Edited version of private advice

Authorisation Number: 1051540341883

Date of advice: 22 July 2019

Ruling

Subject: Interposition of wholly-owned companies and dividend distributions

Question 1

Will the Trustees of the Testamentary Trusts each be entitled to choose to obtain roll-over under Subdivision 122-A of the ITAA 1997 for the proposed transfer of their shares in Company A to their respective Holding Company?

Answer

Yes

Question 2

Following the transfer of the shares, will a fully-franked dividend paid by Company A to each Holding Company constitute a dividend stripping scheme for the purposes of Section 177E of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

No

Question 3

Will the Commissioner make a determination under section 177EA of the ITAA 1936 in relation to the proposed scheme?

Answer

No

Question 4

Will the proposed scheme constitute a scheme to which section 177D of ITAA 1936 will apply such that the Commissioner make a determination under section 177F of the ITAA 1936?

Answer

No

This ruling applies for the following period:

1 July 20XX - 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

Company A Pty Ltd (Company A) is an Australian resident company for tax purposes. Its sole shareholder and director was Mr A until his recent death.

Mr A's children are B, C and D.

In accordance with the terms of his will, Mr A's shares in Company A were distributed equally to Testamentary Trust B, Testamentary Trust C and Testamentary Trust D, for the benefits of B, C and D respectively.

Each of B, C and D is the trustee of his Testamentary Trust and is the principal beneficiary together with his family.

The shares in Company A are post-CGT assets.

B, C and D want to manage their interest in Company A separately as they are not able to reach an agreement on the direction and investment strategies for Company A. They propose the following:

·         Each Testamentary Trust incorporates a wholly-owned company (Holding Company) and transfers its shares in Company A to its Holding Company,

·         Company A will declare and pay a fully franked dividend to the Holding Companies,

·         The dividend will be credited to each Holding Company's retained profits account,

·         The Holding Company will fund its own investments and make dividend distributions to the Testamentary Trust from time to time,

·         No shareholder loans or other loan arrangements are intended to be entered into with respect to dividend distributions from Company A.

All relevant parties are Australian residents for tax purposes and hold their shares on capital account.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 122-15

Income Tax Assessment Act 1997 Section 122-20

Income Tax Assessment Act 1997 Section 122-25

Income Tax Assessment Act 1997 Section 122-40

Income Tax Assessment Act 1936 Section 177A

Income Tax Assessment Act 1936 Section 177E

Income Tax Assessment Act 1936 Section 177EA

Income Tax Assessment Act 1936 Section 177D

Income Tax Assessment Act 1936 Section 177F

Reasons for decision

Question 1

Summary

The Trustees of the Trusts will be each entitled to choose to obtain roll-over under Subdivision 122-A of the ITAA 1997 for the proposed transfer of their shares in Company A to their respective Holding Company.

Detailed reasoning

Under section 104-10 of the ITAA 1997, CGT event A1 happens when the Trustees transfer their shares in Company A to their Holding Companies.

Under Subdivision 122-A of the ITAA 1997, an individual, or the trustee of a trust, can choose to obtain a roll-over to delay the making of a capital gain or capital loss if they transfer a CGT asset to a company in which the individual or the trustee owns all the shares after the transfer.

Pursuant to section 122-15 of the ITAA 1997, the individual or trustee can choose to obtain roll-over in the circumstances set out in sections 122-20 to 122-135 of the ITAA 1997.

The main requirements that are relevant to the scheme of this ruling are:

·         the consideration each Trustee receives must be only shares in its own Holding Company (paragraph 122-20(1)(a)),

·         the shares in the Holding Company are not redeemable shares (subsection 122-20(2)),

·         the market value of the shares each Trustee receives for the transfer must be substantially the same as the market value of the shares In Company A (paragraph 122-20(3)(a)),

·         each Trustee owns all the issued shares in its Holding Company just after the time of the transfer (subsection 122-25(1)),

·         the shares are not a collectable, a personal use asset, or a precluded asset (a depreciating asset, trading stock, an interest in the copyright in a film referred to in section 118-30 or a registered emissions unit) (subsection 122-25(2) and (3)).

