Edited version of private ruling

Authorisation Number: 1011674717362

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Ruling

Subject: Public Trading Trust

Question 1

Is liability to tax on the net income of the Trust to be determined in accordance with Division 6 of the Income Tax Assessment Act 1936 (ITAA 1936) by reason that the Trust is not a 'public trading trust' for the purposes of Division 6C of the ITAA 1936?

Answer

Yes.

This ruling applies for the following period

Year ended 30 June 2009 to 30 June 2013

The scheme commences on:

1 July 2008

Relevant facts and circumstances

Units in the Trust and Holding Trust are combined and issued as stapled units on the Australian Securities Exchange (ASX). The units can not be traded separately and can only be traded as stapled units. The units stapled together under their respective trust deeds. Accordingly, each Trust in the ASX listed stapled units has the same beneficial unitholders, holding the same number of units in each Trust.

The Principal Investment Policy of the Trust and Holding Trust is the holding (either directly or indirectly) of investments or interests in a project and providing financial assistance to any entity in the Group.

The Trust holds 100% of the units in a unit trust.

The Applicant advised that the Trust has invested in units in the unit trust from 200X to the present.

The Trust's only asset is units in another unit trust of which it owns all of the issued units.

The details of the principal investment policy of the Trust were provided.

In support of the private ruling it was advised that:

· The unit trust is a 'passive' entity that holds the issued units in the second unit trust, can receive distributions from the second unit trust and can pay distributions to the Trust. The unit trust merely holds the issue units in the second unit trust, and does not engage in any other activities. Any income of the unit trust is to be fully distributed to the Trust, including distributions (if any) received from the second unit trust, which are to 'flow-through' the unit trust to the Trust.

· The Trust does not control, nor does it have the ability to control, directly or indirectly, the affairs or operations of any entity which carries on a trading business.

Assumptions

The Trust is not a unit trust to which Division 6B applies.

Relevant legislative provisions

Income Tax Assessment Act 1936 Division 6

Income Tax Assessment Act 1936 Paragraph 95(2)(a)

Income Tax Assessment Act 1936 Division 6B

Income Tax Assessment Act 1936 Division 6C

Income Tax Assessment Act 1936 Section 102M

Income Tax Assessment Act 1936 Section 102MA

Income Tax Assessment Act 1936 Section 102MB

Income Tax Assessment Act 1936 Section 102N

Income Tax Assessment Act 1936 Paragraph 102N(1)(b

Income Tax Assessment Act 1936 Subsection 102R(1)

Income Tax Assessment Act 1936 Section 102T

Income Tax Assessment Act 1997 230-45

Income Tax Assessment Act 1997 230-55

Income Tax Assessment Act 1997 Div 995

Reasons for decision

All legislative references in this Ruling are references to the Income Tax Assessment Act 1936 (ITAA 1936) unless otherwise indicated.

Division 6C provides a statutory exception to the Division 6 system of trust taxation. Under Division 6C, a public unit trust which is conducting or engaged in a trading business - that is, anything that is not wholly eligible investment business - will be taxed as a corporation. The main operative provisions are in section 102T.

Subsection 102R(1) provides that for a trust to be a public trading trust in relation to the relevant year of income it must be :

· a unit trust,

· a public unit trust,

· a trading trust,

· a resident unit trust; or must have been a public trading trust in relation to a year of income before the relevant year of income; and

· not a corporate unit trust within the meaning of Division 6B.

Unit Trust

The Trust is agreed to be a unit trust as its beneficial interest is unitised.

Public Unit Trust

The Trust is agreed to be a public unit trust as its units are listed on the ASX as part of a stapled security.

Resident Unit Trust

The Trust is agreed to be a resident unit trust as its trustee is incorporated in Australia.

Division 6B Trust

The Trust is assumed not to be a unit trust to which Division 6B applies, according to your advice.

Trading Trust

Section 102N provides that a unit trust is a 'trading trust' if, at any time during the year of income, it:

· carries on a trading business; or

· controls, or is able to control, directly or indirectly, the affairs or operations of another person in respect of the carrying on by that other person of a trading business.

