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Ruling

Subject: Consolidation right to future income

Question 1

Is the asset that is the right to receive the Agreed Amount a right to future income as defined in subsection 701-63(5) of the Pre Rules in the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No

This ruling applies for the following periods:

The ruling period commenced prior to 12 May 2010.

The scheme commences on:

Prior to 12 May 2010

Relevant facts and circumstances

HeadCo is the head company of a tax consolidated group with SubCo as a subsidiary member. This group came into existence following the acquisition by HeadCo of all the shares in SubCo (Joining Time).

Before Joining Time SubCo and Third PartyCo entered into a Project Agreement which dealt with the rights and obligations of the parties in respect of the project including the right to Project Fees.

Various disputes arose between the parties. To settle these disputes, the parties entered into a Settlement Agreement. In accordance with the terms of the settlement, Third PartyCo agreed to pay SubCo an amount calculated in accordance with the agreement (Estimated Amount).

The parties also agreed to amend the Project Agreement (Amended Agreement). Under the Amended Agreement, the parties agreed that Third PartyCo would pay an amount to SubCo which was calculated in the same manner as the Estimated Amount (Agreed Amount). The actual amount payable also took into account the Estimated Amount already paid under the Settlement Agreement.

The Amended Agreement also stipulated that during the term of this agreement, SubCo will continue to operate and maintain the project and SubCo will be entitled to receive the Project Fees.

The Joining Time occurred after the Amended Agreement. At this time, SubCo had not received the entire Agreed Amount it was entitled to receive from Third PartyCo.

Relevant legislative provisions

Income Tax Assessment Act 1997 Subsection 701-63(5) of the Pre rules

Reasons for decision

Note: The Application rules in Tax Laws Amendment (2012 Measures No. 2) Act 2012 (TLAA 2012 No.2) (Part 4 in Schedule 3) provides for which rules apply to the head company of a consolidated group in respect of an entity that becomes a member of that group at a particular time.

In accordance with subitem 50(2) of the TLAA 2012 No.2, the Pre rules apply to HeadCo and its wholly owned subsidiary SubCo on joining the HeadCo tax consolidated group as the joining time is before 12 May 2010. The Pre rules are those amendments made by Part 1 in Schedule 3 of TLAA 2012 No.2. It is noted that the following references to sections relate to the legislative amendments contained within Part 1 of Schedule 3.

Issue 1

Question 1

The asset that is a right to the Agreed Amount is not a right to future income as defined in subsection 701-63(5). The right to the Agreed Amount does not constitute a valuable right to receive an amount for the performance of work or services or the provision of goods.

Detailed reasoning

Under subsection 701-63(5) a right to future income is:

…a valuable right (including a contingent right) to receive an amount for the performance of work or services or the provision of goods if:

(a) the valuable right forms part of a contract or agreement; and

(b) the market value of the valuable right (taking into account all the obligations and conditions relating to the right) is greater than nil; and

(c) the valuable right is neither a Division 230 financial arrangement nor part of a Division 230 financial arrangement.

The construction of subsection 701-63(5) is premised on there being a 'valuable right (including a contingent right) to receive an amount for the performance of work or services or the provision of goods'.

In Alcan (NT) Alumina Pty Ltd v Commissioner of Territory Revenue (2009) 239 CLR 27 (Alcan) the High Court confirmed that the task of statutory construction must begin with a consideration of the text itself. Hayne, Heydon, Crennan and Kiefel JJ stated (at 46):

This Court has stated on many occasions that the task of statutory construction must begin with a consideration of the text itself. Historical considerations and extrinsic materials cannot be relied on to displace the clear meaning of the text. The language which has actually been employed in the text of legislation is the surest guide to legislative intention. The meaning of the text may require consideration of the context, which includes the general purpose and policy of a provision, in particular the mischief it is seeking to remedy.

