Edited version of your written advice

Authorisation Number: 1012931152213

Date of advice: 22 December 2015

Ruling

Subject: Capital Gains Tax Event K6

Question 1

Does paragraph 104-10(5)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) apply to Flower Family Trust (Family Trust) to disregard a capital gain or loss from the disposal of a capital gains tax (CGT) asset pursuant to section 104-10?

Answer

Yes

Question 2

Is the whole of the goodwill of the business of the Tree Unit Trust (Unit Trust) a pre-CGT asset pursuant to section 149-10 of the ITAA 1997?

Answer

Yes

Question 3

Does the item described as "WIP - Costs Incurred" in the Balance Sheet of the Unit Trust, constitute, trading stock for the purposes of section 70-10 of the ITAA 1997?

Answer

Yes

Question 4

Does the item described as "Display Homes & Land" constitute trading stock of the Unit Trust for the purposes of section 70-10 of the ITAA 1997?

Answer

Yes

Question 5

Does the item described as "WIP - Estimated Balance of Progress Claims" in the Balance Sheet of the Unit Trust constitute property for CGT event K6 purposes?

Answer

No

Question 6

Does the item "WIP - Estimated Balance of Progress Claims" in the Balance Sheet of the Unit Trust constitute an asset for CGT event K6 purposes?

Answer

No

Question 7

Just before the disposal event happened, was the market value of the post-CGT property of the Unit Trust (that was not trading stock) at least 75% of the net value of the Unit Trust for the purposes of paragraph 104-230(2)(a) of the ITAA 1997?

Answer

Yes

Question 8

Just before the disposal event occurred, was the market value of interests owned through interposed entities in post-CGT property (that was not trading stock) at least 75% of the net value of the Unit Trust for the purposes of paragraph 104-230(2)(b)?

Answer

No

Question 9

If the answer to question 7 is 'yes', is the amount of the capital gain equal to that part of the capital proceeds from the disposal event that was reasonably attributable to the amount by which the market value of the post-CGT property (that was not trading stock) of the Unit Trust was more than the sum of the cost bases of that property (just before the disposal event) pursuant to subsection 104-230(6) of the ITAA 1997?

Answer

Yes

Question 10

Was the K6 Capital Gain referred to in question 9 a "discount capital gain" within section 115-5 of the ITAA 1997 which could be reduced by the "discount percentage" (as defined in section 115-100) of 50% by applying step 3 of the method statement in section 102-5(1)?

Answer

Yes

This ruling applies for the following period

Year ended 30 June 20xx

The scheme commences on

1 July 20xx

RELEVANT FACTS AND CIRCUMSTANCES

The Flower Family Trust

The Flower Family Trust (the Family Trust) is a discretionary trust settled for the benefit of individual members of the Flower Family and their related entities.

The Tree Unit Trust

1. The Tree Unit Trust (Unit Trust) was settled in the 1980s with 60 ordinary units issued. The Family Trust held 10 of these original units since the Unit Trust was settled.

2. Throughout time, there were changes to the ownership of the units in the Unit Trust, including transfer of units and redemption of units such that the number of ordinary units on issue reduced to 20.

3. As at 31 December 20xx, the Family Trust continued to hold 10 of the 20 issued units in the Unit Trust.

4. On 31 December 20xx, the Family Trust disposed of all its 10 units in the Unit Trust for a specified amount. You state that this was the market value of the units at the time of disposal.

Business activities of the Unit Trust

5. The core business activities of the Unit Trust are the construction of homes and other related building work.

Balance Sheet of the Unit Trust (as at 31 December 20xx)

6. The Balance Sheet for the Unit Trust as at 31 December 20xx records that:

a. the market value and cost base of each asset and liability is included in a separate column.

b. the cost value and market value of "Work In Progress - Cost Incurred" as a specified amount. You explain that this is an asset and represents the costs incurred on houses under construction, such as footings and foundations, bricks, timber, tiles and labour.

c. the item "Work In Progress - (est. bal of progress claims - costs to come)" (Estimated Profits) has a cost value of nil and a market value of a specified amount. You state that this item is recorded as an asset and represents the estimated profits on the future completion of projects under construction at 31 December 20xx.

d. the item "Display Homes & Land" has a cost value of a specified amount and market value of a lesser specified amount. You explain that:

i. to date this item has been treated as trading stock for taxation purposes

ii. a display home is built on land by the Unit Trust and sold to a purchaser in the ordinary course of its business. In most instances, a display home is then leased and used by the Unit Trust for display purposes for a period of time after legal title has passed to the purchaser, and

iii. during the period prior to the sale of the display home, the display home and land is treated as trading stock by the Unit Trust.

e. the item "Work in Progress - Progress Claims" is a liability and has a cost and market value of a specified amount. You explain that this item represents amounts invoiced by the Unit Trust to customers as progress claims to in respect of houses under construction (in accordance with contracts entered into with customers).

