Edited version of private advice

Authorisation Number: 1051859101404

Date of advice: 30 June 2021

Ruling

Subject: Tax consequences of issuing redeemable preference shares

Question 1

Will the Redeemable Preference Shares[1] ('RPS') in the applicant ('Company A') be treated as equity interests under subdivision 974-C of the Income Tax Assessment Act 1997 ('ITAA 1997')?

Answer

Yes

Question 2

Will the issue of the RPS give rise to the direct value shifting ('DVS') rules applying under Division 725 of the ITAA 1997, and as such, cause CGT event K8 to occur?

Answer

No

Question 3

Will section 725-90 of the ITAA 1997 (about DVS that are reversed) apply to prevent any consequences under Division 725 of the ITAA 1997 for any DVS that happens upon the variation of rights to dividends attached to the RPS where those rights cease within four years, and no realisation event has happened to an affected interest in Company A before that cessation?

Answer

Not applicable ('N/A'),because a DVS will not occur.

Question 4

Will section 725-90 of the ITAA 1997 (about DVS that are reversed) apply to prevent any consequences under Division 725 of the ITAA 1997 for any DVS that happens upon the declaration and payment of a dividend to the holder of the RPS?

Answer

N/A, because a DVS will not occur.

Question 5

Will payments of future dividends on the RPS be frankable distributions as defined in section 202-40 of the ITAA 1997?

Answer

Yes

Question 6

Will Company D be entitled to a tax offset equal to the franking credits on the future dividends under subsection 207-20(2) of the ITAA 1997?

Answer

Yes

Question 7

Will the dividend streaming provisions contained in Subdivision 204-D of the ITAA 1997 apply to the payment of future dividends on the RPS?

Answer

No

Question 8

Will the dividend stripping rules contained in Subdivision 207-F of the ITAA 1997 and section 177E of the Income Tax Assessment Act 1936 ('ITAA 1936') apply to the payment of future dividends on the RPS?

Answer

No

Question 9

Will the franking credit benefit trading rules in section 177EA of the ITAA 1936 apply to the payment of future dividends on the RPS?

Answer

No

Question 10

Will the payments of future dividends on the RPS constitute a scheme to which section 177C and 177D of the ITAA 1936 apply such that the Commissioner will make a determination under section 177F of the ITAA 1936?

Answer

No

Question 11

Will section 45A or 45B of the ITAA 1936 apply to the proposed issue of the RPS to Company D?

Answer

No

This ruling applies for the following period:

1 July 2020 to 30 June 2022

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

Relevant entities: Company A, Company D, Person B and Person C

Company A was incorporated after 1985. Person B is the company's current director and sole shareholder. Person B is described in the application as Company A's 'sole controller'. Person B works in Company A's business.

Company A:

•         conducts a business providing trade services in an Australian city and for regional projects elsewhere in the same Australian state

•         has builders and developers as clients

•         has current projects including major apartment and retail complexes

•         has a significant number of employees, apprentices and labour hire staff.

Company A has retained earnings of $X, and $XM in liquid funds, which are surplus to working capital requirements. Out of these liquid funds, approximately $XM is held in term deposits.

Company A has several insurance policies, covering professional indemnity, management liability, workers compensation, general property, public and product liability, and contract works. The maximum insurable amount under these policies is $XM in public and product liability. We summarise these policies in Table 1.

Table 1: Insurance contracts

Company A is not presently in litigation, and is not subject to any actual or threatened creditor claims.

Neither Person B nor Company A have ever been sued for claims arising out of the business. Neither Person B nor Company A have ever been directed by a statutory authority to correct defective trade services work.

Company A holds all relevant licenses needed to carry out its trade services work. Person B has not given any personal guarantees in relation to the business, contracted with clients personally, or personally guaranteed performance of Company A's contracts.

Person B is married to Person C. Person C is employed by Company A as an administrative assistant and office manager. Person C's duties are restricted to administrative functions like payroll, accounts payable and receivable, bank reconciliations, maintaining office equipment, and ensuring administrative procedures are followed. Person C is not a director in Company A, and is not involved in Company A's broader management, financial, or strategic decisions.

Person C is the director and sole shareholder in Company D. The application describes Person C as Company D's 'sole controller.' Company D was incorporated in Australia.

Company A has a current loan to Company D of $X. Company D has invested these funds in a term deposit. Company D has no other liabilities and is not under any risk of legal proceedings.

Financial history and profile: Company A, Company D, Person B and Person C

Company A is an Australian resident under Australian taxation law, and a base rate entity. Company A's corporate tax rate was, or is expected to be:

•         XX.X% for the 20XX income year

•         XX% for the 20XX income year

•         XX% for the 20XX and subsequent income years.

Company A has a current franking account balance of $X. Company A has no prior year losses of any kind.

Company D' corporate tax rate is 30% as it is not a base rate entity. Company D has a nil franking account balance, no prior year revenue or capital losses, never paid a dividend, and has not returned any share capital to its shareholder. There is currently no strategy in place for the regular payment of dividends by Company D: dividend payments will be determined at the end of each income year.

We summarise Company A's dividend history from 20XX to 20XX in Table 2.

Table 2: Company A's dividend history (2011 to 2020)[2]

Person B and Person C are Australian residents for the purposes of Australian income tax laws.

Person B and Person C's taxable income for the 20XX, 20XX and 20XX income years is described in Table 3.

Table 3: Person B and Person C's taxable income (20XX, 20XX and 20XX income years)[3]

Person B and Person C have personal assets totalling over $X million (each), including multiple items of real property, and superannuation account balances.

Person C has no carry forward capital or revenue losses.

The Proposed Transactions

Company A proposes to conduct a series of transactions in the following sequence (collectively, 'the Proposed Transactions').

•         First, issue 10 RPS to Company D, for a total subscription price of $XX ($X each). These RPS:

-        carry no rights to dividends, votes, or any surplus of capital on winding up

-        are redeemable only on winding up, with a right to a return of the subscription amount.

•         Second, resolve to grant a discretionary dividend right to each RPS. The dividend right will cease at the earlier of a director's decision to remove the right, or within three years from the issue of the RPS.

•         Third, pay a once-off, fully franked dividend of $XM to Company D. The dividend will be franked at Company A's corporate tax rate of 26%. $X of the dividend will be set-off against the Company A loan. The remainder will be paid in cash.

•         Finally, cancel the dividend right attaching to each RPS. Company D will hold the RPS for more than 90 days.

The applicant submits that Person B has become concerned about potential liability, both to Company A, and Person B as its director, arising out of Company A's business. Person B is concerned that risks arise from trade services work on projects performed by Company A's employees or its subcontractors, and that there is an ongoing risk that potential claims could exceed existing insurance cover. Person B believes that claims could arise from significant property damage, losses from interruption to business, and loss of human life.

