Edited version of your written advice

Authorisation Number: 1012674728464

Ruling

Subject: CGT - depreciating asset

Question 1

When the Trust stops being a resident trust, will the trustee be entitled to apply the small business concessions in subdivisions 152-C and 152-D of the Income Tax Assessment Act 1997 (ITAA 1997) in respect of any capital gains relating to an asset that is currently subject to the uniform capital allowance provisions in Division 40 of the ITAA 1997?

Answer

Yes

Question 2

Will the beneficiaries, who will be Australian residents at the time, be entitled to apply the small business 50% active asset reduction contained in subdivision 152-C of the ITAA 1997 if the Trust applies the 50% active asset reduction to a capital gain that arises in consequence of the Trust ceasing they be a resident trust and distributes the capital gains to them?

Answer

Yes

Question 3

Will the beneficiaries, who will be Australian residents at the time, be entitled to choose the small business retirement exemption contained in subdivision 152-D of the ITAA 1997 if the Trust distributes the capital gains to them in consequence of the Trust ceasing to be a resident trust?

Answer

No

Question 4

Will the Trust be subject to a balancing adjustment charge under section 40-285 of the ITAA if the Trust disposes of the software after it has stopped being a resident trust?

Answer

No

This ruling applies for the following periods:

Year ending 30 June 2015

Year ending 30 June 2016

Year ending 30 June 2017

Year ending 30 June 2018

The scheme commenced on:

1 July 2014

Relevant facts and circumstances

X and Y became Australian residents for tax purposes.

The Trust is a discretionary trust. X and Y are the shareholders and directors of the trustee company.

The Trust owns an asset that is used in its business. The asset is a depreciating asset.

X and Y plan to leave Australia. The Australian trustee company will ceased to be the trustee of the Trust. The new trustee will be a company based in another country.

In the year of the change of residency of the Trust, the Trust will distribute all of the income and gains to X and Y equally.

X and Y will cease to be Australian residents for tax purposes after the Trust has ceased to be an Australian resident and distributed its profits and gains.

X and Y each have received more than 20% of the distributions from the Trust for a period of time. All distributions were of income; there were no capital distributions.

The Trust has always had an aggregated annual turnover of less than $2million.

Neither X nor Y have assets that would cause them to exceed $6million under the maximum net asset value test.

X and Y are both over 55 years old.

It is anticipated that all other assets of the Trust, other than the depreciating asset, will be disposed of to third parties prior to the Trust ceasing to be an Australian resident.

The depreciating asset may be disposed of at some time in the future, after the Trust and beneficiaries have ceased to be Australian residents.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 6-5

Income Tax Assessment Act 1997 Section 6-10

Income Tax Assessment Act 1997 Division 40

Income Tax Assessment Act 1997 Section 40-285

Income Tax Assessment Act 1997 Section 104-170

Income Tax Assessment Act 1997 Section 115-215

Income Tax Assessment Act 1997 Section 102-20

Income Tax Assessment Act 1997 Section 152-10

Income Tax Assessment Act 1997 Subdivision 152-C

Income Tax Assessment Act 1997 Subdivision 152-D

Income Tax Assessment Act 1997 Section 995-1

Reasons for decision

Capital gains tax (CGT) event I2 happens if a trust stops being a resident trust for CGT purposes (section 104-170 of the ITAA 1997).

A trust that is not a unit trust will be a resident trust for CGT purposes if, at any time during the income year, the trustee is an Australian resident or the central management and control of the trust is in Australia.

Accordingly, in this case when the trustee of the Trust is changed to be a non-resident company, CGT event I2 will occur.

In accordance with subsection 104-170(3) of the ITAA 1997, the trustee will be required to work out if a capital gain or loss has been made for each asset that it owned (in the capacity of trustee of the trust) just before the time of the event. Some exceptions apply in relation to taxable Australian real property.

The only asset that will be owned by the Trust at the time of CGT event I2 is the depreciating asset. Accordingly, the trustee must determine if a capital gain or loss will be made in relation to the depreciating asset. A capital gain will arise if the market value of the asset at that time is more than its cost base; a capital loss will arise if the market value at that time is less than its cost base (subsection 104-170(4) of the ITAA 1997).

Section 118-24 of the ITAA 1997 disregards certain capital gains that arise in relation to depreciating assets. However, section 118-24 of the ITAA 1997 will not apply when CGT event I2 happens to the Trust as no balancing adjustment event will occur as a result of the Trust ceasing to be a resident trust.

Small business concessions - Trust

To qualify for the small business CGT concessions, you must satisfy several conditions that are common to all the concessions. These are called the 'basic conditions'. Each concession also has further requirements that you must satisfy for the concession to apply (except for the small business 50% active asset reduction which applies if the basic conditions are satisfied).

The Advanced guide to capital gains tax concessions for small business 2013-14 (NAT 3359) provides a detailed explanation of the conditions for each concession.

