Edited version of private advice

Authorisation Number: 1012679132882

Ruling

Subject: Consolidations - Eligibility, Losses, Utilisation

Question 1

Is X Co and Y Trust a 'consolidatable group' under section 703-10 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

If the answer to question 1 is yes, can X Co choose to consolidate a group under section 703-50 of the ITAA 1997 effective on and after 1 July 2013?

Answer

Yes.

Question 3

If the answer to question 1 is yes, can the unutilised losses of Y Trust (the joining entity), be transferred to X Co (the head company) at the joining time pursuant to section 707-120 of the ITAA 1997?

Answer

Yes.

Question 4

If the answer to questions 1 and 3 are yes, will X Co be precluded from utilising the losses transferred to it from Y Trust by section 165-10 of the ITAA 1997 as modified by section 707-205 of the ITAA 1997?

Answer

No.

This ruling applies for the following periods:

Year ended 30 June 2014

The scheme commenced on:

Year ended 30 June 20XX

Relevant facts and circumstances

Y Trust

1. X Co formed the Y Trust in the year ended 30 June 20XX, for the purposes of carrying on a business enterprise.

2. Y Trust is a fixed unit trust and carries on a business in Australia.

3. The central management and control of Y Trust is in Australia.

4. Y Trust issued fully paid ordinary units to X Co and others to fund its operations.

5. During the 20YY income year, the Directors of the Trustee of the Y Trust resolved to redeem all units in Y Trust not held by X Co. Following that redemption of units, Y Trust became a wholly owned entity of X Co.

6. Y Trust has never been exempt from income tax.

7. Y Trust is not a complying superannuation entity, a non-complying superannuation fund nor a non-complying approved deposit fund.

8. Y Trust is an Australian resident entity.

9. Y Trust has never been a subsidiary member of a consolidated group.

10. Y Trust has incurred losses in the relevant income years.

11. Y Trust is a closely held trust and has been since inception.

12. Y Trust has not been a family trust at any time or a trust of a deceased estate.

13. Y Trust has not been a designated infrastructure project entity at any time.

14. There are no exempt entities that have fixed entitlements, directly or indirectly, and for their own benefit, to all of the income and capital of Y Trust.

15. The principal shareholders and directors in Y Trust have been Individual A and Individual B.

16. Individual A's interest in Y Trust is held via X Co and X Super Fund, which is Individual A's self-managed super fund.

17. Individual B's interest is held via their investment in X Co and the Individual B's Super Fund.

X Co

18. X Co currently holds 100% of the issued units in Y Trust.

19. At all times X Co held a majority of units on issue by the Y Trust.

20. At all times X Co had no change in its controlling shareholder, its management or operations.

21. X Co is seeking to form a consolidated group with Y Trust on 1 July 2013.

22. The due date for lodgment of the 2014 income tax return is 15 February 2015. X Co has not lodged the 2014 tax return at the present date.

23. X Co has all of its income taxed at the corporate tax rate.

24. X Co is not a wholly-owned subsidiary of another entity.

25. X Co has never been exempt from income tax.

26. X Co is not a recognised medium credit union, an approved credit union or a pooled development fund.

27. X Co is an Australian resident entity.

28. The Directors of X Co as at 1 July 2013 and at 30 June 2014 were:

a. Individual A

b. Individual B

c. Individual C, and

d. Individual D.

29. The Shareholders of X Co and shareholdings as at 1 July 2013 and 30 June 2014 were provided.

30. Most previous shareholders of X Co retired their holdings in X Co in 20YY to take advantage of an offer to purchase their shares by A Co.

31. The principal shareholders and directors in X Co have been Individual A and Individual B

32. X Co has at all times held no less than X% of the fixed entitlements to the income and capital of Y Trust.

33. At all times since incorporation, Individual A has held more than 50% of X Co.

34. The principal controlling entity of X Co has been (and remains to be) B Co, which is a private company owned X% by Individual A and Y% by Individual B.

35. Both Individual A and Individual B have held additional smaller shareholdings of X Co through other entities, but B Co holds X% of the issued capital in X Co. Accordingly, Individual A has held Y% of X Co via B Co.

