Edited version of private ruling

Authorisation Number: 1011846445791

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Ruling

Subject: Surrender of licence - capital gain or income

Question 1:

Is the payment for the surrender of the licence assessable under section 6-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer: No.

Question 2:

Is the payment for the surrender of the licence assessable under section 15-10 of the ITAA 1997?

Answer: No.

Question 3:

Is the payment of for the surrender of the licence assessable as a capital gain under Parts 3-1 or 3-3 of the ITAA 1997?

Answer: Yes.

This ruling applies for the following periods:

1 July 2009 to 30 June 2010.

The scheme commences on:

1 July 2009.

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

You purchased some licences after 20 September 1985.

During the 2009-10 financial year you surrendered the licences to the scheme. You received the payment for the surrender of the licences.

For a period you advised that you were either employed by third party employers, worked on your own as a business or you worked in your father's operations.

During this period you used the licenses to earn income whilst not employed or working with your father. Your father may have also used the licences in his operation.

After that period, until surrender, the licences were used by a unit trust. You do not own any units in the unit trust however; you are the trustee of your family trust which owns 50% of the units in the unit trust.

You provided copies of documents outlining the surrender agreement between yourself and the relevant State Government Department.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Subsection 6-5(1)

Income Tax Assessment Act 1997 Subsection 6-5(2).

Income Tax Assessment Act 1997 Division 152.

Income Tax Assessment Act 1997 Part 3-1 and 3-3

Income Tax Assessment Act 1997 Section 108-5.

Income Tax Assessment Act 1997 Section 15-10.

Income Tax Assessment Act 1997 Section 104-25.

Income Tax Assessment Act 1997 Subsection 104-25(3).

Income Tax Assessment Act 1997 Section 152-40.

Income Tax Assessment Act 1997 Section 116-40.

Income Tax Assessment Act 1997 Section 152-35.

Income Tax Assessment Act 1997 Subsection 152-35(1).

Income Tax Assessment Act 1997 Subsection 152-35(2).

Income Tax Assessment Act 1997 Subsection 328-130(1).

Income Tax Assessment Act 1997 Section 328-130.

Income Tax Assessment Act 1997 Section 328-125.

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 1936 is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable.

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 first 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 www.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-avoidance rule for income tax.

Reasons for decision

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

Ordinary income

Subsection 6-5(1) provides that an amount is included in assessable income if it is income according to ordinary concepts (ordinary income). However, as there is no definition of ordinary income in income tax legislation, it is necessary to apply principles developed by the courts to the facts of a particular case.

Whether or not a particular receipt is ordinary income depends on its character in the hands of the recipient.

Characteristics of ordinary income that have evolved from case law include receipts that:

· are earned

· are expected

· are relied upon, and

· have an element of periodicity, recurrence or regularity.

In GP International Pipecoaters Pty Ltd v. Federal Commissioner of Taxation, (1990) 170 CLR 124; (1990) 21 ATR 1; 90 ATC 4413 the Full High Court stated:

To determine whether a receipt is of an income or of a capital nature, various factors may be relevant. Sometimes the character of receipts will be revealed most clearly by their periodicity, regularity or recurrence; sometimes, by the character of a right or thing disposed of in exchange for the receipt; sometimes, by the scope of the transaction, venture or business in or by reason of which money is received and by the recipients purpose in engaging in the transaction, venture or business.

Subsection 6-5(2) of the ITAA 1997 states that the assessable income of an Australian resident taxpayer includes ordinary income derived directly or indirectly from all sources, whether in or out of Australia, during the income year. It does not operate to include in a taxpayer's assessable income amounts of a capital nature.

The payment is not assessable as ordinary income in your hands as it is not a product in a real sense of any employment, services or business carried on by you and it does not have the characteristics normally associated with ordinary income such as periodicity and reliance on the payments to meet regular expenditure.

The receipt of the payment is for the surrender of the licences. The licences are part of the profit yielding structure of the operation. Payment for the loss of a capital asset or an enduring part of a profit-yielding structure will be capital in nature. The receipt of the payment is neither a normal incident of your business nor is it paid for a purpose for which your business was carried on.

Accordingly, payments received for the licences under the scheme are capital in nature and do not constitute assessable income under section 6-5 of the ITAA 1997.

Bounty or subsidy

Section 15-10 of the ITAA 1997 provides that an amount is included in assessable income if it is a bounty or subsidy received in relation to carrying on a business which is not already caught as ordinary income under section 6-5 of the ITAA 1997.

The terms bounty and subsidy are not defined in income tax legislation. The ordinary meaning adopted by case law is an aid provided by the Commonwealth to foster or further some undertaking or industry. It is now well accepted that a subsidy or bounty includes a financial grant made by a government (state or federal).

Taxation Ruling TR 2006/3 provides that a bounty or subsidy will be in relation to carrying on a business when there is a real connection between the payment and the business. However, a bounty or subsidy must be related to carrying on a business and not merely for commencing or ceasing a business. Therefore government payments to industry received by an entity as assistance either to cease a business or give or sell part of the profit yielding structure of the business are not in relation to the carrying on of the business.

In your case the payment you received to surrender the licences will not be assessable under section 15-10 of the ITAA 1997 in the hands of a recipient as it is not a bounty or subsidy that is received in relation to the carrying on of a business.

Capital gains tax

Each licence is a CGT asset under section 108-5 of the ITAA 1997.

CGT event C2 under section 104-25 of the ITAA 1997 (when an intangible CGT asset is surrendered, cancelled or forfeited or similarly ends) happens when the offer by the scheme was accepted by you which resulted in the surrender of the licences.

