Edited version of private advice

Authorisation Number: 1052233973532

Date of advice: 9 April 2024

Ruling

Subject: Trusts and CGT rollover - Subdivision 124-M

Question 1

Will the Trust be eligible for a CGT roll-over under Subdivision 124-M of the ITAA 1997 due to the interposition of a new holding company, HeadCo, between it and its wholly owned subsidiary, Private Company Pty Ltd (X)?

Answer

Yes

Question 2

Will accounting profits generated from the transfer of the business from X to a new company, SubCo, within the tax consolidated group represent profits from which a fully franked dividend can ultimately be paid by HeadCo?

Answer

No. While dividends from those profits may be paid by HeadCo, intra-group transactions do not give rise to taxable amounts, so will not generate franking credits. Any dividend ultimately paid by HeadCo will be frankable to the extent allowed by legislation and available franking credits. No franking credits will be generated by the intra-group sale of the business.

This advice applies for the following period:

Year ended 30 June 2025

Relevant facts and circumstances

Your advice is based on the facts and circumstances set out below. If your facts and circumstances are different from those set out below, this advice has no effect and you cannot rely on it. The fact sheet has more information about relying on ATO advice.

Currently all the shares in X are owned by the Trust.

Under a restructure it is proposed that:

1.         a new company, HeadCo, is created with the Trust being a 100% shareholder in HeadCo for a nominal amount of $100

2.         X will distribute the balance of its retained earnings via a fully franked dividend to the Trust

3.         HeadCo will acquire all of the shares in X from the Trust in exchange for shares in HeadCo under a Share Sale Agreement

4.         the shares in HeadCo will have substantially the same market value as the shares in X and will carry the same kind of rights

5.         both the Trust and HeadCo will apply for a CGT rollover under Subdivision 124-M of the ITAA 1997

6.         a tax consolidated group (TCG) will be formed with HeadCo and X

7.         a new company, SubCo, will be created with HeadCo as the 100% shareholder for a nominal amount of $100

8.         the business of X will be transferred to SubCo for market value.

Following this restructure it is proposed that:

9.         the resulting profits from the above business transfer will be paid from X to HeadCo as dividends, and

10.       HeadCo will ultimately pay this amount as a dividend to the Trust.

The reasons given for the restructure and above transactions are:

§   to facilitate a future sale via a new owner not needing to undertake significant due diligence procedures for a trading company with a long corporate history, and

§   asset protection purposes.

Relevant legislative provisions

Income Tax Assessment Act 1936 subsection 6(1)

Income Tax Assessment Act 1997 Subdivision 124-M

Income Tax Assessment Act 1997 Subdivision 709-A

Reasons for decision

Question 1

Summary

The Trust will be eligible for a CGT roll-over under Subdivision 124-M of the ITAA 1997 due to the interposition of a new holding company, HeadCo, between it and its wholly owned subsidiary, X.

Detailed reasoning

Section 124-780 of the ITAA 1997 states, in part:

(1) There is a roll-over if:

(a) an entity (the original interest holder) exchanges:

(i) a *share (the entity's original interest) in a company (the original entity) for a share (the holder's replacement interest) in another company; or

(ii) an option, right or similar interest (also the holder's original interest) issued by the original entity that gives the holder an entitlement to acquire a share in the original entity for a similar interest (also the holder's replacement interest) in another company; and

(b) the exchange is in consequence of a single *arrangement that satisfies subsection (2) or (2A); and

(c) the conditions in subsection (3) are satisfied; and

(d) if subsection (4) applies, the conditions in subsection (5) are satisfied.

....

Conditions for the arrangement

(2) The *arrangement must:

(a) result in:

(i) a company (the acquiring entity) that is not a member of a *wholly-owned group becoming the owner of 80% or more of the *voting shares in the original entity; or

(ii) a company (also an acquiring entity) that is a member of such a group increasing the percentage of voting shares that it owns in the original entity, and that company or members of the group becoming the owner of 80% or more of those shares; and

(b) be one in which at least all owners of *voting shares in the original entity (except a company referred to in paragraph (a)) could participate; and

(c) be one in which participation was available on substantially the same terms for all of the owners of interests of a particular type in the original entity.

