Edited version of private advice

Authorisation Number: 1052020532923

Date of advice: 30 September 2022

Ruling

Subject: CGT - pre-CGT asset

Question

Is the farmland a 'pre-CGT asset' of the Company as set out in section 149-10 of the Income Tax Assessment Act 1997?

Answer

Yes

This ruling applies for the following period:

Income year ending 30 June 20XX

The scheme commences on:

XX September 19XX

Relevant facts and circumstances

The Company was incorporated pre 20 September 1985.

The Company owns land which was acquired prior to 20 September 1985.

The Trust is a family discretionary trust.

The share allotment & transfer table represents the shares held by shareholders at each date when an event happens.

History of shareholding in the Company.

Note 1 - The transfer from Individual A to Individual B on the XX/XX/XXXX was in accordance with Individual A's will. Upon Individual A's death their A class share converted to a C class share.

Note 2 - The transfer from Individual B to the Trust on the XX/XX/XXXX was in accordance with Individual B's will. Upon Individual B's death their B class share converted to a C class share.

Note 3 - The transfer of the shares from Individual C to the Trust on the XX/XX/XXXX was in accordance with a signed succession agreement.

The Memorandum & Articles of Association of the Company provide that there is no discretion to declare dividends in relation to C class shares to the exclusion of the Ordinary shares and vice versa.

There is no difference in rights to the income and capital of the Company between the C class shares and Ordinary shares.

The deed for the Trust has been amended as follows:

•         XX/XX/XXXX - Deed of Settlement

Trustees were Individual A's family members.

Appointors & Guardians were also Individual A's family members.

•         XX/XX/XXXX - Deed of Change of Trustee

Reduction in number of trustees.

•         XX/XX/XXXX - Deed of Resignation

Reduction in the number of Appointors and Guardians.

•         XX/XX/XXXX - Deed of Retirement and Appointment of New family member Trustee

•         XX/XX/XXXX - Deed of Retirement and Appointment of New family member Appointor & Guardian

•         XX/XX/XXXX - Deed of Variation

General update to deed for tax and trust law provisions.

There have been no amendments to change any of the beneficiaries of the Trust.

The family that the Trust is to benefit is the family of Individual A (Family Group). The primary beneficiaries of the Trust when established are members of the Family Group.

The history of the trustees of the Trust are:

•         XX/XX/XXXX to XX/XX/XXXX

-       Members of the Family Group

•         XX/XX/XXXX to XX/XX/XXXX

-       Members of the Family Group

•         XX/XX/XXXX to present

-       Members of the Family Group

Appointments (distributions) of trust income have only been made to beneficiaries who are individual members of the Family Group. From the XX/XX/XXXX income year to the XX/XX/XXXX income year, appointments of trust income have been made to:

•         Members of Family Group.

There have been no appointments (distributions) of trust income to any other individuals or to any non-individuals.

Relevant legislative provisions

Income Tax Assessment Act 1936 section 160ZZS

Income Tax Assessment Act 1997 section 108-5(1)

Income Tax Assessment Act 1997 Division 149

Income Tax Assessment Act 1997 Subdivision 149-B

Income Tax Assessment Act 1997 section 149-10

Income Tax Assessment Act 1997 subsection 149-10(a)

Income Tax Assessment Act 1997 paragraph 149-10(b)(i)

Income Tax Assessment Act 1997 paragraph 149-10(b)(ii)

Income Tax Assessment Act 1997 subsection 149-10(c)

Income Tax Assessment Act 1997 section 149-15

Income Tax Assessment Act 1997 subsection 149-15(1)

Income Tax Assessment Act 1997 subsection 149-15(2)

Income Tax Assessment Act 1997 subsection 149-15(3)

Income Tax Assessment Act 1997 section 149-30

Income Tax Assessment Act 1997 subsection 149-30(1)

Income Tax Assessment Act 1997 subsection 149-30(2)

Income Tax Assessment Act 1997 subsection 149-30(3)

Income Tax Assessment Act 1997 subsection 149-30(4)

Income Tax Assessment Act 1997 section 149-50

Reasons for decision

These reasons for decision accompany the Notice of private ruling for the Company.

This is to explain how we reached our decision. This is not part of the private ruling.

Question 1

Summary

The land acquired by the Company before 20 September 1985 is a pre-CGT asset pursuant to section 149-10 of the Income Tax Assessment Act 1997 (ITAA 1997).

Detailed reasoning

Division 149 of the ITAA 1997

Division 149 of the ITAA 1997 contains the provisions under which an asset acquired before 20 September 1985 is treated as having been acquired after that date, that is, the asset stops being a pre-CGT asset. Subdivision 149-B of the ITAA 1997 provides for when the asset of an entity stops being a pre-CGT asset for entities that are not covered by section 149-50 of the ITAA 1997. Effectively, Subdivision 149-B deals with non-public entities.

