Edited version of private advice

Authorisation Number: 1012618803453

Ruling

Subject: Income tax losses- deducting tax losses of earlier income years

Question

Will carried forward income and capital losses generated when X was an Incorporated Association still be available to offset against income of future periods when X is a company limited by guarantee?

Answer

Yes.

This ruling applies for the following periods:

Year ending 30 June 2014

The scheme commences on:

1 July 2013

Relevant facts and circumstances

1. X is an association incorporated under the Associations Incorporation Reform Act 2012 (Vic) (Associations Incorporation Reform Act);

2. X is a non-profit company;

3. X operates nationally, and is registered under the Corporations Act 2001 (Cth) to enable it to carry on business in other states and territories;

4. X is currently considering transferring its registration from an incorporated association to a company limited by guarantee incorporated under the Corporations Act 2001 (Corporations Act);

5. X has substantial trading and capital losses incurred over many years (as set out in Schedule A to the Private Ruling Application);

6. X has over X members, with one vote each;

7. The membership base of X has not changed substantially in the last few years;

8. The membership base before and after X transfers their registration from the Associations Incorporation Reform Act to the Corporations Act will remain substantially the same.

Relevant legislative provisions

Section 165-12(2) of the Income Tax Association Act 1997

Division 166 of the Income Tax Association Act 1997

Section 166-25 of the Income Tax Association Act 1997

Section 995-1 of the Income Tax Association Act 1997

Section 960-100 of the Income Tax Association Act 1997

Associations Incorporation Reform Act 2012 (Vic)

Paragraph 601MB (1) (a) of the Corporations Act 2001 (Cth)

Section 165-12(7A) of the Income Tax Association Act 1997

Subdivision 165-A of the Income Tax Assessment Act 1997

Section 166-5 of the Income Tax Assessment Act 1997

Section 166-225 of the Income Tax Assessment Act 1997

Section 166-145 of the Income Tax Assessment Act 1997

Reasons for decision

Issue

Income tax consequences for carried forward losses of transferring registration of an incorporated association to a company limited by guarantee

Question

Will carried forward income and capital losses that were generated when X was an Incorporated Association remain available to offset against income of future periods when X is a company limited by guarantee?

Summary

The transfer of X's registration to a company limited by guarantee under the Corporations Act 2001 (Cth) (Corporations Act) does not create a new legal entity. Therefore, it will remain the same 'entity' as defined in section 960-100 of the Income Tax Assessment Act 1997 (ITAA 1997) if it transfers its registration to the Corporations Act.

As X will remain a non-profit company without share capital, both before and after the proposed transfer of registration, it will only need to satisfy the 'voting power test' contained in subsection 165-12(2) of the ITAA 1997 to pass the continuity of ownership test, therefore allowing it to carry forward accumulated losses from past years.

X has a large member base, in excess of 50 members, which means it qualifies as a 'widely held company'. As all members have one voting right constituting less than 10% of the total voting rights, when applying the concessional tracing rules in Division 166 of the ITAA 1997 X has a 'single notional shareholder'. The membership base of X, which is in excess of 50 members, has remained substantially the same for an extended period of time, which means it will satisfy the 'voting power test'.

As X passes the 'voting power test' it will satisfy the continuity of ownership test, meaning any carried forward income and capital losses generated when X was an incorporated Association will remained available to offset against future income periods when X is a company limited by guarantee.

Detailed reasoning

All references are to the ITAA 1997, unless otherwise stated.

Consequence of transferring TAI's registration to the Corporations Act

X is an organisation currently incorporated under the Associations Incorporation Reform Act 2012 (Vic) (Associations Incorporation Reform Act), and as such, it is considered to be a body corporate under that Act, and at general law.

Section 995-1 defines an 'entity' to have the meaning in section 960-100. An 'entity' is defined to mean any of the following:

a) an individual;

b) a body corporate

c) a body politic;

d) a partnership;

e) any other incorporated association or body of persons;

f) a trust;

g) a superannuation fund;

Additionally, section 995-1 defines a 'company' to mean:

a) a body corporate; or

b) any other unincorporated association or body of persons; but does not include a partnership.

Thus, as an incorporated association, X is a 'company' as defined in section 995-1 and a 'body corporate' as defined in subsection 960-100(b).

