Edited version of your written advice

Authorisation Number: 1051374439181

Date of advice: 1 June 2018

Ruling

Subject: Income tax – consolidations and Division 7a

Question 1

Are each of Unit Trust X, Unit Trust Z and the Unit Trust Y (collectively referred to as the Group Trusts) subsidiary members of the Tax Group for the purposes of section 703-15 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

Question 2

Does section 109T of the Income Tax Assessment Act 1936 (ITAA 1936) apply to the loans from Company Q and/or Company R (together referred to as the Associated Companies) to Company X such that the loans are considered to be loans between the Associated Companies and Unit Trust X or Unit Trust Z?

Answer

Yes, between the Associated Companies and Unit Trust Z

Question 3

Is section 109D of the ITAA 1936 invoked when the Associated Companies are deemed to have made loans to Unit Trust X or Unit Trust Z as determined by section 109T of the ITAA 1936?

Answer

No

Question 4

In the event that the trustee of each relevant Group Trust accumulated the income of the trust in an income year, will liability to tax on that income be worked out as part of the head company's liability in accordance with subsection 701-1(2) of the ITAA 1997 (rather than subsection 99A(4) of the ITAA 1936)?

Answer

Yes

This ruling applies for the following periods:

Income year ended 30 June 201x

Income year ended 30 June 201x

The scheme commenced on:

During the income year ended 30 June 201x

Relevant facts and circumstances

Company X is the head company of an Australian income tax consolidated group (the Tax Group) having satisfied the requirements at item 1 of the table in subsection 703-15(2) of the ITAA 1997.

The Tax Group is comprised of Unit Trust X, Unit Trust Z and a number of other trusts (the Group Trusts).

Company Q and Company R (together referred to as the Associated Companies) are both associated companies of Company X but are not members of the Tax Group. The Associated Companies are private companies as defined in subsection 103A(1) of the ITAA 1936 and each had a distributable surplus in the year ended 30 June 201x, as worked out in accordance with subsection 109Y(2) of the ITAA 1936.

The Group Trusts are not corporate unit trusts or public trading trusts; the trustees of the Group Trusts are all Australian residents; the central management and control of the trust estates is in Australia; and the Group Trusts each carry on a business in Australia.

Each of the Group Trusts is an associate of a shareholder in the Associated Companies and none of the Group Trusts are a trust falling within item 7 of the table in subsection 703-20(2) of the ITAA 1997.

Company X has always had 100% beneficial ownership of all the membership interests in the Group Trusts, either directly or through one or more wholly-owned subsidiaries of Company X.

During the year ended 30 June 201x, the Associated Companies each provided loans to Company X who used the funds to provide a loan to Unit Trust X. In the same year, Unit Trust X in-turn provided a loan of the same amount to the Unit Trust Z.

On 1 July 201x, the Company Q loan to Company X was assigned by Company Q to Company R, so that, in effect, the total loan to Company X was lent from Company R only as the aggregate amount.

Unit Trust Z used these borrowed funds for the purchase of a property. No loan has subsequently been provided by Unit Trust Z to any entity outside of the Tax Group.

Assumption

The Group Trusts did not cease to be subsidiary members of the Tax Group during the period to which this ruling relates.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 701-1

Income Tax Assessment Act 1997 subsection 701-1(2)

Income Tax Assessment Act 1997 section 701-65

Income Tax Assessment Act 1997 subsection 703-10(1)

Income Tax Assessment Act 1997 section 703-15

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

Income Tax Assessment Act 1997 paragraph 703-15(2)(b)

Income Tax Assessment Act 1997 section 703-20

Income Tax Assessment Act 1997 section 703-25

Income Tax Assessment Act 1997 paragraph 703-30(1)(c)

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

Income Tax Assessment Act 1936 Division 6 of Part III

Income Tax Assessment Act 1936 subsection 95(2)

Income Tax Assessment Act 1936 section 97

Income Tax Assessment Act 1936 section 98

Income Tax Assessment Act 1936 section 99A

Income Tax Assessment Act 1936 subsection 99A(4)

Income Tax Assessment Act 1936 subsection 103A(1)

Income Tax Assessment Act 1936 Division 7A

Income Tax Assessment Act 1936 Division 7A Subdivision B

Income Tax Assessment Act 1936 section 109D

Income Tax Assessment Act 1936 subsection 109D(1)

Income Tax Assessment Act 1936 Division 7A Subdivision D

Income Tax Assessment Act 1936 section 109K

Income Tax Assessment Act 1936 Division 7A Subdivision E

Income Tax Assessment Act 1936 section 109T

Income Tax Assessment Act 1936 subsection 109T(1)

Income Tax Assessment Act 1936 paragraph 109T(1)(a)

