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Ruling

Subject: Off-market share buy back

Question 1

Will the Commissioner confirm that there should be no income tax or capital gains tax consequences for Entity X in carrying out the share Buy-back under section 159GZZZN of the Income tax Assessment Act 1936 (ITAA 1936)?

Answer

Yes

This ruling applies for the following period:

1 July 2012 to 30 June 2013

The scheme commences on:

1 July 2012

Question 2

Will the Dividend Component be a frankable distribution as defined for the purposes of Division 202-C of the Income Tax Assessment Act 1997 (ITAA 1997) and will the Dividend Component be able to be fully franked?

Answer

Yes

This ruling applies for the following period:

1 July 2012 to 30 June 2013

The scheme commences on:

1 July 2012

Question 3

Will the Commissioner determine that section 177EA of the ITAA 1936 does not apply? In the alternative, will the Commissioner confirm that any determination would be made under paragraph 177EA(5)(a) of the ITAA 1936 rather than paragraph 177EA(5)(b) of the ITAA 1936 and confirm the method for calculating any franking account debit?

Answer

Section 177EA of the ITAA 1936 does apply. The Commissioner will make a determination under paragraph 177EA(5)(a) of the ITAA 1936. The Commissioner will apply the formula found on paragraph 126 of PS LA 2007/9 for calculating the franking debit.

This ruling applies for the following period:

1 July 2012 to 30 June 2013

The scheme commences on:

1 July 2012

Question 4

Will the Commissioner determine that section 204-30 of the ITAA 1997 does not apply? In the alternative, will the Commissioner confirm that any determination would be made under paragraph 204-30(3)(a) of the ITAA 1997 rather than paragraphs 204-30(3)(b) or 204-30(3)(c) of the ITAA 1997 and confirm the method for calculating any franking account debit?

Answer

Section 204-30 of the ITAA 1997 does apply. The Commissioner will not make a determination under section 204-30 of the ITAA 1997.

This ruling applies for the following period:

1 July 2012 to 30 June 2013

The scheme commences on:

1 July 2012

Relevant facts and circumstances

Background

Entity X is the head company of a tax consolidated group.

Entity X will conduct a tender share buy-back as an equal access share Buy-back in accordance with Division 2 of Part 2J.1 of the Corporations Act 2001.

Entity X will acquire a number of shares such that no more than 10% of the voting rights will be acquired, in accordance with subsections 257B(4) and 257B(5) of the Corporations Act 2001.

Entity X has confirmed that its share capital account is not a tainted capital account.

Scheme

The Buy-back will be conducted through a tender process during a specified tender period and will be open to all eligible shareholders identified as such on the Record Date for the share Buy-back.

Under the tender process, shareholders will be able to submit offers to sell some or all of their Entity X's ordinary shares under the Buy-back at the final share Buy-back purchase price.

Participation in the Buy-back is voluntary. Eligible shareholders who do not wish to participate will not be required to take action. Shareholders who do not participate in the Buy-back will not receive any property, dividends or distributions by way of compensation for not participating in the Buy-back.

The average capital per share methodology will be used to calculate the amount of the share Buy-back purchase price to be debited to share capital. The balance of the share Buy-back purchase price will be debited to retained earnings and treated as a fully franked dividend.

No minimum threshold will be applied to the Buy-back (other than in relation to small and residual parcels of shares). The exact number of shares to be bought back will be contingent on the level of shareholder participation and the number of participants. However, to the extent that shareholder participation in the Buy-back would otherwise exceed the Buy-back limit, a scale back will be applied on a pro-rata basis.

All shares acquired by Entity X under the Buy-back will be cancelled.

Entity X does not intend to buy-back its shares at a price higher than the calculated market value of its shares.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 159GZZZP;

Income Tax Assessment Act 1936 Section 159GZZZN;

Income Tax Assessment Act 1936 Section 177EA;

Income Tax Assessment Act 1997 Division 202-C;

Income Tax Assessment Act 1997 Section 204-30;

Income Tax Assessment Act 1997 Section 204-30(1);

Income Tax Assessment Act 1997 Section 204-30(1)(a);

Income Tax Assessment Act 1997 Section 204-30(1)(b);

Income Tax Assessment Act 1997 Section 204-30(1)(c);

Income Tax Assessment Act 1997 Section 204-30(3);

Income Tax Assessment Act 1997 Section 204-30(3)(a);

Income Tax Assessment Act 1997 Section 204-30(3)(b);

Income Tax Assessment Act 1997 Section 204-30(3)(c);

Income Tax Assessment Act 1997 Section 204-30(8);

