Edited version of private advice

Authorisation Number: 1051795970990

Date of advice: 15 January 2021

Ruling

Subject: Carry forward tax losses

Question 1

Does X satisfy the business continuity test (same business) under section 165-210 of the Income Tax Assessment Act 1997 (ITAA 1997), such that it can deduct tax losses incurred prior to 1 July 20XX?

Answer

Yes.

Question 2

Does X satisfy the business continuity test (similar business) under section 165-13 and section 165-211 of the ITAA 1997, such that it can deduct tax losses incurred after 1 July 20XX?

Answer

Yes.

Question 3

Will the planned expansion of X product offering in the near future cause X to fail the business continuity test under section 165-13, section 165-210 and section 165-211 of the ITAA 1997?

Answer

No.

Question 4

If X acquires the remaining XX% interest in X and forms a tax consolidated group with X, will the X tax consolidated group satisfy the business continuity test under section 165-13, section 165-210 and section 165-211 of the ITAA 1997.

Answer

Yes.

This ruling applies for the following period:

1 April 20XX to 31 March 20XX

The scheme commences on:

1 April 20XX

Relevant facts and circumstances

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

The taxpayer is an Australian resident company and is not a member of a tax consolidated group.

On X, X entered into a share sale agreement (SSA) with X for the acquisition as trustee of 100% of the issued share capital in X (formerly named X)). The SSA was settled on X.

As such, the taxpayer has failed the continuity of ownership test (COT) under section 165-12 in respect of all carried forward tax losses incurred during the period 31 March 20XX to 31 March 20XX.

Clause X of the SSA required X to change the name of X to a name that was capable of registration. The name was changed on X from X to X.

The taxpayer's carry forward tax losses are comprised of:

•         $X for the period prior to 1 July 20XX; and

•         $X for the period after 1 July 20XX

The taxpayer owns X% of the issued share capital in X with the remaining X% interest held by X.

X is the owner of the X terminal located in X.

Business operations after the change in ownership

Aside from the changes listed below, the taxpayer's business activities remained the same as immediately before the COT failure (i.e. the test time for the SBT and business continuity test) including the:

•         Sale of X from the X facility and the sale of X

•         Use of business assets

•         Location of head office and X terminal

•         Identity of its customers (except for one new customer)

•         Geographical market

•         Identity of the business

•         Identity of operational and sales staff; and

•         Website.

After the change in ownership, the taxpayer experienced the following changes to its business operations:

Stock acquisition

•         Due to tightening credit conditions caused by Covid-19, in or about X the taxpayer made a minor change to its arrangements concerning the acquisition of stock.

•         Prior to July 20XX, the taxpayer obtained title to the X stock at the time the stock was unloaded from a cargo vessel at the unloading facility adjacent to the taxpayer's terminal.

•         In order to secure credit for the acquisition of the stock, from July 20XX the taxpayer negotiated an arrangement with the importer, X whereby X retained title to the X stock after the vessel was unloaded and while the stock was held at X terminal in X, until it was removed from the licensed premises.

Staff

After acquisition, the taxpayer no longer required X executive management positions and other support roles. It otherwise retained all X of its operational and client facing staff including the general manager and technical staff who were employed prior to the change in ownership and are still employed in the same or expanded roles. The finance function of the business continues to be operated from the X head office.

Customers

The taxpayer added one new customer to its customer base but retained all of its previous X customers and continued to supply the same product to them on the same terms, utilising the same staff.

No other changes occurred in the business of the taxpayer during the income year in which the change in ownership occurred.

It did not derive income from any source or transaction that it did not carry on before the COT failure date.

Future business operations

The taxpayer is looking at options to expand its current supply of X which can be offered under its existing permits for the supply of X from the X (pursuant to the X).

The expansion of the supply chain will require an additional capital investment of $XXX.

This will enable X to capture a greater percentage of the X market.

It is anticipated that income from the sale of the X could potentially contribute up to X% of the total revenue from the company within 5 years.

The taxpayer is also looking at expanding its product offering to X ((neither product meets the definition of 'X' in the X).

The sale of these add on products will not require additional investment in capital by the taxpayer and can be facilitated using existing business infrastructure.

It is anticipated that the revenue from these new product lines (X) would represent less than X% of current annual revenue.

