Edited version of your private ruling

Authorisation Number: 1012476888278

Ruling

Subject: Capital Gains Tax - majority underlying ownership of an asset

Question 1

For the purposes of Subdivision 149-B of the ITAA 1997 where there is an amendment to the trust deed of Trust A as proposed, are majority underlying interests in an asset still held by ultimate owners who held such interests in the asset immediately before 20 September 1985 if after that date new corporate beneficiaries are added, albeit the beneficial ownership of more than 50% of all the issued shares in those corporations is still held by the same ultimate owners.

Answer

Yes

Question 2

In respect of each pre-CGT asset currently held by Trust A, if at any time more than 50% of:

(a) the ordinary income derived from the relevant pre-CGT asset of Trust A; or

(b) beneficial interest in the capital of the relevant pre-CGT asset of Trust A,

is appointed in favour of one or more corporate beneficiaries added to Trust A, will such an appointment cause that pre-CGT asset to convert to a post-CGT asset?

Answer

No

Question 3

Despite Division 149 of the ITAA 1997 operating on a CGT asset by CGT asset basis, if more than 50% of:

(a) the ordinary income of Trust A in any income year; or

(b) capital of Trust A,

is distributed to one or more corporate beneficiaries added to Trust A, will such a distribution cause the pre-CGT asset currently held by Trust A to convert to post CGT assets under the provisions in Division 149 of the ITAA 1997?

Answer

No

Question 4

In respect of each pre-CGT asset currently held by Trust A, if at any time more than 50% of:

(c) the ordinary income derived from the relevant pre-CGT asset of Trust A; or

(d) beneficial interest in the capital of the relevant pre-CGT asset of Trust A,

is appointed in favour of one or more corporate beneficiaries added to Trust A, and if one or both of those corporate beneficiaries make dividend declarations in favour of Trust B and/or Trust C, as the case may be and Trust B and/or Trust C, as the case may be, appoints its income or capital (in respect of the same income year in which the dividend entitlement arises to Trust B and/or Trust C, as the case may be) in favour of any other trust which income or capital will ultimately (whether or not through one or more trusts) result in the entitlements (in respect of the same income year in which the dividend entitlement arises to Trust B and/or Trust C, as the case may be) indirectly arising from those distributions by Trust B and Trust C ultimately (in respect of the same income year in which the dividend entitlement arises to Trust B and/or Trust C, as the case may be) only in the hands of one or more presumptive beneficiaries of Trust A (as at immediately before 20 September 1985), will any such an appointment or entitlements cause that pre-CGT asset currently held by Trust A to convert to a post-CGT asset?

Answer

No

Question 5

Despite Division 149 of the ITAA 1997 operating on a CGT asset by CGT asset basis, if more than 50% of:

(c) the ordinary income of Trust A in any income year; or

(d) capital of Trust A,

is distributed to one or more corporate beneficiaries added to Trust A, and if one or both of those corporate beneficiaries make dividend declarations in favour of Trust B and/or Trust C, as the case may be and Trust B and/or Trust C, as the case may be, appoints its income or capital (in respect of the same income year in which the dividend entitlement arises to the Trust B and/or Trust C, as the case may be) in favour of any other trust which income or capital will intimately (whether or not through one or more trusts) result in the entitlements (in respect of the same income year in which the dividend entitlement arises to Trust B and/or Trust C, as the case may be) indirectly arising from those distributions by Trust B and Trust C ultimately (in respect of the same income year in which the dividend entitlement arises to Trust B and/or Trust C, as the case may be) only in the hands of one or more presumptive beneficiaries outline in points 7.7 and 7.8 above, will any such an appointment or entitlements cause that pre-CGT asset currently held by Trust A to convert to a post-CGT asset?

Answers

No

This ruling applies for the following periods:

Year ended 30 June 2013

Year ended 30 June 2014

Year ended 30 June 2015

Year ended 30 June 2016

Year ended 30 June 2017

The scheme commences on:

1 July 2012

Relevant facts and circumstances

Trust A

1. Trust A was established as a discretionary trust. Deeds of variation to the Trust Deed were subsequently made.

2. Trust A's Trust Deed states:

The expression "presumptive beneficiaries" wherever used in this Deed shall mean and include the persons that specified in the Deed, and any institution organization or body of persons whether corporate or incorporate or body of persons whether corporate or incorporate not formed or carried on for the profit of any individuals that the Trustee in its absolute discretion may from time to time determine during the joint lives of Individual A and Individual A's spouse provided that none of the institutions organisations or bodies of persons referred to in this paragraph shall be included in the expression "presumptive beneficiaries" after the death of the survivor of Individual A and Individual A's spouse".