In regard to the meaning of 'trading business', section 102M provides that:

· a 'trading business' is '…a business that does not consist wholly of eligible investment business';

· 'eligible investment business' means one or more of:

o investing in land for the purpose, or primarily for the purpose, of deriving rent; or

o investing or trading in any or all of the following:

§ secured or unsecured loans (including deposits with a bank or other financial institution);

§ bonds, debentures, stock or other securities;

§ shares in a company including shares in a foreign hybrid company (as defined in the Income Tax Assessment Act 1997);

§ units in a unit trust;

§ futures contracts;

§ forward contracts;

§ interest rate swap contracts;

§ currency swap contacts;

§ forward exchange rate contracts;

§ forward interest rate contracts;

§ life assurance policies;

§ a right or option in respect of such a loan, security, share, unit, contract or policy;

§ any similar financial instruments; or

§ investing or trading in financial instruments (not covered by paragraph (b)) that arise under financial arrangements, other than arrangements excepted by section 102MA.

('Financial arrangements' is defined in Div 995 of the ITAA 1997 and has the meaning given by sections 230-45 to 230-55 of the ITAA 1997).

Application of section 102N

The Trust has received certain sums from unit holders of the stapled entity which it has used to purchase units in a unit trust. The holding is 100% of all the issued units in this unit trust.

The Applicant has submitted that this holding of these units in a unit trust is investing in units in a unit trust within the meaning of 'eligible investment business' found in section 102M. This submission calls for closer examination as holding property of any form does not necessarily equate to investing in that property, yet to invest in property one needs to hold the property. This distinction between 'investing in' and 'holding of' is only determined by the particular circumstances of the relevant taxpayer.

The meaning of 'investing in' is a necessary consideration in ascertaining if an 'eligible investment business' is investing in units in a unit trust.

Investing In

The term 'investing in' is not defined for the purposes of Division 6C. Accordingly, reference is to be made to the ordinary meaning of the term (taking into account any relevant case law).

The Macquarie Dictionary defines 'investing' as

to put (money) to use, by purchase or expenditure, in something offering profitable returns, especially interest or income.

A number of cases have considered the meaning of the word 'invest', including:

Marks and Ors v Roe and Ors (unreported judgement of 28 May 1996) where Mandie J noted that:

As to the meaning of 'invest' and 'investment' in this context, the applicants referred to what was said by PO Lawrence, J in In re Wragg [1919] 2 Ch 58, 64-65 that: 'Without attempting to give an exhaustive definition of the words 'invest' and 'investment', I think that the verb 'to invest' when used in an investment clause may safely be said to include as one of its meanings 'to apply money in the purchase of some property from which interest or profit is expected and which property is purchased in order to be held for the sake of income which it will yield…' .' In re Wragg was a case involving the construction of an investment clause in a trust deed and, even so, His Lordship did not purport to give an exhaustive definition. I think that in ordinary commercial usage the words 'invest' and 'investment' in relation to shares have a connotation of laying out money in their purchase with a purpose of yielding profit (whether that profit arises by way of dividends, capital appreciation or otherwise).

Inland Revenue Commissioners v. Rolls-Royce Ltd [1944] 2 All ER 340, where it was considered by MacNaghten J whether royalties could be said to be 'income derived from investments' for the purposes of the Finance Act 1939, relevantly noting at p341 that:

The word 'investment', though it primarily means the act of investing, is in common use as meaning that which is thereby acquired; and the primary meaning of the transitive verb 'to invest' is to lay out money in the acquisition of some species of property; consequently, letters patent, which are undoubtedly a species of property, may properly be described as an investment.

Melville v. Mutual Life and Citizens Assurance Co Ltd (1980) 31 ALR 649, where Lockhart J stated (in interpreting a provision of the Life Insurance Act 1945 preventing the assets of a statutory fund from being invested in any company carrying on life insurance) that (at p653):

'Invest' is not defined in the Act. It is defined by the Shorter Oxford English Dictionary, so far as relevant, as meaning: 'to employ (money) in the purchase of anything from which interest or profit is expected... to make an investment... colloq. to lay out money

Accordingly, the act or action of 'investing' should generally exhibit the following characteristics:

· money is outlaid, applied or employed; and

· interest or profit is expected from the thing on which the money has been outlaid, applied or employed.

