Edited version of private advice

Authorisation Number: 1051852305975

Date of advice: 25 June 2021

Ruling

Subject: Acquisition and disposal of goodwill

Question 1

Did CGT event A1 happen under section 104-10 of the Income Tax Assessment Act 1997 ("ITAA 1997") in relation to the goodwill of Company A when it disposed of Business B in 20XX?

Answer

Yes

Question 2

Was the goodwill of Business B acquired at the commencement of the business prior to 20 September 1985 in accordance with section 109-10 of the ITAA 1997?

Answer

Yes

This ruling applies for the following period periods:

1 July 20XX to 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

Company A is an Australian resident company.

Prior to 20 September 1985, the principal business run by Company A was Business A.

After commencing Business A, Company A also commenced a new Business B and as part of that business sold new products prior to 20 September 1985.

Separation between Business A and Business B

Company A carried on both Business A and Business B concurrently within the same legal entity during Business B's lifespan.

All Business B's products were sold under their own business name.

While Business A and Business B both used the centralised functions within Company A, Business B was treated internally as a separate business, with separate employees having responsibility for management, sales, marketing, manufacturing and engineering development.

Business A and Business B catered to separate markets, with their own distinct core customer base.

Business B was treated separately for accounting purposes, with management reports being prepared separately for Business A and Business B.

Changes to Business B

Throughout the business's lifecycle, Business B experienced organic growth and there were no significant changes to the essential character of the business from commencement to disposal.

Disposal of Business B

Company A and Company B entered into a Sale Agreement where Company A sold Business B to Company B.

Key provisions in the Sale Agreement imposed several requirements and restraints on Company A to allow for the smooth transfer of ownership.

Company B was also granted the right to make a written offer of employment to any employees on and from completion.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 subsection 104-10(1)

Income Tax Assessment Act 1997 subsection 104-10(2)

Income Tax Assessment Act 1997 subsection 104-10(3)

Income Tax Assessment Act 1997 paragraph 108-5(2)(b)

Income Tax Assessment Act 1997 section 109-10

Reasons for decision

Question 1

Summary

CGT event A1 happened under section 104-10 of the ITAA 1997 in relation to the goodwill of Company A when it disposed of Business B.

Detailed reasoning

Goodwill, or an interest in goodwill is regarded as a CGT asset (paragraph 108-5(2)(b) of the ITAA 1997).

CGT event A1 occurs under subsection 104-10(1) of the ITAA 1997if a disposal of a CGT asset has taken place. A disposal occurs where there is a change of ownership from one entity to another (subsection 104-10(2) ITAA 1997).

The meaning of goodwill

The legal meaning of 'goodwill' has three different aspects namely property, sources and value as enunciated at paragraph 22 of the Federal Commissioner of Taxation v Murry [1998] HCA 42 ("Murry" case). The decision of the Murry case is reflected in Taxation Ruling TR 1999/16 Income Tax: capital gains: goodwill of a business ("TR 1999/16"). Paragraph 12 of TR 1999/16 states that:

"... goodwill is the product of combining and using the tangible, intangible and human assets of a business for such purposes and in such ways that custom is drawn to it. The attraction of custom is central to the legal concept of goodwill. Goodwill is a quality or attribute that derives among other things from using or applying other assets of a business. It may be site, personality, service, price or habit that obtains custom. It is more accurate to refer to goodwill as having sources than it is to refer to it as being composed of elements. Goodwill is a composite thing. It is one whole. It is an indivisible item of property that is legally distinct from the sources from which it emanates. It is something that attaches to a business and is inseparable from the conduct of a business. It cannot be dealt with separately from the business with which it is associated."

The Commissioner is satisfied that Business B had goodwill that attached to it and that goodwill would be a CGT asset (paragraph 108-5(2)(b) of the ITAA 1997).

The disposal of goodwill

Subsection 104-10(1) of the ITAA 1997deals with the disposal of a CGT asset. The sectionstates that:

(1)           CGT event A1 happens if you dispose of a CGT asset.

(2)           You dispose of a CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event or by operation of law. However, a change of ownership does not occur if you stop being the legal owner of the asset but continue to be its beneficial owner.

(3)           The time of the event is:

(a)           When you enter into the contract for the disposal; or

(b)           If there is no contract - when the change of ownership occurs.

According to paragraph 70 TR 1999/16, if a business owner disposes of their entire business, goodwill may be transferred with that business and CGT event A1 happens to the goodwill of the business. Paragraph 73 of TR 1999/16 states that where a business owner is carrying on more than one business, each business has its own separate goodwill and each business may be disposed of along with the goodwill attaching to it.

