Edited version of your written advice

Authorisation Number: 1051387325390

Date of advice: 30 July 2018

Ruling

Subject: Forestry project

Question 1

Will the amount received by Trust C under the agreement with Company A assessable income under either Section 6-5 or 102-5 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

Question 2

Does Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) apply to the scheme so as to assess the Trustee of Trust C on the amount paid under the agreement with Company A Novation?

Answer

No

This ruling applies for the following period:

The income year ending 30 June 20xx

The scheme commences on:

The income year ending 30 June 20xx

Relevant facts and circumstances

1. The Commissioner makes this ruling based on the precise scheme identified in this Ruling. 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.

2. This ruling is made having regard to the following documents provided by you, identified by their subject matter and date and, where applicable, the document name given to the electronic copy of the document that was provided.

Documents received:

● Application for a Private Ruling for the Forestry Project

● Forestry Project Documents and supporting material

● An outline of the full scheme was not provided

● Not all requested information was provided

The Scheme

3. Company A as the responsible entity (Manager) of the Forestry Project (Project) offers investors the opportunity to participate in a forestry managed investment scheme for the stated purposes of establishing and tending trees for felling in Australia. The term of the Project is 2X years but can be extended by up to five years to a total term of up to 3X years.

4. Company B is the head company of the tax consolidated group of which Company A is a member. Company B has a substituted balance date as its ultimate holding company is a foreign company.

5. The Project is an unregistered managed investment scheme under the Corporations Act 2001 and as such, the investors in the schemes (Growers) are wholesale investors. The offer to participate in the Project by entering the Project agreements for a minimum of one Interest which consists of rights over a 0.5 hectare forestry lot, a right to require the Manager to buy back the Interest should they opt to sell, a unit in a trust (Trust A) established to fund statutory costs and insurance and a unit in a trust that owns the Project land (Trust B).

6. The Total Application Price for one Interest (0.5 hectares) is for establishment services, the prepayment of future costs, a unit in Trust A and in Trust B and the cost of acquiring the right to sell the Interest back to Company A.

7. Establishment Services to be provided by the Manager to a Grower in respect of the Interest relevantly includes the following:

a. Site preparation;

b. Provision of cuttings or seedlings;

c. Application of fertilizer;

d. Replanting of failed areas;

e. Managing and maintaining the Plantation;

f. Pest, weed and animal control;

g. Maintenance of roads firebreaks gates related infrastructure and fences;

h. Arrange for harvesting at first and second thinning and final harvest;

i. Harvest preparation;

j. Paying the harvest road construction and maintenance costs;

k. Assistance to Grower to secure market for Plantation produce;

l. Paying all pruning costs; and

m. Rehabilitation of the Plantation Land after final harvest.

8. The offer includes the option for a Grower to receive a one year interest free loan from the Manager (Manager Loan) to fund all or some of the Total Application Price, secured by the Growers present and future right, title and interest in and to, and all entitlements and benefits arising from the Project Documents.

9. The estimated direct forestry expenditure (DFE) over the life of the Project is provided with the private ruling application to demonstrate that it is reasonable to expect on that 30 June 20xx that the amount of DFE under the Project is no less than 70% of the amount of the payments (establishment services fee excluding GST) per Interest in the Project.

10. Investment in the Project comprises the following steps:

11. Step 1: Growers complete an application form by 30 June 20xx, indicating their wish to acquire one or more Interests in the Project and for a Manager Loan for 100% of the Total Application Price. By signing the application form each Grower authorises the Manager and each of its officers and senior managers to act on their behalf under Power of Attorney to enter into the Project documents and instruments.

