Edited version of your written advice

Authorisation Number: 1051437003187

Date of advice: 3 October 2018

Ruling

Subject: Capital Gains Tax – Small Business Concessions – 15 year exemption – Pre & Post CGT Assets – Company.

Issue 1

Question

Will you be entitled to apply the 15 year exemption under section 152-105 of the Income Tax Assessment Act 1997 (ITAA 1997) to the capital gain made on the sale of the property left to you as life tenant and your relatives as tenants in common in equal shares in remainder?

Answer

Yes

Issue 2

Question 1

Will you be entitled to apply the 15 year exemption under section 152-125 of the Income Tax Assessment Act 1997 (ITAA 1997) to the capital dividend paid out of the capital reserve from the sale of the property before the company is liquidated?

Answer

Yes

Question 2

Will a final distribution by the Liquidator be considered a capital payment for cancellation of shares in the Company when the Company is wound up?

Answer

Yes

Question 3

Will you be entitled to apply the 15 year exemption to a distribution by the Liquidator in received in connection with the cancellation of your shares in the Company when the Company is wound up?

Answer

Yes

Question 4

Will the proceeds from your life interest in the shares in the company when you surrender that life interest be considered to be the market value of the life interest?

Answer

Yes

This ruling applies for the following periods:

1 July 2017 to 30 June 2018

1 July 2018 to 30 June 2019

The scheme commences on:

1 July 2017

Relevant facts and circumstances

Your former partner (the Deceased) purchased property one located at a place on a date before 1985.

You and the Deceased carried on a farming business in partnership until a date in 197X, when the operation moved to a company structure.

The Deceased passed away on a date in 199X.

You inherited property one as life tenant. Your two relatives inherited property one as tenants in common in equal shares in remainder.

You entered into a contract for the sale of property one on a date in 201X for $X,XXX,000. The sale settled on a date in 201X. You made a capital gain on the sale of the property.

Company

The Company was incorporated in mid 197W.

In 197W the Company purchased property two, situated at a location.

The company used ‘property one and property two to conduct its primary production business.

You and your relatives continued the farming operation through the company structure after the deceased passed away.

You and your relatives are all Directors of the Company.

Upon incorporation the company issued ordinary shares divided into four classes: A, B, C & D.

On a date in 199W the Deceased purchased the C class shares from your relative.

On a date in 199W you purchased the D class shares from your relative.

On their passing, the Deceased left all of their shares in the Company to you as life tenant and your relatives as tenants in common in equal shares in remainder.

On a date in 199X, in your capacity as executor of the estate of the Deceased, you transferred legal ownership of the A class shares and the B class shares to yourself as life tenant, and your relatives as tenants in common in equal shares in remainder.

Shareholding in the company remain in this final distribution.

The Company is a small business entity for the purposes of the capital gains tax (CGT) small business concessions (SBC).

The Company is your affiliate for the purposes of the CGT SBC.

More than 80% of the company’s assets relate to the small business.

Sale of property two

The Company entered into a contract for the sale of property two for $X,XXX,000 on a date in 201X. The sale settled on a date in 201X.

The Company made a gain on the sale of the property.

Distribution of Capital dividend

The Company will make a distribution to you (as shareholder with the right to all income) of part of the proceeds from the sale of the property in the 201Y income year.

Company to be wound up

The Company will be wound up in the 201Y income year.

All shares in the company will be cancelled when the company is wound up.

Remaining capital reserves will be distributed to shareholders.

Plans to retire

You are now aged XX years and wish to retire from farming due to financial pressures and your age.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 152-10

Income Tax Assessment Act 1997 section 152-35

Income Tax Assessment Act 1997 section 152-110

Income Tax Assessment Act 1997 section 152-105

Income Tax Assessment Act 1997 section 152-125

Income Tax Assessment Act 1997 section 104-25

Income Tax Assessment Act 1997 section 149-15

Income Tax Assessment Act 1997 section 149-30

Income Tax Assessment Act 1936 section 47(1)

Reasons for decision

Issue 1

Summary

You meet the Small Business Concessions (SBC) basic conditions in regards to the sale of property one. You held your ownership interest in the asset for more than 15 years. Property one was an active asset for more than 71/2 years of your ownership interest. You are over 55 years of age.

Detailed reasoning

A capital gain that you make may be reduced or disregarded under Division 152 of the Income Tax Assessment Act 1997 (ITAA 1997) if the basic conditions are satisfied. In your case, the basic conditions you need to satisfy are:

(a) a CGT event happens in relation to a CGT asset of yours;

(b) the event would have resulted in the gain;

(c) the small business entity that is your affiliate is the entity that carries on the business

(d) the CGT asset satisfies the active asset test.

Active asset test

Where you have owned an asset for 15 years or longer, the asset must have been an active asset of yours for a total period of at least 7.5 years in the period from when you acquired it, until the earlier of when the CGT event occurred or when the relevant business ceased, if it ceased to be carried on in the 12 months before the CGT event occurred (or longer period allowed by the Commissioner).

Definition of active asset

You must also meet any additional conditions which apply to the particular concession you wish to apply to the gain.

15 year exemption

An individual may disregard any capital gain arising from a CGT event under the 15 year exemption where:

● all of the basic conditions are met; and

● you continuously owned the relevant CGT asset for the 15 year period ending just before the CGT event;

● If the relevant asset is a share in a company or trust, the company or trust had a significant individual for a total of at least 15 years (even if the 15 years was not continuous and it was not always the same significant individual); and

you are either:

● over 55 at the time of the CGT event,

Application to your circumstances

Basic conditions

You have disposed of your interests in the property in the 201Y income year and have made a capital gain on the disposal.

