Edited version of private advice

Authorisation Number: 1051578772301

Date of advice: 16 September 2019

Ruling

Subject: Pre CGT assets - is there a change in majority underlying interests

Question 1

Will a roll-over be available under Subdivision 126-A of the Income Tax Assessment Act 1997 (ITAA 1997) such that the share in the corporate trustee to be transferred by Person B to Person A will be a pre-CGT asset of Person A?

Answer

Yes

Question 2

Will the proposed change in the distribution of income by the Z Trust cause, for the purposes of Division 149 of the ITAA 1997, majority underlying interests in the pre-CGT assets not being held by the ultimate owners who had majority underlying interests in those assets immediately before 20 September 1985?

Answer

No

This ruling applies for the following period(s)

Income years ending 30 June 2020 to 2023

The scheme commences on

1 July 2019

Relevant facts and circumstances

The Z Trust was established pre-September 1985 and has a corporate trustee.

Persons A & B both hold 1 share in the corporate trustee.

Class A beneficiaries are defined in the Trust deed as being Persons A & B. Other beneficiaries include their family members and entities whom beneficiaries have an interest in.

The Z Trust is a discretionary trust, with the trustee having the power to distribute the trust's income and capital to any of the beneficiaries as it determines, or to accumulate income in the trust.

Previously, distributions of Z Trust's net income have been made to Persons A & B.

Proposed changes from new financial agreement under the Family Law Act 1975

Due to an irretrievable breakdown in their marriage, Persons A & B have separated.

They are proposing to enter into a financial agreement made under Part VIIIA of the Family Law Act 1975, and it will be binding under section 90G of that Act.

In accordance with this agreement, Person B's share in the corporate trustee will be transferred to Person A, making Person A the sole 100% shareholder.

No changes will be made to Z Trust's Trust Deed. Person B will continue to be named as a Class A beneficiary of the trust.

The financial agreement will not require Person B to disclaim any entitlement as a beneficiary of Z Trust.

It is proposed that the trustee of Z Trust will in future resolve to distribute all of its income directly to Person A. No distributions are expected to be made to Person B.

Relevant legislative provisions

Section 160ZZS of the Income Tax Assessment Act 1936

Section 104-10 of the Income Tax Assessment Act 1997

Subdivision 126-A of the Income Tax Assessment Act 1997

Section 126-5 of the Income Tax Assessment Act 1997

Section 126-25 of the Income Tax Assessment Act 1997

Division 149 of the Income Tax Assessment Act 1997

Section 149-25 of the Income Tax Assessment Act 1997

Section 149-30 of the Income Tax Assessment Act 1997

Reasons for decision

Question 1

Summary

A roll-over is available under Subdivision 126-A of the ITAA 1997, such that the share in the corporate trustee to be transferred from Person B to Person A will remain a pre-CGT asset.

Detailed reasoning

Subdivision 126-A of the ITAA 1997 contains the provisions in relation to asset roll-overs in the situation of a marriage or relationship breakdown.

Section 126-5 of the ITAA 1997 provides that there is a roll-over if a CGT event happens involving an individual and his or her spouse, or former spouse, because of:

(1) ...

(d) Something done under:

(i) a financial agreement made under Part VIIIA of the Family Law Act 1975 that is binding because of section 90G of that Act.

These provisions apply to CGT events A1, B1, D1, D2, D3 and F1.

In this case, because Person B will be disposing of their share in the corporate trustee, CGT event A1 will happen in accordance with section 104-10 of the ITAA 1997.

Further conditions are outlined in section 126-25 of the ITAA 1997. This provides that:

(1)  ...:

(a)  At the time of the trigger event:

(i)            the spouses, or former spouses, involved are separated; and

(ii)           there is no reasonable likelihood of cohabitation being resumed; and

(b)  the trigger event happened because of reasons directly connected with the breakdown of the relationship between the spouses or former spouses.

Subsection 126-5(6) of the ITAA 1997 provides that where the transferor acquired the asset before 20 September 1985, the transferee is taken to have acquired it before that day.

In this instance, Person B acquired their share prior to 20 September 1985. Person B will transfer the share in accordance with a binding financial agreement made under Part VIIIA of the Family Law Act 1975. The conditions in section 126-25 of the ITAA 1997 are met, and therefore the roll-over applies. Person A will be taken to have acquired the transferred share prior to 20 September 1985.

Question 2

Summary

The proposed changes in distribution of income of the Z Trust will not cause there to be a change in the majority underlying interests for the purposes of Division 149 of the ITAA 1997.

Detailed reasoning

Division 149 of the ITAA 1997 contains the provisions under which an asset acquired before 20 September 1985 is treated as having been acquired after that date, that is, the asset stops being a pre-CGT asset.

A factual test is used to determine when an asset of a non-public entity stops being a pre-CGT asset. Under the test in section 149-25 of the ITAA 1997, an asset stops being a pre-CGT asset at the earliest time when majority underlying interests in the asset were not held by ultimate owners who had majority underlying interests in the asset immediately before 20 September 1985.

The Commissioner also has the ability under subsection 149-30(2) of the ITAA 1997 to make a reasonable assumption that this is the case.

The 'majority underlying interests' in a CGT asset consist of more than 50% of the beneficial interests that ultimate owners have (whether directly or indirectly) in the asset and any ordinary income that may be derived from the asset.

The Commissioner's view for applying these provisions to discretionary trusts, such as the Z Trust, is outlined in Taxation Ruling IT 2340 Income tax: capital gains: deemed acquisition of assets by a taxpayer after 19 September 1985 where a change occurs in the underlying ownership of assets acquired by the taxpayer on or before that date (IT 2340).

IT 2340 was in respect of section 160ZZS of the ITAA 1936, which preceded Division 149 of the ITAA 1997.

Relevant paragraphs of IT 2340 state:

6. Where a trustee continues to administer a trust for the benefit of members of a particular family, for example, it will not bring section 160ZZS into application merely because distributions to family members who are beneficiaries are made in such amounts and to such of those beneficiaries as the trustee determines in the exercise of his discretion.

7. In such a case the Commissioner would, in terms of subsection 160ZZS(1), find it reasonable to assume that for all practical purposes the majority underlying interests in the trust assets have not changed. ... ...

8. On the other hand where, by the exercise of a trustee's discretionary powers to appoint beneficiaries or by amendment of the trust deed, there is in practical effect a change of 50% or more in the underlying interests in the trust assets - such as where the members of a new family are substituted as recipients of distributions from the trust in place of persons who were formerly the object of such distributions - the section would have its intended application as described.

It can be seen from IT 2340 that the Commissioner must consider the distributions of a discretionary trust, and whether they continue to benefit members of a particular family.

In this instance, the Z Trust was established to benefit the family of Persons A & B. It has always been operated this way, and will continue to be operated this way. There is to be no removal of any beneficiaries or inclusion of new ones. The only changes will be the resignation of one of the directors of the trustee company, and that the trustee intends to no longer exercise its discretion to appoint income in favour of Person B.

In accordance with IT 2340, the Commissioner's position is that this will not change the majority underlying interests in Z Trust's assets.

It is therefore reasonable for the Commissioner to conclude that the ultimate owners who had majority underlying interests in the assets immediately before 20 September 1985 will continue to hold those interests after the proposed changes occur.

The proposed changes in distribution of income of Z Trust will not cause there to be a change in the majority underlying interests of the assets of Z Trust.