Edited version of your private ruling

Authorisation Number: 1012618318166

Ruling

Subject: CGT Release Rights and cost base calculation

Issue 1

Are the Release Rights obtained CGT assets?

Question 1

Are Release Rights, obtained under the Deed, CGT assets as defined in section 108-5 of ITAA 97?

Summary

When the Taxpayer entered into the Deed the Group vested in the Taxpayer valuable enforceable rights. The Release Rights, in effect, form a restrictive covenant for the benefit of the Taxpayer. The rights are recognised and protected at law and are therefore considered to be CGT assets.

Detailed reasoning

CGT Asset

Section 108-5(1) defines a CGT asset as any kind of property or legal or equitable right that is not property.

When the Taxpayer entered into the Deed the Group vested in the Taxpayer valuable enforceable rights. That is, rights to prevent the Group from bringing any claims against the Taxpayer in relation to the dispute or the proceedings. In the event the Group breaches their obligations under the settlement deed the Taxpayer can enforce the terms of the settlement deed and prevent the Group from continuing with the claim. As such, the Release Rights in effect, a form of restrictive covenant for the benefit of the Taxpayer. These rights are recognised and protected at law and are therefore considered to be CGT assets.

Section 104-35 of the ITAA 97 states;

CGT event D1 happens if you create a contractual right or other legal or equitable right in another entity.

Under section 109-1 of the ITAA97, the general rule is that an entity acquires a CGT asset when it becomes the owner. However, there are specific acquisition rules which apply when an asset is acquired as a result of a CGT event happening. The acquisition rights in Division 109 refer to the acquisition of contractual or other rights as a result of CGT event D1 happening to the entity who vests the rights in another. Therefore, CGT event D1 has happened to the Group. That is, the Taxpayer acquired the Release Rights as a result of CGT event D1 happening to the Group.

Section 109-5(2) of the ITAA97 states that where CGT event D1 occurs and contractual or other legal or equitable rights are created, the entity in which the rights vest acquires those rights at the time the contract is entered into or the rights are acquired. Further, CGT event D1 happens if an entity creates a contractual or other legal or equitable right in another entity, section 104-35(1).

Conclusion

As a consequence of the Taxpayer entering into the Deed, the Group vested in the Taxpayer valuable enforceable rights. That is, rights to prevent the Group from bringing any claims against the Taxpayer in relation to the dispute or the proceedings. In the event the Group breaches their obligations under the settlement deed the Taxpayer can enforce the terms of the settlement deed and prevent the Group from continuing with the claim. As such, the release rights, in effect, form a restrictive covenant for the benefit of the Taxpayer and these rights which are recognised and protected at law are therefore considered to be CGT assets.

Question 2

For CGT purposes, were the Release Rights obtained under the Deed acquired when the Deed was entered into?

Summary

Where CGT event D1 occurs and contractual or other legal or equitable rights are created, the entity in which the rights vest acquires those rights at the time the contract is entered into or the rights are acquired. As a result of the Deed the Group vested the Release Rights in the Taxpayer and as such the Taxpayer acquired the Release Rights on the date the contract was signed.

Detailed reasoning

Acquisition of CGT Assets

Section 995 of the ITAA 97 states that an entity acquires a CGT asset in the circumstance, and at the time determined under Division 109.

A right is a CGT asset if it is enforceable and protected by law. The Deed was entered into without admission as to liability. The Taxpayer had genuine concerns that the Group would seek to take action against him. As a result of entering the Deed, the Taxpayer acquired a CGT asset being in the form of Release Rights.

As a result of the Deed, the Group vested the Release Rights in the Taxpayer and as such the Taxpayer acquired the Release Rights on the date the contract was signed.

Conclusion

As a result of CGT event D1 occurring and the Taxpayer receiving a vested contractual or other legal or equitable rights, the Taxpayer acquired those rights at the time the contract was entered into and the rights acquired. As a consequence of the Deed the Group vested Release Rights in the Taxpayer and as such the Taxpayer acquired the Release Rights on the date the contract was signed.

Issue 2

Do settlement amounts and legal costs form part of a CGT asset cost base?

Question 1

Do the Deed Settlement Sum and the legal costs form the cost base of the Release Rights?

Summary

The Settlement Sum was paid in respect of the acquisition of the Release Rights and consequently, forms the first element of his cost base in the Release Rights. Section 110-35(2) provides that incidental costs include remuneration for the services of a legal adviser. Legal costs were incurred in relation to the preparation of the Settlement Deed and thus fall within the second element of cost base.

Detailed reasoning

Cost Base

The cost base of a CGT asset comprises five elements. Relevant to the Taxpayers circumstances are the first element, being the amount he paid in respect of acquiring the Release Rights, and the second element, being any incidental costs he incurred.

First Element of Cost Base

The first element of cost base is the amount paid in respect of the acquisition of a CGT asset. In Taxation Ruling TR 95/35 Income tax: capital gains: treatment of compensation receipts (TR 95/35), the Commissioner considers that for cost base purposes there must be a direct and substantial link between the payment and the acquisition of the asset. Having regard to the factors listed in paragraph 101 of TR 95/35, the Settlement Sum was paid in respect of the acquisition of the Release Rights and consequently forms the first element of his cost base in the Release Rights.

Pursuant to the settlement deed, the Taxpayer paid the Settlement Sum to the Group and the Group granted Release Rights to the Taxpayer. This payment forms the first element of the cost base.

Apportionment

Section 112-30 provides that where a CGT asset is acquired because of a transaction and only part of the expenditure incurred under the transection related to the acquisition of the asset the first element of the cost base in the asset is that part of the expenditure that is reasonably attributable to the acquisition of the asset.

The Release Rights were the only benefit obtained by the Taxpayer under the Deed. However, the related entities were also granted releases by the Group under the Deed. The Taxpayer paid the Settlement Sum personally because it was the Release Rights granted to the Taxpayer which he considered valuable. The releases provided by the Group to the related entities have little intrinsic value as they had no involvement in day to day business activities and therefore cannot be liable for actions taken by the Taxpayer. The additional release obtained for the related entities were, in a sense, opportunistic. The full amount of the Settlement Sum is reasonably attributable to the Release Rights granted to the Taxpayer for his benefit

Second Element of Cost Base

Section 110-35 sets out the type of incidental costs which may be included in the second element of cost base of a CGT asset. In particular, section 110-35(2) provides that incidental costs include remuneration for the services of a legal adviser. Legal costs were incurred in relation to the preparation of the Settlement Deed and thus fall within the second element of cost base.

Conclusion

The Settlement Sum was paid in respect of the acquisition of the Release Rights and consequently, forms the first element of his cost base in the Release Rights. We accept that the additional release obtained for the related entities were essentially opportunistic as the related entities were not involved in day to day business activities and therefore were not liable to pay compensation. Legal costs were incurred in relation to the preparation of the Settlement Deed and thus fall within the second element of cost base.