A capital gain is made if the capital proceeds exceed the cost base of the licences, and a capital loss is made if the capital proceeds are less than the reduced cost base of the licences (subsection 104-25(3) of the ITAA 1997).

The lump sum payment received under the scheme comprises the capital proceeds for the surrendering of a number of licences. As the lump sum payment relates to more than one licence, the capital proceeds are apportioned between each licence under section 116-40 of the ITAA 1997. The capital proceeds are apportioned in such amounts as are reasonably attributable to each licence.

A capital gain which results from the surrendering of a licence acquired on or after 20 September 1985 (post-CGT) can be reduced by the general CGT discount if the relevant requirements are met.

CGT discount

You can use the discount method to calculate your capital gain if:

· you are an individual, a trust or a complying superannuation fund

· a CGT event happens in relation to an asset you own

· the CGT event happened after 11.45 am on 21 September 1999

· you acquired the asset at least 12 months before the CGT event

· you did not choose to use the indexation method.

Discount percentage

The discount percentage is the percentage by which you reduce your capital gain. You can reduce the capital gain only after you have applied all available capital losses.

The discount percentage is 50% for individuals.

As you owned your interest in the licences as an individual and held them for longer than 12 months, you may apply the 50% discount to the capital gain after you have applied all available capital losses.

Small business concessions

We have provided the following general information concerning the small business CGT concessions for your general advice only.

A capital gain can be reduced or deferred by the small business CGT concessions if the licences are active assets and the other requirements of Division 152 of the ITAA 1997 are met.

The active asset test in section 152-35 of the ITAA 1997 requires the CGT asset that gave rise to the capital gain to be an active asset for a particular period.

Subsection 152-35(1) of the ITAA 1997 provides that the active asset test is satisfied if:

you have owned the asset for 15 years or less and the asset was an active asset of yours for a total of at least half the test period, or

you have owned the asset for more than 15 years and the asset was an active asset of yours for a total of at least 7 ½ years during the test period.

The test period:

· begins when you acquired the asset, and

· ends at the earlier of

o the CGT event, and

o if the business ceased in the 12 months before the CGT event when the business ceased (subsection 152-35(2) of the ITAA 1997).

The asset does not need to be an active asset just before the CGT event.

Section 152-40 of the ITAA 1997 provides the meaning of active asset. An asset is an active asset at a time, if at that time, you own the asset and it is used or held ready for use by you, your affiliate or an entity connected with you.

Affiliates

Subsection 328-130(1) of the ITAA 1997 defines an affiliate as an individual or company that acts, or could reasonably be expected to act, in accordance with your directions or wishes, or in concert with you, in relation to the affairs of the business.

Whether a person acts, or could reasonably be expected to act, in accordance with a taxpayer's directions or wishes, or in concert with a taxpayer is a question of fact dependent on all the circumstances of the particular case. No one factor will necessarily be determinative.

According the to the Advanced Guide to capital gains tax concessions for small business, relevant factors that may support a finding that a person acts, or could reasonably be expected to act, in accordance with a taxpayers directions or wishes, or in concert with a taxpayer, include:

(a) the existence of a close family relationship between the parties

(b) the lack of any formal agreement or formal relationship between the parties dictating how the parties are to act in relation to each other

(c) the likelihood that the way the parties act, or could reasonably be expected to act, in relation to each other would be based on the relationship between the parties rather than on formal agreements or legal or fiduciary obligations, and

(d) the actions of the parties.

Also, section 328-130 of the ITAA 1997 states that an individual or company can be your affiliate if the individual or company acts, or could reasonably be expected to act, in accordance with your wishes or directions, or in concert with you, in relation to the affairs of their business. The definition of affiliate does not allow for a partnership to be your affiliate.

This is considered at paragraph 2.40 of the Explanatory Memorandum to the Tax Laws Amendment (Small Business) Bill 2007, which introduced section 328-130 of the ITAA 1997. It states that entities (for tax purposes) such as trusts, partnerships, and superannuation funds are not capable of being affiliates of entities.

Connected Entities

An entity is connected to another entity if either entity controls the other entity or both entities are controlled by the same third entity. It also means that an entity is connected to another entity, if the entity, its affiliates or both of them beneficially own, or have the right to acquire the beneficial ownership of interests in, the other entity that give them the right to receive at least 40% of the distribution of income or capital by the other entity.

The meaning of connected entity is defined under section 328-125 of the ITAA 1997 which states as follows

328-125(1) An entity is connected with another entity if:

(a) either entity controls the other entity in the way described in this section; or

(b) both entities are controlled in a way described in this section by the same third entity.

Direct control of entity other than a discretionary trust

328-125(2) An entity (the first entity) controls another entity if the first entity, its *affiliates or the first entity together with its affiliates:

(a) except if the other entity is a discretionary trust - beneficially own, or have the right to acquire the beneficial ownership of, interests in the other entity that carry between them the right to receive a percentage (the control percentage) that is at least 40% of:

(i) any distribution of income by the other entity; or

(ii) if the other entity is a partnership - the net income of the partnership; or

(iii) any distribution of capital by the other entity; or

(b) if the other entity is a company - beneficially own, or have the right to acquire the beneficial ownership of, equity interest in the company that carry between them the right to exercise, or control the exercise of, a percentage (the control percentage) that is at least 40% of the voting power in the company.

In addition to the active asset test, to be eligible to apply the small business CGT concessions a number of other requirements must be satisfied including the maximum net asset value test or the small business entity test.