Relevant legislative provisions

Section 202-40 of the Income Tax Assessment Act 1997

Section 202-45 of the Income Tax Assessment Act 1997

Section 204-30 of the Income Tax Assessment Act 1997

Section 207-20 of the Income Tax Assessment Act 1997

Section 207-145 of the Income Tax Assessment Act 1997

Section 207-155 of the Income Tax Assessment Act 1997

Section 207-157 of the Income Tax Assessment Act 1997

Section 725-90 of the Income Tax Assessment Act 1997

Section 725-145 of the Income Tax Assessment Act 1997

Section 725-150 of the Income Tax Assessment Act 1997

Section 960-115 of the Income Tax Assessment Act 1997

Section 974-15 of the Income Tax Assessment Act 1997

Section 974-20 of the Income Tax Assessment Act 1997

Section 974-30 of the Income Tax Assessment Act 1997

Section 974-70 of the Income Tax Assessment Act 1997

Section 974-75 of the Income Tax Assessment Act 1997

Section 974-130 of the Income Tax Assessment Act 1997

Section 974-135 of the Income Tax Assessment Act 1997

Section 995-1 of the Income Tax Assessment Act 1997

Section 6 of the Income Tax Assessment Act 1936

Section 45A of the Income Tax Assessment Act 1936

Section 45B of the Income Tax Assessment Act 1936

Section 45C of the Income Tax Assessment Act 1936

Section 177A of the Income Tax Assessment Act 1936

Section 177C of the Income Tax Assessment Act 1936

Section 177CB of the Income Tax Assessment Act 1936

Section 177D of the Income Tax Assessment Act 1936

Section 177E of the Income Tax Assessment Act 1936

Section 177EA of the Income Tax Assessment Act 1936

Section 177F of the Income Tax Assessment Act 1936

Section 120 of the Bankruptcy Act 1966

Section 18 of Schedule 2 to the Competition and Consumer Act 2010

Section 151 of Schedule 2 to the Competition and Consumer Act 2010

Section 224 of Schedule 2 to the Competition and Consumer Act 2010

Section 180 of the Corporations Act 2001

Section 181 of the Corporations Act 2001

Section 182 of the Corporations Act 2001

Section 254T of the Corporations Act 2001

Section 588FB of the Corporations Act 2001

Section 588FE of the Corporations Act 2001

Section 17 of the Crimes (Sentencing Procedure) Act 1999 (NSW)

Section 31 of the Work Health and Safety Act 2011 (NSW)

Reasons for decision

Question 1

Will the RPS in Company A be treated as equity interests under subdivision 974-C of the ITAA 1997?

Summary

Yes. The RPS in Company A will be treated as equity interests under subdivision 974-C of the ITAA 1997. The RPS pass the equity test in section 974-75 of the ITAA 1997, and do not pass the debt test in section 974-20 of the ITAA 1997.

Detailed reasoning

Are the RPS an equity interest?

Subsection 974-70(1) of the ITAA 1997 says a scheme gives rise to an equity interest in a company if:

•         the scheme satisfies the equity test, and

•         the interest is not characterised (or form part of a larger interest that is characterised as) a debt interest.

The equity test is met if a scheme gives rise to an interest in the table in subsection 974-75(1) of the ITAA 1997.

•         Item 1 in the table is 'an interest in the company as a member or stockholder of the company.' This is met because Company D, after being issued RPS, will be a member in Company A.

•         Item 3 in the table include interests that carry rights to a variable or fixed return from the company, where either the right itself, or the amount of the return is at the company's discretion. This is also met, because the $XM dividend declared to Company D will be at the director's discretion.

Therefore, the RPS are classified as equity interests unlessthey are also classified as debt interests.

Are the RPS a debt interest?

Section 974-15 of the ITAA 1997 says a scheme gives rise to a debt interest if the scheme, or the combined effect of two or more related schemes together, would pass the debt test.

The conditions for the debt test are set by subsection 974-20(1) of the ITAA 1997. We describe and apply these requirements in Table 4.

Table 4: applying the debt test

Is there an 'effectively non-contingent obligation'?

The meaning of the phrase 'effectively non-contingent obligation' is discussed in section 974-135 of the ITAA 1997. Relevant points include:

•         there is an effectively non-contingent obligation to take an action under a *scheme if, having regard to the pricing, terms and conditions of the scheme, there is in substance or effect a non-contingent obligation: subsection 974-135(1)

•         an obligation is non-contingent if it is not contingent on any event, condition or situation (including the economic performance of the entity having the obligation or a *connected entity of that entity), other than the ability or willingness of that entity or connected entity to meet the obligation: subsection 974-135(3)

•         in determining whether there is in substance or effect a non-contingent obligation to take the action, have regard to the artificiality, or the contrived nature, of any contingency on which the obligation to take the action depends: subsection 974-136(6).

The Explanatory Memorandum to the New Business Tax System (Debt and Equity) Bill 2001, when explaining this concept at paragraphs 2.175 to 2.178, said that the 'effective' concept requires a 'substance over form' approach. Remote contingencies can be disregarded.

The term 'obligation' is not defined. However, meanings listed in the Macquarie Dictionary include:

•         a binding requirement as to action; duty

•         the binding power or force of a promise, law, duty, agreement etc

•         a binding promise or the like.[5]

Possible financial benefits Company A may be required to provide to Company D include the return of the subscription amount ($XX) and the proposed dividend ($XM).

Repaying the subscription amount to Company D

In ATO Interpretative Decision ATO ID 2003/873 Income Tax: Debt/Equity Interest: Redeemable Preference Shares - equity interest ('ATO ID 2003/873'), and ATO Interpretative Decision ATO ID 2003/200 Income Tax: Debt/Equity: Redeemable Preference Share ('ATO ID 2003/200')the Commissioner concluded that a requirement to return a face value on redemption, which was at the discretion of the issuing entity and/or the discretion of directors, was not an effectively non-contingent obligation. Since there is no compulsion for the issuing entity to redeem, redemption might not happen.

The RPS will give Company D a right to a return of the subscription amount of $X, but only on winding-up. Since it is not certain that Company A will be wound-up in the next ten years, if at all, this right does not create an effectively non-contingent obligation for Company A.

Paying the $XM dividend to Company D

In ATO ID 2003/200, the ATO also concluded that a requirement to pay a dividend, subject to the director's discretion, was not an 'effectively non-contingent obligation' even where the company had a history of profitability and regular dividend payments: past profitability does not create sufficient certainty of future economic performance.

For completeness, we note that ATO ID 2003/200 was published when dividends could only be paid out of profits. The present form of section 254T of the Corporations Act 2001 (Cth)requires that a company must not pay a dividend, unless the company's assets exceed its liabilities, the dividend is fair and reasonable to all shareholders, and does not materially prejudice the company's ability to pay its creditors.

In this case, the decision to pay a dividend on the RPS is not contingent on the company creating future profits: the dividend will instead be paid out of historical retained earnings. Company A has over $XM in retained earnings, and over $XM in surplus cash held in bank deposits. Company A will only be unable to pay a dividend if it incurs substantial liabilities, or substantial funds are extracted from the company for other reasons. The prospect that Company A will be unable to pay a dividend is arguably remote (assuming the dividend will be paid in the near future), so it could be argued that possibility is effectively non-contingent on Company A's future profitability and economic performance.

Nevertheless, it does not follow that Company A has an obligation to pay the dividend. Rather, Company A will only become obliged or committed to pay that dividend when its director passes a resolution to pay it. Since the dividend is contingent on Company A so resolving, creating the RPS does not create an effectively non-contingent obligation to pay the dividend.

Company A has no effectively non-contingent obligation to either return the subscription amount to Company D, or to pay it a dividend. Therefore, Company A does not have an effectively non-contingent obligation to provide a financial benefit under the scheme, and does not pass the debt test in section 974-20 of the ITAA 1997.

Conclusion

The RPS pass the equity test in section 974-75 of the ITAA 1997, and do not pass the debt test in section 974-30 of the ITAA 1997. The interests will be classified as equity interests under Subdivision 974-C of the ITAA 1997.

Question 2

Will the issue of the RPS give rise to the DVS rules applying under Division 725 of the ITAA 1997, and as such, cause CGT event K8 to occur?

