Edited version of your written advice

Authorisation Number: 1013005118153

NOTICE

This edited version has been found to be misleading or incorrect. It does not represent the ATO’s view of the relevant law.

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Date of advice: 2 May 2016

Ruling

Subject: Treatment of research and development tax offsets on entry into a consolidated group

Question 1

Is Holding Company, the head company of a consolidated group prevented from utilising the non-refundable carried forward research and development tax offsets of its wholly owned subsidiary, Company A, when Company A joins the consolidated group by virtue of the operation of subsection 65-40(1) of the ITAA 1997?

Answer

No

Question 2

In calculating the joined group’s allocable cost amount for Company A under section 705-60 of the ITAA 1997, are the non-refundable carried forward research and development tax offsets of Company A taken into account?

Answer

No

Question 3

Is the utilisation of the non-refundable carried forward research and development tax offsets of Company A by Holding Company, the head company of a consolidated group, limited by the application of Subdivision 707-C of the ITAA 1997?

Answer

No

This ruling applies for the following period(s)

1 July 201X to 30 June 2015

The scheme commences on

X May 201X

Relevant facts and circumstances

● Company A is the head company of an income tax consolidated group and is a resident company incorporated in Australia.

● Company A owns a business in Australia. This is the company’s only business since incorporation.

● Company A has a wholly owned Australian resident subsidiary, Subsidiary A.

● Subsidiary A does not conduct any business operations.

● Holding Company is a resident company incorporated in Australia. The Head Company is a private company for Australian income tax purposes.

● Holding Company’s sole activity is the holding of its investment in Company A following the acquisition of Company A (see below).

● Holding Company is wholly owned by Company C as trustee for the Trust A which is a unit trust.

● Company B as trustee for Trust B is the sole unitholder of the Trust A. A valid family trust election has been made for Trust B.

● Holding Company remained wholly owned by Company C and the beneficiaries of the Trust A have remained the same from the time Holding Company came into existence through to 30 June 2015.

The Holding Company’s acquisition of Company A

● All of the shares in the Company A were acquired by Holding Company from a third party on X May 201X, giving Holding Company X% of the voting power, rights to dividends and rights to capital distributions in the Company A at this time.

● The non-refundable carried forward research and development tax offsets of Company A were not factored into the price paid by the Head Company to acquire the Subsidiary.

● It is proposed that Holding Company will form an income tax consolidated group with Company A and Subsidiary A with effect from 1 July 201X. The required notifications will be lodged with the Head Company consolidated income tax return for the year ended 30 June 2015. The only income of the Holding Company consolidated group for the year ended 30 June 2015 would comprise of the income derived by Company A from its business.

● Company A and Subsidiary A were previously members of an income tax consolidated group (for which Company A was the Head Company). Company A’s income tax consolidated group ceased to exist on X May 201X when Company A and Subsidiary A were acquired by the Head Company.

Research and development (R&D) tax offsets

● Company A conducted R&D activities on its own behalf and was eligible under the R&D incentive regime to claim non-refundable R&D tax offsets for certain expenditure on R&D activities from 1 January 201X (prior to this income year the R&D tax concession was also claimed by Company A).

● Company A’s consolidated income tax return for the period 1 January 201X to 30 June 201X shows total non-refundable R&D tax offsets carried forward of $x, after offsetting $x of R&D tax offsets against the Subsidiary’s tax liability for the period 1 January 201X to 30 June 201X (stub return).

● Company A’s $x of carried forward R&D tax offsets as at 30 June 201X is made up of R&D tax offsets arising in the following periods:

● for the period 1 January 201X to 31 December 201X (in lieu of 30 June 201X): $x, and

● for the period 1 January 201X to 30 June 201X (stub return): $x.

● Company A had no carried forward tax losses as at 30 June 201X.

● Holding Company intends to register the R&D activities for the tax consolidated group with AusIndustry for the year ended 30 June 201X by the relevant due date.

Company loss tests

● Company A satisfied the continuity of ownership test (COT) from 1 January 201X until X May 201X, when it was acquired by the Head Company.

● Company A has continued to operate the same business from the time just before X May 201X until 1 July 201X when it joins Holding Company’s tax consolidated group and through to the end of 30 June 201X.

● Company A satisfied the same business test (SBT) from 1 January 201X until just after the date on which it joins Holding Company’s tax consolidated group on 1 July 201X.