7. You explain that the item 'Estimated Profits' in the Balance Sheet of the Unit Trust represents an estimate of profits on the future completion of projects under construction as at 31 December 20xx. You state that this item has value to the Unit Trust because it represents future profit however, it does not constitute property for the purposes of CGT event K6.

8. Furthermore, you claim that the Unit Trust does not own or possess the Estimated Profits, as is required by the Macquarie Dictionary definition of the term property. You submit that future profits are not capable of assumption by third parties. Rather, you state that it is the underlying contracts with customers that represent property of the Unit Trust which was reflected in the value of goodwill as at 31 December 20xx.

Sky Unit Trust

9. As at 31 December 20xx, the Unit Trust held approximately X% of the units on issue in the Sky Unit Trust.

Soil Unit Trust

10. The Unit Trust held X% of the total issued units the Soil Unit Trust.

11. The Balance Sheet of the Soil Unit Trust records land that was acquired in 20yy, some 2 to 3 months after the disposal of units in the Unit Trust by the Family Trust. Based on this, for the purposes of this private binding ruling, you have sought that the Commissioner assume that the item "Highway Development", with a value of $1 million, in the Balance Sheet of the Soil Unit Trust was cash at 31 December 20xx rather than trading stock or land.

Assumptions

12. In relation to CGT event K6, you request that the Commissioner assume that:

a. the market value of each asset/item of property is as stated in the Balance Sheet of the Unit Trust as at 31 December 20xx under the column titled "Market Value", and

b. the cost base of each asset/item of property is as stated in the Balance Sheet of the Unit Trust as at 31 December 20xx under the column titled "Cost Value".

13. As mentioned in paragraph 16, you request that the Commissioner assume that the item "Highway Development", with a value of $X million, in the Balance Sheet of the Soil Unit Trust was cash at 31 December 20xx rather than trading stock or land.

Relevant legislative provisions

Division 115 of the Income Tax Assessment Act 1997

Section 70-10 of the Income Tax Assessment Act 1997

Section 104-10 of the Income Tax Assessment Act 1997

Section 104-230 of the Income Tax Assessment Act 1997

Section 108-5 of the Income Tax Assessment Act 1997

Section 149-10 of the Income Tax Assessment Act 1997

Section 149-15 of the Income Tax Assessment Act 1997

Section 149-30 of the Income Tax Assessment Act 1997

REASONS FOR DECISION

Question 1

Does paragraph 104-10(5)(a) of the ITAA 1997 apply to the Family Trust to disregard a capital gain or loss from the disposal of a CGT asset pursuant to section 104-10?

Disposal of a CGT asset: CGT event A1

14. Section 104-5 of the ITAA 1997 sets out a list of CGT events. CGT event A1 is the disposal of a CGT asset pursuant to subsection 104-10(1). Subsection 104-10(2) states that a taxpayer will dispose of a CGT asset if a change of ownership occurs from the taxpayer to another entity.

15. Subsection 104-10(4) of the ITAA 1997 provides that:

a. a capital gain will be made from the disposal of the asset if the capital proceeds are greater than the asset's cost base, and

b. a capital loss will be made from the disposal of the asset if the capital proceeds are less than the asset's reduced cost base.

16. Subsection 104-10(5)(a) of the ITAA 1997 provides that a capital gain or loss is disregarded if a taxpayer acquired an asset before 20 September 1985.

Application to your circumstances

17. On 31 December 20xx, the Family Trust disposed of all its X units in the Unit Trust for a specified amount. You state that this was the market value of the units at the time of disposal. Consequently, subsection 104-10(1) of the ITAA 1997 is satisfied and the disposal of the units is a CGT event A1.