12. Step 2: Upon acceptance of the application, the Manager does the following:

i. The Manager prepares an agreement (Lot Agreement) between the Manager and the Grower granting the Grower a right over a forestry lot (Lot);

ii. The Manager executes an agreement (Forestry Agreement No.1) between the Grower and Manager, authorising the Manager to act on the behalf of the Grower to carry out the Grower’s obligations to undertake the forestry establishment services and ongoing services (Forestry Services). Under Forestry Agreement No.1 the Grower understands that the Manager will appoint an independent contractor to provide the forestry establishment services and ongoing services. The Manager agrees to pay to the Grower an amount to pay for the costs of the future services associated with getting the timber to market. In order to meet this future obligation the Manager will pay an amount to a trust (Trust C);

iii. The Manager executes an agreement that grants the Grower an option to require the Manager to buy back their Interest(s) in a period four years after the commencement of the Project and ending seven years after the commencement of the Project;

iv. The Manager executes the deed to establish Trust B which will own the land for the Project. Units are taken to be issued to a Grower when the application money is received;

v. The Manager executes the Manager Loan Deed, between the Grower and the Manager which provides for the borrowing of 100% of the Total Application Price for 12 months on an interest free basis;

vi. The Manager executes the agreement (Forestry Agreement No.2) with Company B whereby the Manager appoints Company B to provide the Forestry Services to the Manager and Company B accepts the appointment and identifies an intention to sub-contract the Forestry Services to an independent forestry contractor.

13. Step 3: Company B enters into an agreement (Forestry Agreement No.3) to sub-contract the Forestry Services to an independent forestry contractor (Company D). The director and controlling mind of Company D is also a director of Company B, and is employed by Company B as the Head Forester.

14. Step 4: An employee of Company B as the Settlor of Trust C executes the trust deed.

15. According to the Recitals of Trust C’s trust deed, Trust C is created for the benefit of two state government authorities which are tax exempt charities. Company A is the appointer of Trust C and has the power to remove or appoint a trustee, if it is in the best interests of a Grower in the Project.

16. The Trustee of Trust C (Company C) is to exclude as income of the trust, and treat as capital, any money or property added to the trust fund whether it be treated as assessable income or not under any provision of any tax law, whether or not that income or property is ordinarily regarded as income.

17. Step 5: An employee of Company B as the Settlor and Company A as trustee executes the Trust A to hold funds on trust for the purposes of paying council rates over the term of the Project and the cost of insurance to cover the cost of replanting for the first four years of the Project.

18. Step 6: After 30 June 20xx a Grower may obtain a GST refund.

19. Step 7: Within five months of the project commencing, the Manager and Company C as trustee of Trust C executes an agreement and the Manager pays not less than $xx,xxx per Lot to Trust C to pay for the costs of the future services associated with getting the timber to market and Trust C assumes the obligation to pay this amount to the Growers in the future.

20. Step 8: After receipt of the payment from the Manager (Future Cost Payment), and repayment of the one year Manager Loan by a Grower, Trust C may loan an amount equal to the Future Cost Payment per Lot to each Grower under a loan agreement (Trust C Loan Agreement) secured by the Borrower’s rights and interests in the Project (Security Property).

21. A Grower in the Project on repayment of the one year Manager loan is immediately able to borrow an amount of the repaid Manager loan from Trust C. The loan amount may be the Grower’s proportion of the Future Costs paid per lot by the Manager to Trust C).

22. The initial term of the Trust C loan is seven years, during which no repayments are required, and interest is capitalised and the loan amount increased accordingly. The term of the loan can be extended for a further seven years or until the 2X^th anniversary of the date of the Trust C Loan Agreement.

23. In accordance with the Trust C Loan Agreement, the events of default are triggered:

1) if the Lender (Trust C) makes a demand for payment of an amount due and payable and the Borrower does not pay the amount within 20 days of the demand; or

2) if the Borrower (Grower) is in material default under the terms of any of the Transaction Documents as defined; or

3) on any event of insolvency in relation to the Borrower.

24. In the event of a default, the Lender is provided with the option to have the outstanding balance of the loan amount become immediately due and payable. The Trust C Loan Agreement however, does not stipulate that the Security Property can be dealt with in any way on the happening of an Event of Default.

25. At the time of entering the Trust C Loan Agreement, the Grower enters into a second agreement (Trust C Loan Agreement Novation) granting the Lender a right to novate its obligation to pay the Future Cost Amount per Lot to the Grower, if the Borrower breaches their repayment obligations or at any time after seven years (being after the period the Grower can require the Manager to buy back their Interest(s)). The Lender assigns the loan to the Borrower and the Borrower will assume the obligation to pay the Future Costs to the Grower, that is, to himself.