Summary

No. We consider that the scheme involving all the Proposed Transactions will not trigger the DVS rules in Division 725 of the ITAA 1997.

Detailed reasoning

A DVS will arise under a scheme involving equity or loan interests in a target entity, if it meets conditions set by section 725-145 of the ITAA 1997. Broadly, these conditions are that:

•         there is a decrease in the market value of equity interests in the target entity: paragraph 725-145(1)(a), and

•         the decrease is reasonably attributable to things done under the scheme: paragraph 725-145(1)(b), and

•         under paragraph 725-145(1)(c) either:

-        equity/loan interests in the target entity are issued at a discount: see subsection 725-145(2) or

-        there must be an increase in the market value of equity/loan interests in the target entity: subsection 725-145(3).

Section 725-90 of the ITAA 1997 allows for a DVS to be reversed. Broadly, a DVS will be disregarded if the 'state of affairs' which brought it about will cease to exist within four years: subsection 725-90(1) of the ITAA 1997. However, the section stops applying if that state of affairs still exists at the end of those four years, or when a realisation event happens to the owner of the relevant interests: subsection 725-90(2) of the ITAA 1997.

Section 104-250 of the ITAA 1997 says that CGT event K8 happens if there is a taxing event generating a gain for a down interest under section 725-245 of the ITAA 1997. The capital gain is the gain generated from the taxing event.

Broadly, the phrase 'taxing events generating a gain' means an event causing a DVS which is listed in the table in section 725-245 of the ITAA 1997. The amount of the gain is worked out under section 725-365 of the ITAA 1997.

Defining the scheme

Section 995-1 of the ITAA 1997 says 'scheme' means 'any arrangement,' or 'any scheme, plan, proposal, action, course of action or course of conduct, whether unilateral or otherwise.' While the Commissioner may determine that a single scheme will be treated as two or more separate schemes, this is restricted to the debt/equity rules in Division 974 of the ITAA 1997.

Under the Proposed Transactions, Company A proposes to:

•         issue RPS to Company D, which will carry no rights other than a right to a return of the subscription amount ($10) on winding-up ('Step 1')

•         resolve to grant a discretionary dividend right to each RPS, ceasing within three years from the issue date, or earlier at the director's discretion ('Step 2')

•         pay a once-off, fully franked dividend of $XM on the RPS to Company D ('Step 3')

•         cancel the discretionary rights granted to each RPS ('Step 4').

The events in this sequence are connected. Company A has determined that all steps will take place as part of a single plan, directed at the objective of allowing Company D to extract accumulated retained earnings from Company A. Also, Steps 1, 2 and 3 make no sense considered in isolation. The RPS - considered in their original form after Step 1 - are virtually worthless, because they carry no rights to either dividends, votes, or a return of capital, besides a possible return of the face value on winding-up[6]. Granting the discretionary dividend right at Step 2 will allow Company A to pay the proposed $XM dividend at Step 3. However, it is envisaged as a once-off dividend. Step 4 indicates a pre-determined intention to cancel that dividend right once the dividend is paid, restoring the RPS to their original worthless state.

Since Steps 1 through 4 are connected, we conclude that all steps form part of the relevant scheme for the purposes of determining whether there is a DVS under Division 725 of the ITAA 1997. Therefore, we consider whether Steps 1 through 4, considered together as part of the same scheme, will create a value shift, rather than each step in isolation.

Is there a decrease in the market value of equity interests in Company A?

Spencer v Commonwealth [1907] HCA 82 is regularly cited as an authority for the meaning of 'market value.' Broadly, the judgements in that case provide support for the proposition that market value means the price at which willing, but not anxious, fully informed parties, would agree to buy or sell, after voluntary, arms' length bargaining.

The scheme comprised of Steps 1 through 4 will allow Company A to declare and pay dividends to Company D. If this happens, there will be fewer company assets available to pay to ordinary shareholders. Therefore, the price for which a fully informed arm's length purchaser would pay for ordinary shares in Company A would reduce, after the scheme. Therefore, the market value of Company A's ordinary shares will be reduced under the scheme.

Have equity interests been issued at a discount?

Section 725-150 of the ITAA 1997 says:

An ^* equity or loan interest is issued at a discount if, and only if, the *market value of the interest when issued exceeds the amount of the payment that the issuing entity receives. The excess is the amount of the discount.

The RPS issued to Company A will only be issued at a discount if they have market value. Initially, the shares will be worthless as they have no dividend, voting, or rights to a return of capital. At Step 2, they will be granted discretionary dividend rights, until those rights are cancelled at Step 4.

Clearly, the RPS will have value to Company D, because the scheme will allow an $XM dividend to be paid to it. However, determining what an arms' length purchaser would pay for the shares is more difficult. The nominal subscription value has no bearing on what an arms' length purchaser would pay for the preference shares, because the return of the subscription amount will only happen on winding-up, which will not happen at any pre-determined time, if it happens at all. The presence of ordinary shares, and another class of shares with discretionary dividend rights, allows Company A to pay dividends to either share class to the exclusion of the other.

It seems unlikely that a fully informed purchaser, acting at arms' length, from outside the family group, would pay any price for the RPS, at any point. The whole point of the scheme is to pay a 'once-off' dividend to a related party. It seems unlikely that Company A would pay a discretionary dividend to an arms' length third party who acquired the RPS. At all times, the 'market value' of these RPS will therefore be nil. Since the market value is nil, we cannot conclude that they have been issued at a discount. Therefore, subsection 725-145(2) of the ITAA 1997 is not satisfied.

Arguably the RPS would have 'market value' if sold to a third party when the $XM dividend had been declared but unpaid, so that the dividend rights would transfer to the purchaser. However, this seems an unrealistic possibility on the facts presented.

Has there been an increase in the value of equity interests?

Since the market value of the RPS will be nil throughout the scheme, there will be no increase in the value of equity interests under the scheme. Therefore, subsection 725-145(3) of the ITAA 1997 is not satisfied.

Since equity interests have not been issued at a discount, or had their market value increase, there will be no DVS under section 725-145 of the ITAA 1997 under the scheme.

Value shifts that may be reversed

Even if the scheme did cause a DVS under section 725-145 of the ITAA 1997, the discretionary dividend rights granted to the RPS under Step 2 will be cancelled within three years. Therefore, to the extent that Step 2 caused a value shift, it would be reversed within three years under Step 4. Section 725-90 of the ITAA 1997 would therefore apply so that there were no CGT consequences under Division 725.

CGT event K8

Section 104-250 of the ITAA 1997 says that CGT event K8 will happen if there is a taxing event generating a gain for a down interest under section 725-245 of the ITAA 1997. Since the Proposed Transactions will not cause a DVS, there will be no taxing event generating a gain. CGT event K8 will not happen.

Conclusion

The scheme involving all the Proposed Transactions will not meet the conditions of section 725-145 of the ITAA 1997. There will be no DVS under Division 725 of the ITAA 1997. CGT event K8 will not happen.

Question 3

Will section 725-90 of the ITAA 1997 (about DVS that are reversed) apply to prevent any consequences under Division 725 of the ITAA 1997 for any DVS that happens upon the variation of rights to dividends attached to the RPS where those rights cease within four years, and no realisation event has happened to an affected interest in Company A before that cessation?

Summary

N/A, because there will be no DVS under the scheme.

Detailed reasoning

Our answer to Question 2 concluded that the relevant scheme (including issuing the RPS, granting discretionary dividend rights on those shares, declaring and paying the dividend, and cancelling the discretionary dividend rights) will not cause a DVS. Therefore, it is unnecessary to consider whether section 725-90 of the ITAA 1997 would apply.

