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Ruling

Subject: The Cross-Border Merger and its tax consequences

Question 1

Did the Cross-Border Merger give rise to a "disposal" of shares in Company X and Company Y by Company D and Company E (respectively) for the purposes of Part X of Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

Yes

Question 2

If the answer to question 1 is "Yes", did the disposal happen on XX/XX/XXXX for the purposes of Part X of ITAA 1936?

Answer

Yes

Question 3

Does any statutory accounting period exist for each of Company X and Company Y after the year ended XX/XX/XXXX?

Answer

Yes

Question 4

If the answer to question 1 is "Yes" did the disposal gives rise to any attributable income for the shareholders of Company X and Company Y for the year ended XX/XX/XXXX?

Answer

No

This ruling applies for the following periods:

XX/XX/XXXX to XX/XX/XXXX

The scheme commences on:

XX/XX/XXXX

Relevant facts and circumstances

Corporate structure

1. Company B is an Australian resident company and is the head company of the Australian tax consolidated group comprising of Company B and all of its subsidiary members (the Company B TCG).

2. Company C is an Australian tax resident and is a member of Company B TCG.

3. Company D is a wholly-owned subsidiary of Company C, and is the top holding company of Company B European Operations.

4. Company E is a wholly-owned subsidiary of Company D and is the intermediate holding company of Company B European Operations.

5. Company F is a wholly-owned subsidiary of Company E.

6. Company G is a private company limited by shares and is a wholly-owned subsidiary of Company F.

7. Company Y and Company X are all wholly owned, directly or indirectly, by Company D.

The transaction

8. In XX/XXX, the management of European Operations sought to change the operating structure by merging following two entities being,

§ Company Y

§ Company X.

9. By way of a court order issued by the High Court dated XX/XX/XXXX the consequences of the Cross-Border Merger have legal effect from XX/XX/XXXX.

10. The taxpayer states that, for accounting purposes, company Y and Company X ceased to exist as at XX/XX/XXXX.

11. Prior to the Cross-Border Merger, the sole shareholder of:

§ Company X was Company D

§ Company Y was Company E.

12. Company B and Company C are members of the Company B TCG. None of the other entities described above are members of the Company B TCG as they are not Australian tax residents.

The Cross-Border Merger and its consequences

13. The Merger, in accordance with an EU sanctioned approval process, results in the capital of two entities being transferred to and merged with Company G, and the creation of two branches.. The entire balance sheets including all insurance liabilities and matching assets and other assets and liabilities of the two companies are transferred to Company G as part of the merger process. The merger also facilitates the dissolution of Company X and Company Y.

14. When the merger is completed, the new structure is deemed to be effective from XX/XX/XXXX for accounting purposes.

15. The Taxpayer states that the Cross-Border Merger was done in accordance with relevant regulations.

16. Article 12 of the Directive provides that the law of the Member State to whose jurisdiction the company resulting from the Cross-Border Merger is subject to shall determine the dates on which the Cross-Border Merger takes effect. That date must be after the scrutiny referred to in Article 11 has been carried out. Article 11 of the Directive provides that a court of the Member State must scrutinise the legality of the Cross-Border Merger.

17. Article 14 of the Directive states that a Cross-Border Merger carried out as laid down in points (a) and (c) of Article 2(2) shall, from the date referred to in Article 12, have the following consequences:

a) All the assets and liabilities of the company being acquired shall be transferred to the acquiring company.

b) The members of the company being acquired shall become members of the acquiring company.

c) The company being acquired shall cease to exist.

18. Details of the Cross-Border Merger process and its consequences are set out in the Draft Terms of a Proposed Cross-Border Merger Agreement dated XX/XX/XXXX (the Terms).

19. In summary, as a result of the Cross-Border Merger:

· For accounting purposes, the new structure is deemed to be effective from XX/XX/XXXX.