18. Pursuant to subsection 104-10(4) of the ITAA 1997, as the Family Trust acquired the units prior to 20 September 1985, the Family Trust can disregard any gain or loss as a result of CGT event A1 happening on the disposal of the units.

Question 2

Is the whole of the goodwill of the business of the Unit Trust a pre-CGT asset pursuant to section 149-10 of the ITAA 1997?

CGT ASSET: GOODWILL

19. Subsection 108-5(1) of the ITAA 1997 explains that a CGT asset is any kind of property or legal or equitable right that is not property. Subsection 108-5(2) lists a number of assets that are considered to be CGT assets, including goodwill.

20. Guidance on the meaning and treatment of goodwill for CGT purposes can be found in Taxation Ruling TR 1999/16 Income tax: capital gains: goodwill of a business (TR 1999/16). Paragraph 12 of TR 1999/16 explains that goodwill is a composite thing that is one whole and is "an indivisible item of property that is legally distinct from the sources from which it emanates" [emphasis added]. It states that goodwill is something that is attached to a business and cannot be separated from the conduct of the business. For this reason goodwill cannot be dealt with separately from the business with which it is associated.

21. As goodwill is a single item of property, paragraph 16 of TR 1999/16 concludes that goodwill is therefore a single CGT asset for Part 3-1 of the ITAA 1997.

22. Paragraph 17 of TR 1999/16 explains that, provided the same business is being carried on, the whole of the goodwill of a business that commenced before 20 September 1985 remains the same pre-CGT asset.

23. However, where a business, or the sources of its goodwill, has changed such that it can no longer be considered to be the same business than what was previously conducted, paragraph 18 of TR 1999/16 provides that the goodwill of the original business ceases and a new CGT asset, being the goodwill of the new business, is acquired.

24. Paragraph 25 of TR 1999/16 states that the whole goodwill of a business is either a pre-CGT or post-CGT asset. That is, the goodwill cannot be classified as being a partially pre-CGT and post-CGT asset. This is because goodwill is a composite asset.

25. In accordance with Division 149 of the ITAA 1997, goodwill may cease being a pre-CGT asset.

Application to your circumstances

26. Pursuant to subsection 108-5(2) of the ITAA 1997, the goodwill of the Unit Trust is a CGT asset. As goodwill is an indivisible item of property, the whole of the goodwill of the Unit Trust is either a pre-CGT or post CGT asset, consistent with paragraph 25 of TR 1999/16. That is, the goodwill cannot be classified as being partially a pre-CGT asset and partially a post-CGT asset.

What is a pre-CGT asset?

27. Division 149 of the ITAA 1997 sets out the circumstances when an asset ceases being a pre-CGT asset.

28. A pre-CGT asset is defined in section 149-10 of the ITAA 1997 as a CGT asset that is owned by an entity before 20 September 1985 and has not stopped being a pre-CGT asset because of the operation of Division 149.

29. Sections 149-15 and 149-30 of the ITAA 1997 broadly provide that an asset will cease to be a pre-CGT asset where the ownership of the asset has changed such that the owners at 20 September 1985 no longer hold more than 50% of the beneficial interest in the asset.

30. However, paragraph 65 of Taxation Ruling TR 2004/18 Income Tax: capital gains: application of CGT event K6 (about pre-CGT shares and pre-CGT trust interests) in section 104-230 of the Income Tax Assessment Act 1997 (TR 2004/18) provides that if CGT event K6 occurs to an asset taken to be a post-CGT asset as a result of Division 149, the asset continues to be treated as being a pre-CGT asset for the purposes of CGT event K6.

31. For CGT event K6 to occur, subsections 104-230(1) and (2) provide that, for an entity directly holding an interest in the trust, the following conditions must be met:

a. the entity owns an interest in the trust acquired before 20 September 1985

b. CGT events A1, C2, E1, E2, E3, E5, E6, E7, E8, J1 or K3 occurs in relation to the interest

c. there is no roll-over for the other CGT event, and

d. just before the other event occurred, the market value of the property of the trust (that is not its trading stock) that was acquired on or after 20 September 1985 is at least 75% of the net value of the trust.

Application to your circumstances

32. At the time of acquisition of units by the Family Trust in the 1980s, there were 60 units issued in the Unit Trust. As the Family Trust held X of these units, it had a X% interest in the Unit Trust.