The taxpayer is currently in the process of finalising plans for the lease of additional X in two X locations to expand its X.

This plan was documented in the original business planning documents for the taxpayer (formerly X), which makes clear that the taxpayer always intended to develop an expanded supply capability over the next 1-5 years.

Relevant legislative provisions

Section 36-25 of the Income Tax Assessment Act 1997 (Cth).

Section 165-10 of the Income Tax Assessment Act 1997 (Cth).

Section 165-12 of the Income Tax Assessment Act 1997 (Cth).

Section 165-13 of the Income Tax Assessment Act 1997 (Cth).

Section 165-210 of the Income Tax Assessment Act 1997 (Cth).

Reasons for Decision

Question 1

Does X satisfy the business continuity test (same business) under section 165-210 of the Income Tax Assessment Act 1997 (ITAA 1997), such that it can deduct tax losses incurred prior to 1 July 20XX?

Summary

Yes, X satisfies the same business test under section 165-210 of the ITAA 1997 with respect to its losses incurred between 31 X 20XX and 1 July 20XX, to the extent that its total assessable income exceeds its total deductions (except tax losses) for that year.

Detailed reasoning

Same business test

For the losses incurred between 31 X 20XX and 1 July 20XX, the taxpayer must demonstrate it meets the conditions of section 165-13 (business continuity test) in order to deduct those losses in future income years. It will do so if it meets the same business test in section 165-210.

To satisfy the business continuity test (carrying on the same business) in section 165-210, the taxpayer must be able to satisfy the following:

•         A positive test - the same business test - the company must carry on the same business during the business continuity test period (i.e. the income year in which the taxpayer seeks to utilise the losses) that it carried on immediately before the test time (i.e. the COT failure date - date of acquisition by X) (subsection 165-210(1))

•         A negative test - the new business test - the company must not derive assessable income from carrying on a business of a kind that it did not carry on before the test time (paragraph 165-210(2)(a))

•         A further negative test - the new transaction test - the company must not derive assessable income, in the course of its business operations, from a transaction of a kind that it had not entered into before the test time (paragraph 165-210(2)(b)), and

•         The anti-avoidance test - the company did not commence certain business activities before the test time for the purpose of satisfying the same business test (subsection 165-210(3)).

The Commissioner's views concerning the application of the same business test are set out in Taxation Ruling TR1999/9 Income tax: the operation of sections 165-13 and 165-210, paragraph 165-35(b), section 165-126 and section 165-132 (TR 1999/9)

a)    The positive test - subsection 165-210(1)

The positive test in subsection 165-210(1) requires a comparison of the business carried out throughout the business continuity test period) (i.e. the income year in which the taxpayer seeks to utilise the losses), with the business carried on immediately before the test time (i.e. the COT failure date). Paragraph 8 of TR 1999/9 provides that the expression 'same business' in subsection 165-210(1) means the business of the company as an entirety, or its 'overall business'.

Paragraph 13 of TR 1999/9 further states

In the same business test, the meaning of the word 'same' in the phrase 'same business as' imports identity and not merely similarity; the phrase 'same business as' is to be read as referring to the same business, in the sense of the identical business. However, this does not mean identical in all respects. What is required is the continuation of the actual business carried on immediately before the test time. It is not sufficient that the business carried on after the test time meets some industry wide definition of a business of the same kind, nor would it be sufficient for there to be mere continuance of business operations from immediately before the test time into the SBTP, if the business had so changed that it could no longer be described as the same business. The analysis of whether the same business continues after the test time may give rise to questions of degree and ultimately depends on the facts of the case. It needs to be acknowledged that a company may expand or contract its activities without necessarily ceasing to carry on the same business. The organic growth of a business through the adoption of new compatible operations will not ordinarily cause it to fail the same business test provided the business retains its identity; nor would discarding, in the ordinary way, portions of its old operations. But, if through a process of evolution a business changes its essential character, or there is a sudden and dramatic change in the business brought about by either the acquisition or the loss of activities on a considerable scale, a company may fail the test.