Later in their joint judgment (at 48), their Honours quoted with approval observations made by Gleeson CJ in Carr v Western Australia (2007) 232 CLR 138 (Carr) (at 6) where he said:

[I]t may be said that the underlying purpose of an Income Tax Assessment Act is to raise revenue for government. No one would seriously suggest that s 15AA of the Acts Interpretation Act has the result that all federal income tax legislation is to be construed as to advance that purpose. Interpretation of income tax legislation commonly raises questions as to how far the legislation goes in pursuit of the purpose of raising revenue. In some cases, there may be found in the text, or in relevant extrinsic materials, an indication of a more specific purpose which helps to answer the question. In other cases, there may be no available indication of a more specific purpose. Ultimately, it is the text, construed according to such principles of interpretation as provide rational assistance in the circumstances of the particular case, that is controlling.

Adopting the principles in Alcan and Carr, the words of subsection 701-63(5) are clear and unambiguous. Relevantly, in defining what is a 'right to future income' and the conditions to be satisfied in paragraphs 701-63(5)(a) to (c), the text of subsection 701-63(5) makes it clear that the definition is premised on there first being:

…a valuable right (including a contingent right) to receive an amount for the performance of work or services or the provision of goods

The existence of a valuable right to receive an amount for the performance of work or services or the provision of goods is therefore a necessary precondition to establishing whether there is a right to future income as defined in subsection 701-63(5).

Although the meaning of the word 'for' has not been considered judicially in the context of subsection 701-63(5), the meaning of the phrase 'for, or in respect of' and 'in respect of' have been considered in relation to other areas of tax law.

The Full Federal Court in Scully v FCT 98 ATC 4671 (Scully) considered whether a payment was in consideration 'for, or in respect of' personal injury for the purposes of section 27A of the Income Tax Assessment Act 1936. In considering the phrase 'in respect of' the court held that the construction of those words (at 4679):

must reflect the context in which they are used and therefore have limits…

In considering the meaning of the word 'for' the court stated (at 4679):

While both expressions 'for' and 'in respect of' require a connection between the consideration and the injury, the expression 'for' denotes a more immediate connection (emphasis added).

Accordingly, Scully emphasised the importance of construing the words in the context of the particular legislative provisions and noted that the word 'for' denotes a more immediate connection than the phrase 'in respect of'.

Subsection 701-63(5) is concerned with characterising legal rights to future income and their relationship with work or services. The use of the word 'for' in the section denotes that a 'more immediate' connection between the right and the services is required in order for the section to apply.

Given this, it is necessary to characterise the right to future income in the immediate context of the contract from which the right arose.

Is the right to the Agreed Amount 'for' the Services?

It is necessary to characterise whether the right to the Agreed Amount is 'for' the Services for the purposes of subsection 701-63(5) in the context of the contract from which the right arose, being the Amended Agreement.

In examining the Amended Agreement the following points are noted:

· the Amended Agreement was entered into in connection with the settlement and its purpose is to amend the Project Agreement;

· the execution of the Amended Agreement was part of the settlement, indicating a close relationship between the Amended Agreement and the settlement of the disputes;

· the Amended Agreement provides that SubCo has a continuing obligation to operate and maintain the project during the term of the agreement notwithstanding that there is no further obligation to pay the Agreed Amount;

· the amount flowing from the right to Agreed Amount is calculated in the same manner as the Estimated Amount under the Settlement Agreement;

· the amount payable under the right to Agreed Amount is directly dependant on the total of the Estimated Amount paid under the Settlement Agreement;

· the obligation of SubCo to operate and maintain the project under the Amended Agreement is the same as the existing obligation to operate and maintain the project under the Project Agreement; and

· there was no right to the Agreed Amount under the Project Agreement. Under the Amended Agreement, SubCo continues to be entitled to receive the Project Fees for its obligation to operate and maintain the project, an obligation it performs under the Project Agreement.

On examination of the Amended Agreement and based on the above factors, the right to the Agreed Amount has its most immediate connection with the settlement of the dispute.

Conclusion

The right to the Agreed Amount does not constitute a valuable right to receive an amount for the performance of work or services or the provision of goods. Therefore, the asset that is a right to the Agreed Amount is not a right to future income as defined in subsection 701-63(5).