33. Consequently, by 31 December 20xx, there remained only 20 ordinary units issued in the Unit Trust. Of these 20 units, the Family Trust's initial unit holding of 10 units remained unchanged such that its interest in the Unit Trust had increased from X% to 50%.

34. As a result, sometime between acquisition and their disposal on 31 December 20xx, the assets held by the Unit Trust may cease being pre-CGT assets and become post-CGT assets pursuant to sections 149-15 and 149-30 of the ITAA 1997.

35. However, as disposal by the Family Trust of the units satisfies subsection 104-10(1) of the ITAA 1997 and is a CGT event A1, section 104-230 may apply such that the assets continue to be pre-CGT assets if CGT event K6 has occurred.

36. As the Family Trust acquired the X units prior to 20 September 1985, CGT event A1 occurred and there is no roll-over available for the disposal CGT event, subsection 104-230(1) of the ITAA 1997 is satisfied, subject to subsection 104-230(2).

37. As explained in detail below, in paragraphs 69 to 73, the Unit Trust satisfies the '75% test' in section 104-230(2) of the ITAA 1997, CGT event K6 occurred as a result of the disposal of the X units by the Family Trust in the Unit Trust. As such, and consistent with paragraph 65 of TR 2004/18, goodwill will continue to be treated as a pre-CGT asset for the purposes of CGT event K6.

Question 3

Does the item described as "WIP - Costs Incurred" in the Balance Sheet of the Unit Trust, constitute, trading stock for the purposes of section 70-10 of the ITAA 1997?

TRADING STOCK

38. Section 70-10 of the ITAA 1997 defines trading stock as anything that is produced, manufactured, held for the purposes of manufacture, sale or exchange in the ordinary course of business and livestock.

39. Guidance on what is considered trading stock can be found in Taxation Ruling TR 98/8 Income Tax: whether materials and spare parts held by a taxpayer supplying services are trading stock (TR 98/8). Paragraph 12 of TR 98/8 states that where the taxpayer is carrying on a business as a builder (as well as other activities) and holds materials for the supply to customers those materials will be trading stock if the materials:

a. are supplied by the taxpayer to the customers in the course, and as an essential part, of performing the services

b. are separately identifiable things before and after the services are provided which retain their individual character or nature. This means that the materials are not significantly changed in performing the services, and

c. are to be disposed of such that the property in them in passed on to the customer.

40. Paragraph 14 of TR 98/8 further states that:

…building materials supplied by a builder in the course of contracts for building, extending or renovating premises retain their character or nature as building materials and are an essential part of the services… These things are 'trading stock'.

Application to your circumstances

41. You state that the item "Work In Progress - Cost Incurred" in the Balance Sheet of the Unit Trust is an asset and represents the costs incurred on houses under construction, such as footings and foundations, bricks, timber, tiles and labour. Consistent with paragraph 14 of TR 98/8, these are building materials that are held by the Unit Trust in the course of it carrying on its business of a builder in the course of its contracts for the construction of homes.

42. Consequently, section 70-10 of the ITAA 1997 is satisfied such that the item "Work In Progress - Cost Incurred" in the Balance Sheet of the Unit Trust is trading stock.

Question 4

Does the item described as "Display Homes & Land" constitute trading stock of the Unit Trust for the purposes of section 70-10 of the ITAA 1997?

TRADING STOCK

43. Paragraphs 38 to 40 explain what is considered trading stock for the purposes of section 70-10 of the ITAA 1997. In relation to property development, paragraph 1 of Taxation Determination TD 92/124 (TD 92/124) explains that land will be considered to be trading stock if the land is held for the purpose of resale and a business of dealing in land has commenced.

Application to your circumstances

44. Consistent with paragraph 1 of TD 92/124, the Unit Trust acquired land and built display homes for sale in the ordinary course of its business. As a result, the item "Display Homes & Land" in the Balance Sheet of the Unit Trust is trading stock for the purposes of section 70-10 of the ITAA 1997.

Question 5

Does the item described as "WIP - Estimated Balance of Progress Claims" in the Balance Sheet of the Unit Trust constitute property for CGT event K6 purposes?

THE MEANING OF THE TERM 'PROPERTY' FOR THE CGT EVENT K6 PURPOSES

45. As mentioned above, for CGT event K6 to occur, subsection 104-230(2) of the ITAA 1997 requires that the market value of property of the trust (that is not trading stock) that was acquired just before the CGT event be at least 75% of the net value of the trust.