Pursuant to section 115 of the Associations Incorporation Reform Act, and paragraph 601MB (1) (a) of the Corporations Act, a state incorporated association can transfer its registration to the Corporations Act. The transfer provisions in both acts provide for the continuation of the transferred organisation as the same legal entity as it was prior to transfer.

Therefore, should X transfer its registration to the Corporations Act, it will continue as the same legal entity, and it will remain the same 'body corporate', 'company' and 'entity' as defined in the ITAA 1997.

Carry forward of tax losses

Subdivision 165-A of the ITAA 1997 contains the rules relating to the carrying forward of company tax losses from previous years. In general, it requires that a company cannot deduct the loss unless:

n during the relevant test period it maintains the same majority ownership or control, referred to at the continuity of ownership test (COT), or

n if it fails the COT, it satisfies the same business test (SBT).

Continuity of ownership test (COT)

Section 165-12 sets out the conditions that need to be satisfied to pass the COT. In broad terms, section 165-12 requires that there be a continuity in the persons who have more than 50% of the voting power, rights to dividends, and rights to capital distributions in the loss year, the income year, and any intervening period (collectively referred to as the 'ownership test period').

In the case of a non-profit company, section 165-12(7A) deems the conditions in subsection 165-12(3), relating to rights to dividends, and subsection 165-(4), relating to rights to capital distributions, to be satisfied. Thus, in the case of a non-profit company, only the voting power test in subsection 165-12(2) needs to be satisfied in order to pass the COT.

X is a non-profit company, and will remain so should it transfer its registration to the Corporations Act, which means it only needs to satisfy the voting power test 165-12(2) to pass the COT.

Voting power test

Division 166 makes it easier for certain companies to meet the COT in Division 165. Section 166-5 contains the rules that modify the application of COT for widely held companies and eligible Division 166 companies in respect of tax losses of earlier income years. Specifically, section 166-5 states that subdivision 166A applies to a company that is:

• a widely held company at all times during the income year

• an eligible Division 166 company at all times during the income year, or

• a widely held company for a part of the income year and an eligible Division 166 company for the rest of the income year.

The term 'widely held company' is defined in section 995-1 to mean:

(a) a company, shares in which (except shares that carry a right to a fixed rate of dividend) are listed for quotation in the official list of an approved stock exchange; or

(b) a company with more than 50 members, other than a company where at least one of the following conditions is met during an income year:

(i) no more than 20 persons held, or had the right to acquire or become the holders of, shares representing at least 75% of the value of the shares in the company (other than shares that only carry a right to a fixed rate of dividend);

(ii) at least 75% of the voting power in the company was capable of being exercised by no more than 20 persons;

(iii) at least 75% of the amount of any dividend paid by the company during the year was paid to no more than 20 persons;

(iv) if no dividend was paid by the company during the year - the Commissioner is of the opinion that, if a dividend had been paid by the company during the year, at least 75% of the amount of the dividend would have been paid to no more than 20 persons.

As X has more than X members, who each have one vote each, it is accepted that X would be considered a widely held company under paragraph (b) of the definition contained in section 995-1.

Subsection 166-5(3) deems widely held companies to have met the conditions in section 165-12, relating to maintaining the same owners, if there is 'substantial continuity of ownership' between the start of the test period (in this instance the period consisting of the loss year, the income year the loss is to be deducted, and any intervening period) loss year, and the end of each income year in that period. Thus, if there is substantial continuity of ownership under section 166-145, the effect of subsection 166-5(3) is that X will be taken to have satisfied the COT contained in section 165-12.

Section 166-225 allows for each voting, dividend or capital stake of less than 10%, held directly in the entity (the loss company), to be treated as being held by a single notional shareholder (which is not a company).Thus, section 166-225 makes it easier to work out whether a widely held company has satisfied the substantial continuity of ownership test in section 166-145, as a direct stake of less than 10% is attributed to a single notional entity.

As X has X members, each with one vote, section 166-225 will deem X to have one single notional shareholder.

Conclusion

Therefore, when considering the voting power test in subsection 165-12(2), as X is a widely held company with one single notional shareholder, and their membership base has remained constant in the last few years, X will pass the COT, and any carried forward income and capital losses will be available for offset in future income years. As transferring registration from an incorporated association to a company limited by guarantee maintains the same legal entity, undertaking this transfer will have no effect on the application of the COT.