Determining whether the taxpayer has carried on the same business at all times during the business continuity test period as the business the taxpayer carried on immediately before the test time, requires drawing an inference of fact after considering and weighing all the factors, and then attaching the appropriate weight to each factor, having regard to all the circumstances. The application of the same business test to each case requires close analysis of the facts of each case

In the present case, the business carried on by the taxpayer immediately before the test time was the sale of X, which has historically made up 99.8% of its revenue, and X.

The taxpayer experienced some changes, as outlined in the background facts, during the business continuity test period as a result of the acquisition by X. For instance, some executive management positions and support roles changes, and one new customer as added to its customer base. Such changes did not result in a change of the identity of the taxpayer's business given that the taxpayer continued to carry out the same business activities during the business continuity test period.

Having regard to the facts, the identity and character of the business did not change after the test time (i.e. after X was acquired by X), as it continues to sell X. The above changes experienced by the taxpayer, or a combination of them over time, do not cause the taxpayer to fail the positive limb of the same business test under subsection 165-210(1).

b)    The negative tests - paragraphs 165-210(2)(a) and 165-210(2)(b)

The negative tests in paragraphs 165-210(a) and 165-210(2)(b) require the taxpayer to not, at any time during the business continuity test period, derive assessable income from a business of a kind or a transaction of a kind that it did not carry out before the test time (respectively, the new business test and new transaction test).

Paragraph 14 of TR 1999/9 states the following in relation to the new business test:

'...In the new business test there is a reference to 'business of a kind' that the company did not carry on before the change-over. In the new business test the word 'business' has a different meaning from the word 'business' in the same business test; it refers to each kind of enterprise or undertaking comprised in the overall business carried on by the company at the change-over and during the period of recoupment. The new business test puts a limit on the type of expansion the company may undertake if it is to retain the benefit of accumulated losses; for the taxpayer may not engage in an undertaking or enterprise of a kind in which it did not engage before the change-over and still benefit from accumulated losses.'

In paragraph 15 of TR 1999/9, the Commissioner makes the following comments about the new transactions test:

'...Generally speaking, the new transactions test is not failed by transactions of a type that are usually un motivated by tax avoidance, namely, transactions that could have been entered into ordinarily and naturally in the course of the business operations carried on by the company before the change-over. Conversely, a transaction entered into during the period of recoupment and which is outside the course of the business operations before the change-over, or which is extraordinary or unnatural, when judged by the course of the business operations before the change-over, is usually a transaction of a different kind from the transactions actually entered into by the company before the change-over.'

Almost all the revenue to be derived by the taxpayer during the business continuity test period will be from the same source - being the sale of X.

The taxpayer anticipates that it may add X to its offerings, however this would comprise only X% of its revenue. This would represent a minor transaction that could have been entered into ordinarily and naturally in the course of the business operations carried on by the company before the COT failure. It is not outside the course of the business operations before the COT failure, nor is it extraordinary or unnatural, when judged by the course of the business operations before the COT failure.

Overall, the taxpayer will have derived revenue from the same business activities and from the same customer base in the business continuity test period as the previous income year. As such, the addition of X to its offerings will not cause the taxpayer to fail the new business or new transaction tests.

c)    The anti-avoidance test - subsection 165-210(3)

This subsection is designed to prevent a taxpayer satisfying the business continuity test by commencing a new business or entering into a new transaction prior to the test time, in anticipation of obtaining a deduction for a prior year loss, a current year loss or a bad debt in the claim year.

Where the taxpayer commenced to carry on the same business or entered into a transaction in the course of its business operations before the test time for a variety of purposes, the anti-avoidance test nevertheless operates to prevent a taxpayer from satisfying the relevant tests, where one of the purposes was to satisfy the business continuity test.

According to the facts in the present case, the taxpayer did not commence any businesses or enter into any transactions of a kind that had not been previously carried on prior to the COT failure for the purpose of satisfying the business continuity test under section 165-210 and as such, the anti-avoidance test does not apply.

Conclusion

Based on the above analysis, the taxpayer will satisfy the business continuity test under section 165-210 for the income year such that it is able to deduct some or all of the tax loss incurred between X and 1 July 20XX, to the extent that its total assessable income exceeds its total deductions (except tax losses) for that year.

Question 2

Does X satisfy the business continuity test (similar business) under section 165-13 and section 165-211 of the ITAA 1997, such that it can deduct tax losses incurred after 1 July 20XX?