Paragraph 102N(1)(b)

Section 102N provides that a unit trust is a trading trust if the trustee controls or is able to control, directly or indirectly, the affairs or operations of another person in respect of the carrying on by that other person of a trading business. This requires an understanding of what constitutes 'control', what are the affairs or operations of another person.

Control

Under paragraph 102N(1)(b), Division 6C is mobilised if the trustee of the Trust either 'controlled', or 'is able to control', the affairs or operations of another person..

It is helpful to revisit Parliament's intention in enacting paragraph 102N(1)(b), discerned from the Explanatory Memorandum to Taxation Laws Amendment Bill (No. 4) 1985, which comments as follows:

Paragraph (b) of section 102N is a safeguarding provision against arrangements to circumvent the operation of Division 6C by having activities that would constitute a trading business of a public unit trust carried on by an associated entity. By taking income from the associate in the form of eligible investment income, the trust could otherwise ensure that the relevant trust did not qualify as a trading business and so avoid the operation of Division 6C.

The word 'control' is not defined for the purposes of Division 6C and accordingly, as acknowledged by the High Court, must be construed by reference to its natural meaning refined by its context. In the words of Lord Halsbury in Mersey Docks and Harbour Board v. Henderson Bros (1888) 13 AC 595 at 599-600 (quoted by Barton J in Lorimer v. Smail (1911) 12 CLR 504 at 510): 'It certainly is not a satisfactory mode of arriving at the meaning of a compound phrase to sever it into its several parts and to construe it by the separate meaning of each of such parts when severed..

The Courts have held that the word 'control' is a 'slippery concept' (see Canwest Global Communications Corporation v. Treasurer of the Commonwealth of Australia (1997) 147 ALR 509) and has a number of possible meanings (see North Sydney Brick & Tile v. Darval & Anor (1986) 10 ACLR 837 at 844). The Australian Oxford Dictionary defines the word 'control' as (i) the power of directing, command; (ii) the power of restraining, especially self-restraint; and (iii) a means of restraint; a check. Plainly, the concept of exercising control includes both the positive aspect of directing or commanding and the negative aspect of restraining.

Whereas one might ordinarily reflect on control of a company in terms of its Board of Directors ultimately answerable to a majority vote by shareholders, it is a perspective which does not accommodate the notion of negative control and, in turn, would narrow the scope intended by Parliament for the operation of paragraph 102N(1)(b). The language of the provision and its supporting materials make clear that the legislative intention did not proceed on the myopic footing that control can be exercised only through a majority vote of shareholders. (See Bermuda Cablevision Limited and Others v. Colica Trust Company Limited (Bermuda) [1997] UKPC 44, where the House of Lords explored the reasoning of earlier judgements to conclude that 'there is no general rule as to what the word 'controlled' means' and so 'the expression must be given the meaning which the context requires.').

In Mendes v Commissioner of Probate Duties (Vict) (1967) 122 CLR 152, the Court was of the view that a company was not controlled by a person if that individual did not control a majority of the voting rights at general meetings of the company, as to all matters able to be dealt with at such meetings, with the exception perhaps of matters that were incidental or minor. Windeyer J stated (at p169):

For the purposes of the revenue laws a member of a company who holds enough shares to give a majority of votes at a general meeting has 'control' of the company. That is the general rule. Control in that sense means the capacity to carry an ordinary resolution at a general meeting. (emphasis added)

This concept of control of a company by means of controlling majority voting rights is supported in other cases. For example, see the judgements of WP Keighery Pty Ltd v FCT (1957) 100 CLR 66 at p84; IR Commrs v J Bibby and Sons Ltd (1945) 1 ALL ER 667 at p669.