A CGT asset is defined in subsection 108-5(1) of the ITAA 1997 as any kind of property or a legal or equitable right that is not property. A CGT asset is a pre-CGT asset if it was last acquired before 20 September 1985 and no income tax provision has operated to treat it as having been acquired after that date.

Section 149-10 of the ITAA 1997 provides as follows:

A CGT asset that an entity owns is a pre-CGT asset if, and only if:

(a) the entity last acquired the asset before 20 September 1985; and

(b) the entity was not, immediately before the start of the 1998-99 income year, taken under:

(i) former subsection 160ZZS(1) of the Income Tax Assessment Act 1936; or

(ii) Subdivision C of Division 20 of former Part IIIA of that Act;

to have acquired the asset on or after 20 September 1985; and

(c) the asset has not stopped being a pre-CGT asset of the entity because of this Division.

Section 149-30 of the ITAA 1997 provides that an asset of a non-public entity stops being a pre-CGT asset at the earliest time when the majority underlying interests in the asset were not held by ultimate owners who had majority underlying interests in the asset immediately before 20 September 1985.

Relevantly, subsection 149-30(3) of the ITAA 1997 provides that if an ultimate owner (new owner) has acquired an interest in an asset because it was transferred to the new owner by way of the death of a person (former owner), the new owner is treated as having held the underlying interest of the former owner for the period the former owner held them. In this case it is necessary to apply subsection 149-30(1) of the ITAA 1997 as if the beneficiary had beneficial interests in the assets of the estate from the date of the deceased person's death until the time the estate has been fully administered. Subsections 149-30(3) and 149-30(4) could never achieve their purpose if the period of administration were treated as a period when no one had any beneficial interests.

Subsection 149-15(3) of the ITAA 1997 relevantly defines an 'ultimate owner' to include an individual. It does not include companies that pay dividends to their members, or trusts.

Subsection 149-15(2) of the ITAA 1997 defines an 'underlying interest' in a CGT asset as a beneficial interest that an ultimate owner has (whether directly or indirectly) in the asset or in any ordinary income that may be derived from the asset.

Subsection 149-15(1) of the ITAA 1997 defines majority underlying interests. It requires ultimate owners to hold more than 50% of the beneficial interests (either directly or indirectly through one or more interposed companies, trusts or partnerships) in the CGT asset and in any ordinary income that may be derived from the asset.

Subsections 149-15(4) and (5) of the ITAA 1997 provide that an ultimate owner has an indirect beneficial interest in a CGT asset of another entity if they would receive for their own benefit any capital or ordinary income distributed by the entity through interposed entities.

Under subsection 149-30(2) of the ITAA 1997, if the Commissioner is satisfied, or thinks it reasonable to assume, that the majority underlying interests in the asset have not changed up to a particular time, then subsections 149-30(1) and (1A) of the ITAA 1997 apply and the asset continues to be a pre-CGT Asset. Simply put, subsection 149-30(2) of the ITAA 1997 requires that the Commissioner has to be satisfied that the majority underlying interests in the assets have not changed, otherwise the asset is deemed to have been acquired at the time that the change in majority underlying interests in that asset happened.

In this case, the land purchased prior to 20 September 1985 is not held directly by individuals, the underlying interests in the land need to be traced through intermediary entities to the ultimate owners for the whole period from and including 20 September 1985.

Taxation Ruling IT 2340 Income tax: capital gains: deemed acquisition of assets by a taxpayer after 19 September 1985 where a change occurs in the underlying ownership of assets acquired by the taxpayer on or before that date(IT 2340) adopts a pragmatic approach of looking through interposed entities to determine which natural persons hold the beneficial interests for the purposes of section 160ZZS of the Income Tax Assessment Act 1936 (ITAA 1936), which preceded Division 149 of the ITAA 1997. Among other issues, IT 2340 deals with questions regarding the application of section 160ZZS of the ITAA 1936 'to assets held by trustees of family trusts where the trustees are vested with discretionary powers as to distributions from the trusts.

Taxation Ruling IT 2340 reflects the position that section 160ZZS of the ITAA 1936, by its terms, necessarily supplants normal legal concepts of interests in assets. For the purposes of section 160ZZS, a beneficiary of a discretionary trust is treated as having a beneficial interest in the trust's assets. Likewise, a shareholder is treated for the purposes of section 160ZZS of the ITAA 1936 as having a beneficial interest in the company's assets.

Under this approach the Commissioner can 'look through' an entity to determine who are the natural persons who hold beneficial interests in assets:

2. The terms "underlying interest" and "majority underlying interests", on the basis of which the provision operates, have the same meanings as they have in Subdivision G of Division 3 of Part III of the Act - which deals with the income tax treatment of interest in relation to "negatively geared" investments in rental property. In both cases (and like other provisions of the Act concerned with the measurement of ownership interests) underlying interests in relation to the assets concerned mean beneficial interests held by natural persons whether directly or through one or more interposed companies, partnerships or trusts. The clear policy of the law thus permits and requires that, for the purposes of the relevant provisions, chains of companies, partnerships and trusts are to be "looked through" in order to determine whether there has been a change in the effective interests of natural persons in the assets.