You acquired your ownership interest in the property when the Deceased passed away in 199X. The property has been used by your affiliate, the company in the operation of the primary production business from that date until present.

Therefore, the property has been an active asset of yours for longer than the 7.5 years required by the active asset test, and all of the basic conditions for small business CGT relief have been satisfied.

You are over 55 years of age and you have continuously held an ownership interest in the property for over 15 years.

You are therefore entitled to apply the CGT 15 year exemption to any capital gain arising from the sale of property one.

Issue 2

Question 1

As the shareholder of all the shares in the company entitled to all dividend income, any payment made to you as a dividend in relation to the exempt amount will qualify under section 152-125 ITAA 1997. If the payment is less than your shareholder participation percentage of XX%, you will be able to disregard any gain on this income. The payment from the capital reserve created by the proceeds of the sale will meet this definition.

Questions 2, 3 and 4

Summary

You will be entitled to apply the 15 year exemption to any capital gain which arises as a result of the cancellation of your interests the shares in the Company which are post CGT assets.

Detailed reasoning

CGT event C2

Taxation Determination TD 2001/27 (TD 2001/27) considers how Parts 3-1 and 3-3 of the Income Tax Assessment Act 1997 (ITAA 1997) treat:

● a final liquidation distribution, including where all or part of it is deemed by subsection 47(1) of the Income Tax Assessment Act 1936 (ITAA 1936) to be a dividend; and

● an interim liquidation distribution to the extent it is not deemed to be a dividend by subsection 47(1)

Paragraph 1 of TD 2001/27 states that the full amount of a final distribution made by a liquidator on the winding-up of a company constitutes capital proceeds from the ending of the shareholder's shares in the company for the purposes of capital gains or capital losses made on the happening of CGT event C2 (about cancellation, surrender and similar endings) in section 104-25 of the ITAA 1997.

Basic conditions

The basic conditions in section 152-10 of the ITAA 1997 must be met in order to apply the CGT SBC to a gain which arises in relation to the cancellation of your shares in the company. In order to meet the basic conditions, the relevant asset must be an active asset of the business.

A CGT asset is an active asset (subject to exclusions) if it is owned and used, or held ready for use, in the course of carrying on a business by you or your small business CGT affiliate or another entity that is connected with you.

An active asset may be a tangible asset or an intangible asset.

The following assets cannot be active assets (subsection 152-40(4) of the ITAA 1997):

a) interests in a connected entity (other than those satisfying the 80% test)

b) shares in companies and interests in trusts (other than those satisfying the 80% test)

Shares

Shares are not active assets unless they satisfy the 80% test in subsection 152-40(3) of the ITAA 1997.

A ‘share’ is an active asset if; the company is an Australian resident and at least 80% of the market value of the company’s assets are active assets.

The ATO Website Small Business CGT Concessions (QC 22165) states that cash and financial instruments are not active assets, but they count towards the satisfaction of the 80% test provided they are inherently connected with the business.

Inherent connection

A thing might be regarded as inherently connected to a business when it is a permanent or characteristic attribute of the business – for example goodwill, or trade debtors.

Where a business is holding excess funds arising from a temporary spike in trading activity or the sale of a business asset, the excess funds might also reasonably be regarded as inherently connected with the business.

15 year exemption

Where the relevant CGT asset is a share in a company, section 152-105 of the ITAA 1997 imposes the additional requirement that the company had a significant individual for a total of at least 15 years (even if the 15 years was not continuous and it was not always the same significant individual) for the application of the 15 year exemption.

Significant individual

An individual is a significant individual in a company or trust if they have a small business participation percentage in the company or trust of at least 20%. The 20% can be made up of direct and indirect percentages.

Direct small business participation percentage

An entity’s direct small business participation percentage in a company is the percentage of:

● voting power that the entity is entitled to exercise or

● any dividend payment that the entity is entitled to receive, or

● any capital distribution that the entity is entitled to receive, or

● if they are different, the smallest of the three percentages above.

Jointly owned shares

The voting power calculation is ignored where the shares are jointly owned, as neither owner would individually control the voting power on the jointly owned shares.

Application to your circumstances

Basic conditions

In your case, you own shares in a company which is being wound up. When the company ceases to exist, CGT event C2 will happen to your shares.

You will receive a capital distribution from the Liquidator in relation to pre CGT land which has been sold by the company.

The distribution is deemed to be attributed to the cancellation of your shares, and will be proceeds of CGT event C2.

The Company is a small business entity for the purposes of the small business CGT concessions.

The company is also your affiliate.

B Class Shares

Your Class B shares were acquired prior to 20 September 1985 and are pre CGT assets. CGT will therefore not apply to any capital gain which is attributed to ownership of the Class B shares.

Other Classes of Shares

You acquired further D Class shares in 199W. These shares are considered to be post CGT assets, as are the A Class and C Class shares which you acquired your ownership interest in when the Deceased passed away in 199X.

The interests in the Class A, C and D shares that you own are post CGT assets.

You expect to make a capital gain on the receipt of the distribution.

15 Year exemption

You have owned the D class shares for a period of approximately XX years, and the A and C class shares for approximately XX years.

Therefore, you have satisfied the requirements to have owned the asset for more than the required 15 years.

D Class Shares

When the liquidator distributes the capital on the liquidation of the company you will make a gain on the C2 event on the ending of your D class shares. You will be eligible to apply the 15 year exemption to this gain.

Life Interest – A and C Class Shares

You hold a life interest in the A and C class shares. You will surrender these interests when the property is sold. At the time you surrender these interests, a CGT event A1 will occur. If you receive no proceeds on the surrender of this life interest, the market value substitution rule will operate to deem you to have received the market value of these rights.

You have met the SBC tests and so you will be able to disregard any gain on the ending of your life interest in these shares.