36. As at 1 July 2013, B Co was X% owned by Individual A and Y% owned by Individual B.

37. During the 2014 income year, Individual A acquired Individual B's interest in B Co. Therefore, from that date until 30 June 2014, Individual A owned 100% of B Co.

38. C Co is 100% owned by Individual B.

39. A Co and D Co is 100% owned by Individual A.

Relevant legislative provisions

Income Tax Assessment Act 1936 section 266-25 of Schedule 2F

Income Tax Assessment Act 1936 section 269-50 of Schedule 2F

Income Tax Assessment Act 1936 section 269-55 of Schedule 2F

Income Tax Assessment Act 1936 subsection 272-5(1) of Schedule 2F

Income Tax Assessment Act 1936 section 272-20 of Schedule 2F

Income Tax Assessment Act 1936 section 272-65 of Schedule 2F

Income Tax Assessment Act 1936 section 272-100 of Schedule 2F

Income Tax Assessment Act 1936 section 272-105 of Schedule 2F

Income Tax Assessment Act 1997 section 165-10

Income Tax Assessment Act 1997 section 165-12

Income Tax Assessment Act 1997 section 165-13

Income Tax Assessment Act 1997 section 165-15

Income Tax Assessment Act 1997 section 701-1

Income Tax Assessment Act 1997 section 703-10

Income Tax Assessment Act 1997 subsection 703-15(2)

Income Tax Assessment Act 1997 section 703-20

Income Tax Assessment Act 1997 section 703-25

Income Tax Assessment Act 1997 subsection 730-30(1)

Income Tax Assessment Act 1997 section 703-50

Income Tax Assessment Act 1997 section 703-58

Income Tax Assessment Act 1997 section 707-105

Income Tax Assessment Act 1997 section 707-120

Income Tax Assessment Act 1997 subsection 707-140(1)

Income Tax Assessment Act 1997 section 707-205

Anti-avoidance rules

Part IVA of the Income Tax Assessment Act 1936 and other anti-avoidance provisions have not been considered.

Reasons for decision

Question 1

Is X CO and Y Trust a 'consolidatable group' under section 703-10 of the ITAA 1997?

Detailed reasoning

Section 703-10 of the ITAA 1997 states that a consolidatable group consists of a single 'head company' and all the 'subsidiary members' of the group.

Head company

Paragraph 703-15(2)(a) of the ITAA 1997 states that an entity is a head company if all the requirements in item 1 of the table are met. The requirements are that:

(1) the entity must be a company (but not one covered by section 703-20) that has all or some of its taxable income taxed at a rate that is or equals the corporate tax rate

(2) the entity must be an Australian resident (but not a prescribed dual resident), and

(3) the entity must not be a wholly-owned subsidiary of another entity that meets the requirements above, or, if it does, it must not be a subsidiary of a consolidatable or consolidated group.

Section 703-20 of the ITAA 1997 precludes certain entities from being members of a consolidatable group. Relevantly, X Co is not a company

• whose total ordinary income and statutory income is exempt from income tax under Division 50 of the ITAA 1997

• that is a recognised medium credit union

• that is an approved credit union and is not a recognised medium credit union, and

• that is a pooled development fund.

Accordingly, as X Co is a company that is not covered by section 703-20 of the ITAA 1997 and its taxable income is taxed at the corporate tax rate, the first requirement is satisfied.

X Co is an Australian resident and consequently the second requirement is satisfied.

X Co is not a wholly-owned subsidiary of another qualifying entity or subsidiary of another consolidatable or consolidated group and consequently the third requirement is satisfied.

Accordingly, X Co meets the requirements of a head company for the purposes of section 703-10 of the ITAA 1997.

Subsidiary member

Paragraph 703-15(2)(b) of the ITAA 1997 states that an entity is a subsidiary member of a consolidatable group if all the requirements in item 2 of the table are met. The requirements are that:

(1) the entity must be a company, trust or partnership (but not one covered by section 703-20 of the ITAA 1997)

(2) a trust must comply with the residency requirements in section 703-25 of the ITAA 1997, and

(3) the entity must be a wholly-owned subsidiary of the head company of the group.

Y Trust is a trust that is not covered by section 703-20 of the ITAA 1997 and consequently the first requirement is satisfied.