● There have been no changes to the shareholdings of Holding Company and no changes to the ultimate persons who directly or indirectly hold all of the voting power, rights to dividends and rights to capital distributions in the Holding Company since its incorporation and throughout the period ending 30 June 201X.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 4-10

Income Tax Assessment Act 1997 section 36-10

Income Tax Assessment Act 1997 section 36-40

Income Tax Assessment Act 1997 subsection 63-10(1)

Income Tax Assessment Act 1997 Division 65

Income Tax Assessment Act 1997 section 65-40

Income Tax Assessment Act 1997 subsection 65-40(1)

Income Tax Assessment Act 1997 section 102-10

Income Tax Assessment Act 1997 section 165-10

Income Tax Assessment Act 1997 section 165-12

Income Tax Assessment Act 1997 subsection 165-12(1)

Income Tax Assessment Act 1997 subsection 165-12(6)

Income Tax Assessment Act 1997 section 165-13

Income Tax Assessment Act 1997 subsection 165-13(2)

Income Tax Assessment Act 1997 section 165-70

Income Tax Assessment Act 1997 section 165-114

Income Tax Assessment Act 1997 subsection 165-210(1)

Income Tax Assessment Act 1997 subsection 165-210(2)

Income Tax Assessment Act 1997 subsection 165-210(3)

Income Tax Assessment Act 1997 subsection 165-210(4)

Income Tax Assessment Act 1997 section 165-212E

Income Tax Assessment Act 1997 subsection 165-255(1)

Income Tax Assessment Act 1997 section 175-35

Income Tax Assessment Act 1997 section 701-1

Income Tax Assessment Act 1997 subsection 701-1(4)

Income Tax Assessment Act 1997 section 701-5

Income Tax Assessment Act 1997 section 701-30

Income Tax Assessment Act 1997 subsection 701-30(7)

Income Tax Assessment Act 1997 subsection 701-30(8)

Income Tax Assessment Act 1997 section 705-60

Income Tax Assessment Act 1997 section 705-65

Income Tax Assessment Act 1997 section 705-70

Income Tax Assessment Act 1997 section 705-90

Income Tax Assessment Act 1997 section 705-93

Income Tax Assessment Act 1997 section 705-95

Income Tax Assessment Act 1997 section 705-100

Income Tax Assessment Act 1997 section 705-110

Income Tax Assessment Act 1997 section 705-115

Income Tax Assessment Act 1997 subsection 707-105(1)

Income Tax Assessment Act 1997 subsection 707-120 (2)

Income Tax Assessment Act 1997 section 707-125

Income Tax Assessment Act 1997 section 707-140

Income Tax Assessment Act 1997 section 707-205

Income Tax Assessment Act 1997 section 707-210

Income Tax Assessment Act 1997 subsection 707-305(1)

Income Tax Assessment Act 1997 section 707-310

Income Tax Assessment Act 1997 section 960-135

Income Tax Assessment Act 1997 subsection 995-1(1)

Income Tax (Transitional Provisions) Act 1997 section 36-105

Income Tax (Transitional Provisions) Act 1997 section 36-110

International Tax Agreements Act 1953 section 24

Anti-avoidance rules

Part IVA of the Income Tax Assessment Act 1936 is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable.

We have not fully considered the application of Part IVA to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

If you want us to rule on whether Part IVA applies we will first need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA, go to our website www.ato.gov.au and enter ‘part iva general’ in the search box on the top right of the page, then select: ‘Part IVA: the general anti-avoidance rule for income tax’.

Reasons for decision

Question 1

Summary

If Holding Company elects to consolidate with effect from 1 July 201X, subsection 65-40(1) of the ITAA 1997 will not prevent Holding Company from utilising the non-refundable carried forward R&D tax offsets of Company A for the income year 1 July 201X to 30 June 201X.

Detailed reasoning

Non-refundable R&D tax offsets are covered by item 35 of the table in subsection 63-10(1) of the ITAA 1997, which states in relation to any excess:

You may carry it forward to a later income year (under Division 65).

Division 65 of the ITAA 1997 sets out the conditions for carrying forward excess tax offsets to later income years and utilising them in those later years. Broadly, the same loss utilisation tests that prevent a company from utilising certain prior year losses (i.e. those found in Subdivision 165-A of the ITAA 1997) also prevent a company from applying R&D tax offsets that have been carried forward. This is specified in subsection 65-40(1) of the ITAA 1997.

In working out its *tax offset for the *current year, a company cannot apply a *tax offset it has carried forward if, assuming:

(a) the tax offset were a *tax loss of the company for the income year in which it became entitled to the tax offset; and

(b) section 165-20 (deducting part of a tax loss) were disregarded;

Subdivision 165-A would prevent the company from deducting it for the current year.