Summary

Yes, the taxpayer satisfies the business continuity test (similar business) under section 165-13 and section 165-211 of the ITAA 1997, such that it can deduct tax losses incurred after 1 July 2015, to the extent that its total assessable income exceeds its total deductions (except tax losses) for that year.

Detailed reasoning

Similar business test overview

Treasury Laws Amendment (2017 Enterprise Incentives No. 1) Act 2019 introduced a further provision to supplement the same business test with a more flexible similar business test in the new section 165-211, in relation to tax losses incurred in an income year beginning on or after 1 July 2015. Unlike the same business test the similar business test does not incorporate the former tests negative limbs.

However, the integrity rules in the similar business test address the same concerns previously dealt with by the negative limbs of the same business test. The explanatory memorandum to the Treasury Laws Amendment (2017 Enterprise Incentives No.1) Bill 2017 explains the effect as follows:

... This ensures that the omission of the negative limbs from the similar business test does not create tax avoidance or income injection opportunities that would minimise a company's tax liability...

Paragraph 7 of LCR 2019/1 describes 'similar' as follows

7. ... The meaning of 'similar' depends on the context in which the term arises.[11] In the context of the similar business test, 'similar' does not mean similar 'kind' or 'type' of business. The focus remains on the identity of a business, as well as continuity of business activities and use of assets to generate assessable income.[12] Accordingly, it will be more difficult to satisfy the similar business test if substantial new business activities and transactions do not evolve from, and complement, the business carried on before the test time. In contrast, where a company develops a new product or function from the business activities already carried on, and this development opens up a new business opportunity or allows the company to fill an existing gap in the market, the business as a whole is likely to satisfy the similar business test. [emphasis added]

The relevant matters to be taken into account (non-exhaustive) in determining if the current business is similar to the business before COT failure are outlined in section 165-211(2):

1)    The first factor considers the extent to which the assets used to generate assessable income throughout the business continuity test period were the assets used in the business carried on at the test time.

2)    The second factor compares the extent to which the current activities and operations from which assessable income is generated were also those from which assessable income was generated previously.

3)    The third factor compares the current identity of the business with that of the business carried on before the test time.

4)    The fourth factor requires an assessment of the extent to which the changes to the business resulted from the development or commercialisation of assets, products, processes, services or marketing or organisational methods of the business.

Business assets

The business assets used by the taxpayer to generate its assessable income throughout the business continuity period include the X facilities (X% interest), miscellaneous X, and goodwill.

These are the same assets used in its operations to generate assessable income at test time (COT failure, change of ownership).

Current activities

The income generating activities and operations undertaken by the taxpayer throughout the business continuity test period involved the sale of X.

These are the same income generating activities and operations used to generate assessable income at the test time (COT failure, change of ownership). Minor changes to staff numbers, head office overheads, reduction in stock costs and foreign exchange losses represent business improvements were due to a more streamlined and efficient stock management and financing function.

Accordingly, the income generating activities remain similar throughout the business continuity period as they did at test time.

Identity of the business

The identity and character of the business throughout the business continuity test period was not different to that at the test time (i.e. after X was acquired by X, as it continues to sell X. The above changes experienced by the taxpayer, or a combination of them over time, do not cause the identity of the taxpayer to change.

Commercialisation

The changes to the business outlined above did not result from the development or commercialisation of assets, products, processes, services or marketing or organisational methods of the business. But rather, these changes arose due to the streamlining of organisational methods. The reduction in the way stock ownership is recognised was due to a more streamlined and efficient stock management and financing.

Conclusion

Taking into account to those matters listed in section 165-211(2) and background facts provided, the taxpayer's current business is similar to the business conducted before COT failure, such that it satisfies the business continuity test (similar business) under section 165-13 and section 165-211. Accordingly, it is able to deduct some or all of the tax loss incurred after 1 July 2015 in an income year, to the extent that its total assessable income exceeds its total deductions (except tax losses) for that year.

Question 3

Will the planned expansion of X product offering in the near future cause X to fail the business continuity test under section 165-13, section 165-210 and section 165-211 of the ITAA 1997?