Since Y Trust is a unit trust, it must meet the requirements in item 2 of the table in section 703-25 of the ITAA 1997. Pursuant to item 2, it must be a resident trust estate for the purposes of Division 6 of Part III of the Income Tax Assessment Act 1936 (ITAA 1936) and a resident trust for CGT purposes.

Subsection 95(2) of the ITAA 1936 states that a trust shall be taken to be a resident trust estate if a trustee of the trust estate was a resident at any time during the year of income, or the central management and control of the trust estate was in Australia during the year of income. The Trustee of the Y Trust is a resident and the central management and control of the trust estate is in Australia.

A unit trust is a 'resident trust for CGT purposes' if it meets the definition in subsection 995-1(1) of the ITAA 1997 which states that for an income year if, at any time during the income year, the following requirements are met:

Either:

(1) any property of the trust is situated in Australia, or

(2) the trust carries on a business in Australia,

and either:

(1) the central management and control of the trust is in Australia, or

(2) Australian residents held more than 50% of the beneficial interests in the income or property of the trust.

Y Trust carries on a business in Australia and the central management and control of the trust is in Australia. Y Trust is therefore a resident trust for CGT purposes. It therefore satisfies the residency requirements in section 703-25 of the ITAA 1997.

Under subsection 730-30(1) of the ITAA 1997, a subsidiary entity is a wholly-owned subsidiary of the holding entity if all the membership interests in the subsidiary entity are beneficially owned by the holding entity. Since November 20YY, X Co has had beneficial ownership of all the membership interests in Y Trust. Therefore, Y Trust is a wholly-owned subsidiary of X Co. Consequently, the third requirement is satisfied.

Since the three requirements outlined in item 2 of the table in paragraph 703-15(2)(b) of the ITAA 1997 are satisfied, Y Trust is a subsidiary member for the purposes of section 703-10 of the ITAA 1997.

Conclusion

Since X Co is a head company and Y Trust is a subsidiary member, X Co and Y Trust are a consolidatable group under subsection 703-10 of the ITAA 1997.

Question 2

If the answer to question 1 is yes, can X Co choose to consolidate a group under section 703-50 of the ITAA 1997 effective on and after 1 July 2013?

Detailed reasoning

Under subsection 703-50(1) of the ITAA 1997, the head company, X Co, may make a choice in writing that a consolidatable group is taken to be consolidated on and after a particular day specified in the choice. Pursuant to subsection 703-50(2) of the ITAA 1997, this choice cannot be revoked, and the specification of the day cannot be amended after the choice is made.

Under subsection 703-50(3) of the ITAA 1997, the choice to consolidate can be made no later than, if an income tax return is required for the income year during which the consolidation day occurs, the day on which the company gives the Commissioner that income tax return.

Alternatively, the choice can be made no later than the last day in the period within which the company would be required to give the Commissioner such a return if it were required to give the Commissioner such a return.

Therefore, provided that an income tax return is required by X Co for the year in which X Co wishes to form a consolidated group with Y Trust (the year ended 30 June 2014), X Co must make the choice in writing that its consolidatable group is taken to be consolidated no later than either the day that X Co lodges its income tax return for that year, or the due date for the lodgment of the tax return, whichever is the earlier.

Section 703-58 of the ITAA 1997 mandates that the head company of the group must give the Commissioner a notice of the choice made to consolidate in the approved form within the same timeframe. The notice must contain the following information:

• the identity of the head company

• the day specified in the choice on which the consolidatable group is taken to be consolidated

• the identity of each subsidiary member of the group on that day

• the identity of each entity that was a subsidiary member of the group on that day but was not such a subsidiary member when the notice is given

• the identity of each entity that was not a subsidiary member of the group on that day but was such a subsidiary member when the notice is given, and

• the identity of each entity that became a subsidiary member of the group after that day but was not such a subsidiary member when the notice is given.

As X Co has not lodged its 2014 income tax return and that return is not due for lodgement until 15 February 2015, X Co can choose to consolidate a group under section 703-50 of the ITAA 1997 effective on and after 1 July 2013 provided that X Co furnishes the Commissioner with a notice to consolidate in the approved form.

Question 3

If the answer to question 1 is yes, can the unutilised losses of Y Trust (the joining entity), be transferred to X Co (the head company) at the joining time pursuant to section 707-120 of the ITAA 1997?