· Company X and Company Y ceased to exist as of XX/XX/XXXX for accounting purposes. That is, Company Y an Company X as the transferor companies, transferred their assets and liabilities to Company F, as the transferee company, and Company X and Company Y were dissolved without going into liquidation.

20. The Terms states that Company E will have the right to participate in any dividend or other distribution of profits paid in respect of the Company Y consideration with effect from the time of issue of such consideration to Company E on the Effective Date.

21. The Terms states that Company D will have the right to participate in any dividend or other distribution of profits paid in respect of the Company Y consideration with effect from the time of issue of such consideration to Company D on the Effective Date.

22. The 'Effective Date' is defined in the specified terms.

23. The Accounting Date is defined as XX/XX/XXXX.

24. The Terms explains that it is proposed that the Effective Date will be XX/XX/XXXX. However, on and from the Effective Date all transactions of Company X and Company Y that have taken place on or since the Accounting Date will be deemed for accounting purposes to have been carried out for the account of Company G. All assets and liabilities of Company Y and Company X as at the Effective Date will be transferred to Company G pursuant to the merger on the Effective Date and recorded in the accounts of Company G for accounting purposes with effect from the Accounting Date.

25. Any assets acquired, or liabilities incurred, by Company X and Company Y after XX/XX/XXXX will however, also transfer to Company G upon the Merger becoming effective.

26. The Taxpayer contends that Company X and Company Y are non-resident companies and none of their assets comprised of CGT assets having the necessary connection with Australia.

27. The Taxpayer further states that neither Company D nor Company E have elected to be taxed on a tonnage basis rather than on income or profits and are not open ended investments under the law of the XX and XX .

Commercial reasons for Cross-Border Merger

28. The key commercial reasons for the Cross-Border Merger, as set out in the Group Board Paper dated XX/XX/XXXX include the following:

· The restructure is expected to result in an immediate release of a certain amount of capital in cash while maintaining a certain amount of minimum capital base of for commercial and marketing purposes.

· The merger results in substantial additional capital in excess of minimum regulatory and rating agency requirements being made available, which may provide headroom to release additional capital if commercially viable in future.

· The operating structure provides the benefits of:

o Increased efficiency and fungibility of capital.

o Increased diversification from a wider range of business.

o Enhanced and more stable rating agency view of their business.

o Release of an inefficient holding company guarantee of Company X.

29. As stated in the Board Paper, the structure is tax neutral insofar as two branch profits will continue to be taxed at the countries corporate tax rates. Also, there should be no adverse Australian tax consequences resulting from the merger.

Other information

30. The Taxpayer contends that section 319 of the ITAA 1936 election was made so that the merging entities' (Company X and Company Y) statutory accounting periods end on XX.

Relevant legislative provisions

Income Tax Assessment Act 1936 Part X,

Income Tax Assessment Act 1936 section 317,

Income Tax Assessment Act 1936 section 319,

Income Tax Assessment Act 1936 subsection 319(1),

Income Tax Assessment Act 1936 subsection 319(2),

Income Tax Assessment Act 1936 subsection 319(6),

Income Tax Assessment Act 1936 subsection 317(1),

Income Tax Assessment Act 1936 section 332,

Income Tax Assessment Act 1936 section 340,

Income Tax Assessment Act 1936 subsection 340(a),

Income Tax Assessment Act 1936 section 349,

Income Tax Assessment Act 1936 section 361,

Income Tax Assessment Act 1936 section 381,

Income Tax Assessment Act 1936 section 382,

Income Tax Assessment Act 1936 section 383,

Income Tax Assessment Act 1936 subsection 383(a),

Income Tax Assessment Act 1936 subsection 383(b),

Income Tax Assessment Act 1936 subsection 383(c),

Income Tax Assessment Act 1936 section 385,

Income Tax Assessment Act 1936 subsection 385(2),

Income Tax Assessment Act 1936 subparagraph 385(2)(a)(i),

Income Tax Assessment Act 1936 section 386,

Income Tax Assessment Act 1936 subsection 386(1),

Income Tax Assessment Act 1936 section 430A,

Income Tax Assessment Act 1936 section 432,

Income Tax Assessment Act 1936 section 446,

Income Tax Assessment Act 1936 section 446,

Income Tax Assessment Act 1936 section 456,

Income Tax Assessment Act 1936 paragraph 446(1)(k) and

Income Tax Assessment Act 1997 subsection 995-1(1).