As the transfer of the shares meets the above requirements, the Trustees can choose to obtain the roll-over under Subdivision 122-A of the ITAA 1997 and can disregard any capital gain or capital loss from the transfer of the shares (subsection 122-40(1)).

Question 2

Summary

Section 177E of the ITAA 1936 does not apply to the payments of dividends by Company A to the Holding Companies.

Detailed reasoning

Section 177E of the ITAA 1936 operates to counter particular kinds of scheme which would otherwise effectively place company profits in the hands of shareholders in a tax-free form. Section 177E of the ITAA 1936 applies where:

• property of a company is disposed of as a result of:

-       a scheme by way of or in the nature of dividend stripping, or

-       a scheme having substantially the effect of a scheme by way of or in the nature of a dividend stripping; and

• in the Commissioner's opinion, the disposal of property represents, in whole or in part, a distribution of profits of the company; and
• if, immediately before the scheme was entered into, the company had paid a dividend equal to the amount of the disposal of property, an amount (referred to as the notional amount) would have been included in the assessable income of a taxpayer of a year of income; and
• the scheme is entered into after 27 May 1981.

In the context of dividend access shares scheme the Commissioner has expressed the view that section 177E of the ITAA 1936 applies to an arrangement with the following features described in paragraph 4 of Taxation Determination TD 2014/1 Income tax: is the 'dividend access share' arrangement of the type described in this Taxation Determination a scheme 'by way of or in the nature of dividend stripping' within the meaning of section 177E of Part IVA of the Income Tax Assessment Act 1936?

• A private company (the 'target company') has accumulated significant profits which have been subject to income tax at the company tax rate;
• The target company's ordinary shares are held by an individual, or individuals;
• The target company creates a new class of shares with rights to dividend distribution at the discretion of the directors and no voting rights or capital rights;
• The newly created shares are issued to a related entity;
• Profits are distributed as a dividend to the new shareholder;
• A series of transactions are entered into that have the effect of placing the accumulated profits in the hands of the original shareholders and/or their associates in a substantially tax-free or entirely tax-free form.

The proposed scheme and payments of dividends by Company A do not exhibit the above features. Section 177E of the ITAA 1936, therefore, has no application.

Question 3

Summary

The franking credit benefit trading rules contained in section 177EA of the ITAA 1936 do not apply to the proposed scheme

Detailed reasoning

Section 177EA of the ITAA 1936 is a general anti avoidance provision that applies where one of the purposes (other than an incidental purpose) of a person entering into a scheme is to enable a taxpayer to obtain an imputation benefit. It is directed to prevent:

• Franking credit trading - this occurs when under a scheme franked distributions are diverted from the real owners of interests in companies, who have no use or a relatively limited use for franking benefits, to a person who has a relatively greater use for them, but who is not in substance the owner of an interest in the company.
• Dividend streaming - the selective direction of franked dividends to only those shareholders, or holders of interests in shares, who have the greatest use for franking benefits, for example, where franked dividends are only paid to resident shareholders and not non-resident shareholders.

The proposed scheme does not exhibit any features of a franking credit trading or dividend streaming scheme. Therefore, section 177EA of the ITAA 1936 has no application.

Question 4

Summary

The Commissioner will not make a determination under section 177F of the ITAA 1936 in respect of the proposed scheme.

Detailed reasoning

A scheme will be one to which Part IVA of the ITAA 1936 applies if a taxpayer has obtained a tax benefit in connection with the scheme and it would be concluded that the (objective) dominant purpose of a person who entered into or carried out the scheme (or a part of the scheme) was to obtain a tax benefit (subsection 177D(1) of the ITAA 1936).

As discussed above, a dominant purpose of tax avoidance is not present. As section 177D of the ITAA 1936 does not apply, the Commissioner will not make a determination under subsection 177F(1) of the ITAA 1936 to cancel any tax benefit.