Question 4

Will section 725-90 of the ITAA 1997 (about DVS that are reversed) apply to prevent any consequences under Division 725 of the ITAA 1997 for any DVS that happens upon the declaration and payment of a dividend to the holder of the RPS?

Summary

N/A, because there will be no DVS under the scheme.

Detailed reasoning

Our answer to Question 2 concluded that the relevant scheme (including issuing the RPS, granting discretionary dividend rights on those shares, declaring and paying the dividend, and cancelling the discretionary dividend rights) will not cause a DVS. Therefore, it is unnecessary to consider whether section 725-90 of the ITAA 1997 would apply.

Question 5

Will payments of future dividends on the RPS be frankable distributions as defined in section 202-40 of the ITAA 1997?

Summary

Yes. Payments of future dividends on the RPS will be frankable distributions under section 202-40 of the ITAA 1997, because they will not be made 'unfrankable' under section 202-45 of the ITAA 1997.

Detailed reasoning

Section 202-40 of the ITAA 1997 says a distribution is a frankable distribution to the extent that it is not unfrankable under section 202-45 of the ITAA 1997.

Section 202-45 of the ITAA 1997 sets out types of distributions which are unfrankable. We list and apply the types of unfrankable distributions in Table 5.

Table 5: unfrankable distributions

The RPS do not fall within any of the categories of unfrankable distributions in section 202-45 of the ITAA 1997.

Conclusion

The RPS will be frankable distributions under section 202-40 of the ITAA 1997 because they are not unfrankable distributions under section 202-45 of the ITAA 1997.

Question 6

Will Company D be entitled to a tax offset equal to the franking credits on the future dividends under subsection 207-20(2) of the ITAA 1997?

Summary

Yes. Company D will be entitled to a tax offset equal to the franking credits on future dividends paid on the RPS, under subsection 207-20(2) of the ITAA 1997.

Detailed reasoning

Section 207-20 of the ITAA 1997 says that if an entity makes a franked distribution to another entity, the receiving entity:

•         includes the franking credit in its assessable income, and

•         is entitled to a tax offset equal to the franking credit.

Other provisions in Division 207 of the ITAA 1997 modify and/or override the general rule. Very broadly:

•         subdivision 207-B of the ITAA 1997 applies to franked distributions received through trusts and partnerships

•         subdivision 207-C of the ITAA 1997 says that for the gross-up and tax offset treatment to apply for an individual or company recipient, the recipient must be an Australian resident

•         subdivision 207-D of the ITAA 1997 denies the gross-up and tax offset where the distribution would be exempt income or NANE to the recipient, unless exceptions in subdivision 207-E of the ITAA 1997 apply

•         provisions in subdivision 207-F of the ITAA 1997 deny the gross-up and tax offset in specified situations.

Company D is incorporated in Australia, so it is an Australian resident under 6(1) of the ITAA 1936. Therefore, it meets the residency requirement. It did not receive distributions through trusts or partnerships, and the distribution would not be exempt income or NANE in its hands. Subdivisions 207-B and 207-D of the ITAA 1997 are not relevant.

Section 207-145 of the ITAA 1997 denies the gross-up and tax offset treatment where a franked distribution in circumstances listed in that section. We describe and apply these circumstances in Table 6.

Table 6: circumstances denying gross-up and tax offset treatment for franked distributions

Conclusion

Section 207-145 of the ITAA 1997 will not apply to deny the imputation gross-up and offset treatment on dividends paid to Company D on the RPS. It follows that Company D will be entitled to offsets equal to the imputation credits which attach to those dividends.

Question 7

Will the dividend streaming provisions contained in Subdivision 204-D of the ITAA 1997 apply to the payment of future dividends on the RPS?

Summary

No. The dividend streaming provisions in subdivision 204-D of the ITAA 1997 will not apply to dividends paid on the RPS under the Proposed Transactions.

Detailed reasoning

Section 204-30 of the ITAA 1997 gives the Commissioner the power to make determinations where the entity 'streams' distributions, in such as a way that:

•         an *imputation benefit is, or apart from this section would be, received by a *member of the entity as a result of the distribution or distributions: paragraph 204-30(1)(a); and

•         the member would *derive a *greater benefit from franking credits than another member of the entity: paragraph 204-30(1)(b); and

•         the other member of the entity will receive lesser imputation benefits, or will not receive any imputation benefits, whether or not the other member receives other benefits: paragraph 204-30(1)(c).

Imputation benefit is defined in paragraph 204-30(6)(a) of the ITAA 1997 to include a tax offset under Division 207 of the ITAA 1997.

Subsections 204-30(8),(9) and (10) of the ITAA 1997 give non-exhaustive cases where a member derives a greater benefit from franking credits than another member:

•         the other member is a foreign resident: paragraph 204-30(8)(a)

•         the other member would not be entitled a tax offset under Division 207 of the ITAA 1997: paragraph 204-30(8)(b)

•         the amount of tax payable would be less than the offset: paragraph 204-30(8)(c)

•         the other member is a corporate tax entity, but can't receive a franking credit or pass on the franking credits to its own members: paragraphs 204-30(8)(d) and 204-30(8)(e)

•         either member is an exempting entity: paragraphs 204-30(8)(f), 204-30(9)(a), 204-30(9)(b), and 204-30(9)(c)

•         it is entitled to a tax offset and the other member is not: subsection 204-30(10).

Paragraphs 204-30(1)(a) and 204-30(1)(c) of the ITAA 1997 are met, because Company D will receive a greater imputation benefit than Person B under the Proposed Transactions. However, paragraph 204-30(1)(b) of the ITAA 1997 is not met, because Person B and Company D are both Australian residents, and there is no suggestion that Person B would have a reduced entitlement to imputation benefits.

We conclude that Company D will not receive a Company D will not receive a greater benefit from franking credits than Person B.

Conclusion

Section 204-30 of the ITAA 1997 will not apply to the Proposed Transactions because Company D will not receive a greater benefit from franking credits than Person B.

Question 8

Will the dividend stripping rules contained in subdivision 207-F of the ITAA 1997 and section 177E of the ITAA 1936 apply to the payment of future dividends on the RPS?

Summary

No. The dividend stripping rules contained in subdivision 207-F of the ITAA 1997 and section 177E of the ITAA 1936 will not apply to the payment of future dividends on the RPS. Broadly, while the Proposed Transactions contain some characteristics of dividend stripping, we conclude that it was not entered into for a non-incidental purpose of tax avoidance.

Detailed reasoning

General principles of dividend stripping

Broadly, sections 207-155 of the ITAA 1997 and 177E of the ITAA 1936 are directed at dividend stripping arrangements.

Section 207-155 of the ITAA 1997 defines the circumstances where a distribution is taken to be made as part of a 'dividend stripping operation.' The section reads:

A distribution made to a *member of a *corporate tax entity is taken to be made as part of a dividend stripping operation if, and only if, the making of the distribution arose out of, or was made in the course of, a *scheme that:

(a) was by way of, or in the nature of, dividend stripping; or

(b) had substantially the effect of a scheme by way of, or in the nature of, dividend stripping.

Section 177E of the ITAA 1936, applying to dividend stripping arrangements, is an extension to the general anti-avoidance provisions in Part IVA of the ITAA 1936 ('Part IVA').