46. The term 'property' is not defined by the income tax legislation for the purposes of CGT event K6. Consequently, the term takes on its ordinary meaning.

47. The Macquarie Dictionary states that the term property means 'that which one owns; the possession or possessions of a particular owner'.

48. Guidance on the meaning of the term 'property' is provided in TR 2004/18. Consistent with the above, paragraph 12 of TR 2004/8 confirms that the term property is to take its ordinary legal meaning, and does not necessarily mean 'asset' or 'CGT asset'.

49. Paragraph 53 of TR 2004/18, states that the term 'property' extends to any kind of property and covers most CGT assets. Paragraph 53 further explains that property can include such things as land and buildings, shares in a company, units in a unit trust, options, debts owed to a company, interests in assets and goodwill.

50. In National Provincial Bank Ltd v Ainsworth, Lord Wilberforce explained that in order for something to be considered property, it must be capable of assumption by third parties, stating that:

Before a right or interest can be admitted into the category of property, or of a right affecting property, it must be definable, identifiable by third parties, capable in its nature of assumption by third parties, and have some degree of permanence or stability.

Application to your circumstances

51. You argue that the item "WIP - Estimated Balance of Progress Claims" (Estimated Profits) in the Balance Sheet of the Unit Trust does not constitute property for the purposes of CGT event K6 because it represents an estimate of profits on the future completion of projects under construction as at 31 December 20xx. You state that as the item is an asset but not property, it constitutes an amount that may or may not come to fruition.

52. Furthermore, you claim that the Unit Trust does not own or possess the Estimated Profits, as is required by the Macquarie Dictionary definition of the term property. Rather, you state that it is the underlying contracts with customers that represent property of the Unit Trust which was reflected in the value of goodwill as at 31 December 20xx.

53. You also submit that these Estimated Profits are not capable of assumption by third parties and do not have any degree of permanence or stability, as required by Lord Wilberforce in National Provincial Bank Limited v Ainsworth (1965) AC 1175 at 1247- 1248, and approved by the Full Federal Court in Hepples v FC of T 90 ATC 4497:

Before a right or an interest can be admitted into the category of property, or of a right affecting property, it must be definable, identifiable by third parties, capable in its nature of assumption by third parties, and have some degree of permanence or stability.

54. The Commissioner accepts your argument that although the underlying building contracts may be assignable to a third party, the item Estimated Profits however cannot be assigned as required by the definition of property as provided by Lord Wilberforce. Additionally, the item does not have any degree or permanence or stability. Although the item is required to be included in the Balance Sheet of the Unit Trust, the Commissioner accepts that it is not an item of property for the purposes of CGT event K6.

Question 6

Does the item 'Estimated Progress Claims' in the Balance Sheet of the Unit Trust constitute an asset for CGT event K6 purposes?

MEANING OF 'ASSET' FOR CGT EVENT K6 PURPOSES

55. The term 'asset' is not defined in the legislation for the purposes of the net value and therefore takes its ordinary meaning. The Macquarie Dictionary states that the term means:

1. …

2. an item of property, as a building, a piece of equipment, etc.

3.  an economic resource.

56. Similarly, the Oxford Dictionary defines the term as:

1. …

2. (usually assets) An item of property owned by a person or company, regarded as having value and available to meet debts, commitments, or legacies

57. TR 2004/18 provides guidance on the application of section 104-230, including the meaning of the term asset, stating at paragraph 94 that:

… the term [asset] means property according to ordinary concepts as well as the other economic resources of the company that it is capable of turning to account, even if they are not property.

58. The term 'resource' is not defined by the legislation and therefore it takes its ordinary meaning. The Macquarie Dictionary defines the term 'resource' to mean:

2. a source of economic wealth available to a country, organisation, individual etc.

59. TR 2004/18 also provides an alternative meaning of the term asset. In particular, paragraphs 95 and 96 explain that an alternative view is that the term asset for the purposes of section 104-230 of the ITAA 1997 has its accounting meaning, being 'future economic benefits controlled by an entity as a result of past transactions or other past events'. However, this view is not accepted by TR 2004/18.