Detailed reasoning

Single-entity rule

Subsection 701-1 of the ITAA 1997 states that if an entity is a subsidiary member of a consolidated group for any period, it is taken to be a part of the head company of the group, rather than a separate entity during that period.

In line with this overarching single entity rule, section 707-105 of the ITAA 1997 provides that if a loss is transferred, it is the head entity that is treated as having made the loss and consequently the head company can utilise the loss to the extent permitted by the legislation.

Transferring losses

When an entity first becomes a member of a consolidated group, any losses it made in an income year before joining the group are tested to determine whether they can be transferred to the group.

Subsection 707-120(1) of the ITAA 1997 states that subject to subsection 707-120(1A) of the ITAA 1997, a loss is transferred at the joining time from the joining entity to the head company of the joined group.

Subsection 707-120(1A) of the ITAA 1997 states that a loss is transferred under subsection 707-120(1) of the ITAA 1997 only to the extent (if any) that the loss could have been utilised by the joining entity for an income year consisting of the trial year if:

(a) at the joining time, the joining entity had not become a member of the joined group (but had been a wholly-owned subsidiary of the head company), and

(b) the amount of the loss that could be utilised for the trial year were not limited by the joining entity's income or gains of the trial year.

Pursuant to subsection 707-120(2) of the ITAA 1997, the trial year is the period starting 12 months before the joining time and ending just after the joining time.

Therefore, Y Trust's losses will be transferred to X Co at the joining time only if the losses could have been utilised by Y Trust if it had sought to claim the losses for an income year starting 12 months before, and ending immediately after, the joining time. The effect of paragraphs 707-120(1A)(a) and 707-120(1A)(b) of the ITAA 1997 are to essentially ignore the fact that the joining entity had become a member of the consolidated group and to ignore any limitations imposed on the joining entity's loss utilisation.

Could Y Trust's losses have been utilised?

Schedule 2F to the ITAA 1936 sets out the rules relating to the circumstances where trusts can utilise losses. The particular trust loss measures that apply to a trust will depend on the type of trust. Since Y Trust is a fixed trust, section 266-25 of Schedule 2F to the ITAA 1936 is relevant.

Fixed trust losses

A fixed trust may be denied a tax loss deduction unless it satisfies certain conditions in section 266-25 of Schedule 2F to the ITAA 1936, being a trust that:

• satisfies the conditions in subsection 266-25(1) of Schedule 2F to the ITAA 1936, and

• either passes the 50% stake test or satisfies the non-fixed trust stake test, pursuant to subsection 266-25(2) of Schedule 2F to the ITAA 1936.

The conditions in subsection 266-25(1) of Schedule 2F to the ITAA 1936

Y Trust will satisfy the conditions in subsection 266-25(1) of Schedule 2F to the ITAA 1936 if it:

(1) can deduct in the income year a tax loss from a loss year

(2) was a fixed trust at all times in the period (the test period) from the beginning of the loss year until the end of the income year

(3) was not a widely held unit trust at all times in the test period, and

(4) was not an excepted trust at all times in the test period.

(1) Can Y Trust deduct a tax loss from a loss year?

- The 'income year'

The relevant income year referred to in the first condition consists of the trial year as defined in subsection 707-120(2) of the ITAA 1997. This is because a loss is only transferred under subsection 707-120(1) of the ITAA 1997 if it could have been utilised by the joining entity for an income year which consists of the trial year (subsection 707-120(1A) of the ITAA 1997).

Subsection 707-120(2) of the ITAA 1997 states that the trial year is the period starting 12 months before the joining time and ending just after the joining time.

Therefore, the income year is from 1 July 20YY until just after 1 July 20ZZ.

- The 'test period'

Paragraph 266-25(1)(b) of Schedule 2F to the ITAA 1936 states that the test period is from the beginning of the loss year until the end of the income year.

Since the end of the income year is just after the joining time (that is, just after 1 July 2013), the test period referred to in the conditions in subsection 266-25(1) of Schedule 2F to the ITAA 1936 is therefore from the beginning of the loss year until just after the joining time.

Since Y Trust was formed in the 20XX income year and intends to utilise losses from the 20XX income year, the test period is from the formation date until just after 1 July 2013.