Broadly, section 177E of the ITAA 1936 uses similar wording to section 207-155 of the ITAA 1997. It applies where:

•         any property of the company is disposed of as a result of:

-        a scheme by way of or in the nature of dividend stripping; or

-        a scheme having substantially the effect of a scheme by way of or in the nature of dividend stripping: paragraph 177E(1)(a)

•         in the Commissioner's opinion, the disposal of that property represents a distribution of the company's profits (whether from the current, or an earlier or later accounting period): paragraph 177E(1)(b)

•         if the company paid a dividend out of profits immediately before the scheme, it would have been included, or might reasonably be expected to have been included, in the taxpayer's assessable income: paragraph 177E(1)(c).

If section 177E of the ITAA 1936 applies, then:

•         the scheme shall be taken to be a scheme to which Part IVA applies: paragraph 177E(1)(e)

•         the taxpayer is taken to have obtained a tax benefit under Part IVA, equal to the amount which would (or might reasonably be expected to) have been included in the taxpayer's assessable income: paragraphs 177E(1)(f) and 177E(1)(g).

The ATO view on how section 177E of the ITAA 1936 applies to 'dividend access share' arrangements is explained in Taxation Determination TD 2014/1 Income tax: is the 'dividend access share' arrangement of the type described in this Taxation Determination a scheme 'by way of or in the nature of dividend stripping' within the meaning of section 177E of Part IVA of the Income Tax Assessment Act 1936? ('TD 2014/1').

Paragraph 17 of TD 2014/1 restates characteristics of a 'dividend stripping' scheme, taken from discussions in Federal Commissioner of Taxation v Consolidated Press Holdings [2001] HCA 32 ('Consolidated Press Holdings'), and Lawrence v Commissioner of Taxation [2009] FCAFC 29 ('Lawrence'). We apply these principles in Table 7.

Table 7: characteristics of a 'dividend stripping' scheme

Fifth characteristic: vendor shareholders receive a capital sum

While some of the features of a classic 'dividend stripping' arrangement are not present, TD 2014/1, at paragraphs 19 and 20, says that the words 'by way of or in the nature of' suggest that variations could still fall within the scope of section 177E. For example, a scheme will satisfy the fifth characteristic (vendor shareholders receiving a capital sum) if the substance of the scheme directs the target company's profits away from existing shareholders to another party, with the existing shareholders being compensated in a substantially tax-free form.

In this scenario, the existing shareholder (Person B) has not received a capital payment, or any payment, as compensation for the dividend to be paid to Company D.

However, the first instance judgment of Lawrence v Commissioner of Taxation [2008] FCA 1497, at [85], Jessup J suggested that section 177E of the ITAA 1936 would still apply in the absence of a direct capital benefit, where the taxpayer, or associates of the taxpayer, received the benefit of payments under the scheme via trust distributions.[9]

In line with this suggestion, it could be argued that the fifth characteristic of a dividend stripping arrangement would be met where the spouse of an existing shareholder received the ultimate benefit of a dividend. In this case, the dividend will be paid to Company D, which is owned and controlled by Person B's spouse Person C. If Company D pays dividends, those dividends will flow to Person C, so Person C will receive the ultimate benefit. In many cases, where spouses live together on a domestic basis, it could be inferred that benefits from payments received by one spouse would flow to the other spouse.

However, in Lawrence, the trusts receiving the dividends were controlled by the controlling mind of the company, who was also a potential beneficiary under the trust. Person C has been described as the 'sole controller' of Company D, and there is no indication that Person B exercises any control over Company D or Person C. It is not clear that Jessup J's suggestion would extend to a case where the benefit flows through an entity, which, while associated with the taxpayer, is controlled by a person who exercises independent control of that entity.

Since it is not clear whether section 177E of the ITAA 1936 may apply to an arrangement with the general features of the Proposed Transactions, we will consider whether the relevant tax avoidance purpose is established.

Predominant purpose of avoiding tax on a dividend

To summarise some other points made in TD 2014/1:

•      to decide whether there is a scheme 'by way of' or 'in the nature of' dividend stripping, it is necessary to determine if there is an objective purpose of tax avoidance [paragraph 6]

•      in determining objective purpose, an assertion that another non-tax purpose exists must be supported by other evidence, and not be inconsistent with the objective facts considering all other relevant evidence [paragraph 6]

•      it is necessary to consider whether the alleged non-tax purpose could have been achieved in a simpler or more commercially usual manner for example, could an asset protection purpose have been achieved by declaring and paying a dividend on ordinary shares [paragraphs 7, and 23 to 25]

•      the Commissioner will examine all the evidence and objective features of an arrangement to determine whether the arrangement has been carried out with the sole or dominant purpose of avoiding tax on distributions from the target company - an arrangement with a non-tax purpose may still be undertaken for the dominant purpose of avoiding tax [paragraph 8].

Consolidated Press Holdings at [138] the High Court concluded that the requirement for a tax avoidance purpose also extends to the second limb in subparagraph 177E(1)(a)(ii): substantially the effect of a scheme by way of or in the nature of dividend stripping.

The sixth feature in the list of characteristics of dividend stripping arrangements is that they are motivated by the predominant purpose of vendor shareholders avoiding tax on a distribution of dividends by the target company.

This suggests it is necessary to compare the tax outcomes under the scheme with the tax outcomes if the original shareholder received a dividend equal to the profits 'stripped' under the scheme. Clearly, Person B would have had a significant tax liability if Person B received an ordinary dividend equal to that proposed to be paid to Company D on the RPS ($XM, with attached franking credits). Assuming a top marginal rate of 45%, the rough effect would be that Person B would pay tax on the difference between 45% and Company A's franking rate of 26% (we refer to a tax liability on a dividend paid to an individual, after the effect of franking credits and franking offsets as 'top-up tax' for convenience). At first glance, this may suggest a tax avoidance purpose.

However, other considerations are that:

•         Company A has no history of paying similar sized dividends to its shareholder: the largest dividend paid in the last decade was about $XXX

•         Company D is wholly owned by Person C, who has a similar tax profile to Person B

•         all entities - Person B, Person C and Company D - are Australian residents entitled to claim franking offsets

•         the dividend will be paid to Company D, which has a 30% tax rate, which is greater than Company A's rate of 26% - taking franking credits and offsets into account, it would have a tax liability representing the 4% difference on the assessable income from the dividend, including franking credits.

Person B arguably avoids paying tax on the hypothetical dividend, and Company D would pay a lower amount. However, Company D's shareholder would pay tax when profits are extracted from it, so this may be no more than a timing benefit. On this point, there is nothing in recent dividend history to suggest that Company A was likely to pay a similarly sized dividend to Person B, absent the scheme. The only individual who can extract profits from Company D is Person C. It is possible that the diversion of a substantial amount of Company A's profits to Company D could facilitate 'income splitting' between Person B and Person C over the longer term. However, Person C would most likely pay top-up tax on dividends at a similar rate to Person B, if and when Company D chose to pay them. There is nothing in the facts to suggest which Person B and Person C will have materially different tax profiles in the future which would enable substantial tax benefits from income splitting. On balance, the circumstances tend against a conclusion that avoiding tax on a dividend was a substantial purpose for the Proposed Transactions.

The applicant has submitted that:

•         the Proposed Transactions are motivated by asset protection, rather than avoiding tax on a potential dividend to Person B

•         Person B is concerned that Company A's retained earnings could be at risk from potential liability, and is also concerned that claims could extend to Person B as Company A's sole director.

