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Ruling

Subject: Capital gains tax - CGT Event C2

Question:

Did CGT event C2 occur on the day that the company was deregistered?

Answer:

Yes.

This ruling applies for the following period

Year ended 30 June 2011.

The scheme commenced on

1 July 2010.

Relevant facts and circumstances

You were one of four original shareholders in a small proprietary limited company.

The company was registered on sometime in 2006, as a proprietary company limited by shares.

You and your partner owned one ordinary share each in the company, both fully paid to $X.00, representing a 50% ownership of the company.

The other shareholders were your business partner and their partner, (they also owned one ordinary share each, both fully paid to $X.00), representing the remaining 50% ownership of the company.

During the year ended 30 June 2006, you obtained a loan from an Australian financial institution at commercial rates and on lent this money to the company, providing an amount of money as a loan to the company for working capital.

Your business partner also obtained a loan from a financial institution and on lent the money to the company as working capital in the same manner.

Your intention, along with your business partner was for the company to become profitable as soon as possible and eventually pay assessable dividends and other income to the shareholders.

You and your business partner also drew wages from the company for principal work performed.

Initially, there was no formal, written loan agreements in place, the loans were shown as a liability in the company's accounts (shareholder loans).

By agreement the company paid the exact amount of regular interest that the financial institution charged you. The company claimed the interest as a deduction. You did not claim a personal deduction for the interest. Your business partner's situation was identical.

Sometime in 2007, you and your business partner each borrowed another amount of money from the same financial institutions at commercial rates and you both then on lent this money to the company for working capital, in an attempt to assist the company to become profitable. The company continued to regularly pay the exact interest cost that the financial institution charged you and your business partner.

Sometime in 2008, in addition to paying the regular interest charge on the loan, the company also began repaying an amount per week in principal repayments. The principal repayments were made directly to the financial institutions by the company on behalf of you and your business partner.

The company struggled with cash flow and profitability from sometime in 2006 to sometime in 2009, due to poor economic conditions and under costing of some major contracts.

The company was put into liquidation by creditors. The winding up of the company by the liquidator commenced on sometime in 2010. The company was deregistered on a certain date.

At the time the company was placed into liquidation, the loan amount to the company by you stood at a certain amount, (a similar amount was owed by the company to your business partner).

You were classed as an unsecured creditor.

You did not receive any dividend or return from the company in liquidation and the debt was extinguished when the company was wound up and deregistered.

The loan to the financial institution remained and you service this loan from other sources of your income.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1,

Income Tax Assessment Act 1997 Section 104-25,

Income Tax Assessment Act 1997 Section 108-5 and

Income Tax Assessment Act 1997 Section 108-20.

Reasons for decision

Question

A capital gains tax (CGT) asset can be any kind of property, or a legal or equitable right that is not property. A debt or a right to repayment is a CGT asset.

Once a debt owed by a company to you becomes unrecoverable because the company is deregistered, CGT event C2 happens and your ownership of the debt owed to you ends.

Whether or not you as the lender make a capital loss that is not disregarded at the time of CGT event C2 happening depends on whether or not the asset is a personal use asset. ((Section 108-20 of the Income Tax Assessment Act 1997 (ITAA 1997) states that a capital loss made from a personal use asset is disregarded)).

Paragraph 108-20(2)(d) of the ITAA 1997 has application to your circumstances because it defines as a personal use asset a debt arising other than:

(i) in the course of gaining or producing your assessable income; or

(ii) from your carrying on a business.

As the company was in affect paying interest at commercial rates to you on a regular basis (via direct payment to the financial institution), this means that your debt did arise in the course of gaining or producing your assessable income (interest). Therefore your debt was not a personal use asset. It was a commercial debt. This means that the capital loss is not disregarded by subsection 108-20(1) of the ITAA 1997.

Taxation Determination TD 2000/7 gives the ATO view on when a CGT event happens when deregistration of a company occurs. For you this means that CGT event C2 happened on the date that the company was officially deregistered.