Reasons for decision

Question 1

Summary

Yes. The Cross-Border Merger gives rise to a disposal of shares in Company X and Company Y by Company D and Company G (respectively) for the purpose of Part X of the ITAA 1936.

Detailed reasoning

Pursuant to section 456 of the ITAA 1936 an attributable taxpayer is required to include in its assessable income its share of attributable income of a Controlled Foreign Company (CFC). In calculating attributable income, sections 382 to 385 of the ITAA 1936 prescribe that the attributable income of a CFC be calculated on the assumption that the CFC is a resident of Australia for tax purposes. This requires that the notional assessable income of the CFC be determined.

Company D and Company E are each a CFC within the definition of CFC in section 340 of the ITAA 1936. Furthermore, Both companies are residents of XX which is a listed country for the purposes of Part X of the ITAA 1936 (section 332 of the ITAA 1936).

The basic conditions for passing the Active income Test are stated in section 432 of the ITAA 1936. As the relevant CFCs will not pass the active income test, for the year ended XX/XX/XXXX, subsection 385(2) of the ITAA 1936 provides that the notional assessable income of the CFC (ie. Company D and Company E includes the adjusted tainted income. Subsection 386(1) of the ITAA 1936 provides that adjusted tainted income includes an amount that would be passive income (if certain modifications are made). Section 446 of the ITAA 1936 defines passive income to include net gains that accrued to the company in the statutory accounting period in respect of the disposal of tainted assets (paragraph 446 (1)(k) of the ITAA 1936). Subsection 317(1) of the ITAA 1936 defines tainted asset to include 'shares in a company'.

Therefore, in calculating its share of attributable income, Company B group is required to determine whether there have been any gains that accrued to the CFCs in respect of the disposal of tainted assets. As such Company B needs to determine whether the Cross-Border Merger gave rise to a disposal, upon the dissolution of Company X and Company Y.

The definition of disposal in section 317 of the ITAA 1936 is an inclusive definition only.

'Disposal' is defined in subsection 317(1) of the ITAA 1936 to include:

(a) a redemption, and

(b) CGT event J1 happening in relation to the asset.

The Macquarie Dictionary defines 'disposal' as:

1. the act of disposing, or of disposing of, something; arrangement.

2. a disposing of as by gift or sale; bestowal or assignment...

'Dispose' is defined as, in the context of 'dispose of a':

to deal with definitely; get rid of. b. to make over or part with, as by gift or sale.

In Federal Commissioner of Taxation v. Wade (1951) 84 CLR 105; (1951) 9 ATD 337 Dixon and Fullagar JJ, when considering the term 'disposed of' said:

The words "disposed of" are not words possessing a technical legal meaning, although they are frequently used in legal instruments. Speaking generally, they cover all forms of alienation.

This case was considered in Taxation Ruling TR 96/14 and it was concluded that the comments do not go as far as suggesting that a general, unqualified understanding of those clauses means that all acts of disposal must necessarily effect an alienation.

The ordinary meaning of the word includes acts of alienation and also includes acts resulting in something 'being dealt with definitely' and acts that 'get rid of' something.

The facts of the ruling application reveals that prior to the Cross-Border Merger, the interests in Company X and Company Y were held by Company D and Company E respectively. Subsequent to the Cross-Border merger, those interests no longer exists but became part of Company G. Company G is a separate legal entity from Company D and Company E.