In the case of an entity with carried forward tax losses joining a consolidated group, Subdivision 707-A of the ITAA 1997 contains rules for the transfer of losses to the head company and Subdivisions 707-B and 707-C contain rules on the utilisation of losses transferred under Subdivision 707-A.

Subsection 65-40(1) of the ITAA 1997 assumes the carried forward R&D tax offset to be a tax loss that is notionally subject to the loss utilisation tests in Subdivision 165-A of the ITAA 1997 in order to work out whether a company is able to use it in the current year.

Under the former R&D concession that applied prior to 1 January 2012, the concession took the form of a prescribed deduction. If the R&D deduction, along with other allowable deductions, in a given year exceeded the eligible company’s assessable income, the excess would be a tax loss. If the eligible entity joined a consolidated group with this undeducted tax loss, the usual consolidation rules would apply including Subdivisions 707-A, 707-B and 707-C, and the adjustment for tax losses under the entry allocable cost amount calculation (sections 705-100 to 705-110). The current R&D incentive takes the form of a non-refundable tax offset applied against the tax liability of the taxpayer in a given year, with any excess tax offset carried forward for potential utilisation in one or more future years. The utilisation of carried forward R&D tax offsets is deliberately made subject to the tax loss integrity rules in Subdivision 165-A of the ITAA 1997 by assuming the R&D tax offsets are tax losses.

The deeming of the tax offset to be a tax loss under subsection 65-40(1) of the ITAA 1997 should extend to the consequences and incidents that inevitably flow from the deemed state of affairs where this furthers the purpose of the deeming provisions: Marshall (Inspector of Taxes) v Kerr [1993] STC 360 at 366, subsequently approved in the appeal decision in the House of Lords [1995] 1 AC 148 at 360; DCC Holdings (UK) Ltd v Revenue and Customs Commissioners [2011] 1 WLR 44 at [38]-[39].

In the circumstances of a consolidated group, the instruction in subsection 65-40(1) of the ITAA 1997 to assume the R&D tax offset is a tax loss in order to apply the loss integrity rules in Subdivision 165-A of the ITAA 1997 necessarily and inevitably requires consideration of how the structure of the ITAA 1997 is designed to deal with actual tax losses under Part 3-90 of the ITAA 1997 (the consolidation regime).

Therefore where an entity joins a consolidated group with a carried forward R&D tax offset, the assumption that it is a carried forward tax loss for the purposes of determining whether it can be used in the current year (which in turn depends on it satisfying the loss utilisation tests) is sufficient to bring the non-refundable R&D tax offset (the assumed tax loss) notionally within the scope of the consolidation loss transfer and utilisation rules in Subdivisions 707-A and 707-B of the ITAA 1997. These rules should be applied by analogy in order to make sense of the assumed tax loss condition in subsection 65-40(1) of the ITAA 1997 in a consolidation context.

Therefore it is necessary to consider the head company’s ability to utilise the carried forward R&D tax offset in two steps:

● step 1 – whether the joining entity can, notionally, transfer the carried forward R&D tax offset (assumed tax loss) to the head company under the loss transfer rules in Subdivision 707-A of the ITAA 1997, and

● step 2 – whether the head company can, notionally, utilise the carried forward R&D tax offset (assumed tax loss) to the extent it can be transferred under step 1 (Subdivision 707-B of the ITAA 1997).

Step 1 – Notional application of the loss transfer rules to the joining entity

Notionally applying the consolidation loss transfer rules to the carried forward R&D tax offset (assumed tax loss) in section 707-120 of the ITAA 1997 will have the following effect:

● the carried forward R&D tax offset (assumed tax loss) may only be transferred to the extent the joining entity would otherwise have been entitled to use it during the trial year had it not become a member of the consolidated group

● the trial year is the period ending just after the joining time and starting at the latest of:

● 12 months before the joining time

● the time the joining entity came into existence, or

● the time the joining entity ceased to be a subsidiary member of a consolidated group, if the joining entity had been a member of a consolidated group before the joining time but was not a member of a consolidated group just before the joining time

● when working out whether the joining entity carried on the same business throughout the trial year (or a period including the trial year) as it carried on at a particular time, assume that the entity carried on at and just after the joining time the same business that it carried on just before the joining time

● the joining entity is not prevented from transferring the carried forward R&D tax offset (assumed tax loss) to the head company by the fact that it was made for that income year.