26. If the Lender does not cause a novation to occur the Borrower has the right to require that the Lender novate its obligations to pay the Future Costs to the Borrower.

27. A Grower who:

a. borrows 100% of the Total Application Price under the one year Manager Loan;

b. repays this loan and borrows an amount equal to the Future Cost Amount from Trust C;

c. obtains a refund of the GST paid as part of the Total Application Price; and

d. obtains a tax saving by claiming an upfront deduction for the Establishment Services Fee

potentially has a positive net cashflow within the first year of the Project.

28. Step 9: The Manager may pay a Referral Fee (per Interest) to a distributor who submitted an Application Form on behalf of an investor that was accepted by the Manager. A referral fee of up to 15% may be offered as payment to financial planners, accountants, or other entities following a ‘participant’s’ investment in the scheme. Each distributor decides independently whether they rebate to their client all or any of the referral fee payment. The Manager advised that no referral fees were paid in respect of the two Growers who invested in the Project.

29. Step 10: The Lot Agreement will be executed for each Grower, granting them their Timber Rights on land owned by the Manager. The term of the Lot Agreement is 31 years. The Manager will fund all costs associated with the acquisition of the land, and that Council rates and other applicable statutory charges will be funded by the Growers from Trust A.

30. Step 11: The Manager transfers land to Company A (to which the Lots for the Project relate) as Trustee of Trust B for the Land Trust. The acquisition of the land is funded by the cost paid by the Grower for a unit in Trust B, as part of the Total Application Price and by way of a loan between Company A as Trustee of Trust B and Company A as the Manager. By no later than 31 December 20xx, the Manager is to plant all of the trees and expects to do this in the winter of that year.

31. Step 12: Four years after the commencement of the Project and within seven years after the commencement of the Project, the Grower is entitled to sell their Interest(s) in the Project (as described above in connection with Step 2).

32. Step 13: As stated in relation to Step 8 above, Trust C, the Lender, has the right to novate its obligations to pay the Future Costs to the Grower, the Borrower. And if the Lender does not cause a novation to occur, the Borrower has the right to require the Lender to novate its obligations to pay the Future Costs to the Borrower.

33. Step 14: According to the expected future proceeds for the Project and without taking into account the effect of the amount borrowed under the Trust C Loan Agreement, but for a tax saving upfront, a Grower who stays in the Project expects to make a loss on their investment.

34. Step 15: After completion of the Final Harvest, Company A as the Trustee of Trust B may sell or lease the land at market value and apply the proceeds in repayment of any debt owed to the Manager, or its nominees, with the balance of the proceeds being distributed to unit holders pro rata. The Manager expects that an amount per Lot will be distributed after legal costs, stamp duty and rehabilitation costs have been accounted for.

35. An explanatory document provided to the Growers by the Manager advised that the Manager’s payment of Future Costs to Trust C would better manage the Grower’s credit risk but there is no guarantee that Trust C will be able to cover the Future Costs at a later date.

36. The proper construction of certain of the documents (in particular, the Trust C Loan Agreement and Trust C Loan Agreement Novation) is unclear. Some provisions appear to be contradictory or inconsistent. At certain points the reasons allude to parts of agreements that have uncertain constructions. However, in the opinion of the Commissioner, the correctness of the ruling does not depend on which construction is correct where more than one is open, nor does the Commissioner attempt to rule in this ruling which construction, where more than one is open, is correct.

37. This ruling does not consider the taxation implications (including any potential application of Part IVA of the ITAA 1936) of Trust A or Trust B including in relation to:

● the acquisition of the land for the Project by the Manager;

● the transfer of land for the Project to Trust B;

● the issue or sale of units in the Trust B;

● the loan between the Manager and the Trust B; or

● the sale or ongoing use of the land and Trust B on completion of the Project.

Relevant legislative provisions

Sections 6-5 and 102-5 of the Income Tax Assessment Act 1997

Part IVA of the Income Tax Assessment Act 1936

Reasons for decision

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

Summary

38. The payment received by Trust C under a Novation Agreement is assessable income under section 6-5 of the ITAA 1997. Alternatively, it is assessable income under section 102-5.

Detailed reasoning

Question 1

Is the amount received under the Novation Agreement assessable income under either section 6-5 or section 102-5 of the ITAA 1997?