•         Company A and Person B are at high risk, and that Person C and Company D are low risk entities: it makes sense for Company A to transfer surplus funds to Company D, so that they can be invested by a lower risk entity

•         Company A has no present intention to pay dividends to natural persons: if the Proposed Transactions didn't proceed, the most likely alternative scenario is that the money would remain in a bank account held by Company A.

TD 2014/1 suggests that determining whether transactions are motivated by tax avoidance should be resolved by facts and evidence. Therefore, we consider that the proper approach to determine whether the Proposed Transaction is motivated by tax avoidance should be an objective test based on the facts disclosed in the ruling application, and that the subjective submissions or motivations of the taxpayer are not necessarily determinative. In this case, we consider that relevant facts include:

•         Company A has retained earnings of $X, and $XM in liquid funds, which are surplus to working capital requirements. Out of these liquid funds, approximately $XM is held in term deposits.

•         Company A performs trade services work on major building projects

•         Person B is Company A's managing director and effective controller.

•         Company D is owned and controlled by Person C. While Person C works for Company A, Person C is an administrative worker and/or office manager. Person C is not a director of Company A.

•         Neither Company A nor Person B have ever been sued for claims arising out of the business, or directed by a statutory authority to correct defective trade services work.

•         Neither Company A nor Person B are presently in litigation, and are not subject to any actual or threatened creditor claims.

•         Company A has several insurance policies, covering professional indemnity, management liability, directors and officers liability workers compensation, general property, public and product liability, and contract works. The maximum insurable amount under these policies is $XM in public and product liability.

•         Company A holds all relevant licenses needed to carry out its trade services work.

•         Person B has not given any personal guarantees about the business. Person B does not have to, for example, contract with clients personally, or personally guarantee performance of Company A's contracts.

Several facts might lean against a finding that asset protection is the major motivation for the Proposed Transaction. For example, neither Company A nor Person B have ever been sued or been required to correct defective work, and are not currently being sued. Also, Company A is covered by substantial insurance policies including public and product liability, professional indemnity, contract works, and directors and officers liability. Since Company A has appropriate insurance, this mitigates against the asset protection risk.

However, as a trade services provider working on major projects, we accept that there is a potential risk to Company A. The fact that Company A has obtained insurance (whether as a trade/regulatory requirement or out of choice) tends to corroborate that the risk is genuine. As the applicant has noted, given the scale of Company A's projects, it is possible that liability could exceed the maximum insurable amount under any policy. Also, insurance claims may not be covered in some circumstances (or at least claims could be disputed by insurance providers).

As mentioned at paragraph 96, TD 2014/1 suggests that to evaluate whether a transaction is motivated by asset protection, it is necessary to ask whether the asset protection purpose could have been achieved by paying a dividend to the original shareholder.

The applicant has submitted that paying a dividend to Person B would not achieve this asset protection purpose, because Person B is at risk of being sued in a personal capacity.

As a general legal principle, companies are separate legal entities from their directors and shareholders.[10] Therefore, those individuals would not ordinarily be liable for company debts or liabilities.

The applicant has submitted that there are some exceptions to this general principle which create a significant liability risk for Person B, including:

•         state workplace health and safety laws ('WH&S laws')

•         breach of director's duties

•         misleading and deceptive conduct claims

•         tort claims, such as in negligence.

WH&S laws

We accept that directors may face sanctions resulting from industrial accidents under WH&S laws. Company A conducts trade services business operating on major building projects, with a significant number of employees, so this seems a realistic threat. However, that threat would only be relevant to an 'asset protection' purpose to the extent that Person B was at risk of substantial financial penalties, where those financial penalties were not covered by, or exceeded, director liability insurance. This seems unlikely.[11]

Breach of director's duties

Companies may bring actions against a director for breaches of directors' duties.[12] Since Person B is the current sole shareholder of Company A, and sole controller, this would only happen if Company A enters liquidation and a liquidator chose to bring proceedings against Person B.

Misleading and deceptive conduct claims

The applicant has submitted that another example of possible liability is proceedings against a director for misleading or deceptive conduct under section 18 of Schedule 2 to the Competition and Consumer Act 2010, also known as the Australian Consumer Law ('ACL'). While this may be a risk if Person B engages in negotiations or representations on behalf of his company, we note that the maximum pecuniary penalties under the ACL are lower for natural persons than for corporations.[13] Also, Section 224 of the ACL caps 'pecuniary penalties' for a non-body corporate at $500K. Company A has management liability insurance, which includes directors and officers liability of $1M. It seems unlikely that claims under the ACL would exceed Company A's insurance.

Tort claims

For ordinary civil claims by unrelated parties, Person B would not automatically be liable for Company A's liabilities. However, directors are sometimes joined in actions against a company, if there is some conduct which gives rise to a separate personal liability to the plaintiff. For example, where the director either:

•         directed or procured the tort in some way[14]

•         made the tortious act their own act, for example, through personal deliberateness or recklessness[15]

•         assumed responsibility in some way, eg exercised particular control[16]

•         gave some personal guarantee, undertaking, or statement to the plaintiff, which would establish a duty of care, or alternatively a separate contractual claim.

Therefore, we accept that Person B, while a lower liability risk than Company A, is still at some risk of personal liability arising out of Company A's business. Paying a dividend to Person B would not protect against this risk, because it could form part of Person B's personal assets. Of course, Person B would have the option of transferring any dividend to another party (such as Company D or Person C). However, if Person B became bankrupt, it is possible that the trustee in bankruptcy could claw back related-party transactions which occurred before the bankruptcy.[17] Another common strategy to achieve asset protection would be to interpose a head company above Company A (perhaps in combination with a rollover). However, while the Head Company would not be at risk of being sued by Company A's creditors, Person B would be the shareholder in the Head Company, so his shares in the Head Company could be at risk if Person B became bankrupt. Therefore, we accept that these possible alternative strategies would not achieve the asset protection objective as effectively as the Proposed Transactions.

We also considered whether a strategy which might achieve this asset protection objective in a simpler manner would be if Company A simply made a payment to Company D (or made and then forgave a loan), without issuing RPS or declaring a dividend. However, if Company A later enters liquidation, these might be voidable transactions under section 588FE of the Corporations Act 2001, able to be clawed back by a liquidator.[18] Also, it is possible that Person B would be in breach of director's duties if Person B caused or authorised Company A to enter these transactions.[19]

Since we accept that the Proposed Transactions would achieve the asset protection objective more effectively than alternative strategies, we consider that objectively, asset protection provides a significant explanation for the Proposed Transactions.

On balance, we consider that this asset protection purpose provides a better explanation for the Proposed Transactions than possible tax benefits, such as timing benefits or income splitting between Person B and Person C. Therefore, the sixth characteristic of dividend stripping arrangements (as described in TD 2014/1 and case law on dividend stripping) is absent.

Conclusion

One of the characteristics of dividend stripping - a tax avoidance purpose - is absent. We conclude that the Proposed Transactions cannot be described as an arrangement by way of, or in the nature of, or having substantially the effect of dividend stripping. Therefore, neither section 207-155 of the ITAA 1997 nor section 177E of the ITAA 1936 will apply. To put that another way, this means that:

•         the scheme will not be taken to result in a tax benefit to Person B for the purposes of Part IVA, and

•         the dividend paid on the RPS to Company D will not be denied gross-up and tax offset treatment under paragraph 207-145(1)(d) of the ITAA 1997 on the grounds that it was made as part of a dividend stripping operation.

Question 9

Will the franking credit benefit trading rules in section 177EA of the ITAA 1936 apply to the payment of future dividends on the RPS?