...

Conditions for roll-over

(3) The conditions are:

(a) the original interest holder *acquired its original interest on or after 20 September 1985; and

(b) apart from the roll-over, it would make a *capital gain from a *CGT event happening in relation to its original interest; and

(c) its replacement interest is in a company (the replacement entity) that is:

(i) the company referred to in subparagraph (2)(a)(i); or

(ii) in any other case--the *ultimate holding company of the *wholly-owned group; and

(d) the original interest holder chooses to obtain the roll-over or, if section 124-782 applies to it for the *arrangement, it and the replacement entity jointly choose to obtain the roll-over; and

(e) if that section applies, the original interest holder informs the replacement entity in writing of the *cost base of its original interest worked out just before a CGT event happened in relation to it; and

(f) if an acquiring entity is a member of a wholly-owned group--no member of the group issues equity (other than a replacement interest), or owes new debt, under the arrangement:

(i) to an entity that is not a member of the group; and

(ii) in relation to the issuing of the replacement interest.

...

Further roll-over conditions in certain cases

(4) The conditions specified in subsection (5) must be satisfied if the original interest holder and an acquiring entity did not deal with each other at *arm's length and:

(a) neither the original entity nor the replacement entity had at least 300*members just before the *arrangement started; or

(b) the original interest holder, the original entity and an acquiring entity were all members of the same *linked group just before that time.

...

(5) The conditions are:

(a) the *market value of the original interest holder's *capital proceeds for the exchange is at least substantially the same as the market value of its original interest; and

(b) its replacement interest carries the same kind of rights and obligations as those attached to its original interest.

...

In your circumstances:

Under this arrangement:

•           100% of the shares in X (the Shares) held by the Trust will be exchanged for shares in HeadCo under a single Share Sale Agreement

•           HeadCo will become the 100% shareholder of X

•           apart from the roll-over, the Trust would make a capital gain in relation to the disposal of its shares in X

•           the Trust and HeadCo will both choose to obtain the roll-over

•           in the case the entities do not deal with each other at arm's length, the market value of the shares in HeadCo will be substantially the same as the market value of the shares in X and will carry the same kind of rights.

The Commissioner does not consider there is anything in the facts given to him that would prevent the application of Subdivision 124-M of the ITAA 1997 to this arrangement.

Effect of rollover on cost base of shares in HeadCo to Trust

Subsection 124-785(1) of the ITAA 1997 provides that under the roll-over, any capital gain made from the original interest is disregarded. Thus, any capital gain otherwise made on the Trust's disposal of the Shares under the arrangement will be disregarded.

Under subsections 124-785(2) and (4) of the ITAA 1997, the first element of the cost base, and reduced cost base, of the replacement interests proportionately becomes the cost base of the original interests for which they were exchanged. That is to say that choosing the rollover will result in the Trust being taken to have acquired the replacement shares in HeadCo for the cost base of the original shares in X. The Trust will also effectively be taken to have acquired the shares in HeadCo, for CGT purposes, at the time the original shares in X were acquired.

Effects of rollover on cost base of Shares to HeadCo

Pursuant to section 124-783 of the ITAA 1997, the Trust will be a significant stakeholder as:

•           just before the arrangement starts it will have a significant stake in X as it has shares giving it all rights to vote and receive any dividends and distributions from X, and

•           just after the arrangement is complete, it will a significant stake in HeadCo as it has shares giving it all rights to vote and receive any dividends and distributions from HeadCo.

Thus, under section 124-782 of the ITAA 1997, choosing the rollover will result in the first element of the cost base and reduced cost base of the Shares to HeadCo being equal to the cost base of the Shares to the Trust just before the event.