60. Consideration of former section 106A of the Income Tax Assessment Act 1936 (ITAA 1936), and related case law, supports the view that an asset for the purposes of the capital gains tax rules must be an item of property that can in some way be assigned, transmitted or turned to account with a third party. In considering whether a right met the definition of an asset for the purposes of former section 160A, the Full Federal Court in Hepples v FC of T (Hepples) said:

…rights which are not proprietary in character…whether because they are personal rights or because they are 'rights' merely in some popular sense, are not 'assets' within the meaning of sec. 160A of the Act.

61. Consequently, Taxation Ruling TR 95/93 Income Tax: capital gains: treatment of compensation receipts (TR 95/35) provides that as a result of the Full Federal Court's decision in Hepples, a number of items are not proprietary in nature, including future property. Given this, and the abovementioned quote from Hepples, a benefit of a contractual obligation where the identity of the person performing the contract is crucial to the contract (such as in a contract for personal services) would not satisfy the definition of an asset for the purposes of former section 160A of the ITAA 1936. This conclusion continues to apply the current provisions in Part 3-1 of the ITAA 1997.

Application to your circumstances

62. You argue that the item Estimated Profits constituted an asset for the purposes of determining the net value of the Unit Trust. You state that the item had value to the Unit Trust and consequently was a resource that it was capable of turning to account. You claim that this is despite the fact that the item was not property as at 31 December 20xx.

63. Consistent with paragraph 94 of TR 2004/18, for the item Estimated Profits to be an asset, it needs to satisfy the definition of the term according to ordinary assets or be an economic resource of the Unit Trust that it is capable of turning to account, even if it is not property.

64. For the item to be an asset, the ordinary meaning of the term requires it to be an item of property or an economic resource. As claimed by the Unit Trust and supported in paragraphs 51 to 54, Estimated Profits is not an item of property. It is merely an estimate of future income. For the same reason, the item is not an economic resource of the Unit Trust and therefore does not meet the extended meaning of asset provided by TR 2004/18. This is despite the fact that the underlying building contracts, on which the estimate of future profits are based, are capable of being brought to account, the item Estimate Profits itself is not capable of being brought to account. It may well be a future economic benefit that is controlled by the Unit Trust as a result of the building contracts entered into with third parties however, as explained by paragraphs 95 and 96 of TR 2004/18, this does not satisfy the meaning of the term asset.

65. This conclusion is also consistent with Hepples and TR 95/35, the item Estimated Profits is benefit of a contractual obligation. As such, it is not a proprietary right and is not an asset for CGT event K6.

Question 7

Just before the disposal event happened, was the market value of the post-CGT property of the Unit Trust (that was not trading stock) at least 75% of the net value of the Unit Trust for the purposes of paragraph 104-230(2)(a) of the ITAA 1997?

1^ST LIMB OF THE '75% TEST'

66. In order to determine if CGT event K6 occurs, paragraph 104-230(2)(a) of the ITAA 1936 provides that if, just before the other event happens:

(a) the *market value of property of the company or trust (that is not its *trading stock) that was *acquired on or after 20 September 1985; or

…………..

must be at least 75% of the *net value of the company or trust.

67. The Guide to Subdivision 960-S of the ITAA 1997 provides that the term 'market value' has its ordinary meaning unless otherwise provided by the Subdivision. There is no other meaning provided for CGT event K6 and as such, the term market value takes its ordinary meaning.

68. The term 'net value' is defined in in subsection 995-1(1) of the ITAA 1997 as the amount by which the market value of total assets exceeds total liabilities.

Application to your circumstances

69. On 31 December 20xx, the Family Trust disposed of all its X units in the Unit Trust for disclosed amount.

70. The Balance Sheet of the Unit Trust as at 31 December 20xx provides that the total assets of the Unit Trust were a specified amount. In order to determine the market value at the time of disposal, it is necessary to take into account the following adjustments:

$

Total assets a

less Work In Progress - Costs Incurred b

less Display Homes & Land c

less (pre-CGT) Goodwill d

less Work In Progress - Estimated Balance

of Progress Claims e

Market value f

71. According to the Balance Sheet of the Unit Trust, the amount by which the total assets exceed total liabilities is the net asset amount of $x. However, as concluded by paragraph 65, the item Estimated Profits is not an asset for the purposes of CGT event K6 and therefore needs to be subtracted from net assets in order to determine the Net Value of the Unit Trust as follows:

$

Net Assets (per Balance Sheet) x

less Work In Progress - Estimated

Balance of Progress Claims y

Net assets for CGT event K6 z

72. Consistent with subsection 995-1(1) of the ITAA 1997, the net value of the Unit Trust as at 31 December 20xx is therefore $z.