Summary

No. The franking benefit trading rules in section 177EA of the ITAA 1936 will not apply to the payment of future dividends on the RPS. Broadly, while the Proposed Transactions will meet some of the conditions of this provision, it does not have the effect of streaming imputation benefits to entities who gain a greater benefit than other potential recipients.

Detailed reasoning

Broadly, section 177EA of the ITAA 1936 applies to schemes for disposing of membership interests in a company for the purpose of obtaining imputation benefits. Where this section applies, the Commissioner may make a determination to either debit the company's franking account, or cancel imputation benefits flowing to the relevant taxpayers.

Section 177EA of the ITAA 1936 will apply where the conditions in subsection 177EA(3) of the ITAA 1936 are met. We describe and apply these requirements in Table 8.

Table 8: requirements in subsection 177EA(3)

Was the scheme entered into for a purpose of obtaining an imputation benefit?

Section 177EA(3) of the ITAA 1936 will only apply if at least one person who entered into or carried out the scheme did so for a purpose (which is not necessarily dominant, but must not be an incidental purpose) of enabling a relevant taxpayer to obtain an imputation benefit.

The Explanatory Memorandum to the Taxation Laws Amendment Bill (No. 3) 1998, in explaining this requirement at paragraph 8.74, says that the test of purpose is objective.

In Mills v Commissioner of Taxation [2012] HCA 51, at [66] Gageler J said that under section 177EA of the ITAA 1936, a purpose can be incidental even where it is central to the design of a scheme, if that design is directed to the achievement of another purpose.

Subsection 177EA(17) of the ITAA 1936 says the relevant circumstances of a scheme include factors outlined in paragraphs (a) through (j). Paragraph 177EA(17)(j) of the ITAA 1936 incorporates factors in subsection 177D(2) of the ITAA 1936, which are relevant to determining the purpose of a scheme under the general anti-avoidance provisions. We summarise and apply the factors listed in section 177EA of the ITAA 1936 in Table 9.

Table 9: factors in subsection 177EA(17)

One factor which might suggest that the Proposed Transactions were designed for the purpose of Company D obtaining imputation benefits, is that Company D's benefits of holding shares are hugely disproportionate to the risks of ownership. In that sense, the scheme is directing imputation benefits away from the true economic owner to another party. However, all other factors listed in subsection 177EA(17) of the ITAA 1936 suggest otherwise. Company D doesn't receive any greater advantage from those imputation benefits than Company A's ordinary shareholder (Person B) would. Nevertheless, it seems likely that it is an intended feature of the Proposed Transactions that Company D will obtain imputation benefits. However, while arguably an intentional design feature, that purpose of delivering imputation benefits is simply incidental to the intention of paying a dividend. The effect of the Proposed Transactions doesn't stream benefits to an entity who can make better use of those benefits than Person B.

Conclusion

On balance, we conclude that the Proposed Transactions were not entered into for a non-incidental purpose of enabling Company D to obtain an imputation benefit. Therefore, section 177EA of the ITAA 1936 will not apply.

Question 10

Will the payments of future dividends on the RPS constitute a scheme to which section 177C and 177D of the ITAA 1936 apply such that the Commissioner will make a determination under section 177F of the ITAA 1936?

Summary

No. Broadly, we consider that the Proposed Transactions do not form a scheme entered into for the dominant purpose of obtaining a tax benefit, for the purposes of Part IVA.Therefore, the Commissioner will not make a determination under section 177F of the ITAA 1936.

Detailed reasoning

Broadly, section 177F of the ITAA 1936 allows the Commissioner to cancel a tax benefit to which Part IVA applies. The effect of section 177D of the ITAA 1936 is that Part IVA will apply to a scheme, if it would be concluded that the person/s entered into or carried out a scheme for the purpose (or dominant, if there are two or more purposes) of obtaining a tax benefit.

Law Administration Practice Statement PS LA 2005/24 Application of General Anti-Avoidance Rules ('PS LA 2005/24') is an ATO document designed to assist ATO officers in applying Part IVA. At paragraph 54, PS LA 2005/24 makes comments to the effect that the concepts of 'scheme', 'tax benefit' and 'dominant purpose' are interconnected:

Focussing on the various elements of Part IVA should not obscure the way in which the Part as a whole is intended to operate. What constitutes a scheme is ultimately meaningful only in relation to the tax benefit that has been obtained since the tax benefit must be obtained in connection with the scheme. Likewise, the dominant purpose of a person in entering into or carrying out the scheme, and the existence of the tax benefit, must both be considered against a comparison with an alternative.

While mindful of this caution, we discuss each element (scheme, tax benefit, and dominant purpose) in turn for convenience.

Scheme

Section 177A of the ITAA 1936 says that 'scheme' means:

(a) any agreement, arrangement, understanding, promise or undertaking, whether express or implied and whether or not enforceable, or intended to be enforceable, by legal proceedings; and

(b) any scheme, plan, proposal, action, course of action or course of conduct.

We characterise the relevant scheme as including all steps of the Proposed Transactions. That is, would include not only the payment of the dividend to Company D, but all steps taken to allow it to happen, such as:

•         issuing the RPS to Company D (on no-dividend terms)

•         resolving to grant a discretionary dividend right to each RPS, ceasing within three years

•         paying a fully franked dividend of $XM to Company D, as part cash and part loan repayment

•         cancelling the dividend rights.

Clearly this would be an arrangement, plan, or proposal, and therefore a 'scheme' as defined in section 177A of the ITAA 1936.

Tax benefit - general principles

Sections 177C of the ITAA 1936 defines 'tax benefit' for the purposes of Part IVA, as modified by section 177CB of the ITAA 1936. Broadly, to summarise the effect of relevant provisions within these sections:

•         a reference to a 'tax benefit' includes an amount not being included in the assessable income of the taxpayer where that amount either

o   would have been included, ('the annihilation limb') or

o   might reasonably be expected to have been included ('the reconstruction limb')[22]

in the taxpayer's assessable income if the scheme had not been entered into or carried out: paragraph 177C(1)(a)

•         a reference to a tax benefit does not include an amount where the non-inclusion is attributable to the making of a declaration, agreement, election, selection or choice, giving of notice, or exercising an option expressly provided under tax law (with specified exclusions): paragraph 177C(2)(a)

•         a decision that a tax effect would have occurred must be based on a postulate that comprises only the events or circumstances that actually happened or existed (other than those that form part of the scheme): subsection 177CB(2)

•         a decision that a tax effect might reasonably be expected to have occurred must be based on a postulate that is a reasonable alternative to entering into or carrying out the scheme: subsection 177CB(3)

•         in determining whether a postulate is such a reasonable alternative under subsection 177CB(3), it is necessary to have regard to the substance, and result or consequences of the scheme, but disregarding 'any result in relation to the operation of this Act that would be achieved by the postulate': subsection 177CB(4).

To summarise some points made in the Explanatory Memorandum to the Tax Laws Amendment (Countering Tax Avoidance and Multinational Profit Shifting) Bill 2013

•         under the annihilation limb, when postulating what would have happened in the absence of the scheme, the scheme must be assumed not to have happened, and the 'postulate' must only incorporate the remaining steps once that scheme is assumed away: paragraphs 1.77-1.80

•         under the reconstruction limb:

-        the alternative postulate must represent a reasonable alternative to the scheme, in that it could reasonably take its place: paragraph 1.86

-        the alternative postulate may require speculation about the way in which connected transactions could have been modified if they had to accommodate the absence of the scheme: paragraph 1.87

-        a taxpayer will obtain a tax benefit if it can be demonstrated that the tax effect avoided, or advantage gained, by the scheme would have flowed from the alternative postulate: paragraph 1.88

-        if a postulate that the scheme merely would not have happened would be inconsistent with the non-tax results and consequences sought by the taxpayer, then a reconstruction approach may expose other ways in which the non-tax results and consequences could reasonably have been achieved without the tax advantages: paragraph 1.93

-        it would be expected that a postulate that is a reasonable alternative to the scheme would achieve comparable non-tax results and consequences: paragraph 1.110.