Summary

No, the planned expansion of the taxpayer's product offerings, through the increased supply of X, addition of X, and an additional X, will not cause it to fail the business continuity test under section 165-13, section 165-210 and section 165-211 of the ITAA 1997.

Detailed reasoning

Increase in volume of product offering

The taxpayer anticipates increasing its current supply of X to enable it to capture a greater percentage of the X market. Currently, its X is sold to its customers through a different facility operated by a third party. The increased supply will occur through its existing X at its existing X facility (from which it currently sells X). To achieve this, it will require an additional capital investment of $X and it anticipates it will represent up to X% of its total revenue within 5 years, though the same product will be sold to the same customers, albeit from a different location and at higher quantities.

Such an expansion represents an organic growth of the taxpayer's operations. It is not sufficiently extreme to amount to a change in the identity of its business. It is not sudden or dramatic, but rather an increase in the quantity of the current product it already sells, such that it is a mere expansion of its current operations. Further, it has not commenced a new business nor entered a transaction of a kind it had not done so previously.

The expansion will also not cause any changes to the use of assets, activities, products, services and organisational methods as it did before test time.

X

The taxpayer anticipates adding X to the products offered to its existing customers. The sale of these products will not require any additional capital investment and will be facilitated using their existing business infrastructure. It anticipates the revenue from this expansion will represent less than X% of its current annual revenue.

Consistent with the analysis above, the expansion in offerings represents an organic growth of the taxpayer's operations. It is not sufficiently extreme to amount to a change in the identity of its business. It does not require any additional permits and will occur through its existing X facilities. Though it would be a new transaction for the taxpayer, it is consistent with its current business operations, is of a kind that would be entered before the test time, it is of a small scale, and it will also not cause any changes to the use of assets, activities, products, services and organisational methods as it did before test time.

New X

The taxpayer also plans to lease an additional X facility in two X locations in order to expand its X. The taxpayer will not be operating the facility itself and will be outsourcing this function to another entity, which is identical to how it currently operates the X. The process by which the X will be sold from this facility is the same as it occurs in X. The taxpayer will have no additional capital requirements, and no need for additional financing.

Its intention to expand their supply into the X was noted in the business plans prior to the acquisition by X, early in the development of their business.

Accordingly, the expansion is neither extraordinary or unnatural, constitutes an organic growth of the taxpayers existing business, and is consistent with the business activities before test time. The business identity will remain the same.

The expansion will also not cause any changes to the use of assets, activities, products, services and organisational methods as it did before test time.

Conclusion

The planned expansion of the taxpayer's product offerings represents an organic growth of the Taxpayer's business, and involves the same assets, activities, products, services and organisational methods as before test time, such that it will not cause it to fail the business continuity test under section 165-13, section 165-210 and section 165-211.

Question 4

If X acquires the remaining X% interest in X and forms a tax consolidated group with X, will the X tax consolidated group satisfy the business continuity test under section 165-13, section 165-210 and section 165-211 of the ITAA 1997.

Summary

Yes, if X acquires the remaining X% interest in X and forms a tax consolidated group with X, the X tax consolidated group will satisfy the business continuity test under section 165-13, section 165-210 and section 165-211 of the ITAA 1997.

Detailed reasoning

If the taxpayer acquires the remaining X% interest in X and forms a consolidated group, a comparison must be made between its business prior to the change of ownership, and its business after the acquisition of X, in order to determine if the group will be conducting the same business under the business continuity tests.

Relevantly, X generates X from the supply of its X to the taxpayer. Once a consolidated group is formed, this intra-group transaction will be disregarded under the single entity rule, since this rule treats subsidiary members of a tax consolidated group as parts of the head company for the purpose of working out the income tax liability of the head company. Further, section 165-212E excludes the history of X from being inherited by the head company of the group, X.

Whilst the X income derived by X from X are not taken into account for the SBT, the X activities undertaken by X are still relevant to characterising the business of the taxpayer as head entity of the consolidated group, since subsidiary members of a consolidated group are taken to be parts of the head company (paragraph 14-15, TR 2007/2).

X X activities support and continue to support the business operations of the consolidated group by the provision of its critical asset - being the X.

During the similar business test period, the taxpayer maintained and will continue to use the same assets, will undertake the same activities, products, processes, services and organisational methods as it will do before acquiring x, and the identity of the business will not change.