Relevant Legislation- Question 1 - a. Section 6-5 of the ITAA 1997

39. Ordinary income is defined by subsection 6-5(1) of the ITAA 1997 as income according to ordinary concepts.

40. Income according to ordinary concepts is not further defined in either the ITAA 1936 or ITAA 1997; consequently, it is necessary to examine the courts’ approach for guidance.

41. Courts have not adopted a strict or definitive definition of income and have often simply asserted that the term should be interpreted as to its ordinary meaning. As Jordan CJ stated in Scott v. Commissioner of Taxation (1935) 35 SR (NSW) 215 at 219:

The word income is not a term of art, and what forms of receipts are comprehended within it, and what principles are to be applied to ascertain how much of those receipts ought to be treated as income, must be determined in accordance with the ordinary concepts and usages of mankind, except in so far as the statute states or indicates an intention that receipts which are not income in ordinary parlance are to be treated as income, or that special rules are to be applied for arriving at the taxable amount of such receipts.

42. In determining whether a payment has the character of income or capital, regard must be had to the character of the receipt in the hands of the recipient.

43. In making that characterisation, regard is to be had to contemporaneous documents which are claimed to shed light on the relationships in the course of which the payments were made, and the evidence of the makers and recipients of the payments as to the contractual, domestic or other relationship pursuant to which they were made.

44. If it is established that a payment was received in a particular year of income, the onus is on the taxpayer to establish, on the balance of probabilities, circumstances which deprive that receipt of the character of income, for example, because it was a repayment of a loan or other capital advance or by way of gift.

45. While the courts have not applied a strict definition of income for each receipt, they have traditionally identified a number of characteristics that provide the basis of determining whether a receipt is income. The main characteristics that have been identified include the receipt being:

(a) received periodically and regularly,

(b) relied upon or expected,

(c) earned, or

(d) for the replacement of income.

46. Although not essential, income receipts usually have an element of periodicity or regularity. Consequently, they are often amounts which are also relied upon or expected.

47. The ordinary income received by a person usually bears a direct relationship to some form of input or investment made by that person. Earned ordinary income has generally been held to include three categories, namely, income from:

(a) personal services (for example, salary and wages)

(b) property or investment returns (for example, dividends, interest); and

(c) carrying on a business (proceeds from providing goods or services).

48. The question whether an amount is income depends on a consideration of the whole of the circumstances. The question is therefore one that is ultimately determined as a question of fact

49. Furthermore, TR 92/3, which sets out the Commissioner’s views on whether profits on isolated transactions are income; states at paragraph 16 that if a taxpayer not carrying on a business makes a profit, that profit is income if the intention or purpose of the taxpayer in entering the profit-making transaction or operation was to make a profit or gain and the profit or gain was made in carrying out a business operation or commercial transaction.

50. The assessability of ordinary income will depend on when it has been derived. The definition of ‘derive’ in subsection 995-1(1) of ITAA 1997 provides that that term ‘has a meaning affected by subsection 6-5(4)’ of the ITAA 1997. Accordingly, ‘derive’ has its ordinary meaning, but it may be extended by the constructive receipt rule in subsection 6-5(4) of ITAA 1997. Essentially, income is derived when it ‘comes in’ or ‘comes home’, in whatever sense is most appropriate in the particular circumstances.

Application of the law to your circumstances- Question 1 - a. Section 6-5 ITAA 1997

51. Within five months of the project commencing, you, in your capacity as Trustee of Trust C, will enter into a Novation Agreement with Company A.

52. The stated objective of the Novation Agreement is to novate Company A’s obligation to pay the Future Costs to you, so that Company A will no longer be obligated as Manager under the Forestry Agreement No.1 to meet the Future Costs.

53. The Forestry Agreement No.1 sets out the obligation of the Manager of the forestry project, which includes paying for the Future Costs in respect of the thinnings and final harvest of the plantation under the forestry scheme.

54. Although the Manager may engage other contractor(s) to provide the future services and pay for the costs of the services, you have legal obligations under the terms of the Novation Agreement to pay the Future Costs in respect to any thinning and the final harvest.

55. Furthermore, you will receive consideration, referred to as the ‘Future Cost Payment’, for entering into the Novation Agreement for the Project.