In this case, it is accepted that the Trust meets the basic conditions due to the following:

• a CGT event (I2) will occur in relation to the depreciating asset

• the event will result in a gain

• the Trust is a small business entity; and

• we consider that the asset meets the active asset test.

Active asset reduction

As the basic conditions have been met, the Trust meets the requirements for the small business 50% active asset reduction contained in subdivision 152-C of the ITAA 1997.

Retirement exemption

The rules covering the small business retirement exemption are contained in Subdivision 152-D of the ITAA 1997. An entity may choose to disregard all or part of a capital gain under the retirement exemption if certain conditions are satisfied.

If the entity is a trust, they can choose to disregard all or part of a capital gain where all of the following conditions are met:

• the trust satisfies the basic conditions

• the trust satisfies the significant individual test (that is, there was at least one significant individual just before the CGT event)

• a written record of the amount disregarded is kept and if there are more than one CGT concession stakeholders, each stakeholder's percentage of the exempt amount (one may be nil, but together they must add up to 100%) (section 152-315 of the ITAA 1997)

• a payment is made to at least one of the CGT concession stakeholders worked out by reference to each individual's percentage of the exempt amount (section 152-325 of the ITAA 1997)

• the payment is equal to the exempt amount or the amount of capital proceeds, whichever is less, and

• where the capital proceeds are received in instalments, a payment is made to a CGT concession stakeholder for each instalment in succession.

The payment to the CGT concession stakeholders must be made by the later of seven days after making the choice or seven days after you receive the capital proceeds from the relevant CGT event.

The amount of the capital gain the trust disregards cannot exceed the CGT retirement exemption limit of each CGT concession stakeholder receiving a payment. An individual's lifetime CGT retirement exemption limit is $500,000, reduced by any previous CGT exempt amounts the individual has disregarded under the retirement exemption.

If a CGT concession stakeholder is under 55 years of age just before a payment is made in relation to them, the trust must make the payment by contributing it to a complying superannuation fund or RSA on their behalf. There is no requirement to make this contribution if the stakeholder is 55 years or older.

In this case, X and Y will each receive more than 20% of the income and capital distributions from the Trust in the year CGT event I2 occurs. It follows that they will both be significant individuals and CGT concession stakeholders of the Trust, each having small business participation percentages of more than 20%, just before CGT event I2 occurs (sections 152-55 and 152-60 of the ITAA 1997).

Accordingly, the Trust will be eligible to choose the retirement exemption contained in subdivision 152-D of the ITAA 1997 in relation to the capital gain that arises from CGT event I2.

Small business concessions - beneficiaries

Subdivision 115-C of the ITAA 1997 sets out rules that affect the calculation of a beneficiary's net capital gain if the beneficiary is assessed on a share of the net income of the trust which includes a capital gain.

Active asset reduction

Section 115-215 of the ITAA 1997 provides special rules that enable a beneficiary that is 'specifically entitled' to a capital gain made by a trust to apply their own capital losses to that gain and apply some discounts and concessions.

Where section 115-215 of the ITAA 1997 applies, a beneficiary is treated as making a capital gain despite section 102-20 of the ITAA 1997 which states that you can only make a capital gain if a CGT event happens to you.

A beneficiary is required to 'gross up' their share of the capital gain by including a capital gain equal to twice the amount of the capital gain attributable to them if the trust applied the small business 50% active asset reduction (or four times the amount if the general discount was also applied).

The beneficiary can then reduce any remaining capital gain by 50% after applying any relevant capital losses using the small business 50% active asset reduction if the trust's capital gain was reduced by that concession (and the general discount if it was applied by the trust).

Accordingly, in this case, if the Trust reduces any capital gain made from CGT event I2 by the small business 50% active asset reduction, X and Y, who will be 'specifically entitled' to that capital gain, can also apply the reduction to their grossed up capital gain in determining their net capital gain (or loss) for the year.

Retirement exemption

One of the basic conditions for the small business concessions is that a 'CGT event happens in relation to a CGT asset of yours' (paragraph 152-10(1)(a) of the ITAA 1997).

In this case, the above basic condition will not be satisfied. Notwithstanding that section 115-215 of the ITAA 1997 provides that X and Y will make a capital gain, a CGT event has not occurred in relation to a CGT asset they owned.

Accordingly, while section 115-215 of the ITAA 1997 allows X and Y to reduce their grossed up capital gain under the small business 50% active asset reduction (where the Trust has done so), any remaining capital gain cannot be reduced by the retirement exemption as the basic conditions have not been met by X and Y directly.

Balancing adjustment - foreign residents

Foreign resident entities will only be assessed on their Australian sourced income or amount that are specifically included by another provision (subsections 6-5(3) and 6-10(5) of the ITAA 1997).

A trust that is not a unit trust will be an Australian resident if at any time during the income year the trustee of that trust was a resident.

As the Trust will not be a resident trust at the time a balancing adjustment event occurs, no amount will be included in the Trust's assessable income under section 40-285 of the ITAA 1997 regardless of which country the Trust is a resident of at the time.