IT 2340 sets out the Commissioner's approach in respect of 'looking through' discretionary family trusts to determine whether majority underlying interests have been maintained in the assets of the trust, as follows:

5. In relation to what are generally referred to as discretionary trusts, i.e., family trusts, the trustees of which have discretionary powers as to the distribution of trust income or property to beneficiaries, in considering the question of whether majority underlying interests have been maintained in the assets of the trust it will be relevant to take into account the way in which the discretionary powers of the trustees are in fact exercised.

6. Where a trustee continues to administer a trust for the benefit of members of a particular family, for example, it will not bring section 160ZZS into application merely because distributions to family members who are beneficiaries are made in such amounts and to such of those beneficiaries as the trustee determines in the exercise of his discretion.

7. In such a case the Commissioner would, in terms of sub-section 160ZZS(1), find it reasonable to assume that for all practical purposes the majority underlying interests in the trust assets have not changed. That is consistent with the role of the section to close potential avenues for avoidance of tax in cases where there is a substantial change in underlying ownership of assets and the legislative guidance contained in Subdivision G of Division 3 of Part III of the Act. On that basis, trust assets acquired by the trustee before 20 September 1985 would remain outside the scope of the capital gains and losses provisions of the Act.

However, if the trustee of a family discretionary trust appoints new beneficiaries who are not members of the particular family, the Commissioner may consider that the underlying interests in the trust assets has changed. Paragraph 8 of IT 2340 states:

8. On the other hand where, by the exercise of a trustee's discretionary powers to appoint beneficiaries or by amendment of the trust deed, there is in practical effect a change of 50% or more in the underlying interests in the trust assets - such as where the members of a new family are substituted as recipients of distributions from the trust in place of persons who were formerly the object of such distributions - the section would have its intended application as described.

On XX/XX/XXXX and XX/XX/XXXX shares in the Company were issued to ultimate owners who had an underlying interest in the asset, the land immediately before 20 September 1985. There has been no change in the ultimate owners who had a majority underlying interest in the asset immediately before 20 September 1985 and therefore subsection 149-30(1) of the ITAA 1997 will not operate to cause the asset to stop being a pre-CGT asset.

Between XX/XX/XXXX and XX/XX/XXXX underlying interests in the asset, the land, has been consolidated into, or transferred, firstly from Individual A to Individual B and then to the discretionary trust, the Trust, via bequest of shares in the Company resulting from the administration of the estates of the deceased, being Individual A and Individual B. In accordance with Item 2 in subsection 149-30(3) of the ITAA 1997, this is taken to have the result that the beneficial interest in the asset, the land, has been transferred to ultimate owners of The Trust from 20 September 1985 in order to enable the deemed continuity of underlying interests provision in subsection 149-30(3) of the ITAA 1997 to have effect.

On XX/XX/XXXX, C class shares were transferred from Individual C to the trustee of the Trust. Consequently, if there are discretionary rights attached to the C class shares and Ordinary shares in relation to distributions of income or capital the possibility exists that the ultimate owners who between them collectively had majority underlying interests in the asset immediately before 20 September 1985 may not receive more than 50% of the ordinary income or capital that may be derived from the asset.

However, the directors of the Company do not have discretion to declare dividends in relation to C class shares to the exclusion of the Ordinary shares and vice versa. There is no difference in rights to the income and capital of the Company between the C class shares and Ordinary shares. From the time of Individual B's death, the rights in respect of Class C shares are identical to the ordinary shares. In these circumstances the income and capital cannot be channelled to certain shareholders. Accordingly, the ultimate owners who had majority underlying interests in the asset immediately before 20 September 1985 will receive more than 50% of the ordinary income that may be derived by Company from the asset. There has been no change in the ultimate owners who had a majority underlying interest in the asset immediately before 20 September 1985 and therefore subsection 149-30(1) of the ITAA 1997 will not operate to cause the asset to stop being a pre-CGT asset.

In this instance the Commissioner is satisfied that the changes occurring from amending the deed did not interrupt the continuity of the Trust as the distribution pattern confirms that the trustees of the Trust continued to administer the Trust for the benefit of the family members. The amendments solely addressed the administrative provisions of the Trust. To this end, the changes do not affect the majority underlying interests in the pre-CGT assets of the Company.

Accordingly, it is reasonable for the Commissioner to assume that the majority underlying interests in the land have been held at all times by the same ultimate owners who held such interests immediately before 20 September 1985 to XX June 20XX at which time section 149-30 of the ITAA 1997 operates to stop the farmland from being a pre-CGT asset as set out in section 149-10 of the ITAA 1997.

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