56. The Future Cost Payment you will receive forms part of the agreement you enter into with Company A, in exchange for your assumption of the obligation to pay the Future Costs as set out in the Forestry Agreement No.1. Hence, the Future Cost Payment you receive is expected by you. In the Commissioner’s view you receive the Future Cost Payment as ordinary business income.

57. The fact that you will receive a single lump sum payment in the form of the Future Cost Payment does not negate the fact that the nature of this payment is business income. In the High Court case of FCT v Myer Emporium Ltd (1987) 163 CLR 199 (‘Myer Emporium’), where the High Court held that a lump sum payment received by Myer Emporium Ltd (for it selling a right to future interest income), was assessable income.

58. The Commissioner also considers that the fact, as stated by you, that you are specifically created to sign the Novation Agreement and receive the Future Cost Payment for profit, is another factor supporting the conclusion that you are operating a business.

59. The above view is supported by the decision of the Full Federal Court in GP International Pipecoaters Pty Ltd v Commissioner of Taxation (1998) 19 FCR 516 (GP). In GP, the taxpayer company was brought into existence solely for the purpose of entering into a contract for the installation of a pipeline. The taxpayer argued that amounts paid to it for establishing a plant should be capital in nature. This was rejected by the Federal Court, which ruled that as the company was brought into existence solely to execute and receive payment under the contract - all monies received under the contract comprised business income.

60. The above Federal Court judgment in GP was later upheld by the High Court (G P International Pipecoaters Pty Ltd v FCT ([1990] 21 ATR 1) which stated at ATR 8:

“The establishment costs were not received under a severable part of the contract relating to the construction of the plant. By constructing the plant and coating the pipe the taxpayer performed the obligations in consideration for which it was entitled to be paid the establishment costs and other moneys payable under the contract. It earned the money by doing the work it had contracted to do. The establishment costs were not received in exchange for an item of capital or a right of a capital nature.”

61. The Future Cost Payment therefore exhibits characteristics of income, namely the amount that is to be relied upon, expected, and earned by Trust C. Further, as was the case in GP, Trust C was stated in an explanatory document as established to enter the Novation Agreement and receive the Future Cost Payment, in return for taking on the obligation to pay the Future Costs in relation to the Project. Therefore, the Future Cost Payment you will receive as Trustee is income you have earned in conducting your activity.

62. If Trust C is not carrying on a business, the Commissioner alternatively considers that Trust C enters into the Novation Agreement and receives the Future Cost Payment with the intention of engaging in an isolated profit making undertaking or scheme, in accordance with the principles stated in TR 92/3 (whether profits on isolated transactions are income).

63. Paragraph 16 of TR 92/3 states:

“If a taxpayer not carrying on a business makes a profit, that profit is income if:

a) The intention or purpose of the taxpayer in entering into the profit-making transaction or operation was to make a profit or gain; and

b) the transaction or operation was entered into, and the profit was made, in carrying out a business operation or commercial transaction”

64. In TR 92/3 at paragraphs 7 and 8 respectively it also states that:

“(1) The relevant intention or purpose of the taxpayer (of making a profit or gain) is not the subjective intention or purpose of the taxpayer. Rather, it is the taxpayer’s intention or purpose discerned from an objective consideration of the facts and circumstances of the case; and

(2) It is not necessary that the intention or purpose of profit-making be the sole or dominant intention or purpose for entering into the transaction. It is sufficient if profit-making is a significant purpose.”

To the extent that, as you have asserted, you are created to enter into the Novation Agreement and obtain the Future Cost Payment, it is the Commissioner’s view that Trust C clearly has the intention to enter into an isolated scheme to make a profit or gain. This is supported by the scheme facts coming within many of the indicia indicating a profit making undertaking or scheme that are set out in TR 92/3.