Pursuant to paragraph 266-25(1)(a) of Schedule 2F to the ITAA 1936, Y Trust must be able to deduct in the income year a tax loss from a loss year. That is, it must be able to deduct, in the period starting 12 months before the joining time and ending just after the joining time, a tax loss from a loss year.

- Deductibility of the tax loss from a loss year

Section 36-1 of the ITAA 1997 states that if you have more deductions for an income year than you have income, the difference is a tax loss.

Section 36-15 of the ITAA 1997 explains how an entity other than a corporate tax entity deducts a tax loss. Y Trust is not a corporate tax entity as defined in section 960-115 of the ITAA 1997 because it is not a company, corporate limited partnership, corporate unit trust or public trading trust.

Subsection 36-15(2) of the ITAA 1997 applies to entities that have no net exempt income and states that if your total assessable income for the later income year exceeds your total deductions (other than tax losses), you deduct the tax loss from that excess.

Y Trust therefore can deduct a tax loss if its total assessable income for the income year (the 2013 income year) exceeds its total deductions (other than tax losses).

However, paragraph 707-120(1A)(b) of the ITAA 1997 states that we ignore any limitations regarding the joining entity's income or gains when considering the trial year. Therefore, for the purposes of the test, we can assume it had sufficient assessable income to be able to exceed its total deductions.

Consequently, Y Trust is treated as being able to deduct a tax loss from a loss year and satisfies the first condition.

(2) Was Y Trust a fixed trust at all times in the test period?

In order to satisfy this condition, Y Trust must be a fixed trust at all times from the beginning of the loss year until the end of the income year which, for present purposes, ends just after the joining time.

Section 272-65 of Schedule 2F to the ITAA 1936 states that a trust is a fixed trust if persons have fixed entitlements to all of the income and capital of the trust.

Subsection 272-5(1) of Schedule 2F to the ITAA 1936 states that a beneficiary has a fixed entitlement to either income or capital of a trust where, under the trust instrument, the beneficiary has a vested and indefeasible interest in a share of the income or capital of the trust.

Relevant clauses of the Y Trust Deed states that the beneficial interest in the Trust Fund shall be vested in the Unit Holders in proportion to their respective number of units in the Trust Fund, indicating that the beneficiaries have a vested and indefeasible interest in a share of the income and capital of the trust.

Y Trust has confirmed that it is a fixed trust and has been at all times from the formation date until just after 1 July 2013.

Y Trust therefore satisfies this condition.

(3) Is Y Trust a widely held unit trust?

Subsection 272-105(1) of Schedule 2F to the ITAA 1936 states that a trust is a widely held unit trust if it is a fixed trust that is a unit trust and it is not closely held.

Subsections 272-105(2) and 272-105(2A) of Schedule 2F to the ITAA 1936 states that a trust is closely held if an individual has, or up to 20 individuals have between them, or no individual has, or no individuals have between them, directly or indirectly and for their own benefit, fixed entitlements to a 75% or greater share of the income or capital of the trust.

Y Trust is a closely held trust and has been since its inception in 20XX as X Co has at all times held more than 75% of the fixed entitlements of the income or capital of the trust.

Accordingly, as Y Trust is a closely held trust, it is not a widely held unit trust.

(4) Is Y Trust an excepted trust?

Section 272-100 of Schedule 2F to the ITAA 1936 outlines when a trust is an excepted trust.

Since Y Trust is not a family trust, a complying superannuation fund, a complying approved deposit fund, a pooled superannuation trust, a trust of a deceased estate, a fixed unit trust where exempt entities have fixed entitlements to all of the income and capital of the trust, an FHSA trust or a designated infrastructure project entity, Y Trust is not an excepted trust and therefore satisfies this condition.

Conclusion

Y Trust is a trust that satisfies the conditions in subsection 266-25(1) of Schedule 2F to the ITAA 1936. Y Trust will be able to deduct a tax loss if it passes either the 50% stake test or satisfies the non-fixed trust stake test pursuant to subsection 266-25(2) of Schedule 2F to the ITAA 1936.