Income Tax Assessment Act 1936 paragraph 109T(1)(b)

Income Tax Assessment Act 1936 paragraph 109T(1)(c)

Income Tax Assessment Act 1936 subparagraph 109T(1)(c)(i)

Income Tax Assessment Act 1936 subparagraph 109T(1)(c)(ii)

Income Tax Assessment Act 1936 paragraph 109T(2)(b)

Income Tax Assessment Act 1936 subsection 109T(3)

Income Tax Assessment Act 1936 subsection 109W(1)

Income Tax Assessment Act 1936 subsection 190Y(2)

Reasons for decision

Question 1

Summary

The Group Trusts are subsidiary members of the Tax Group pursuant to paragraph 703-15(2)(b) of the ITAA 1997.

Detailed reasoning

Subsection 703-10(1) of the ITAA 1997 provides that a consolidatable group consists of:

(a) a single head company; and

(b) all the subsidiary members of the group.

Paragraph 703-15(2)(b) of the ITAA 1997 provides that an entity is a subsidiary member of a consolidated group or consolidatable group if all the requirements in item 2 of the table in subsection 703-15(2) of the ITAA 1997 are met in relation to the entity.

The requirements, as they relate to each of the Group Trusts, are that:

(a) they must not be a trust covered by section 703-20 of the ITAA 1997;

(b) they must comply with the residency requirements in section 703-25 of the ITAA 1997; and

(c) they must be a wholly-owned subsidiary of Company X (being the head company of the Tax Group).

As each of the Group Trusts is a trust not covered by section 703-20 of the ITAA 1997, the first requirement is satisfied.

As:

● each of the trustees of the Group Trusts are residents of Australia;

● each of the Group Trusts carry on a business in Australia; and

● the central management and control of all the trust estates is in Australia,

the Group Trusts are all a resident trust estate for the purposes of Division 6 of Part III of the ITAA 1936 (pursuant to subsection 95(2) of the ITAA 1936), and a resident trust for CGT purposes (as defined in subsection 995-1(1) of the ITAA 1997), thereby satisfying the residency requirements as prescribed in section 703-25 of the ITAA 1997.

As Company X has always had 100% beneficial ownership of all the membership interests in each of the Group Trusts, either directly or through one or more of its wholly-owned subsidiaries, the Group Trusts are wholly-owned subsidiaries of Company X pursuant to section 703-30 of the ITAA 1997, thereby satisfying the third requirement.

Accordingly, each of the Group Trusts will satisfy each of the requirements in item 2 of the table in subsection 703-15(2) of the ITAA 1997 and will qualify as a subsidiary member of a consolidatable group with Company X as the head company of that consolidatable group.

Question 2

Summary

Section 109T of the ITAA 1936 applies to the loans from the Associated Companies to Company X such that the loans are considered to be loans between the Associated Companies and Unit Trust Z.

Detailed reasoning

Subdivision E of Division 7A of Part III of the ITAA 1936 allows a private company to be taken under Subdivision B to pay a dividend to a shareholder or an associate of a shareholder (the target entity) if an entity interposed between the private company and the target entity makes a payment or loan to the target entity under an arrangement involving the private company.

Subsection 109T(1) states:

This Division operates as if a private company makes a payment or loan to an entity (the target entity) as described in section 109V or 109W if:

(a) the private company makes a payment or loan to another entity (the first interposed entity) that is interposed between the private company and the target entity; and

(b) a reasonable person would conclude (having regard to all the circumstances) that the private company made the payment or loan solely or mainly as part of an arrangement involving a payment or loan to the target entity; and

(c) either:

i. the first interposed entity makes a payment or loan to the target entity; or

ii. another entity interposed between the private company and the target entity makes a payment or loan to the target entity.

If the conditions in subsection 109T(1) of the ITAA 1936 are satisfied then, subject to subsection 109T(3) of the ITAA 1936, Division 7A operates as if the private company made the payment or loan direct to the target entity.

Pursuant to subsections 109T(1) and 109W(1) of the ITAA 1936, the Associated Companies will be taken to have made a loan to Unit Trust Z when Unit Trust X made the loan to the Unit Trust Z for the following reasons:

● the Associated Companies (being private companies) have made loans to Company X (the first interposed entity), and Company X is interposed between the Associated Companies and Unit Trust Z (the target entity) (paragraph 109T(1)(a) of the ITAA 1936);

● a reasonable person would conclude (having regard to all the circumstances) that the Associated Companies made loans to Company X solely or mainly as part of an arrangement involving a loan to Unit Trust Z (paragraph 109T(1)(b) of the ITAA 1936);

● Unit Trust X (another entity interposed between the Associated Companies and Unit Trust Z) made the loan to Unit Trust Z (subparagraph 109T(1)(c)(ii) of the ITAA 1936); and

● subsection 109T(3) of the ITAA 1936 does not apply to deny the operation of section 109T of the ITAA 1936.