3. Under the Trust Deed the Trustee has the discretion to appoint or apply income derived by Trust in each annual accounting period to one or more of the presumptive beneficiaries as the Trustee determines in its absolute discretion.

4. Under the Trust Deed if the Trustee fails to pay or apply the whole of the trust income derived by Trust A in an annual accounting period within 6 months of the end of that accounting period then such income shall be paid to or applied for the benefit of such of the presumptive beneficiaries under the Trust Deed as amended who are living on 31 December following the ending of the relevant account period, in equal shares.

5. Under the Trust Deed the Trustee has the power during the life of Trust A to appropriate any portion of the Trust Fund towards the benefit of any persons who has a vested or contingent interest in Trust A.

6. Under the Trust Deed on the date when Trust A vests the Trustee is required to pay and transfer the Trust Fund to such of the presumptive beneficiaries under the Trust Deed as amended and in such shares as the Trustee in its absolute discretion determines.

7. Under the Trust Deed if on the Distribution Date none of the presumptive beneficiaries under the Trust Deed as amended are living at the time then the Trust Fund will be held for the benefit of the next of kin of Individual A then living as determined in accordance with New South Wales succession law, and if more than one, then in equal shares.

8. Under the Trust Deed wide discretionary powers are conferred on the Trustee to alter any of the provisions of the trust deed on the proviso that any variations shall not be in favour of the Trustee or Settler and not infringe the rule against perpetuities.

9. Trust A currently holds a mixture of pre-CGT and post-CGT assets.

Prior Private Ruling & implementation of the arrangement

10. The Commissioner of Taxation has issued a Prior Private Ruling to Trust A (Prior Private Ruling).

11. The Prior Private Ruling set out that the proposed arrangement and proposed widening of the class of presumptive beneficiaries to include corporations in which the beneficial ownership of all shares are held by presumptive beneficiaries of Trust A or entities in which the presumptive beneficiaries hold all interests would not trigger the provisions of Division 149 of the ITAA 1997.

12. The following was implemented:

a. A Deed of Variation was made to include the following presumptive beneficiaries

any corporation incorporated before the Distribution Date (wherever incorporated or resident) in which the beneficial ownership of all shares is held by one or more of:

(a) a trustee of a trust in that capacity provided that the beneficiaries of that trust are only:

(i) one or more of the beneficiaries under this Deed, and/or

(ii) any company incorporate before the vesting date of that trust (wherever incorporated or resident) in which the only shareholders are one or more of the beneficiaries under this Deed and/or the trustee of that trust in that capacity and/or

(iii) the trustee of any trust in that capacity in which one or more of the beneficiaries under this Deed (including a beneficiary under clause 3(xvi)(a)(ii) are the only beneficiaries whether vested, contingent, discretionary or otherwise

(b) a company in which all of the shares are beneficially owned by one or more of the beneficiaries under this Deed.

(c) one or more of the beneficiaries under this Deed.

b. Trust B and Trust C were established.

c. Company C was established of which Individual B had X% beneficial ownership. Company A was established of which Company C had Y% beneficial ownership.

d. Company D was established of which Individual C had X% beneficial ownership. Company B was established of which Company D had Y% beneficial ownership.

Amendment to Trust B and Trust C

13. The trust deed for Trust B was amended to expand the discretionary beneficiaries of Trust B to trusts, companies and other entities which are neither beneficiaries (discretionary or otherwise) of Trust A nor entities in which the presumptive beneficiaries of Trust A hold all interests.

14. The trust deed for Trust C was amended to expand the discretionary beneficiaries of Trust C to trusts, companies and other entities which are neither beneficiaries (discretionary or otherwise) of Trust A nor entities in which the presumptive beneficiaries of Trust A hold all interests.

Family Trust and Interposed Entity Elections

15. Trust A made a family trust election (FTE) with Individual A as the specified individual in the election.

16. Company A made an interposed entity election (IEE) in relation to Trust A.

17. Company B made an IEE in relation to Trust A.

18. Trust B made:

a. An IEE in relation to Trust A;

b. A FTE nominating Individual B as the specified individual in the election

19. Trust C made:

a. An IEE in relation to Trust A; and

b. A FTE nominating Individual C as the specified individual in the election.

Distributions from Trust A in the year ended 30 June 20ZZ

20. In the income year ended 30 June 20ZZ the Trustee distributed income derived from Trust V% to Company A and V% to Company B.

