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Edited version of private advice
Authorisation Number: 1051794576145
Date of advice: 11 January 2021
Ruling
Subject: Disposal of units in an entity
Question
Will subsection 855-10(1) of the Income Tax Assessment Act 1997 (ITAA 1997) apply to disregard any capital gain or capital loss on the disposal of units by Entity A in Entity B?
Answer
Yes.
This ruling applies for the following periods:
Year ended 30 June 20XX
The scheme commences on:
1 July 20XX
Reasons for Decision
Legislative references in this Ruling are to provisions of the Income Tax Assessment Act 1997 unless otherwise indicated.
Entity A is a company that was incorporated in a foreign country and is not a 'resident of Australia' as defined in subsection 6(1) of the ITAA 1936.
Subsection 855-10(1) provides that a foreign resident can disregard a capital gain or capital loss from a capital gains tax (CGT) event happening unless the event relates to a CGT asset that is 'taxable Australian property'.
The Disposal is a CGT event from which Entity A incurred a capital gain.
There are five categories of CGT assets that are taxable Australian property. The categories are set out in the table in section 855-15 as follows:
|
Item |
Description |
|
1 |
Taxable Australian real property (see section 855-20) |
|
2 |
A CGT asset that: (a) is an indirect Australian real property interest (see section 855-25); and (b) is not covered by item 5 of this table |
|
3 |
A CGT asset that: (a) you have used at any time in carrying on a business through: (i) if you are a resident in a country that has entered into an international tax agreement with Australia containing a permanent establishment article--a permanent establishment (within the meaning of the relevant international tax agreement) in Australia; or (ii) otherwise--a permanent establishment in Australia; and (b) is not covered by item 1, 2 or 5 of this table |
|
4 |
An option or right to acquire a CGT asset covered by item 1, 2 or 3 of this table |
|
5 |
A CGT asset that is covered by subsection 104-165(3) (choosing to disregard a gain or loss on ceasing to be an Australian resident). |
In relation to the Disposal, Items 1, 3, 4 and 5 contained in section 855-15 are not considered in more detail as:
• the units do not represent a direct interest in taxable Australian real property (TARP) (Item 1)
• the units were not used at any time in carrying on a business through a permanent establishment in Australia (Item 3)
• the units do not represent an option or right to acquire a CGT asset (Item 4), and
• section 104-165(3) only applies to individuals who choose to disregard a gain covered by CGT event I1 (Item 5).
Consequently, Item 2 contained in section 855-15 is considered in detail below.
Item 2 - Indirect Australian real property interest
Subsection 855-25(1) provides that a membership interest held by an entity in another entity at a time is an indirect Australian real property interest at that time if:
a) the interest passes the non-portfolio interest test (see section 960-195) either
(i) at that time; or
(ii) throughout a 12 month period that began no earlier than 24 months before that time and ended no later than that time, and
b) the interest passes the principal asset test in section 855-30 at that time.
It is necessary to consider whether Entity A's membership interest in Entity B is an indirect Australian real property interest through determining whether it passes the non-portfolio interest test and the principal asset test at the relevant times.
Non-portfolio interest test
Section 960-195 explains the non-portfolio interest test will be passed where:
An interest held by an entity (the holding entity) in another entity (the test entity) passes the non-portfolio interest test at a time if the sum of the direct participation interests held by the holding entity and its associates in the test entity at that time is 10% or more.
Direct participation interest is defined in section 960-190 as the direct control interest that the first entity holds in the other entity. Section 350 of ITAA 1936 provides that a direct control interest includes the percentage an entity holds in another entity of the total paid-up share capital or the total rights of shareholders to vote.
Entity A disposed of its less than 10% of units in Entity B. Therefore, at the time of the Disposal, Entity A's direct participation interest in Entity B was less than 10%.
In respect of subparagraph 855-25(1)(a)(i), it is therefore then necessary to consider whether Entity A has any associates who held units in Entity B at the time of the Disposal.
Entity A did not have any associates who held units in Entity B at the time of the Disposal.
In respect of subparagraph 855-25(1)(a)(ii), Entity A's direct participation interests in Entity B was less than 10% at the time of the CGT event throughout a 12 month period that began no earlier than 24 months before that time and ended no later than that time.
Based on the above, the direct participation interest in Entity B held by Entity A and its associates (of which there were none) was less than 10% pursuant to Item 1 of the table within subsection 960-190(1) at the relevant times.
Therefore, the non-portfolio interest test is not passed.
Principal asset test
According to subsection 855-30(2) the principal asset test will be satisfied if the sum of the market values of the test entity's assets that are TARP exceed the market values of the test entity's assets that are not attributable to TARP.
As both the non-portfolio interest test and the principal asset test must be passed before a membership interest qualifies as an indirect Australian real property interest, it means that if one is not passed then there is no need to test for the other.
As the non-portfolio interest test is not passed, there is no need to consider the application of the principal asset test.
Conclusion
The membership interest in Entity B that Entity A disposed of as part of the Disposal is not an indirect Australian real property interest for the purposes of section 855-25. As such, it is not 'taxable Australian property'.
Therefore, as Entity A is a foreign resident, subsection 855-10(1) of the ITAA 1997 will apply to disregard the capital gain or capital loss made by Entity A when it disposed of its less than 10% interest in Entity B.