65. The one-off nature of the receipt of the Future Cost Payment does not preclude it from being properly characterised as income. This view was supported by the High Court in FC of T v The Myer Emporium Ltd where Mason J stated at CLR 209-210:

“Generally speaking, however, it may be said that if the circumstances are such as to give rise to the inference that the taxpayer's intention or purpose in entering into the transaction was to make a profit or gain, the profit or gain will be income, notwithstanding that the transaction was extraordinary judged by reference to the ordinary course of the taxpayer's business. Nor does the fact that a profit or gain is made as the result of an isolated venture or a "one-off" transaction preclude it from being properly characterized as income (Whitfords Beach 150 CLR at 366-367, 376; 82 ATC at 4036-4037, 4042; 12 ATR at 695-696, 705). The authorities establish that a profit or gain so made will constitute income if the property generating the profit or gain was acquired in a business operation or commercial transaction for the purpose of profit-making by the means giving rise to the profit.”

66. Based on the above, the Commissioner is of the view that the Future Cost Payment comprises ordinary income of Trust C and is assessable under section 6-5 of the ITAA 1997.

Relevant Legislation- Question 1 - Part b. Section 102-5 of the ITAA 1997

67. Part 3-1 of ITAA 1997 sets out the capital gains and capital losses provisions, commonly referred to as capital gains tax (CGT) regime. If there is a net capital gain for the income year, this will affect the income tax liability as any net capital gain should be included in assessable income.

68. Section 102-5 of the ITAA 1997 sets out how to work out the net capital gain that you need to include in your assessable income.

69. A capital gain or a capital loss will arise only when a CGT event occurs. Division 104 of the ITAA 1997 sets out the CGT events for which a capital gain or loss can be made.

70. In particular, CGT event D1 occurs when a contractual right or other legal or equitable right is created in another entity. The time of the event happens when the contract is entered into or where the right is created.

71. Where capital proceeds from creating the right are more than the incidental costs relating to this event a capital gain will result. However, where the incidental costs are more than the capital proceeds, this will result in a capital loss.

72. On the other hand, CGT event D1 will not occur under the following circumstances:

(a) the right is created by borrowing money or obtaining credit from another entity; or

(b) the right requires something to be done that results in another CGT event happening to the same entity; or

(c) a company issues or allots equity interests or non-equity shares in the company; or

(d) the trustee of a unit trust issues units in the trust; or

(e) a company grants an option to acquire equity interests, non-equity shares or debentures in the company; or

(f) the trustee of a unit trust grants an option to acquire units or debentures in the trust; or

(g) an entity creates the right by creating in another entity a right to receive an exploration benefit under a farm-in farm-out arrangement.

73. Where another provision of the Act applies to include an amount of the capital gain as assessable income, section 118-20 will apply as an anti-overlapping provision to reduce the capital gain.

Application of the law to your circumstances- Question 1 Part b. Section 102-5 of the ITAA 1997

74. In order to consider whether section 102-5 of the ITAA 1997 applies, it is first necessary to consider whether a capital gain tax event has occurred as a consequence of the Novation Agreement.

75. CGT event D1 happens when an entity creates a contractual right or other legal or equitable right in another entity.

76. The Novation Agreement represents the creation of contractual rights between you, Company A and the Growers, whereby you agree to pay for the Future Costs for which Company A was formerly liable. Under the Forestry Agreement No.1, Company A in turn, agrees to pay a Future Cost Payment to Trust C as consideration for its acceptance of the obligation to pay for the future services. As parties to the agreement, Company A and the Growers will be able to enforce their rights where the services are not paid for by you as the Trustee of Trust C. Therefore, CGT event D1 will apply to the Novation Agreement you have entered into.

77. The timing of CGT event D1 is when the contract is entered into or where the right is created. In this instance it is the date on which the Novation Agreement is entered into between Company A, the Growers and you as Trustee for Trust C, which is within five months of the project commencing.

78. The capital proceed is represented by the Future Cost Payment that will be received by Trust C from Company A. The cost base under CGT event D1 will include incidental costs incurred by you as Trustee for Trust C in relation to the Novation Agreement e.g. legal fees.

79. Accordingly, Trust C will have a capital gain under CGT event D1 being the total Future Cost Payment received from Company A for entering into the Novation Agreement.

80. Subject to section 118-20 ITAA 1997, the aforementioned capital gain may be reduced by the amount that is otherwise included in Trust C’s assessable income under section 6-5 of the ITAA 1997.

Question 2

81. Does Part IVA of the ITAA 1936 apply to the scheme so as to assess the Trustee of Trust C on the amount paid under the Novation Agreement?