Income Tax Assessment Act 1997 Section 202-40;

Income Tax Assessment Act 1997 Section 202-45(c);

Income Tax Assessment Act 1936 Section 177EA;

Income Tax Assessment Act 1936 Subsection 177EA(3);

Income Tax Assessment Act 1936 Paragraph 177EA(3)(a);

Income Tax Assessment Act 1936 Subparagraph 177EA(3)(b)(i);

Income Tax Assessment Act 1936 Paragraph 177EA(3)(c);

Income Tax Assessment Act 1936 Paragraph 177EA(3)(d);

Income Tax Assessment Act 1936 Paragraph 177EA(5)(a);

Income Tax Assessment Act 1936 Paragraph 177EA(5)(b);

Income Tax Assessment Act 1936 Paragraph 177EA(14)(b);

Income Tax Assessment Act 1936 Subsection 177EA(17);

Income Tax Assessment Act 1936 Paragraph 177EA(17)(b);

Income Tax Assessment Act 1936 Paragraph 177EA(17)(c);

Income Tax Assessment Act 1936 Paragraph 177EA(17)(g);and

Income Tax Assessment Act 1936 Paragraph 177EA(17)(j).

Reasons for decision

Question 1

Will the Commissioner confirm that there should be no income tax or capital gains tax consequences for Entity X in carrying out the share Buy-back under section 159GZZZN of the ITAA 1936?

Detailed reasoning

Section 159GZZZN states that if a company buys back a share, then the Buy-back, and any subsequent cancellation of the share, are disregarded for:

· determining for the purposes of this Act:

· whether an amount is included in the assessable income of the company under a provision of this Act (Other than a provision of Part 3-1 or 3-3 of the ITAA 1997 (about CGT)); or

· whether an amount is allowable as a deduction to the company; or

· determining whether the company makes a capital gain or capital loss

Under the current scheme, Entity X is undertaking a share Buy-back. For the purposes of the company's tax position the Buy-back transaction is taken not to have occurred. Section 159GZZZN ensures that there are no income tax or CGT consequences for Entity X when it buys back its own shares.

Therefore, there should be no income tax or capital gains tax consequences for Entity X in carrying out the share Buy-back under section 159GZZZN of the ITAA 1936.

Question 2

Will the Dividend Component be a frankable distribution as defined for the purposes of Division 202-C of the ITAA 1997 and will the dividend component be able to be fully franked?

Detailed reasoning

Section 159GZZZP of the ITAA 1936 provides that where the Buy-back of a share is an off-market purchase, the difference between the purchase price and the part (if any) of the purchase price which is debited against the share capital account, is taken to be a dividend paid by the company to the seller out of profits derived by the company on the day the Buy-back occurs.

The Dividend Component is frankable but only to the extent that the Buy-back Price does not exceed the market value of the share at the time of the Buy-back if the Buy-back did not occur and was never proposed to occur (paragraph 202-45(c) of the ITAA 1997).

The Buy-back offer price (Buy-back price) will be determined after the tender process period has expired and will be less or equal to the market value established for the purposes of this share Buy-back.

The amount representing the portion of the Buy-back Price exceeding the Capital Component per share which is debited to Entity X's share capital account is a dividend for the purposes of section 159GZZZP of the ITAA 1936. This amount is a frankable distribution for the purposes of section 202-40 of the ITAA 1997. As the Buy-back Price will not exceed what would be the market value of the share at the time of the Buy-back if the Buy-back did not occur and was never proposed to occur, paragraph 202-45(c) of the ITAA 1997 does not apply.

Question 3

Will the Commissioner determine that section 177EA of ITAA 1936 does not apply? In the alternative, will the Commissioner confirm that any determination would be made under paragraph 177EA(5)(a) of the ITAA 1936 rather than paragraph 177EA(5)(b) of the ITAA 1936 and confirm the method for calculating any franking account debit??

Detailed reasoning

Section 177EA of the ITAA 1936 is a general anti-avoidance rule intended to apply to schemes to obtain a tax advantage in relation to imputation benefits.

The operative provision of section 177EA of the ITAA 1936 is subsection 177EA(3) of the ITAA 1936. This provision applies if:

· there is a scheme for a disposition of membership interests, or an interest in membership interests, in a corporate tax entity; and

· either:

o a frankable distribution has been paid, or is payable or expected to be payable, to a person in respect of the membership interests; or

o a frankable distribution has flowed indirectly, or flows indirectly or is expected to flow indirectly, to a person in respect of the interest in membership interests, as the case may be; and

o the distribution was, or is expected to be, a franked distribution or a distribution franked with an exempting credit; and

o except for this section, the person (the relevant taxpayer) would receive, or could reasonably be expected to receive, imputation benefits as a result of the distribution; and

o having regard to the relevant circumstances of the scheme, it would be concluded that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for a purpose (whether or not the dominant purpose but not including an incidental purpose) of enabling the relevant taxpayer to obtain an imputation benefit.