If the year the joining entity becomes part of a consolidated group contains a non-membership period, the carried forward R&D tax offset (assumed tax loss) for the non-membership period will be taken to be the amount that relates to an income year for the purposes of transfer and utilisation of the assumed tax loss by the Head Company under subsections 701-30(7) and (8) of the ITAA 1997.

The extent to which the joining entity may notionally use its carried forward R&D tax offset (assumed tax loss) in the trial year is dependent upon it satisfying the loss utilisation tests with the following modifications:

● the ownership test period for the continuity of ownership test (COT) is from the start of the year in which the joining entity made the carried forward R&D tax offset (assumed tax loss) to just after the joining time (subsections 165-12(1) and 707-120(2) of the ITAA 1997).

● Alternatively if the COT is failed, for post-30 June 1999 tax losses sought to being transferred, the joining entity is required to satisfy the same business test (SBT) by comparing the business that is carried on

i. throughout the trial year

ii. throughout the income year in which the COT was failed, if that income year started before the trial year, and

iii. just before the end of the year the carried forward R&D tax offset (assumed tax loss) was made (section 707-125 of the ITAA 1997).

Under section 165-12 of the ITAA 1997, the COT requires that there must be natural persons who had:

● more than 50% of the voting power in the company at all times during the ownership test period

● rights to more than 50% of the company’s dividends at all times during the ownership test period, and

● rights to more than 50% of the company’s capital distributions at all times during the ownership test period.

When applying the COT, there is both a primary and alternative test for determining who has more than 50% of the voting power, rights to dividends and rights to capital distributions in the company.

Under subsection 165-12(6) of the ITAA 1997, the alternative test will apply where one or more companies beneficially owned shares or interests in shares in the company being tested (tested company) at any time during the ownership test period. This requires the tested company to trace ownership interests through companies, trusts and certain other entities to identify individuals and other entities who ultimately hold the relevant voting power and rights to dividends and capital distributions in the tested company.

If the company fails to meet the conditions of the COT or it is not practical to meet the conditions of the COT, it will be necessary to determine if the company satisfies the SBT.

Under subsection 165-210(1) of the ITAA 1997, a company satisfies the SBT if throughout the same business test period it carries on the same business as it carried on immediately before the COT failure.

Under subsections 165-210(2) and (3) of the ITAA 1997 a company will not satisfy the SBT if, at any time during the same business test period, it derives assessable income from:

(a) a business of a kind that it did not carry on before the test time; or

(b) a transaction of a kind that it had not entered into in the course of its business operations before the test time.

Under subsection 165-13(2) of the ITAA 1997, the SBT compares the business carried on by the company throughout the income year it seeks to utilise the carried forward tax loss with the business it carried on immediately before the time when the COT is failed (the test time). Where it is not practicable to show when the COT was failed, the test time is the start of the loss year or if the company came into being during the loss year, the end of that year.

If the joining entity’s carried forward tax loss is transferred to the head company of the consolidated group, the head company is treated under subsection 707-105(1) of the ITAA 1997, for income years ending after the transfer, as having made the carried forward tax loss.

To the extent the joining entity’s carried forward tax loss is transferred to the head company, section 707-140 of the ITAA 1997 has the effect that:

● the carried forward tax loss that is now taken to be the head company’s is taken to have been made by it for the income year in which the transfer occurs, and

● the joining entity is taken to have not made the carried forward tax loss for the income year it was actually made.

Step 2 – Notional application of the loss utilisation rules to the head company

The effects of the loss utilisation rules in Subdivision 707-B of the ITAA 1997 are as follows:

● the operation of the company loss tests in Division 165 is modified such that the loss year (the year the R&D tax offset arises) starts at the time of the transfer to the head company (section 707-205 of the ITAA 1997), and

● if the carried forward R&D tax offset (assumed tax loss) was transferred to the head company because the modified COT was satisfied, pre-joining time ownership changes will need to be taken into account before the carried forward R&D tax offset (assumed tax loss) may be used (section 707-210 of the ITAA 1997).

Where the loss was transferred because the SBT was satisfied, the ownership test period for the purposes of applying the COT by the head company starts from the transfer time (section 707-205 of the ITAA 1997) through to the end of the income year in which the carried forward R&D tax offset (assumed loss) is sought to be applied (subsection 165-12(1) of the ITAA 1997). If the loss was transferred because the COT was satisfied, the ownership test period will be from the time the joining entity actually made the loss.