The fact that the Unit Trust X did not lend to the Unit Trust Z the same amount lent to Company X by the Associated Companies does not deny the operation of section 109T of the ITAA 1936 (paragraph 109T(2)(b) of the ITAA 1936).

Question 3

Summary

Section 109D of the ITAA 1936 does not apply when the Associated Companies made the loans to Unit Trust Z as determined by section 109T of the ITAA 1936.

Detailed reasoning

Subsection 109D(1) of the ITAA 1936 provides that a private company is taken to pay a dividend to a shareholder (or an associate of such a shareholder) at the end of a year of income if:

(a) the private company makes a loan to the entity during the year of income; and

(b) the loan is not fully repaid before the lodgment day for the year of income; and

(c) Subdivision D does not prevent the treatment of the loan as a dividend.

Subdivision D of Division 7A of the ITAA 1936 sets out circumstances for loans and payments that are not treated as dividends. One of the circumstances, pursuant to section 109K of the ITAA 1936, is that a private company is not taken to pay a dividend under section 109D where the private company makes a loan to another company.

As ruled by the Commissioner in paragraph 4 of Taxation Ruling TR 2004/11¹, the single entity rule (SER) prescribed in section 701-1 of the ITAA 1997 operates for the purposes of working out the amount of the head company and subsidiary member’s liability for income tax and the amount of a loss for a relevant period (the core purposes), and include all matters relevant and incidental to those calculations. The intended operation of the SER is to apply the income tax laws to a consolidated group as if it were a single entity.

A consequence of the SER is that while an entity is a subsidiary member of a consolidated group, actions and transactions of that member are treated as having been undertaken by the head company (paragraph 8 of TR 2004/11).

Another consequence of the SER is that the liabilities of the subsidiary member are treated to be liabilities of the head company, as it is the only entity recognised for income tax purposes (paragraph 2.20 of the Explanatory Memorandum to the New Business Tax System (Consolidation) Act (No.1) 2002).

As section 109D of the ITAA 1936 may deem a loan received from a private company as a dividend, it is a matter relevant to the calculation of the income tax liability of the recipient. Consequently, the SER will apply to the recipient.

It follows that the loans deemed by subsection 109T(1) and 109W(1) of the ITAA 1936 to be made from the Associated Companies to Unit Trust Z are taken to be received by Company X (as the head company) pursuant to the SER.

As Company X is a company (and the loans will not be taken to have been made to it in a trustee capacity), section 109K of the ITAA 1936 will apply such that section 109D of the ITAA 1936 does not apply to treat the Associated Companies as having paid a dividend.

It should be noted that if the money that was loaned ended up being paid or loaned to an entity outside the consolidated group, the SER will not apply (on the basis that the SER only applies for the core purposes). Whether or not Division 7A of the ITAA 1936 applies to treat an entity outside of the consolidated group as receiving an assessable dividend is irrelevant for the core purposes.

Question 4

Summary

In the event that the trustees of each Group Trust resolved to accumulate the income of the trust estate, liability to tax on that income would be worked out as part of the head company's liability in accordance with subsection 701-1(2) of the ITAA 1997. Subsection 99A(4) of the ITAA 1936 will not apply to assess the trustees of each Group Trust.

Detailed reasoning

Subsection 99A(4) of the ITAA 1936 provides:

Where there is no part of the net income of a resident trust estate:

(a) that is included in the assessable income of a beneficiary of the trust estate in pursuance of section 97;

(b) in respect of which the trustee of the trust estate is assessed and liable to pay tax in pursuance of section 98; or

(c) that represents income to which a beneficiary is presently entitled that is attributable to a period when the beneficiary was not a resident and is also attributable to sources out of Australia;

the trustee shall be assessed and is liable to pay tax on the net income of the trust estate at the rate declared by the Parliament for the purposes of this section.

The terms of the Group Trusts’ deeds enable the trustee to accumulate all or any part of the income arising during an income year. In such an instance no beneficiary would be presently entitled to any income of the trust.

However, as set out in explanation to the response to Question 3 of this ruling, if a trust is part of a consolidated tax group the income of the trust is deemed to be income of the head company for the purposes of calculating the head company's income tax liability and for the purposes of calculating the net income of the trust: section 701-1 of the ITAA 1997.

Accordingly, for those purposes, the general trust income-assessing rules under section 99A of the ITAA 1936 do not apply to assess a trustee on that income during the period of consolidation pursuant to section 701-65 of the ITAA 1997.