Applicable provisions under this restructure

Section 124-784A of the ITAA 1997 may apply when an arrangement is a restructure, as is the case here. If section 124-784A applies, section 124-784B may apply. However, paragraph 124-784B(1)(b) provides that the section does not apply where section 124-782 applies, as is the case here - the note to subsection 124-784B(1) provides that when an original interest holder is a significant stakeholder or a common stakeholder that section 124-782 applies.

Question 2

Summary

The accounting profits generated from the transfer of the business from X to a new company within the tax consolidated group represent profits from which a dividend can ultimately be paid by HeadCo. As the intra-group transaction does not give rise to any taxable income, these accounting profits are untaxed and no franking credits will be generated. Any distribution ultimately paid by HeadCo will be frankable to the extent allowed by legislation and available franking credits.

Detailed reasoning

Under the arrangement a consolidated group will ultimately be formed between HeadCo, X and SubCo. Under the single entity rule under Subdivision 701-1, any subsidiary member of a consolidated group is taken to be a part of the head company, rather than separate entities.

Taxation Ruling TR 2004/11 Income tax: consolidation: the meaning and application of the single entity rule in Part 3-90 of the Income Tax Assessment Act 1997 (TR 2004/11) outlines the Commissioner's view in relation to consolidated groups. Paragraphs 8, 9 and 10 relevantly state:

8. As a consequence, the SER [single entity rule in section 701-1 of the ITAA 1997] has the effect that:

...

(d) dealings that are solely between members of the same consolidated group (intra-group dealings) will not result in ordinary or statutory income or a deduction to the group's head company.

9. An example of an intra-group dealing is the transfer of a capital gains tax (CGT) asset from one group member to another. This transfer is not treated for income tax purposes as a disposal or acquisition in the hands of the head company. Although the legal transfer of the CGT asset between the subsidiary members occurs at general law, it has no income tax consequences as the group's head company is taken to be the owner of the asset both before and after the transfer.

10. Another example is the payment of a dividend from one member of a consolidated group to another group member. For income tax purposes this transaction is treated as a movement of funds between two parts of the same entity (the head company), rather than the payment of a dividend. The members of the group paying and receiving the dividend are not seen as separate entities for income tax purposes.

Thus, the transfer of the business from X to SubCo will not result in ordinary or statutory income for X. Dealings between members of the group will not result in ordinary or statutory income or a deduction to the group's head company; nor will the payment of a dividend between group members.

Paragraphs 32 and 33 of TR 2004/11 relevantly state:

32. ...intra-group dividends will not be assessable or subject to the franking regime.

33. The EM at paragraph 2.12 also concludes that an intra-group transfer of an asset could not have income tax consequences as an entity cannot transact with itself.

As such, these transactions would not give rise to net income to the consolidated group for tax purposes.

Paragraph 53 of TR 2012/5 Income tax: section 254T of the Corporations Act 2001 and the assessment and franking of dividends paid from 28 June 2010 states:

Similarly, for tax consolidated groups under Part 3-90 of the ITAA 1997, the head company itself must have ascertained profits available for appropriation for the distribution of a dividend at the time of determination or declaration and payment. Pursuant to Subdivision 709-A of the ITAA 1997, in a tax consolidated group, the head company maintains a single franking account for the entire tax consolidated group and the accounts of any subsidiary members essentially become inoperative. Where a subsidiary joins a consolidated group, any surplus franking credits of the subsidiary member are transferred to the head company's franking account. However, the availability of profits in the head company for the purposes of section 44 of the ITAA 1936 remains to be ascertained in accordance with the company's constitution and accounts and the Corporations Act.

As the transfer of the business from X to SubCo happens within the consolidated group, it has no tax implications and no franking credits are generated by the transaction.

Dividends can be paid via group members to HeadCo. These dividends will not be franked as any existing franking credits upon entry to the group are transferred to HeadCo pursuant to Subdivision 709-A of the ITAA 1997.

Any dividend then paid by HeadCo is only frankable to the extent allowed by legislation and available franking credits, which may not be fully franked. The intra-group sale of the business itself does not give rise to any franking credits which could be attached to a distribution from HeadCo.

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