The dissolution of Company X and Company Y results in the shares in those entities ceasing to exist; they are no longer 'owned' by the previous shareholders (Company D and Company E). In other words, the previous shareholders have 'dealt with definitely' or have positively acted to 'get rid of' the shares. Therefore, there has been a disposal of shares in the predecessor companies by a successor company for the purposes of Part X of the ITAA 1936.

Question 2

Summary

Yes. The disposal of shares occurs on XX/XX/XXXX for the purpose of Part X of the ITAA 1936.

Detailed reasoning

'Disposal' of an asset is defined in subsection 317(1) of the ITAA 1936 to include:

(a) a redemption, and

(b) CGT event J1 happening in relation to the asset.

The date of disposal is not necessarily the same as the date of the relevant CGT event.

The dissolution of Company X and Company Y following the Cross-Border Merger resulted in the shares in those entities ceasing to exist, at the time these companies were dissolved without going into liquidation. The shares are not owned by the merged entity, Company G. In other words, the merged entity has dealt with definitely or has positively acted to get rid of the shares.

Accordingly, it is considered that the disposal for the purposes of Part X of the ITAA 1936 happens at the time when the shares ceased to exist, regardless of the timing of the relevant CGT event.

The Cross-Border Merger was carried out in accordance with a European Union sanctioned process which is fully effective under the laws of the relevant countries.

The Directive provides that the law of the Member State to whose jurisdiction the company resulting from the Cross-Border Merger is subject to shall determine the dates on which the Cross-Border Merger takes effect.

As defined in the Terms the 'Effective date' is the date specified in the final order as the date on which the consequences of the merger, as set out in certain regulations are to have effect.

It is only when that date is specified that the legal consequences of the Cross-Border Merger can occur. This is akin to a condition precedent. Until the formalities of the Directive are completed and the court has affixed the date of effect, the Cross-Border Merger has not occurred and does not take legal effect. Until the Final Order of the XX High Court of justice is given which stipulates the effective date, the Cross-Border Merger is not taken to be effective.

The XX High Court Approval dated XX/XX/XXXX provides that in accordance with the relevant regulations, the consequences of the Cross-Border Merger between the company, Company Y and Company X shall have effect from XX/XX/XXXX..

Accordingly, the disposal of shares occurs on XX/XX/XXXX for the purpose of Part X of the ITAA 1936.

Question 3

Summary

Yes. The statutory accounting period for both Company X and Company G will end on XX/XX/XXXX, immediately before the companies ceased to exist.

Detailed reasoning

The statutory accounting period of a company is defined in subsection 319 (1) of the ITAA 1936 to mean each period of 12 months finishing at the end of 30 June. However, a company may by notice in writing to the Commissioner elect that a day different from 30 June be the last day of a statutory accounting period under subsection 319(2) of the ITAA 1936.

In the present case, Company X and Company Y have elected, under subsection 319(1) of the ITAA 1936, to adopt new substituted accounting period that ends on XX.

Section 319(6) of the ITAA 1936 describes that when a company ceases to exist before the end of a statutory accounting period, and provides that:

If :

a) the company is a CFC at the beginning of what is, disregarding this subsection, a statutory accounting period; and

b) the company ceases to exist before the end of the statutory accounting period;

the statutory accounting period ends immediately before the company ceased to

exist.

It means that if a company is a CFC at the beginning of a substituted accounting period and ceases to exist before the end of the SAP, then the SAP ends immediately before the company ceases to exist.

In this case, the Cross-Border Merger was done in accordance with the relevant regulations. Specifically, Directive of the of the European Parliament (The Directive) and of the Council of XX XX/XXX on Cross-Border Mergers of limited liability companies incorporated in different European Union or European Economic Area member states and enables the Cross-Border Merger to be implemented so as to be fully effective under the laws of the relevant countries.

Article 12 of the Directive provides that the law of the Member State to whose jurisdiction the company resulting from the Cross-Border Merger is subject to shall determine the dates on which the Cross-Border Merger takes effect. That date must be after the scrutiny referred to in Article 11 has been carried out. Article 11 of the Directive provides that a court of the Member State must scrutinise the legality of the Cross-Border Merger.