- The 50% stake test

Sections 269-50 and 269-55 of Schedule 2F to the ITAA 1936 state that a trust passes the 50% stake test if, at all times during the test period, or at two times:

• the same individuals have between them, directly or indirectly, and for their own benefit, fixed entitlements to more than 50% of the income of the trust, and

• the same individuals (who may be different from those who hold fixed entitlements to income) have between them, directly or indirectly, and for their own benefit, fixed entitlements to more than 50% of the capital of the trust.

Section 272-20 of Schedule 2F to the ITAA 1936 states that a person holds a fixed entitlement to a share of the income or capital of a trust indirectly if the person holds the entitlement indirectly through fixed entitlements to shares of the income or capital, respectively, of interposed companies.

Y Trust was a wholly owned entity of X Co for certain periods. At all other times X Co has held a majority of the units in Y Trust. Specifically, X Co has at all times held no less than X% of the fixed entitlements to income and capital of Y Trust.

The principal individual shareholders in Y Trust have been Individual A and Individual B.

Individual A's interest in Y Trust is held via his ownership in X Co and Individual A Super Fund. Individual B's interest in Y Trust is held via his ownership in X Co and the Individual B Super Fund.

Since incorporation in 20XX, until just after 1 July 2013, Individual A has had ownership of more than 50% of X Co.

The principal controlling entity of X Co has been (and currently is) B Co, which is a private company owned X% by Individual A and Y% by Individual B.

B Co holds X% of the issued capital in X Co. Accordingly, Individual A has held Y% of X Co via this interposed company.

The above facts, along with the Y Trust Ownership Schedule indicates that Individual A and Individual B have had between them, directly or indirectly, and for their own benefit, fixed entitlements to more than 50% of the income and capital of Y Trust for the test period which is from the formation date to just after 1 July 2013.

Y Trust therefore satisfies the 50% stake test.

Conclusion

Since Y Trust satisfies the conditions in subsection 266-25(1) of Schedule 2F to the ITAA 1936 and passes the 50% stake test for the relevant test period, it could have utilised its tax losses had it sought to claim the losses for the trial year starting 12 months before, and ending immediately after, the joining time.

Therefore, the losses made by Y Trust, can be transferred at the joining time to X Co, pursuant to section 707-120 of the ITAA 1997.

Question 4

If the answer to questions 1 and 3 are yes, will X Co, be precluded from utilising the losses transferred to it from Y Trust by section 165-10 of the ITAA 1997 as modified by section 707-205 of the ITAA 1997?

Detailed reasoning

Effect of transfer of loss

Subsection 707-140(1) of the ITAA 1997 states that if a loss is transferred under section 707-120 of the ITAA 1997 from the joining entity to the head company of the joined group, the Act operates to treat:

• the head company as being the entity that made the loss for the income year in which the transfer occurs, and

• the joining entity as not being the entity that made the loss for the income year for which the joining entity actually made the loss.

Since Y Trust's losses will be transferred to X Co pursuant to section 707-120 of the ITAA 1997 on 1 July 2013, X Co will be treated as having made those losses for the 2014 income year, and Y Trust as not having made the losses in the relevant income years.

Since X Co is treated as having made the losses, it is necessary to consider section 165-10 of the ITAA 1997 which outlines when a company cannot deduct a tax loss. It states that a company cannot deduct a tax loss unless it meets either:

• the conditions in section 165-12 of the ITAA 1997 (which is about the company maintaining the same owners); or

• the condition in section 165-13 of the ITAA 1997 (which is about the company satisfying the same business test).

- Continuity of ownership test

In order to meet the continuity of ownership test outlined in section 165-12 of the ITAA 1997, there must be:

• persons who had more than 50% of the voting power in X Co at all times during the ownership test period

• persons who had rights to more than 50% of X Co's dividends at all times during the ownership test period, and

• persons who had rights to more than 50% of X Co's capital distributions at all times during the ownership test period.

Subsection 165-12(1) of the ITAA 1997 states that the ownership test period is the period from the start of the loss year to the end of the income year.

However, section 707-205 of the ITAA 1997 provides that the ownership test period in Division 165 of the ITAA 1997 is modified for the purposes of working out whether a company can utilise a loss of any sort that it made because of a transfer under Subdivision 707-A of the ITAA 1997.

Subsection 702-205(2) of the ITAA 1997 states that the modification is that the loss year as described in Division 165 begins at the time of the transfer.