For the purposes of applying the SBT, section 701-5 (the entry history rule) does not operate in relation to an entity becoming a subsidiary member of a consolidated group under section 165-212E of the ITAA 1997. The effect of section 165-212E of the ITAA 1997 is that the joining entity’s pre-joining time business, activities and transactions are ignored when determining whether the SBT has been satisfied by the head company.

Applying the facts to Company A and Holding Company

If Holding Company elects to form a consolidated group as at 1 July 201X, the following will apply.

Step 1: Notional application of the loss transfer rules to Company A

At the joining time of 1 July 201X, Company A had $x carried forward R&D tax offsets comprising of:

● $x which relates to the period 1 January 201X to 31 December 201X (201X income year), and

● $x which relates to the period 1 January 201X to 30 June 201X (201X income year).

In relation to the carried forward R&D tax offset (assumed tax loss) for 1 January 201X to 31 December 201X in lieu of 30 June 201X:

● the trial year is 1 July 201X to just after 1 July 201X

● the ownership test period starts on 1 January 201X and ends just after the joining time of 1 July 201X

● Company A failed the modified COT on X May 201X, at the time of acquisition of all its shares by Holding Company

● Company A satisfied the SBT from 1 January 201X until just after the date on which it joins Holding Company’s tax consolidated group on 1 July 201X. Therefore Company A satisfies the SBT at all test times:

i. throughout the trial year, 1 July 201X to just after 1 July 201X,

ii. during the income year in which the COT was failed, 1 January 201X to 30 June 201X (stub year), and

iii. just before the end of the income year in which the carried forward R&D tax offset (assumed tax loss) was made, 31 December 201X

● Company A may notionally transfer the carried forward R&D tax offset (assumed tax loss) from its year ended 31 December 201x, in lieu of 30 June 201X, to Holding Company

● Holding Company is taken to have made the carried forward R&D tax offset (assumed tax loss) of $x in its 30 June 201X income year, and

● Company A is taken to have not made the carried forward R&D tax offset (assumed tax loss) in its income year ended 31 December 201X in lieu of 30 June 201X.

In relation to the carried forward R&D tax offset (assumed tax loss) for 1 January 201x to 30 June 201X (stub period) in lieu of 30 June 201X:

● the assumed tax loss for Company A’s non-membership period of 1 January 201X to 30 June 201X is taken to be a tax loss for an income year for transfer testing purposes

● the trial year is 1 July 201X to 1 July 201X

● the ownership test period starts on 1 January 201x and ends just after the joining time of 1 July 201X

● the Subsidiary failed the modified COT on X May 201X, at the time of acquisition of all its shares by the Head Company

● Company satisfied the SBT from 1 July 201X until just after the date on which it joins Holding Company’s tax consolidated group on 1 July 201X. Therefore Company A satisfies the SBT at all test times, i.e.

i. throughout the trial year, 1 July 201X to just after 1 July 201X

ii. during the income year in which the COT was failed, 1 January 201X to 30 June 201X (stub period), and

iii. just before the end of the income year in which the carried forward non-refundable R&D tax offset (assumed tax loss) was made, 30 June 201X

● Company A may notionally transfer the carried forward R&D tax offset (assumed tax loss) from its year ended 30 June 201X (non-membership period) in lieu of 30 June 201X, to Holding Company

● Holding Company is taken to have made the carried forward non-refundable R&D tax offset (assumed tax loss) of $x in its 30 June 201X income year, and

● Company A is taken to have not made the carried forward R&D tax offset (assumed tax loss) in its non-membership period ending 30 June 201X in lieu of 30 June 201X.

Therefore, when Company A joins Holding Company’s income tax consolidated group on 1 July 201X, Company A’ carried forward R&D tax offsets of $x are notionally transferred to Holding Company through the notional application of the loss transfer rules in Subdivision 707-A of the ITAA 1997.

Step 2: Notional application of the loss utilisation rules to the Head Company

The carried forward R&D tax offsets (assumed tax losses) transferred to Holding Company are now taken to be made by Holding Company for the income year in which the transfer occurs, (i.e. the 30 June 201X income year).

Since the notional application of the loss transfer rules results in Holding Company being taken to have made the carried forward R&D tax offsets (assumed tax losses) in the 30 June 201X income year, section 65-40(1) of the ITAA 1997 will not prevent Holding Company from utilising the carried forward R&D tax offsets notionally transferred to it by Company A on 1 July 201X. Changes in the ownership of Company A, the real maker of the R&D tax offsets (assumed tax losses), and the state of its business, have been appropriately taken into account through the notional application of the loss transfer tests.