Relevant Legislation- Question 2

82. Part IVA of the ITAA 1936 gives the Commissioner the power to make a determination to cancel a 'tax benefit' that has been obtained, or would, but for section 177F of the ITAA 1936, be obtained, by a taxpayer in connection with a scheme to which Part IVA applies. in broad terms, the Commissioner may make a determination under subsection 177F(1) of the ITAA 1936 to cancel a tax benefit where:

1. there is a scheme as defined in section 177A of the ITAA 1936;

2. a taxpayer has obtained, or would but for section 177F of the ITAA 1936 obtain, a tax benefit as identified in sections 177C and 177CB of the ITAA 1936 in connection with that scheme, and

3. having regard to the eight factors listed in section 177D of the ITAA 1936, the dominant purpose of one or more persons who entered into or carried out all or part of that scheme was to enable one or more taxpayers (including the taxpayer) to obtain a tax benefit as identified in section 177C and 177CB of the ITAA 1936 in connection with that scheme.

83. Section 177A of the ITAA 1936 defines a ‘scheme’ to mean:

a. any agreement, arrangement, understanding, promise or undertaking, whether express or implied and whether or not enforceable, or intended to be enforceable, by legal proceedings; and

b. any scheme, plan, proposal, action, course of action or course of conduct.

84. Subsection 177D(1) of the ITAA 1936 provides that Part IVA of the ITAA 1936 applies to a scheme if it would be concluded (having regard to the matters in subsection 177D(2) that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for the purpose of enabling the relevant taxpayer and another taxpayer (or other taxpayers) each to obtain a tax benefit in connection with the scheme (whether or not that person who entered into or carried out the scheme or any part of the scheme is the relevant taxpayer or is the other taxpayer or one of the other taxpayers.)

85. Section 177C of the ITAA 1936 provides that a tax benefit referred to in Part IVA of the ITAA 1936 includes (among other things):

● an amount not being included in the assessable income of the taxpayer of a year of income where that amount would have been included (or might reasonably be expected to be included) in assessable income of that year of income if the scheme had not been entered into or carried out; or

● a deduction being allowable to the taxpayer in relation to a year of income where the whole or a part of that deduction would not have been allowable (or might reasonably be expected not to have been allowable) to the taxpayer in relation to that year of income if the scheme had not been entered into or carried out.

86. Section 177CB of the ITAA 1936 applies to schemes entered into or commenced to be carried out after 15 November 2012. Section 177CB provides the basis for posting an alternative postulate so as to assess what ‘would have’ or ‘might reasonably be expected to have’ happened, absent a particular scheme. The ‘would have’ limb (subsection 177CB(2)) and the ‘might reasonably be expected to have’ limb (subsection 177CB(3)) are alternative bases for identifying the existence of a relevant tax benefit listed in section 177C.

87. Subsection 177D(2) sets out the matters to have regard to in determining the purpose. The matters are:

i. the manner in which the scheme was entered into or carried out;

ii. the form and substance of the scheme;

iii. the time at which the scheme was entered into and the length of the period during which the scheme was carried out;

iv. the result in relation to the operation of the Act, but for the application of Part IVA of the ITAA 1936, would be achieved by the scheme;

v. any change in the financial position of the relevant taxpayer that has resulted, will result, or may reasonably be expected to result, from the scheme;

vi. any change in the financial position of any person who has, or has had, any connection (whether of a business, family or other nature) with the relevant taxpayer, being a change that has resulted, will result or may reasonably be expected to result, from the scheme;

vii. any other consequence for the relevant taxpayer, or for any person referred to in vi above, of the scheme having been entered into or carried out;

viii. the nature of any connection (whether of a business, family or other nature) between the relevant taxpayer and any person referred to in vi above.

88. Subsection 177A(5) provides that the purpose referred to in Part IVA of the ITAA 1936 is the dominant purpose if there are 2 or more purposes.

Application of the law to your circumstances- Question 2

89. Part IVA of the ITAA 1936 does not apply as Trust C has not obtained a tax benefit as identified in sections 177C and 177CB of the ITAA 1936 in connection with the scheme described in this Ruling.