Edited version of your written advice

Authorisation Number: 1012707080422

Ruling

Subject: Proposed demerger of Entity C by Entity B

Question 1

Will any capital gain or capital loss arising from the disposal by Entity B of the shares it holds in its wholly owned subsidiary Entity C in the proposed demerger arrangement be disregarded under section 125-155 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

This ruling applies for the following periods:

1 July 2014 to 30 June 2016

The scheme commences on:

1 July 2014

Relevant facts and circumstances:

Overview

The scheme that is the subject of this ruling involves the separation by Entity B of Entity C by way of a demerger.

Entity B was incorporated pre-CGT and is the head company of a consolidated group for tax purposes.

The shares on issue in Entity B were acquired post-CGT and are held by Australian taxation residents.

Entity C, which was incorporated pre-CGT, was acquired by Entity B from an unrelated party post-CGT.

All of the shares currently on issue in Entity C, are post-CGT.

Pre-demerger restructuring

Prior to implementing the demerger, it is proposed that:

• The rights of the different classes of ordinary shares on issue in Entity C will be varied so as to rank equally with the ordinary shares currently on issue in Entity B; and

• A new 'X' class share in Entity C will be created.

Demerger implementation steps

It is proposed that the restructure will be undertaken by implementing the following steps:

• 100% of Entity B's existing shareholding in Entity C and a new 'X' class share will be distributed to the shareholders of Entity B; and

•Under the distribution, the shareholders of Entity B will receive shares in Entity C (nothing else) in the same proportion to their existing shareholding in Entity B.

Reasons for the demerger

The applicant has advanced a number of reasons for the proposed demerger including facilitating the development of each entities commercial strategy, greater flexibility in financing arrangements and separating two distinct and separate businesses that can operate independently of one another.

Other matters

The shareholders of Entity B are Australian residents and will each choose rollover relief under section 125-55 of the ITAA 1997.

Entity B will not make an election under subsection 44(2) of the Income Tax Assessment Act 1936 (ITAA 1936) that subsections 44(3) and 44(4) will not apply to the total of any demerger dividend arising under the restructure.

Relevant legislative provisions:

Income Tax Assessment Act 1997 Division 125

Income Tax Assessment Act 1997 section 125-155

Reasons for decision:

Summary

Any capital gain or capital loss arising from the disposal by Entity B of the shares it holds in Entity C in the proposed demerger arrangement will be disregarded under section 125-155 of the ITAA 1997.

Detailed reasoning

In order for the demerger CGT outcomes contained in Division 125 of the ITAA 1997 to apply to shareholders and members of a company group, a number of defined terms must be satisfied, including:

• demerger group (subsection 125-65(1) of the ITAA 1997),

• demerger (subsection 125-70(1) of the ITAA 1997),

• demerged entity (paragraph 125-70(6)(a) of the ITAA 1997), and

• demerging entity (paragraph 125-70(7)(a) of the ITAA 1997).

Demerger Group

A demerger group comprises one head entity and at least one demerger subsidiary (subsection 125-65(1) of the ITAA 1997). The demerger group in this case comprises Entity B as the head entity and includes Entity C as a demerger subsidiary.

Entity B will be the head entity because:

• no other member of the Entity B group holds ownership interests in Entity B (subsection 125-65(3) of the ITAA 1997); and

• there will be no other company or trust capable of being a head entity of a demerger group of which Entity B could be a demerger subsidiary (subsection 125-65(4) of the ITAA 1997).

Entity C will be a demerger subsidiary of Entity B because Entity B owns ownership interests in Entity C that carry more than 20% of the rights to any distribution of income and capital, and the right to exercise more than 20% of the voting power of Entity C (subsection 125-65(6) of the ITAA 1997).

Demerger

Subsection 125-70(1) of the ITAA 1997 describes when a demerger happens. A demerger will happen to the Entity B demerger group because:

• there will be a restructuring (paragraph 125-70(1)(a) of the ITAA 1997), and Entity B will dispose of at least 80% of its Entity C shares to the owners of Entity B (subparagraph 125-70(1)(b)(i) of the ITAA 1997);

• under the restructuring, CGT event G1 will happen to Entity B shareholders, and Entity B shareholders will acquire new shares in Entity C and nothing else (subparagraph 125-70(1)(c)(i) of the ITAA 1997);

• CGT event A1 will happen upon the disposal of shares in Entity C. Entity C shares will be acquired by Entity B shareholders on the basis of their ownership of shares in Entity B (paragraph 125-70(1)(d) and subparagraph 125-70(1)(e)(i) of the ITAA 1997);  

• paragraph 125-70(1)(f) of the ITAA 1997 repealed;

• neither Entity B nor Entity C are superannuation funds (paragraph125-70(1)(g) of the ITAA 1997);

• Entity B shareholders will acquire Entity C shares in the same proportion as they own Entity B shares just before the demerger (paragraph 125-70(2)(a) of the ITAA 1997);

• each of the Entity B shareholders will own shares in Entity B and Entity C that (just after the demerger) represent the same proportionate total market value as their Entity B shares represented (just before the demerger) (paragraph 125-70(2)(b) of the ITAA 1997);

• under the scheme, there will be no buy-back of shares for the purposes of Division 16K of Part III of the ITAA 1936 (subsection 125-70(4) of the ITAA 1997); and

• there will be no rollover available under another provision for any CGT events that happen to the Entity B shares under the restructure (subsection 125-70(5) of the ITAA 1997).  

Entity C is the demerged entity 

Relevantly, subsection 125-70(6) of the ITAA 1997 defines a demerged entity to be a former member of a demerger group in which ownership interests are acquired by shareholders of the head entity under a demerger.

In the present circumstances, Entity C is the demerged entity since the Entity B shareholders receive shares in Entity C under a demerger.

Entity B is the demerging entity

Relevantly, subsection 125-70(7) of the ITAA 1997 defines a demerging entity to be a member of a demerger group who disposes of at least 80% of its total ownership interests in another member of the demerger group to owners of original interests in the head entity under a demerger.

In the present circumstances, Entity B is the demerging entity since it disposes of 100% of its shares in Entity C to Entity B shareholders under a demerger.

Can Entity B disregard the capital gain or capital loss?

Section 125-155 of the ITAA 1997 provides that a demerging entity may ignore capital gains or capital losses arising from certain CGT events (including CGT event A1) happening to its ownership interests in a demerged entity under a demerger.

In the present case:

• Entity B is the demerging entity,

• CGT event A1 will happen when Entity B disposes of its shares in Entity C and transfers them to Entity B shareholders (per section 104-10 of the ITAA 1997), and

• this disposal happens under a demerger.

Therefore, any capital gain or loss under CGT event A1 made by Entity B on the disposal of its Entity C shares under the demerger will be disregarded (section 125-155 of the ITAA 1997).