Article 14 states that a Cross-Border Merger shall from the date referred to in Article 12, have several consequences. One of the consequences listed in Article 14(1)(c) provides that the company being acquired shall cease to exist.

Therefore, according to the Directive, the company will cease to exist upon the effective date of the merger which can only be after a Court of the Member State has scrutinised the legality of the Cross-Border Merger.

The Companies (Cross-Border Mergers) Regulations 2007 has a provision (clause 16 of the Regulation 2007) which mirrors the requirement of the Directive in relation to Court approval and the effective date. The effective date of the Cross-Border Merger was XX/XX/XXXX, as provided by the order dated XX/XX/XXXX of the court.

Accordingly, the effective date is the date the company ceased to exist. Therefore, the SAP period for both Company X and Company Y will end on XX/XX/XXXX, immediately before the companies ceased to exist.

Question 4

Summary

No. Company D and Company E have not derived any attributable income for the purposes of Part X for the year ending 31 December 2012.

Detailed reasoning

Section 456 of the Income Tax Assessment Act 1936 (ITAA 1936) provides that where there is a CFC with attributable income in a statutory accounting period in respect of an attributable taxpayer, then the attribution percentage of the attributable income is included in the attributable taxpayers assessable income for the year of income in which the CFCs statutory accounting period ends.

There are a number of criteria that must be satisfied before section 456 operates to include an amount in the assessable income of the attributable taxpayer. Firstly, there must be a CFC and an attributable taxpayer with a positive attribution percentage in relation to that CFC. There must also be an amount of attributable income in a relevant statutory accounting period.

Company D and Company E are XXXX resident companies that are wholly owned subsidiaries of Company C and are therefore CFCs under subsection 340(a) of the ITAA 1936.

An attributable taxpayer is defined in section 361 of the ITAA 1936 to be an entity, in relation to a CFC, that is an Australian entity whose associate-inclusive control interest in the CFC is a least 10%.

Associate-inclusive control interest is defined in section 349 of the ITAA 1936 to be the sum of the direct and indirect control interests held by the entity and its associates in a company.

Company C has a direct control interest in Company D and indirect control interest in Company E.

A CFCs attributable income is calculated on a notional basis using, in modified form, the rules that apply for the calculation of taxable income of a resident company (sections 381-431A of the ITAA 1936). The types of income that will be included in the attributable income of a CFC depend on whether it is resident in a listed or unlisted country, and whether or not it passes the active income test.

Company D and Company E are residents of XXXX and are therefore residents of a listed country for Part X purposes under section 332 of the ITAA 1936.

If the CFC is a resident of a listed country at the end of a statutory accounting period, the basic assumptions under section 383 of the ITAA 1936 for calculating attributable income apply. The main assumption is that the eligible CFC is a resident taxpayer. However, the only amounts to be included in the notional assessable income of a listed country CFC are the amounts referred to in section 385 of the ITAA 1936.

The amounts to be included in notional assessable income of a listed country CFC are set out in subsection 385(2) of the ITAA 1936. All other income is notional exempt Income. The attributable income of a CFC resident in a listed country that fails the active income test is calculated on the assumption that its income including income derived through a partnership), broadly, consists of:

· Adjusted tainted income that is 'eligible designated concession income' (EDCI).

· Income that is not EDCI, is not derived from sources in that listed country and is adjusted tainted income that is not taxed in any listed country.

· Income derived as a beneficiary of a trust that is not taxed in a listed country or Australia.

· Income attributed to the CFC under the transferor trust measures.

· Income attributed to the CFC under the foreign investment fund measures.

Therefore, as we are advised that the active income test is failed, amounts that are both adjusted tainted income and eligible designated concession income will be included in the Taxpayers notional assessable income.

