Edited version of private advice

Authorisation Number: 1052156389832

Date of advice: 18 August 2023

Ruling

Subject:Scrip for scrip

Question

Do the relevant taxpayers satisfy the conditions required to apply roll-over relief under Subdivision 124-M of the Income Tax Assessment Act 1997 (ITAA 1997) for the capital gain they make on the exchange of their shares in Company E/Company F/Company A/Company B (as the case may be) for shares in Company D?

Answer

Yes

Having regard to the proposed restructure and the conditions set out in Subdivision 124-M of the ITAA 1997 the relevant taxpayers satisfy the conditions required to apply roll-over relief on the exchange of their shares. More information about scrip for scrip roll-overs can be found by searching ato.gov.au for 'QC 72688'

This ruling applies for the following periods:

Year ending 30 June 202X

Year ending 30 June 202X

The scheme commenced on:

1 July 202X

Relevant facts and circumstances

Overview of ABCDE's group of entities

General overview

•         ABCDE (which is an acronym for their related activities) is an Australian private company.

•         ABCDE has several products and projects which are at varying stages of the development process, with the aim to transition to a commercialisation of these products.

•         ABCDE group is not consolidated for income tax purposes.

Company A

•         Company A was incorporated in 20XX.

•         Company D holds X% of the shares in Company A.

•         Company E holds X% of the shares in Company A.

•         Company F holds X% of the shares in Company A.

•         Trust A holds X% of the shares in Company A.

•         Company A conducts industry activities on behalf of the group.

•         Company A has incurred expenditure relating to the industry as well as other general operating expenses.

•         Company A has not been in a taxable position and has been incurring losses. The year ended 30 June 20XX income tax return disclosed total carried forward losses of $X.

Company B

Company B was incorporated in 20XX.

•         Company A holds X% of shares in Company B.

•         'Other company B Investors' hold X% of shares in Company B.

•         Company B was incorporated for asset protection purposes to hold intellectual property (IP).

•         The IP was initially developed by Individual A and was transferred from Individual A to Company B on XX Month 20XX. The IP had a nominal value at the time of transfer.

•         The "Other Investors" subscribed for capital in Company B for a total equity investment of approx. $X. This equity investment was received over a number of separate capital raises during a period of time.

Company C

•         Company C was incorporated in 20XX.

•         Company C is wholly-owned by Company B.

•         Company C was established as the trading company and license holder.

•         Company C has not been in a taxable position and has been incurring losses. The year ended 30 June 20XX income tax return disclosed total carried forward losses of $X.

Company D

•         Company D was incorporated in 20XX.

•         Individual A holds X% of the shares in Company D with the remaining X% held by their associates and related parties (referred to as "Other Company D Shareholders"). The following individuals each holding X% are as follows:

-          Individual B and Individual C;

-          Individual D (Individual A's relative); and

-          Individual E (Individual A's relative).

•         Company D holds X% of the shares in company A.

•         Company D has specific knowledge and specialist skills in specific sectors.

•         It has provided industry services to Company A.

•         Individual A is paid a salary from Company D.

Company E

•         Company E was incorporated in 20XX.

•         Individual F holds X% of the shares in Company E

•         Company E holds X% of the shares in Company A.

•         It has specialist skills in the industry.

•         Company E provides industry services to Company A.

•         Individual F is paid a salary from Company E.

Company F

•         Company F was incorporated in 20XX.

•         Individual G holds X% of the shares in Company F.

•         Company F holds X% of the shares in Company A.

•         It has specialist knowledge in the industry including, but not limited to, industry troubleshooting and day-to-day growth of the product and business.

•         Company F provides services to Company A.

•         Individual G is paid a salary from Company F.

Trust A

•         Trust A holds X% of the shares in Company A.

•         Individual F works on Company A's main product in the area an industry.

•         Individual F attends weekly meetings to give updates and provide general input.

•         Individual F's interest in Company A is held by Company G as the trustee for Trust A.

Associate relationship

•         Company D, Company E, Company F and Trust A are unrelated parties and are not considered 'associates' of one another per section 318 of the Income Tax Assessment Act 1936 (ITAA 1936).

•         Relevantly, the shares / interests in these entities are held by third parties and are not able to be 'sufficiently influenced' by one another.

Proposed Restructure

•         The group is in its infancy stage of development, and to date the business has focused on development and has yet to become profitable.