Pursuant to paragraph 177EA(14)(b) of the ITAA 1936, the meaning of 'scheme for a disposition of membership interests or an interest in membership interests' includes a scheme that involves the entering into any contract or transaction or dealing that changes or otherwise affects the legal or equitable ownership of membership interests or an interest in membership interests.

A buy-back of shares would constitute a scheme for a disposition of membership interests and paragraph 177EA(3)(a) of the ITAA 1936 is satisfied.

The Entity X Buy-back will result in the payment of a frankable distribution and the distribution is expected to be franked. Accordingly, subparagraph 177EA(3)(b)(i) and paragraph 177EA(3)(c) of the ITAA 1936 are satisfied.

Paragraph 177EA(3)(d) of the ITAA 1936 is met as Entity X's shareholders would receive, or be reasonably expected to receive, imputation benefits as a result of the distribution.

Accordingly, the issue is whether, having regard to the relevant circumstances of the scheme, it would be concluded that, on the part of Entity X, the shareholders or any other relevant party, there is a purpose which is more than merely an incidental purpose of conferring an imputation benefit under the scheme. Circumstances which are relevant in determining whether any person has the requisite purpose include, but are not limited to, the factors listed in subsection 177EA(17) of the ITAA 1936.

In this regard, the Commissioner is of the view that the structure of Entity X's Buy-back reflects a purpose, which is more than incidental, of enabling the participating shareholders to obtain an imputation benefit. In coming to this conclusion the Commissioner had regard to all the relevant circumstances of the arrangement, including those covered by paragraphs 177EA(17)(b), (c), (g) and (j) of the ITAA 1936, with particular weight attributed to paragraph 177EA(17)(b).

Therefore, the commissioner will exercise his discretion and will make a determination under paragraph 177EA(5)(a) of the ITAA 1936.

Regarding the calculation of the quantum of the franking debit, we confirm that the Commissioner will apply the formula found on paragraph 126 of PS LA 2007/9.

Question 4

Will the Commissioner determine that section 204-30 of the ITAA 1997 does not apply? In the alternative, will the Commissioner confirm that any determination would be made under paragraph 204-30(3)(a) of the ITAA 1997 rather than paragraphs 204-30(3)(b) or 204-30(3)(c) of the ITAA 1997 and confirm the method for calculating any franking account debit??

Detailed reasoning

Section 204-30 of the ITAA 1997 applies where a corporate tax entity streams the payment of dividends, or the payment of dividends and the giving of other benefits, to its members in such a way that:

· an imputation benefit is, or apart from this section would be, received by a member of the entity as a result of the distribution or distributions (paragraph 204-30(1)(a)); and

· the member would derive a greater benefit from franking credits than another member of the entity (paragraph 204-30(1)(b)); and

· the other member of the entity will receive lesser imputation benefits, or will not receive any imputation benefits, whether or not the other member receives other benefits (paragraph 204-30(1)(c)).

Relevantly, if section 204-30 of the ITAA 1997 applies the Commissioner is vested with discretion under subsection 204-30(3) to make a determination in writing either:

· that a specified franking debit arises in the franking account of the entity, for a specified distribution or other benefit to a disadvantaged member (paragraph 204-30(3)(a)); or

· that a specified exempting debit arises in the exempting account of the entity, for a specified distribution or other benefit to a disadvantaged member(paragraph 204-30(3)(b));

· that no imputation benefit is to arise in respect of any streamed distributions made to a favoured member and specified in the determination (paragraph 204-30(3)(c)).

For section 204-30 of the ITAA 1997 to apply, members to whom distributions are streamed must derive a greater benefit from imputation benefits than the members who do not participate in the Buy-back. The words 'derives a greater benefit from franking credits' (imputation benefits) are defined in subsection 204-30(8) of the ITAA 1997 by reference to the ability of the members to fully utilise imputation benefits.

Having had regard to the structure of Entity X's Buy-back, a portion of Entity X's shareholding was held by non-residents who do not fully benefit from franking, a feature of the Buy-back, to the same extent as resident shareholders. Therefore, the conditions in subsection 204-30(1) of the ITAA 1997 for the provision to apply are met. However, the Commissioner will not make a determination under section 204-30 of the ITAA 1997.