Paragraph 74 of TR 1999/16 notes that it is a question of fact in relation to whether the owner has disposed of a business asset or a collection of business assets. This question involves consideration of several factors including:

•                    Whether sufficient relevant assets were sold to enable the purchaser to carry on the business the vendor had carried on;

•                    Whether the assets sold were accompanied or carried with them the legal right, privilege or entitlement to conduct the business; and

•                    Whether what is sold is sold as a self-contained business.

In considering the factors identified in Paragraph 74 of TR 1999/16, the Commissioner is satisfied that what was transferred to Company B was a business rather than a mere collection of assets.

As such, for the purposes of subsection 104-10(2) of the ITAA 1997, CGT event A1 happened to the goodwill of Business B when Company A and Company B entered into the Sale Agreement for the sale of Business B.

Conclusion

Business B had goodwill attached to it, which is a CGT asset pursuant to paragraph 108-5(2)(b) of the ITAA 1997. As what was sold to Company B can be characterised as a business, it follows that the sale of the Business B included a disposal of goodwill. Therefore, CGT event A1 took place when Company A disposed of the Business B in accordance with subsection 104-10(1) of theITAA 1997.

Question 2

Summary

The goodwill of Business B was acquired at the commencement of the business prior to 20 September 1985 in accordance with section 109-10 of the ITAA 1997.

Detailed reasoning

Goodwill is acquired when work that resulted in its creation started (table item 1 of section 109-10 of the ITAA 1997. As such, in determining when the goodwill of the Business B was acquired, consideration should be given to the circumstances of its creation.

Creation of the goodwill

Paragraph 60 of TR 1999/16 provides that if a new business or activity introduced by a taxpayer is an expansion of an existing business (whether it commenced before or after 20 September 1985), any goodwill built up in conducting the expanded business is merely an expansion of the existing goodwill of the business.

Paragraph 61 of TR 1999/16 states that if an introduced business activity is a new business, the goodwill attaching to that business is a new asset separate from the goodwill of the existing business.

Paragraph 62 of TR 1999/16 indicates that whether an increase in business operations or in the scale of activity constitutes an expansion of an existing business, or a new and separate business in its own right, is a question of fact dependent on the circumstances of each particular case. Factors that need to be considered in determining whether the business operation or activity is part of the existing business or is a new business include the nature of the new business operation or activity, the type of customers that the business operation or activity attracts and the extent to which the business operation or activity:

(a)          Is subject to the same integrated management and control as the existing business;

(b)          Is treated for banking and accounting purposes as an extension of the existing business or as a separate business;

(c)          Uses one or more different trading names; and

(d)          Is related to or dependent on the existing business in a practical, economic or commercial sense.

In considering the factors in paragraph 62 of TR 1999/16, the Commissioner is satisfied Business B was a separate and distinct business.

As a result, in accordance with paragraph 61 of TR 1999/16, any goodwill attaching to Business B was a new asset separate from the goodwill of the Business A and, thereby Company A.

Business remained the same business

The Commissioner considers that there were no significant changes to the business that caused it to become a new business.

Acquisition of goodwill

Section 109-10 of the ITAA 1997sets out specific circumstances and rules in relation to when a CGT asset is acquired. Table item 1 of section 109-10 of the ITAA 1997states that you acquire a CGT asset at the time when the construction or work that resulted in the creation, started.

Paragraph 18 of TR 1999/16 expands on this and suggests that when a taxpayer starts the work resulting in the creation of goodwill of a business is a question of fact dependent on the circumstances of each case. The term 'work' is defined in paragraph 123 of TR 1999/16 as envisaging more than a mere contemplation of activity that will create goodwill of a business. 'Work' envisages a continuum of acts, transactions or events in carrying on business from which goodwill of the business emanates.

In considering paragraph 18 and 123 of TR 1999/16, the Commissioner is satisfied that Business B began work that resulted in the creation of goodwill when it began operating in the early 1980s (prior to the introduction of the CGT provisions).

Accordingly, pursuant to section 109-10 of the ITAA 1997, the goodwill of Business B was acquired at the commencement of the business prior to 20 September 1985.

Conclusion

The goodwill of Business B was acquired at the commencement of the business prior to 20 September 1985 because that is when Business B began operating and engaging in work that resulted in the creation of goodwill in accordance with section 109-10 of the ITAA 1997.