The concept that the control of the business of a company on the other hand has a distinct meaning is succinctly summarised by Stephen, Mason and Wilson JJ in FCT v Commonwealth Aluminium Corporation Ltd (1980) 143 CLR 646 at pp659-60, who said:

It is idle to suggest that it is the shareholders who ordinarily control the business and the business activities of a company. Their participation is generally limited to the receipt of annual accounts and reports of directors, the approval of these accounts and reports and to the election of directors at the general meeting. Important decisions, whether involving questions of policy or not, are invariably taken by the directors who are ultimately responsible to the company in general meeting for the conduct of the business operations. The shareholders, through their power to control the company in general meeting and perhaps through their power to elect directors, may be said to 'control' the company, but as a general rule they do not exercise de facto control of the company's business. Of course, there will be cases in which the evidence establishes that some shareholders or outsiders do exercise de facto control of the business and possibly there may be cases in which shareholders exercise control of the business at general meetings. (emphasis added)

In Re The News Corporation Ltd and Others (1987)70 ALR 419, the concept of control in the context of the Broadcasting and Television Act 1942 was given wide import. In that case, Bowen CJ held that a 'power of veto is a power to restrain, and hence to control.'

The affairs or operations of another person

Paragraph 102N(1)(b) requires that the trustee of the trust controlled, or was able to control, directly or indirectly, the 'affairs' or 'operations' of another person. The term 'affairs' is not defined in the Tax Act. On ordinary concepts, the 'affairs' of a person includes their business and internal affairs (see Re National Foods Ltd (Nos 1 and 2) 54 ACSR 80; R v Board of Trade, ex parte St Martin's preserving Co Ltd [1951] 1 QB 603 ) and in the context of a company, Winn J in R v. Board of Trade, ex parte St Martin Preserving Co Ltd ( [1964] 1 All ER at 568, said:

… the phrase 'affairs of the company' comprises all its business affairs, interests or transactions, all its investment or other property interests, all its profits and losses, and its goodwill.

The term 'operations', on the other hand, is explained in the singular in the Australian Oxford Dictionary as (i) an action, or process or method of working or operating; (ii) an active process, a discharge of a function; and (iii) a piece of work, especially one in series. It would seem then that the word 'operations' has a narrower meaning than 'affairs' and would sit more comfortably as a reference to the day to day business of the company rather than its business structure.

The concept of 'affairs' may include 'operations', however it may be that the latter has been singled out in the provision in acknowledgement that the business operations of a company could be susceptible to control by agreements entered into outside of the protocols normally associated with corporate decision making.

The Trust

The Trust's only asset is units in a unit trust of which it owns all of the issued units. The unit trust's only asset is units in a second unit trust.

The Applicant has advised that the Trust has invested in units in the unit trust from 200X to the present. In addition, the unit trust has invested in units in the second unit trust from 200X to the present.

The investment policy of the Trust requires investment to be only in controlled trusts. Control is not defined in the Constitution. In the context of the application of section 102N(1)(b) this indirect and direct control is of the nature and form that this subsection seeks to address. The investment policy of the Trust requires 'control' by the Trust in any investment in the project. The facts provided by the Applicant do not outline how this is achieved. What is known is that the Trustee for the Trust is also the trustee for the unit trust but not the trustee for the second unit trust. The Trustee has a fiduciary obligation to operate each trust of which it is trustee, as a distinct and separate entity, and to administer the trust property which is impressed with the terms of that trust, in accordance with those terms.

So the commonality of a trustee across a Group should not give rise to control. But on the basis of what is in the investment policy in the Constitution it must be a fact that control is exercised by the Trust of both the unit trust and the second unit trust. This would include the affairs and the operations given that the use of the word 'control' is all encompassing term in the manner in which it is used in the Constitution. All that remains to be considered is whether the unit trust or the second unit trust operate a trading business.

The operations of the Unit Trust

The unit trust's only asset is units in a unit trust of which it owns 100%. This investment is an eligible investment business as defined in section 102M.

The unit trust is not operating a trading business.

The operations of the Second Unit Trust

The second unit trust is not operating a trading business.