21. The trustee made no capital distributions from Trust A during the relevant period prior to 30 June 20ZZ.

Proposed amendment to Trust A

22. It is proposed to amend Trust A's trust deed to add Company A and Company B as presumptive beneficiaries

23. There will be no change to the share structure of or share holding of Company A.

24. There will be no change to the share structure of or share holding of Company B.

25. Company C will continue to be wholly beneficially owned by Individual B.

26. Company D will continue to be wholly beneficially owned by Individual C.

Relevant legislative provisions

Income Tax Assessment Act 1997

Division 149

Section 149-10

Section 149-15

Section 149-30

Further issues for you to consider

The operation of Division 7A of the Income Tax Assessment Act 1936 on this scheme has not been considered by the Commissioner. If the taxpayer wishes the Commissioner to consider Division 7A, a further private ruling request will need to be made.

Does Part IVA apply to this ruling?

Part IVA of the ITAA 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'.

Issue 1

Question 1

Summary

Based on a 'look though' of the corporate beneficiaries of Trust A the majority underlying interests of the assets of Trust A will not change when the proposed amendments to Trust A are made.

Detailed reasoning

Division 149 of the Income Tax Assessment Act 1997 ('ITAA 1997') contains the rules which govern when an asset acquired before 20 September 1985 (a 'pre-CGT asset') is treated as having been acquired after that date. Section 149-10 of the ITAA 1997 defines what is meant by a pre-CGT asset:

A CGT asset that an entity owns is a pre-CGT asset if, and only if:

(a) the entity last acquired the asset before 20 September 1985; and

(b) the entity was not, immediately before the start of the 1998-99 income year, taken under:

(i) former subsection 160ZZS(1) of the Income Tax Assessment Act 1936; or

(ii) Subdivision C of Division 20 of former Part IIIA of that Act;

to have acquired the asset on or after 20 September 1985; and

(c) the asset has not stopped being a pre-CGT asset of the entity because of this Division.

A CGT asset acquired before 20 September 1985 remains a pre-CGT asset if the majority underlying interests in the asset have not changed since before 20 September 1985. Where a change in majority underlying interests occurs after 20 September 1985, the CGT asset is deemed to be acquired on the date the change occurred, either under Division 20 of the Income Tax Assessment Act 1936 ('ITAA 1936') (pre 1998-99 income years) or Division 149 of the ITAA 1997.

Under subsection 149-30(1) of the ITAA 1997 an asset stops being a pre-CGT asset at the earliest time when the majority underlying interests in the asset were not held by the ultimate owners who had the majority underlying interests in the asset immediately before 20 September 1985.

In other words, the Commissioner has to be satisfied that the majority underlying interests in an asset have not changed. Otherwise the asset is deemed to have been acquired at the time that the change in majority underlying interests in the asset happened.

'Majority underlying interests' is defined in subsection 149-15(1) of the ITAA 1997 as more than 50% of:

(a) the beneficial interests that the ultimate holders hold (whether directly or indirectly) in the asset; and

(b) the beneficial interests that ultimate owners hold (whether directly or indirectly) in any income that may be derived from that asset.

An 'ultimate owner' is defined to include an individual (see subsection 149-15(3) of the ITAA 1997). Accordingly, it is necessary to trace the underlying beneficial interests in the relevant assets back to natural persons.

The expression 'beneficial interests' as used in the definition of 'majority underlying interests' is not defined. At general law a shareholder does not have any legal or equitable interest in the asset of a company. Similarly, beneficiaries in a discretionary trust do not have an interest, either individually or collectively, in the assets or the income of a trust. This situation is addressed in ATO Interpretive Decision 2003/778:

Under ordinary legal concepts, where there is a discretionary trust deed, no beneficiary is entitled to income or capital of the trust until the trustee exercises its discretion to distribute income or to make an appointment of capital. Because the beneficiary of a discretionary trust does not hold an interest in any asset of the trust or in the ordinary income derived from the asset until the trustee's discretion is exercised, it would not be possible for a discretionary trust to satisfy the continuing majority underlying interests test set out in subsection 149-30(1) of the ITAA 1997.

Taxation Ruling IT 2340 reflects on an approach of looking through interposed entities to determine which natural persons hold the beneficial interests for the purposes of section 160ZZS of the Income Tax Assessment Act 1936 (ITAA 1936), which preceded Division 149 of the ITAA 1997, is reflected in Taxation Ruling IT 2340. Among other issues, IT 2340 deals with questions regarding the application of section 160ZZS of the ITAA 1936 'to assets held by trustees of family trusts where the trustees are vested with discretionary powers as to distributions from the trusts.

….