73. The market value of the Unit Trust is well in excess of its net value of $z. Consequently, the 75% test in paragraph 104-230(2)(a) of the ITAA 1997 is satisfied.

Question 8

Just before the disposal event occurred, was the market value of interests owned through interposed entities in post-CGT property (that was not trading stock) at least 75% of the net value of the Unit Trust for the purposes of paragraph 104-230(2)(b)?

2^nd LIMB OF THE '75% TEST'

74. The second limb of the 75% test is provided for in paragraph 104-230(2)(b) of the ITAA 1997. The paragraph states that if just before the CGT event occurred, the market value of interest owned by a company or trust through interposed companies or trusts in property (that was not trading stock) that was acquired after 20 September 1985 must be at least 75% of the net value of the company or trust.

Application to your circumstances

75. In the event that paragraph 104-230(2)(a) of the ITAA 1997 was not satisfied, which is not accepted, you have sought the Commissioner to rule upon whether the Unit Trust satisfied the second limb of subsection 104-230(2).

76. As at 31 December 20xx, the Unit Trust held:

a. approximately X% of the units on issue for the Sky Unit Trust, and

b. X% of the issued units in the Soil Unit Trust.

77. You have provided the Balance Sheets for the Sky and Soil Unit Trusts.

Sky Unit Trust

78. In order to determine the market value at the time of disposal, it is necessary to take into account the following adjustments:

$

Total assets a

less trading stock:

Land held for resale b

Development costs c

Market value d

79. As the Unit Trust held approximately 5% of the issued units in Sky Unit Trust, its share of the market value of the Sky Unit Trust was 5% of the specified market value.

80. According to the Balance Sheet of the Sky Unit Trust, the amount by which the total assets exceed total liabilities is the net asset amount is a specified amount. Based on these values, the Unit Trust does not satisfy paragraph 104-230(2)(b) of the ITAA 1997 as it does not hold interest in at least 75% of the net value of the Sky Unit Trust.

Soil Unit Trust

81. Based on the above assumptions, according to the Balance Sheet of the Soil Unit Trust, its total assets were a specified amount. You have advised that the item "Highway Development" should not be treated as trading stock as at 31 December 20xx, but was cash at bank. As a result of this, the Soil Unit Trust did not hold any trading stock at 31 December 20xx and no adjustments are necessary to calculate its market value.

82. As the Unit Trust held 12.5% of the issued units in the Soil Unit Trust, its share of the market value of the Soil Unit Trust is 12.5% of the specified market value of the Soil Unit Trust.

83. According to the Balance Sheet of the Soil Unit Trust, the amount by which the total assets exceed total liabilities is the net asset is a specified amount. Based on the values provided, the Unit Trust does not satisfy paragraph 104-230(2)(b) of the ITAA 1997 as it does not hold interest in at least 75% of the net value of the Soil Unit Trust.

Question 9

If the answer to question 7 is 'yes', is the amount of the capital gain equal to that part of the capital proceeds from the disposal event that was reasonably attributable to the amount by which the market value of the post-CGT property (that was not trading stock) of the Unit Trust was more than the sum of the cost bases of that property (just before the disposal event) pursuant to subsection 104-230(6) of the ITAA 1997?

CALCULATION OF THE CAPITAL GAIN

84. Subsection 104-230(6) of the ITAA 1997 explains how the capital gain for CGT event K6 is to be calculated. Specifically, subsection 104-230(6) provides that the amount of the capital gain is equal to the part of the capital proceeds that is reasonably attributable to the amount by which the market value of the property of the company or trust (that is not trading stock) that is more than the sum of the cost bases of that property.

85. As explained in paragraph 18 of TR 2004/15, the property taken into account for paragraph 104-230(2)(b) of the ITAA 1997 is post-CGT property. Further, paragraph 24 states that the facts of each case will determine what constitutes a reasonable attribution of capital proceeds. However, paragraphs 25 to 33 of TR 2004/18 do provide that the following steps will generally be accepted by the Commissioner as a reasonable calculation of a CGT event K6 capital gain for a single tier structure:

Step 1 amount = capital proceeds x (market value of post-CGT property

market value of all property)

Step 2 amount = step 1 amount x ( market value excess

market value of post-CGT property)

86. Where the amount calculated under step 2 exceeds the market value excess, paragraph 33 of TR 2004/18 states that the capital gain will be limited to the market value excess.