Therefore, the ownership test period for the purposes of meeting the continuity of ownership test outlined in section 165-12 of the ITAA 1997 for X Co is the period from 1 July 2013 until 30 June 2014.

However, if one or more other companies beneficially owned shares or interests in shares in X Co at any time during the ownership test period, the alternative test for each condition is to apply (subsection 165-12(6) of the ITAA 1997).

Since there are companies that beneficially own shares in X Co, the alternative tests are the relevant test for each criterion.

The alternative tests for the three conditions in section 165-12 of the ITAA 1997 are as follows:

• if it is the case, or it is reasonable to assume, that there are persons (none of them companies or trustees) who (between them) at a particular time control, or are able to control (whether directly, or indirectly through one or more interposed entities) the voting power in the company, those persons have more than 50% of the voting power in the company at that time (subsection 165-150(2) of the ITAA 1997)

• if it is the case, or it is reasonable to assume, that there are persons (none of them companies) who (between them) at a particular time have the right to receive for their own benefit (whether directly or indirectly) more than 50% of any dividends that the company may pay, those persons have rights to more than 50% of the company's dividends at that time (subsection 165-155(2) of the ITAA 1997), and

• if it is the case, or it is reasonable to assume, that there are persons (none of them companies) who (between them) at a particular time have the right to receive for their own benefit (whether directly or indirectly) more than 50% of any distribution of capital of the company, those persons have rights to more than 50% of the company's capital distributions at that time (subsection 165-160(2) of the ITAA 1997).

Voting power, dividends and capital distributions as at 1 July 2013

As at 1 July 2013, B Co owned X shares out of the total Z shares in X Co, which represents approximately X% ownership of X Co. At this time, Individual A owned X% of B Co and Individual B owned Y% of B Co.

As at 1 July 2013, C Co owned X shares out of the total Z shares in X Co, which represents approximately X% ownership of X Co. At this time, Individual B owned 100% of C Co.

As at 1 July 2013, A Co owned X shares out of the total Z shares in X Co, which represents approximately X% ownership of X Co. At this time, Individual A owned 100% of A Co.

The above indicates that as at the beginning of the ownership test period (being 1 July 2013), Individual A held at least a X% ownership in X Co (and probably more as a result of some other minor holdings), and Individual B held at least a Y% ownership in X Co (and probably more as a result of some other minor holdings).

The above illustrates that it is reasonable to assume that there are persons (in particular, either Individual A by themself, or Individual A and Individual B together) who between them:

• control (indirectly through one or more interposed entities) more than 50% of the voting power in X Co

• have the right to receive for their own benefit more than 50% of X Co's dividends, and

• have the right to receive for their own benefit more than 50% of X Co's capital distributions.

Therefore, as at 1 July 2013, which is the start of the ownership test period, the conditions in section 165-12 of the ITAA 1997 are satisfied.

Voting power, dividends and capital distributions as at 30 June 2014

As at 30 June 2014, B Co's interest in X Co remained unchanged; it owned approximately X% of X Co. However Individual A acquired Individual B's Y% interest in B Co on a date in 2014. Therefore, from that date, Individual A held 100% ownership of B Co.

As at 30 June 2014, C Co did not own any shares in X Co, which means that Individual B relinquished his approximate X% ownership of X Co.

As at 30 June 2014, A Co's interest in X Co increased to a holding of X shares out of the total Z shares in X Co, which represents approximately X% ownership of X Co. Individual A continued to hold 100% of A Co at this time.

The above indicates that from a date in 2014 until 30 June 2014 Individual A held at least a X% ownership in X Co (and probably more as a result of some other minor holdings).

This illustrates that it is reasonable to assume that Individual A continued to meet the necessary voting power, rights to dividends and rights to capital distribution tests over the course of the ownership test period.

Therefore, X Co meets the continuity of ownership test under section 165-12 of the ITAA 1997 for the 2014 income year.

- Same business test

As the continuity of ownership test has been satisfied, the same business test in section 165-13 of the ITAA 1997 does not need to be considered.

Application of section 165-15 of the ITAA 1997

Even if a company meets the conditions in section 165-12 of the ITAA 1997, it cannot deduct the tax loss if section 165-15 of the ITAA 1997 applies.