•         Opportune time to simplify the business structure so that it is conducive to the future growth aspirations.

•         The preferred simplified structure is one where there is a single holding company and only one level of wholly-owned subsidiaries.

•         The proposed steps to be undertaken to facilitate the Restructure are as follows:

•         The relevant taxpayers will make a capital gain from the exchange of shares.

Reasons for the proposed Restructure

•         Historical professional advice provided to ABCDE group of entities by its previous Advisor has resulted in a structure that is not conducive for capital raising and is hindering the growth of the business. The advice that was previously relied upon failed to take into account the strategic growth which has unnecessarily complicated the group structure. As a result, the group has a structure which presents several commercial challenges.

•         The proposed Restructure seeks to address these commercial challenges.

Difficulty raising external debt finance which impedes the ability to grow

•         The primary reason for the proposed Restructure is to simplify the existing group so that it is structured in a way that is conducive to raising external debt finance (or additional equity capital).

•         Feedback received from potential financiers (including X financial institution) that the current group structure presents several challenges in obtaining external debt finance. Some of the issues raised by financiers include the following:

-          There is likely to be difficulty with obtaining security over the assets and recourse from entities within the group due to the split ownership structure.

-          A wholly-owned group structure may allow the business to better manage its security pool and ringfence both risk and security obligations.

-          The current structure is likely to require specialist inquiry and due diligence from the financiers' legal teams to fully understand the structure. This is likely to create further complexity in securing finance.

-          Additionally, to successfully raise capital, a potential borrower must be able to present a clear and strong business case which reflects a group structure that it is 'fit for purpose' and is conducive to future growth.

•         For the reasons mentioned above, this has made raising external debt finance onerous to date.

Creating administrative efficiencies

•         There is an appetite from the ABCDE group to tax consolidate to streamline its tax affairs in the near future.

•         The resulting compliance costs associated with maintaining the group structure are disproportionally onerous given the small size of business.

•         The administration of the large structure is also time consuming and detracts the business from focusing on the core strategy and mission. In these respects, a rationalisation of the number of entities within the group would align the current size and nature of the business with an appropriate structure.

Aligning legal ownership with economic contributions of Company D, Company E and Company F

•         Despite the complexity associated with the current group structure, they have always conducted its operations as one economic group which is inclusive of Company D, Company E and Company F. The specialist knowledge and skills provided by Company D, Company E and Company F are inextricably linked to the current and future success of the ABCDE business. In the absence of these entities and the services that they provide, the ABCDE business would cease to exist. As a result, the proposed Restructure will merely align legal interests with how the business currently operates as one economic group (which is consistent with the original intentions of the shareholders). Importantly, it will also allow ABCDE to bring all employees under one common ownership structure which simplifies the contractor arrangements currently in place.

•         The proposed Restructure should also mitigate any potential legal risks associated with the current structure. Mitigating potential future legal risk should also improve their ability to raise external debt or equity capital.

•         The current structure is not conducive to a future exit event (albeit there is no sale transaction currently on the horizon nor is there anticipated to be a sale transaction in the immediate future). Specifically, the current structure allows one shareholder to be able to independently negotiate more favourable terms with a potential buyer or to use their interest to exercise bargaining power to block a potential deal.

•         The proposed Restructure is aiming to align legal and economic interests of all shareholders to encourage equitable and efficient commercial dealings.

ABCDE group of entities will undertake a valuation exercise prior to implementing the proposed Restructure to ensure that the proportion and value of any shares being issued under the abovementioned steps are at market value (as is intended) and satisfy the requirements under the relevant CGT roll-over rules.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 318

Income Tax Assessment Act 1997 Subdivision 124-M

Does Part IVA apply to this private ruling?

Part IVA of the Income Tax Assessment Act 1936 contains anti-avoidance rules that can apply in certain circumstances where you or another taxpayer obtains a tax benefit, imputation benefit or diverted profits tax benefit in connection with an arrangement.

If Part IVA applies, the tax benefit or imputation benefit can be cancelled (for example, by disallowing a deduction that was otherwise allowable) or you or another taxpayer could be liable to the diverted profits tax.

We have not fully considered the application of Part IVA to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

If you want us to rule on whether Part IVA applies, we will need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA, go to our website ato.gov.au and enter 'part iva general' in the search box on the top right of the page, then select 'Part IVA: the general anti-avoidancerule for income tax'.

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