Edited version of private advice

Authorisation Number: 1051577400895

Date of advice: 01 October 2019

Ruling

Subject: Application of churning measures in section 716-440

Question

Are all the requirements in paragraphs 716-440(1)(a) to (g) inclusive met when Company B (Foreign Headco) transfers its 100% shareholding interest in Company C (Australian subsidiary) to the Company A tax consolidated group within twelve months of Company A's acquisition of Company B?

Answer

No

This ruling applies for the following period:

1 July 20xx to 30 June 20xx

Relevant facts and circumstances

General

·   Company A is an Australian incorporated public company listed on the Australian Stock Exchange (ASX).

·   Company A is the head company of an income tax consolidated group ('the Company A group').

·   The Company A group has 30 June as the end of its accounting period.

·   Company D is a company incorporated in and a tax resident of a foreign tax jurisdiction.

·   Company D is a wholly owned subsidiary of Company A (Company A is the sole shareholder of Company D).

Acquisition of Company B by Company D

·   In June 20xx Company D acquired all the shares in Company B, a company incorporated in and a tax resident of a foreign tax jurisdiction ('the acquisition').

·   The acquisition was undertaken at arm's length between two independent third parties, namely Company D and Company B's shareholders.

·   At the time of the acquisition, Company B had a wholly-owned Australian incorporated and tax resident subsidiary, Company C.

·   All the shares in Company C had been acquired by Company B at least 12 months beforehand.

Transfer of Company C

·   Company A instructed Company B to transfer all its shares in Company C to a subsidiary member of the Company A group

·   The share transfer was undertaken in April 20xx (the following year) and resulted in Company C becoming a subsidiary member of and joining the Company A group on that date.

·   Following the share transfer, Company B remains a tax resident of the other country.

All legislative references are to the Income Tax Assessment Act 1997 unless stated otherwise.

Assumption

·   Any capital gain made by Company B on disposal of the Company C shares would be disregarded because of Division 855.

Reasons for decision

As there has been a change in the majority economic ownership of Company B in the 12-month period before the joining time the requirement in paragraph 716-440(1)(f) is not met. Therefore subsection 716-440(3) (the churn provision) does not apply in respect of Company C on joining the Company A group in April 20xx.

Detailed reasoning

716-440 Membership interests in joining entity not subject to CGT under

Division 855 - foreign entity ceasing to hold interests.

(1) Subsection (3) applies if:

(a)  an entity (the joining entity) becomes a *subsidiary member of a *consolidated group at a time (the joining time); and

(b)  another entity (the disposing entity) ceased to hold *membership interests in the joining entity during the period that:

(i) started 12 months before the joining time; and

(ii) ended immediately after the joining time; and

(c)  a *CGT event happened because the disposing entity ceased to hold the membership interests; and

(d) either:

(i) a *capital gain or *capital loss of the disposing entity from the CGT event

was disregarded because of the operation of Division 855; or

(ii) if there had been a capital gain or capital loss of the disposing entity from

the CGT event, the capital gain or capital loss would have been

disregarded because of the operation of Division 855; and

(e)  section 701-10 (cost to head company of assets of joining entity) applies to the joining entity's assets in respect of the joining entity becoming a subsidiary member of the group (disregarding subsection (2) of this section); and

(f)   it is reasonable to conclude that, throughout the period mentioned in paragraph (b), the sum of the *total participation interests held by an entity (the control entity) and its *associates in the joining entity was 50% or more; and

(g)  in a case where the control entity is not the disposing entity - it is reasonable to conclude that the sum of the total participation interests held by the control entity and its associates in the disposing entity was 50% or more at the time the CGT event happened.

...

(3) The following provisions do not apply to the joining entity's assets in respect of the joining entity becoming a *subsidiary member of the group:

(a) section 701-10 (cost to head company of assets of joining entity);

(b) subsection 701-35(4) (setting value of trading stock at tax-neutral amount);

(c) subsection 701-45(5) (setting value of registered emissions unit at tax-neutral

amount).

For the churn provision in subsection 716-440(3) to apply all of the requirements in paragraphs 716-440(1)(a) to (f) (in respect of the joining entity) and that in paragraph (g) (in respect of the disposing entity) where relevant, must be met.

In this case:

·   Paragraph 716-440(1)(a) is satisfied as Company C became a subsidiary member of a consolidated group (the Company A group) at a time (April 20xx).

·   Paragraph 716-440(1)(b) is satisfied as Company B ceased to hold membership interests in Company Cin April 20xx (at the joining time)

·   Paragraphs 716-440(1)(c) and (d) are satisfied as CGT event A1 happened as a result of Company B ceasing to hold membership interests in Company C and it is assumed the resulting capital gain was disregarded under Division 855.

·   Paragraph 716-440(1)(e) is satisfied as, if the churning measure does not apply, the tax cost of Company C assets will be reset under the consolidation entry tax cost setting rules.

With regard to paragraph 716-440(1)(f), the entity (control entity) to whom the conditions of the paragraph are to be applied must first be identified (noting paragraph 716-440(1)(g) will then only apply if this (identified) control entity is not the (foreign) disposing entity).

Paragraph 716-440(1)(f) is intended to ensure that the churning measure does not apply (when it otherwise would) where it is reasonable to conclude that 50% or more of the total participation interests in the joining entity have not been held by an entity (the control entity) and its associates throughout the period starting 12 months before the joining time and ending immediately after the joining time ('the test period'). This is in accordance with paragraphs 1.173, 1.174 and 1.179 of the Explanatory Memorandum to Treasury Laws Amendment Income Tax Consolidation Integrity) Bill 2018 and Recommendation 5.6 of the Board of Taxation's June 2012 Report. As explained in the Report, the churning measure should not apply where the (direct) ownership of a newly acquired joining entity is restructured within 12 months of its first becoming majority (50% or more) owned (by an entity and its associates).

Law Companion Ruling LCR 2019/2: Consolidation: Churning of joining entities provides guidance on the churning measure with Example 4 and paragraphs 32 to 41 of the LCR dealing specifically with the operation of paragraph 716-440(1)(f) in respect of the Relief for post-acquisition restructures within 12 months issue. Relevantly the facts in Example 4 are on all fours with the (material) facts of this case.

Example 4 of LCR 2019/2 arrives at the conclusion that the conditions in paragraph 716-440(1)(f) are not met - that is, no control entity and its associates held total participation interests of 50% or more in the joining entity throughout the test period. The material facts of the case are sufficiently aligned with the facts presented in LCR 2019/2 to conclude that paragraph 716-440(1)(f) is not met.

As the requirements in paragraph 716-440(1)(f) are not met (in respect of the joining entity Company C) the requirements to activate the churning measure are not met. Subsection 716-440(3) therefore does not apply.