Edited version of your written advice

Authorisation Number: 1012898310313

Date of advice: 5 November 2015

Ruling

Subject: Investment in structured investment product

Question 1

Will the return payable to you at maturity of your investment in a Kick Out Plan (the Plan) be subject to capital gains tax pursuant to Part 3-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

This ruling applies for the following period:

1 July 2016 to 30 June 2025

The scheme commences on:

During the income year ending 30 June 2016

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

The Investor

You (as the Investor) are an individual who is a resident of Australia for taxation purposes. You are a salary and wage earner who is not a trader in financial instruments, carrying on a business of investing in financial instruments or holding financial instruments as trading stock or a revenue asset. Therefore, you are deemed to be a private investor.

Overview

The scheme to which this ruling applies involves the investment of capital into a Kick Out Plan (the Plan). The investment is notionally a ten year investment linked to the performance of an offshore stock exchange index (the Underlying). However, it may mature at any time from the third year on if a 'kick out' event happens.

The Plan works by comparing the level of the Underlying with the level taken on the Plan's start date. After the minimum three year term, every year there will be an observation date. On that date, if the level of the Underlying is higher than the level on the Plan's start date, a 'kick out' event happens and the Plan will mature with a full return of capital plus a specified return determined on the basis of the timing of the kick out and the Option chosen.

If on each observation date the level of the Underlying is lower, the Plan will not mature for ten years. After the ten years, if the Underlying is lower as of the maturity date, you will be paid back some or all of the initial capital depending on the level of the Underlying.

Summary of the Plan

The Plan is a ten year capital at risk 'Kick Out' plan based on the performance of the Underlying. The Plan is constructed to offer a potential return of either X% in Option 1, or X% in Option 2 for each year the Plan runs with the possibility of early maturity and full return of initial capital from the end of the Plan's third year and annually thereafter.

Should the closing price of the Underlying on any 'observation date' be at or above the 'kick out trigger level', the Plan will mature early, returning the initial capital plus the annual return multiplied by the number of years the Plan has run. The 'kick out observations' begin on the third anniversary date of the Plan and continue on an annual basis until the Plan's maturity date.

If the Plan has not already kicked out, initial capital will be returned in full at the end of the Plan's term if on the maturity date the finish level of the Underlying is not more than X% below the start level. Capital is at risk if the closing price of the Underlying is more than X% below the start level on the maturity date. In this case, initial capital will be lost at a rate of 1% for every 1% the closing price of the Underlying is below the start level.

How the Plan works

The Plan has two options.

Option 1

The Plan has the opportunity to kick out on an observation date providing the closing price of the Underlying is at or above X% of the start level.

Option 2

The Plan has the opportunity to kick out on an observation date providing the closing price of the Underlying is at or above X% of the start level.

In both Options, should the required conditions not be met on any of the pre-defined observation dates, you will not receive the potential return and the initial capital could be at risk.

Return of Initial Capital

If the Plan does not kick out or mature early, the return of the initial capital on the maturity payment date depends on the performance of the Underlying.

In Option 1:

If the Plan does not kick out, and on the maturity date the finish level of the Underlying is less than X% of the start level but not less than X% of the start level, you will not receive the potential return on the initial capital but the initial capital will be returned in full.

In Option 2:

If the Plan does not kick out, and on the maturity date the finish level of the Underlying is less than X% of the start level but not less than X% of the start level, you will not receive the potential return on the initial capital but the initial capital will be returned in full.

In both options, if on the maturity date the finish level of the Underlying is less than X% of the start level, the initial capital will be lost at the rate of 1% for every 1% the Underlying is below the start level.

Relevant legislative provisions

Income Tax Assessment Act 1997 Part 3-1

Income Tax Assessment Act 1997 section 104-25

Income Tax Assessment Act 1997 section 108-5

Income Tax Assessment Act 1997 section 109-5

Income Tax Assessment Act 1997 section 110-25

Income Tax Assessment Act 1997 section 110-55

Income Tax Assessment Act 1997 Division 115

Income Tax Assessment Act 1997 section 115-5

Income Tax Assessment Act 1997 section 116-20

Reasons for decision

Summary

For an Australian resident private investor, the investment of capital into the Plan (for either Option) will be subject to capital gains tax (CGT) pursuant to Part 3-1 of the ITAA 1997.

Your rights under the Plan, a structured investment product, are a CGT asset under section 108-5 of the ITAA 1997. On maturity of the investment, a CGT event C2 happens under section 104-25 of the ITAA 1997.

Detailed reasoning

Application of the CGT provisions

Part 3-1 of the ITAA 1997

Part 3-1 of the ITAA 1997 deals with the general rules relating to the calculation of capital gains and losses.

Section 108-5: CGT asset

Under subsection 108-5(1) of the ITAA 1997 a CGT asset is any kind of property or a legal or equitable right that is not property.

Your rights under the Plan are legally enforceable rights and therefore, in their totality, a CGT asset according to the definition in subsection 108-5(1) of the ITAA 1997.

Section 109-5: acquisition of CGT asset

The CGT asset comprising your contractual rights under the Plan will be taken to have been acquired when you enter into the Plan (subsection 109-5(1) of the ITAA 1997).

Section 104-25: CGT event C2

Subsection 104-25(1) of the ITAA 1997 provides that a CGT event C2 happens if your ownership of an intangible CGT asset ends by the asset:

(a) being redeemed or cancelled; or

(b) being released, discharged or satisfied; or

(c) expiring; or

(d) being abandoned, surrendered or forfeited; or

(e) if the asset is an option - being exercised; or

(f) if the asset is a *convertible interest - being converted

Subsection 104-25(2) of the ITAA 1997 provides that the time of the event is

(a) when you enter into the contract that results in the asset ending; or

(b) if there is no contract - when the asset ends.

Subsection 104-25(3) of the ITAA 1997 states that "you make a capital gain if the capital proceeds from the ending are more than the asset's cost base. You make a capital loss if those capital proceeds are less than the asset's reduced cost base."

In this case, the right to receive the payment of both any 'potential return' and the initial capital (or part thereof) is one of the contractual rights inherent in the Plan. Where this payment is made, your ownership of this contractual right will be discharged or satisfied. This discharge or satisfaction of your contractual right gives rise to CGT event C2 (paragraph 104-25(1)(b) of the ITAA 1997).

Therefore you will make a capital gain from this CGT event if the capital proceeds from the ending of your ownership of the asset are more than the asset's cost base or, alternatively, a capital loss from this CGT event if those capital proceeds are less than the asset's reduced cost base (subsection 104-25(3) of the ITAA 1997).

Section 116-20: capital proceeds

The capital proceeds from a CGT event are the total of:

(a) the money you have received, or are entitled to receive, in respect of the event happening; and

(b) the market value of any other property you have received, or are entitled to receive, in respect of the event happening (worked out as at the time of the event).

Therefore, the return payable to you at maturity of your investment in the Plan will be your capital proceeds from the CGT event (subsection 116-20(1) of the ITAA 1997).

Sections 110-25 and 110-55: cost base and reduced cost base

At the time of entering into the Plan, you will acquire a CGT asset with a cost base or reduced cost base that includes, as its first element, the capital amount invested (subsections 110-25(2) and 110-55(2) of the ITAA 1997).

Section 115-5: discount capital gain

Division 115 of the ITAA 1997 allows a taxpayer a discount on capital gains in certain circumstances. In accordance with section 115-5, any capital gain realised by you as a result of the satisfaction of your rights under the Plan will be treated as a discount capital gain where you have held those rights under the Plan for at least 12 months (excluding the days of acquisition and disposal).