Application to your circumstances

87. Applying the formula provided under step 1 and 2 in TR 2004/18 to the Unit Trust provides the amount of the capital gain due by the Family Trust as a result of its disposal of units in the Unit Trust pursuant to subsection 104-230(6) of the ITAA 1997

Question 10

Was the K6 Capital Gain referred to in question 9 a "discount capital gain" within section 115-5 of the ITAA 1997 which could be reduced by the "discount percentage" (as defined in section 115-100) of 50% by applying step 3 of the method statement in section 102-5(1)?

DISCOUNT CAPITAL GAINS

88. Division 115 of the ITAA 1997 sets out the discount on capital gains and the circumstances in which they are available to a taxpayer.

89. A taxpayer is entitled to a discount on any capital gains made if they satisfy the requirements outline in section 115-5 of the ITAA 1997. The necessary requirements are that:

a. the taxpayer is an individual, complying superannuation entity, trust or certain life insurance companies

b. the capital gain is made after 21 September 1999

c. the capital gain does not have an indexed cost base, and

d. the capital gain was made on an asset held for at least twelve months..

90. Section 115-10 and section 115-100 of the ITAA 1997 state that the discount percentage is 50% if the capital gain is made by an individual or a trust.

91. It should be noted that the integrity measure in section 115-45 of the ITAA 1997 may be relevant in determining the discount on capital gains. Specifically, subsection 115-45(1) provides that:

The purpose of this section is to deny you a discount capital gain on your share in a company or interest in a trust if you would not have had discount capital gains on the majority of CGT assets (by cost and value) underlying the share or interest if:

(a) you had owned them for the time the company or trust did; and

(b) CGT events had happened to them when the CGT event happened to your share or interest.

92. Broadly, subsections 115-45(2) to 115-45(7) provide that the following conditions must all be met for the discount to be denied:

a. the taxpayer had an associate inclusive beneficial interest of at least 10%

b. the cost bases of the assets acquired by the company or trust within the preceding 12 months is more than 50% of all the aggregate cost bases of the CGT assets, and

c. the net capital gain on the CGT assets acquired by the company or trust within the preceding 12 months is more than 50% of the net notional capital gain on the CGT assets.

Application to your circumstances

93. The Family Trust satisfies section 115-10 of the ITAA 1997 as it is a trust.

94. The capital gain made by the Family Trust on the disposal of units in the Unit Trust was made on 31 December 20xx, which is after 21 September 1999 and therefore, section 115-15 of the ITAA 1997 is satisfied.

95. The capital gain from the disposal of units in the Unit Trust does not have an indexed cost base, which satisfies section 115-20 of the ITAA 1997.

96. Finally, section 115-25 of the ITAA 1997 is also satisfied as the Family Trust has held the units in the Unit Trust for greater than 12 months, having acquired them prior to September 1985. Consequently, the Family Trust is eligible for a 50% discount on the capital gain on the disposal of the units pursuant to subsection 115-100(a) of the ITAA 1997.

97. However, it should be noted that section 115-45 of the ITAA 1997 may operate to deny discount capital gain of the Family Trust. However, as this provision was not requested to be ruled upon, the Commissioner has not considered the application of section 115-45 to the Family Trust's circumstances.

ATO view documents

Taxation Ruling TR 1999/16 Income tax: capital gains: goodwill of a business

Taxation Ruling TR 2004/18 Income tax: capital gains: application of CGT event K6 (about pre-CGT shares and pre-CGT trust interests) in section 104-230 of the Income Tax Assessment Act 1997

Taxation Ruling TR 2004/13 Income tax: the meaning of an asset for the purposes of Part 3-90 of the Income Tax Assessment Act 1997 in relation to Consolidation rules

Tax Determination 92/124 Income tax: Property development: in what circumstances is land treated as 'trading stock'?

Taxation Ruling TR 95/93 Income Tax: capital gains: treatment of compensation receipts

Other references (non ATO view)

Commissioner of Stamp Duties (NSW) v Yeend (1929) 43 CLR 235

Hepples v FC of T 91 ATC 4808

National Provincial Bank Limited v Ainsworth (1965) AC 1175