Section 386 of the ITAA 1936 defines adjusted tainted income to mean passive income, tainted sales income, and tainted services income as defined in Division 8 of Part X of the ITAA 1936, subject to certain modifications relating to quantum of amounts.

Any gain on a disposal of a tainted asset gives rise to adjusted tainted income within the meaning of section 386 of the ITAA 1936. Shares in a company are tainted assets within the meaning of section 317 of the ITAA 1936. Therefore a gain from the transfer of the shares will constitute adjusted tainted income.

However, to be included in notional assessable income the amount must also be eligible designated concessional Income. Eligible designated concession income in relation to a listed country is simply designated concession income that is eligible to be attributed to an Australian resident taxpayer. It will be attributable where it is also not taxed on a current basis in any other listed country, or is subject to tax in another listed country but also on a concessional basis. The term eligible designated concessional Income in subparagraph 385(2)(a)(i) of the ITAA 1936 is defined in section 317 of the ITAA 1936 as:

means designated concession income in relation to the listed country:

(a) that is not subject to tax in another listed country in a tax accounting period:

(i) ending before the end of the income period; or

(ii) commencing during the income period; or

(b) that is:

(i) subject to tax in another listed country in a tax accounting period:

(A) ending before the end of the income period; or

(B) commencing during the income period; and

(ii) designated concession income in relation to that other listed country;

In general, designated concession income is income or profits that is either not taxed at all (eg capital gains), or is taxed at reduced rates to attract particular forms of business or financial activity. It also includes a capital gain arising because of CGT event J1. Further, Designated concession income (DCI), in relation to a listed country is defined in section 317 of the ITAA 1936 to mean:

(a) income or profits of a kind specified in the regulations if:

(i) foreign tax imposed by a tax law of the country is not payable in respect of the income or profits because of a particular feature; or

(ii) foreign tax imposed by a tax law of the country is payable in respect of the income or profits but there is a feature in relation to that tax; and the feature is of a kind specified in the regulations; or

(b) capital gains that would be made because of CGT event J1, if the assumptions in paragraphs 383(a) to (c) applied.

Regulations 152B of the Income Tax Regulations 1936 provides the link between the definition of DCI in section 317 of the ITAA 1936 and the list of DCI items in schedule 9 of the Income Tax Regulations.

Item 210 of Part 2 of Schedule 9 of the Income Tax Regulations identifies an item as DCI if

· It is a capital gain in respect of shares in companies whereby the CGT assets of the companies or the underlying CGT assets of the companies held through one of more non-resident entities that are associates, includes CGT assets that have the necessary connection with Australia (Column 3 of item 210 of schedule 9 of Income Tax Regulations).

· that amount is not subject to tax in XX and XX in a tax accounting period as a consequence of the substantial shareholding exemption available under the tax law of XX and XX.

The Taxpayer contends that Company Y and Company X are non-resident companies and none of their assets comprised of CGT assets having the necessary connection with Australia. The Taxpayer states that the XX substantial shareholding exemption was not relevant to the Cross-Border Merger as there were no shareholdings transferred. In the present case, Company X and Company Y as the transferor companies, have transferred their assets and liabilities to Company G as the transferee Company. Company Y and Company X were dissolved without going into liquidation. As such, item 210 of Part 2 of Schedule 9 of the Income Tax Regulations has no application.

The Taxpayer contends that neither Company D nor Company E have elected to be taxed on a tonnage basis rather than on income or profits. Therefore, Item 211 of Part 2 of Schedule 9 of the Income Tax Regulations is not applicable.

The Taxpayer also contends that Company D and Company E are not open ended investments under the relevant country law. As such, Item 212 of Part 2 of Schedule 9 of the Income Tax Regulations is not applicable.

Even if the Cross-Border Merger gave rise to adjusted tainted income, such an amount did not constitute notional assessable income derived by Company D or Company E as the definition of DCI was not satisfied. Therefore, Company D and Company E have not derived any attributable income for the purposes of Part X for the year ending 31 December 2012.