method) as entity A was using (subsection 40-345(2) of the ITAA 1997).

As a result of the disposal of trading stock to entity E, entity A is taken to have transferred the stock for their cost and not for their market value.

The roll-over cost for trading stock is the cost of the item to entity A (paragraph 328-455(2)(b) of the ITAA 1997 and is deductible. Entity A includes the cost in its assessable income under section 70-90 of the ITAA 1997. This neutralises the deduction that entity A otherwise claims for the cost of the stock.

Entity E will need to account for either sales income or stock on hand at the end of the income year.

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