In any event, there have been no changes to the shareholdings of Holding Company and no changes to the persons who directly or indirectly hold the voting power, right to dividends and rights to capital distributions during the 30 June 201X income year (note that the current year loss rules are not part of the condition imposed under subsection 65-40(1) of the ITAA 1997).

Therefore, Holding Company will be entitled to utilise the carried forward R&D tax offset for the 201X income year to the extent it has a tax liability to which it can apply the offset.

To the extent Holding Company has not fully utilised the tax offset for the 30 June 201X income year resulting in a carried forward R&D tax offset amount, the ability of Holding Company to utilise any of the carried forward R&D tax offset against its income tax liability for future income years is subject to the following conditions being satisfied:

● Holding Company satisfies the COT during the relevant ownership test period (which commences no earlier than 1 July 201X) in relation to the income year in which the carried forward R&D tax offset is sought to be utilised, or

● If the COT is failed, Holding Company satisfies the SBT (i.e. Holding Company carries on the same business in the income year in which the company seeks to utilise the carried forward R&D tax offset), and

● at the latest time that it is practicable to show when Holding Company failed the COT after 1 July 201X, or

● where it is not practicable to show when the COT was failed, the start of the year the R&D tax offset is taken to be made by Holding Company i.e. on 1 July 201X.

Question 2

Summary

If Holding Company elects to form a consolidated group with effect from 1 July 201X, the non-refundable carried forward R&D tax offsets are not taken into account in calculating the joined group’s allocable cost amount for Company A under section 705-60 of the ITAA 1997.

Detailed reasoning

When an entity (joining entity) joins a consolidated group, the tax cost of each of the joining entity’s assets is set at the asset’s tax cost setting amount. The tax cost setting amount is the amount worked out in accordance with Division 705 of the ITAA 1997. Calculating the tax cost setting amount involves firstly working out the allocable cost amount (ACA) for the joining entity in accordance with section 705-60 of the ITAA 1997.

When acquiring the shares in Company A, Holding Company did not pay an amount for the carried forward R&D tax offset. In light of this, the carried forward R&D tax offset is not reflected in the entry ACA calculation at step 1 (cost of membership interests).

The carried forward R&D tax offset is only assumed to be a tax loss for the purposes of determining whether it can be used by Holding Company, it does not represent an actual tax loss of Company A. In light of this, no amount is included in the entry ACA calculation at either of step 5 (owned tax losses) or step 6 (acquired tax losses).

No other step of the entry ACA calculation incorporate an amount for the carried forward R&D tax offset.

Conclusion

The non-refundable carried forward R&D tax offsets carried forward by Company A at the joining time will not form part of the ACA calculation.

Question 3

Summary

Subdivision 707-C of the ITAA 1997 does not limit the utilisation of the carried forward R&D tax offsets by Holding Company as that Subdivision does not apply to such offsets.

Detailed reasoning

Where an entity transfers prior year losses to the head company of a consolidated group (transferred losses), the rate at which those losses can be utilised by the consolidated group in each income year is limited by an available fraction. The method by which the available fraction is determined and applied is governed by Subdivision 707-C of the ITAA 1997.

Subsection 707-305(1) of the ITAA 1997 in Subdivision 707-C provides that:

The main object of this Subdivision is to limit, in a way that gives effect to the principles in subsections (2) and (3), the amount of losses transferred under Subdivision 707-A that can be *utilised for an income year by the transferee.

Therefore, the available fraction rule will apply to losses that are transferred under Subdivision 707-A of the ITAA 1997.

Section 707-310 of the ITAA 1997 sets out how much of the transferred losses can be utilised. It does this by applying the available fraction calculated for the transferor’s bundle of losses to the income or capital gains of the head company that remains after it has used up its other losses or deductions for the year.

The carried forward R&D tax offset (assumed tax loss) would be applied to reduce Holding Company’s income tax liability and not its income or capital gains. Consequently, the available fraction would not limit, or cap, the extent to which the R&D tax offset (assumed tax loss) could be claimed by Holding Company.

Furthermore, the carried forward R&D tax offset is an assumed tax loss for the purposes of subsection 65-40(1) of the ITAA 1997 which imposes the condition that in order to utilise the offset, the loss utilisation tests (i.e. COT or SBT) must not be failed – where the COT or SBT has been satisfied, subsection 65-40(1) of the ITAA 1997 does not extend to limiting the utilisation of the R&D tax offset, either actually or notionally, by the available loss fraction.