Taxation Ruling IT 2340 correctly reflects the position that section 160ZZS of the ITAA 1936, by its terms, necessarily supplants normal legal concepts of interests in assets. For the purposes of section 160ZZS, a beneficiary of a discretionary trust is treated as having a beneficial interest in the trust's assets. Like wise, a shareholder is treated for the purposes of section 160ZZS of the ITAA 1936 as having a beneficial interest in the company' assets.'

Under this approach the Commissioner can 'look through' an entity to determine who are the natural persons who hold beneficial interests in assets, as stated in paragraph 2 of Income Tax Ruling IT 2340:

The terms "underlying interest" and "majority underlying interests", on the basis of which the provision operates, have the same meanings as they have in Subdivision G of Division 3 of Part III of the Act - which deals with the income tax treatment of interest in relation to "negatively geared" investments in rental property. In both cases (and like other provisions of the Act concerned with the measurement of ownership interests) underlying interests in relation to the assets concerned mean beneficial interests held by natural persons. The clear policy of the law thus permits and requires that, for the purposes of the relevant provisions, chains of companies, partnerships and trusts are to be "looked through" in order to determine whether there has been a change in the effective interests of natural persons in the assets.

IT 2340 sets out the Commissioner's approach in respect of 'looking through' discretionary family trusts to determine whether majority underlying interests have been maintained in the assets of the trust, as follows:5. In relation to what are generally referred to as discretionary trusts, i.e., family trusts, the trustees of which have discretionary powers as to the distribution of trust income or property to beneficiaries, in considering the question of whether majority underlying interests have been maintained in the assets of the trust it will be relevant to take into account the way in which the discretionary powers of the trustees are in fact exercised.

6. Where a trustee continues to administer a trust for the benefit of members of a particular family, for example, it will not bring section 160ZZS into application merely because distributions to family members who are beneficiaries are made in such amounts and to such of those beneficiaries as the trustee determines in the exercise of his discretion.

7. In such a case the Commissioner would, in terms of sub-section 160ZZS(1), find it reasonable to assume that for all practical purposes the majority underlying interests in the trust assets have not changed. That is consistent with the role of the section to close potential avenues for avoidance of tax in cases where there is a substantial change in underlying ownership of assets and the legislative guidance contained in Subdivision G of Division 3 of Part III of the Act. On that basis, trust assets acquired by the trustee before 20 September 1985 would remain outside the scope of the capital gains and losses provisions of the Act.

However, if the trustee of a family discretionary trust appoints new beneficiaries who are not members of the particular family, the Commissioner may consider that the underlying interests in the trust assets has changed. Paragraph 8 of IT2340 states:

8. On the other hand where, by the exercise of a trustee's discretionary powers to appoint beneficiaries or by amendment of the trust deed, there is in practical effect a change of 50% or more in the underlying interests in the trust assets - such as where the members of a new family are substituted as recipients of distributions from the trust in place of persons who were formerly the object of such distributions - the section would have its intended application as described.

Application to the facts

Where Trust A is a discretionary trust, the natural persons who are the ultimate owners with majority underlying interests in the pre-CGT assets of the trust are the presumptive beneficiaries named in Trust A's Trust Deed before 20 September 1985. This includes Individual B and Individual C.

The issue arises as to whether the proposed exercise of the discretionary powers of the trustee of Trust A to appoint additional corporate beneficiaries is in practical effect a change of 50% or more in the ultimate owners with majority underlying interests in the trust assets. To this end, the corporate beneficiaries are 'looked though' to determine the natural persons who hold the beneficial interests.

With respect to proposed corporate beneficiaries Company A and Company B, Y% of each company is respectively owned by Individual B and Individual C.

It is considered that the exercise of the trustee's discretionary powers to appoint beneficiaries in this case will not result in practical effect a change of 50% or more in the underlying interests in the assets of Trust A.

Question 2

Summary

An appointment of income and/or capital in respect of a pre-CGT asset of Trust A to one or more of the corporate beneficiaries added to Trust A will not cause the asset to stop being a pre-CGT asset under subsection 149-30(1) because the shareholding of the each of the corporate beneficiaries is Y% beneficially held by one of the ultimate owners with majority underlying interests in the pre-CGT assets of Trust A, and it is therefore considered that there is no change in the majority underlying interests in those assets.

Detailed Reasoning

As set out in the reasoning for Question 1, a CGT asset acquired before 20 September 1985 remains a pre-CGT asset if the majority underlying interests in the asset have not changed since before 20 September 1985. IT 2340 sets out the Commissioner's approach in respect of 'looking through' discretionary family trusts to determine whether majority underlying interests have been maintained in the assets of the trust.