Section 165-15 of the ITAA 1997 applies where there has been a change in the control of the voting power of the company which is associated with a purpose of gaining a tax advantage.

Since Individual A has retained control of the voting power in X Co throughout the ownership test period by holding at least X% ownership throughout, section 165-15 of the ITAA 1997 will not apply and will therefore not preclude X Co from deducting a tax loss.

Conclusion

Since X Co meets the conditions in section 165-12 of the ITAA 1997, it will not be precluded from deducting a tax loss by section 165-10 of the ITAA 1997. X Co is therefore able to utilise the tax losses transferred to it by Y Trust.

Further issues for you to consider

Tax cost setting amounts

Under the single-entity rule, all of the assets of a consolidated group are treated as being owned by a single entity, represented by the head company. Intra-group assets and liabilities (such as membership interests in subsidiaries) are ignored.

When an entity joins a consolidated group, it is therefore necessary to set the head company's tax cost for the assets brought into the group by the joining entity, and to eliminate the tax cost of the membership interests that the head entity holds in the joining entity. A detailed set of rules are provided in Subdivision 705-B of the ITAA 1997 for this purpose.

Subdivision 705-B of the ITAA 1997 provides the specific rules concerning the situation of group formation which are relevant to the circumstances of X Co and Y Trust.

Loss bundles

Transferred losses are bundled. Subsection 707-315(1) of the ITAA 1997 states that a bundle of losses comes into existence at the time a loss of any sort that has not previously been transferred under Subdivision 707-A of the ITAA 1997 is transferred under that Subdivision from the joining entity to the head company of a consolidated group.

Subsection 707-315(2) of the ITAA 1997 states that the bundle consists of every loss, regardless of its sort, that is transferred from the joining entity to the head company and has not been transferred under Subdivision 707-A of the ITAA 1997 in the past.

Therefore, all of the losses that are transferred from Y Trust to X Co on 1 July 2013 constitute a single bundle.

Available fraction

The use of transferred losses by the head company is restricted. The intent being that the losses are able to be used by the consolidated group at approximately the same rate that they would have been used by the joining entity had it remained outside the group.

This intent is achieved by limiting the rate at which a head company can deduct or apply transferred losses by reference to its 'available fraction'.

The available fraction is the proportion that the joining entity's market value at the time of joining bears to the value of the whole group (including the joining entity) at that time.

Section 707-320 of the ITAA 1997 outlines how to work out the available fraction for a bundle of losses.

Subsection 707-320(1) of the ITAA 1997 states that the available fraction for a bundle of losses is calculated using the following formula:

Modified market value of the real loss-maker at the initial transfer time

Transferee's adjusted market value at the initial transfer time

Explanation of numerator

Section 707-325 of the ITAA 1997 explains what the modified market value of the real loss-maker at the initial transfer time is.

The real loss maker is the joining entity (Y Trust), and the initial transfer time is 1 July 2013.

In general terms, the 'modified market value' of the real loss-maker is its market value, ignoring any interests it has in other members of the group and assuming that:

• it has no losses and the balance of its franking account is nil, and

• the subsidiary members of the group at the joining time are separate entities and not parts of the head company.

Furthermore, there are special rules outlined in section 707-325 of the ITAA 1997 to prevent artificial inflation of the modified market value through injections of capital or non-arm's length transactions in the four years prior to consolidation.

Explanation of denominator

Section 707-320 of the ITAA 1997 outlines what the transferee's adjusted market value at the initial transfer time is.

The transferee is the head company (X Co), and the initial transfer time is 1 July 2013.

Subsection 707-320(1) of the ITAA 1997 states that the 'transferee's adjusted market value at the initial transfer time' means the market value of the transferee at the initial transfer time, assuming that (at that time) the transferee had no losses in earlier years and its franking account was nil.

Adjustment and calculation of losses

The available fraction for a bundle is adjusted or maintained if and when one of the five adjustment events set out in the table in section 707-320(2) of the ITAA 1997 occurs.

Once the available fraction is determined for a bundle of losses, the maximum application of the losses in the bundle for a particular year is determined by applying the available fraction to the head company's income or gains of each relevant type for the income year.

Section 707-310 of the ITAA 1997 provides that you must apply the available fraction when utilising losses and explains how to work out the amount of losses that can be used by the head company.