Using the 'look through' approach in respect of the corporate beneficiaries, the Commissioner is satisfied that:

· Y% of Company A is beneficially held by Individual B, who is one of the group of ultimate owners with majority underlying interests in the pre-CGT assets of Trust A.;

· Y% of Company B is beneficially held by Individual C, who is one of the group of ultimate owners with majority underlying interests in the pre-CGT assets of Trust A.

Based on the assumption that the trustee of Trust A will always distribute 100% of income and capital of Trust A to a combination of Company A and/or Company B and/or the presumptive beneficiaries of Trust A (as at immediately before 20 September 1985), the Commissioner is satisfied that the majority underlying interests in the pre-CGT assets of Trust A will still be held by ultimate owners who had such interests in the asset immediately before 20 September 1985.

Question 3

Summary

A distribution of income and/or capital of Trust A to one or more of the corporate beneficiaries added to Trust A will not cause the asset to stop being a pre-CGT asset under subsection 149-30(1) because the shareholding of the each of the corporate beneficiaries is 51% beneficially held by one of the ultimate owners with majority underlying interests in the pre-CGT assets of Trust A, and it is therefore considered that there is no change in the majority underlying interests in those assets.

Detailed Reasoning

As set out in the reasoning for Question 1, a CGT asset acquired before 20 September 1985 remains a pre-CGT asset if the majority underlying interests in the asset have not changed since before 20 September 1985. IT 2340 sets out the Commissioner's approach in respect of 'looking through' discretionary family trusts to determine whether majority underlying interests have been maintained in the assets of the trust.

Using the 'look through' approach in respect of the corporate beneficiaries, the Commissioner is satisfied that:

· Y% of Company A is beneficially held by Individual B, who is one of the group of ultimate owners with majority underlying interests in the pre-CGT assets of Trust A.;

· Y% of Company B is beneficially held by Individual C, who is one of the group of ultimate owners with majority underlying interests in the pre-CGT assets of Trust A.

Based on the assumption that the trustee of Trust A will always distribute 100% of income and capital of Trust A to a combination of Company A and/or Company B and/or the presumptive beneficiaries of Trust A (as at immediately before 20 September 1985), the Commissioner is satisfied that the majority underlying interests in the pre-CGT assets of Trust A will still be held by ultimate owners who had such interests in the asset immediately before 20 September 1985.

Question 4

Summary

Where there is an appointment of income and/or capital in respect of a pre-CGT asset of Trust A to one or more of the corporate beneficiaries added to Trust A, and those corporate beneficiaries then make dividend declarations in favour of their 49% shareholders the asset does not stop being a pre-CGT asset under subsection 149-30(1).

Detailed reasoning

As set out in the reasoning for Question 1, a CGT asset acquired before 20 September 1985 remains a pre-CGT asset if the majority underlying interests in the asset have not changed since before 20 September 1985.

As also set out in the reasoning for Questions 1 and 2, the Commissioner is satisfied that neither:

· the addition of the corporate beneficiaries, Company A and Company B, each with Y% of its shares beneficially held by an ultimate owner with majority underlying interests in the pre-CGT assets of Trust A, nor

· the intended patterns of distributions from Trust A to those corporate beneficiaries;

stop the pre-CGT assets of Trust A from being pre-CGT assets under subsection 149-30(1).

In these circumstances it is irrelevant for the Commissioner to consider and determine the natural persons who hold the beneficial interests in the other 49% of the shares in the corporate beneficiaries.

Question 5

Summary

Where there is distribution of income and/or capital of Trust A to one or more of the corporate beneficiaries added to Trust A, and those corporate beneficiaries then make dividend declarations in favour of their 49% shareholders the asset does not stop being a pre-CGT asset under subsection 149-30(1).

Detailed Reasoning

As set out in the reasoning for Question 1, a CGT asset acquired before 20 September 1985 remains a pre-CGT asset if the majority underlying interests in the asset have not changed since before 20 September 1985.

As also set out in the reasoning for Questions 1 - 4, the Commissioner is satisfied that neither:

· the addition of the corporate beneficiaries, Company A and Company B, each with 51% of its shares beneficially held by an ultimate owner with majority underlying interests in the pre-CGT assets of Trust A, nor

· the intended patterns of distributions from Trust A to those corporate beneficiaries;

stop the pre-CGT assets of Trust A from being pre-CGT assets under subsection 149-30(1).

In these circumstances it is irrelevant for the Commissioner to consider and determine the natural persons who hold the beneficial interests in the other 49% of the shares in the corporate beneficiaries.