At paragraph 109, PSLA 2005/24 says that when identifying reasonable alternatives under the reconstruction limb, it may be useful to consider:

•         the most straightforward and usual way of achieving the commercial and practical outcome of the scheme (disregarding the tax benefit)

•         commercial norms, for example, standard industry behaviour

•         social norms, for example, family obligations

•         behaviour of relevant parties before/after the scheme compared with the period of operation of the scheme

•         the actual cash flow.

Tax benefit - application to the Proposed Transactions

We consider two possible tax benefits which could arise from the Proposed Transactions.

Under the Proposed Transactions, Company A will pay an $XM franked dividend to Company D (which will pay tax at the corporate rate on that dividend, reduced by franking offsets) rather than to its ordinary shareholder, Person B. If the Proposed Transactions did not occur as planned, one possibility is that Company A could have paid a similar dividend to Person B ('the Person B dividend postulate').

We concluded in Questions 2 through 4 that the DVS rules in Division 725 of the ITAA 1997 will not apply to the Proposed Transactions. We have considered whether the non-application Division 725 of the ITAA 1997 could be a tax benefit. That is, if the arrangement was structured differently so that a DVS occurred from Person B's ordinary shares to the RPS issued to Company D ('the DVS postulate'), Person B may have been required to include an amount in his assessable income from a taxable event.

We address the Person B dividend postulate at paragraphs 142 to 145, and the avoiding DVS postulate at paragraphs 146 to 152.

Tax benefit under the Person B dividend postulate

If the Person B dividend postulate is a reasonable possibility, it would be reasonable to expect that a franked dividend would have been included in Person B's assessable income. This is a potential tax benefit as defined in paragraph 177C(1)(a) of the ITAA 1936.

Of course, it could be argued that the Person B dividend postulate is not a reasonable alternative to the Proposed Transactions. For example:

•         as submitted by the applicant, the Proposed Transactions are not motivated by asset protection, so the Person B dividend postulate would not achieve the 'commercial and practical outcome' of the scheme, as Person B faces potential liability as Company A's director

•         the applicant has submitted that Company A has no present intention of paying dividends to natural persons

•         Company A's dividend history over the last decade does not suggest it would have ever paid $XM to Person B in any single year.

The second and third points in paragraph 143 would not necessarily be decisive in rejecting the Person B dividend postulate. Part IVA (at least when determining the dominant purpose under section 177D of the ITAA 1997) is an objective standard, so the subjective statements about a taxpayer's intentions should be treated with caution.[23] Further, the history of not paying large dividends to natural persons may have been partly motivated by the tax consequences: individuals would usually incur top-up tax. Tax consequences should be disregarded when determining the 'reasonableness' of alternatives under the reconstruction limb: subsection 177CB(4) of the ITAA 1936.

As for the first argument in paragraph 143, we concluded that the asset protection motivation provided a significant explanation for the Proposed Transactions in Question 8 at paragraphs 96 to 117. The fact that asset motivation is significant in explaining the transaction suggests that an alternative which would not achieve that purpose is not a reasonable alternative. For similar reasons, an alternative which involved Company A paying an $XM dividend to Person B would not achieve the commercial objectives of the Proposed Transactions. Therefore, the better view is the Person B dividend postulate is not a reasonable alternative. It follows that:

•         it would not be reasonable to expect that a franked dividend would have been included in Person B's assessable income, but for the scheme

•         no tax benefit arises under the scheme from Person B not receiving a dividend or including it in his assessable income.

Tax benefit under the DVS postulate

Had the DVS rules in Division 725 of the ITAA 1997 applied, it is possible that CGT event K8 could have happened to Person B, which could have created a capital gain which would have been included in his assessable income. However, the provisions in section 177C and 177CB of the ITAA 1936 are unlikely to apply to the Proposed Transactions in this way for several reasons.

1.         Under the annihilation limb, the scheme involving issuing RPS, varying the RPS rights, declaring the dividend, and cancelling those RPS rights, would not have occurred. If the entire scheme is assumed away, there would be no tax consequences.

Broadly, under the reconstruction limb, it is necessary to identify a reasonable alternative postulate to the scheme which would achieve the same non-tax consequences. A few possible alternatives (relevant to DVS) might include:

•         issuing RPS to Company D with discretionary dividend rights at the outset (rather than initially issuing RPS without dividend rights and then varying them)

•         issuing RPS to Company D with permanent discretionary dividend rights (so that section 725-90 of the ITAA 1997 would not apply)

•         issuing RPS to Company D with rights to a once-only dividend of a certain amount at a predetermined time

•         issuing ordinary shares to Company D (at a discount) rather than RPS.

The first and second possibilities mentioned in paragraph 148 (issuing RPS with pre-existing dividend rights, or permanent dividend rights) would not cause the value shifting regime to apply. The RPS would still not be issued at a discount, or have an increase in their market value, for the reasons discussed at paragraphs 51 to 54. Therefore, there could be no tax benefit under those possibilities.[24]

The third possibility mentioned in paragraph 148 (issuing RPS with rights to a once-only dividend) arguably would create a value shift: the RPS would have market value until the dividend was paid, so it is likely that the RPS would have been issued to Company D at a discount. However, the 'state of affairs' which created that value shift would most likely cease to exist within four years, assuming that the dividend was to be paid within that time. Therefore, section 725-90 of the ITAA 1997 would apply, so that the value shifting provisions could not apply. Therefore, there would be no tax benefit.

Further, it could be argued that the third possibility in paragraph 148 is not a reasonable alternative to the scheme. Varying the terms of the RPS so that Company A had no discretion about the timing or amount of the dividend, but was legally required to make a payment of a specified amount at a specified date, would have non-tax consequences. Company A would 'locked in' to paying a particular amount, even if intervening events made the payment no longer advisable. For example, the RPS terms could require Company A to pay a dividend to Company D, even if it no longer had surplus funds available, or if Company D or Person C incurred liabilities or certain events occurred which raised their risk profile. Those consequences would be arguably uncommercial or unrealistic, and therefore not a reasonable alternative to the scheme.

The fourth possibility in paragraph 148 (issuing ordinary shares to Company D) would most likely create a DVS. However, the non-tax consequences would be clearly different to the Proposed Transactions. For example, issuing ordinary shares would give Company D voting rights, and therefore this could diminish Person B's control over Company A (he may no longer be the sole controller, and Person C might acquire some influence over Company A's decisions). Also, Company A would be unable to pay a once-off dividend to Company D to the exclusion of Person B, if Person B remained a shareholder. If Company A paid an $XM dividend on ordinary shares, some of that dividend would flow to Person B. As discussed at paragraphs 98 to 117, we accept that this would not achieve the asset protection objective to the same extent as the Proposed Transactions. Therefore, it would not be a reasonable alternative to the scheme.

Tax benefit - conclusion

We have not identified any reasonable alternative to the scheme which would achieve the same non-tax consequences as the Proposed Transactions. Therefore, there will be no tax benefit under either the annihilation or the reconstruction limbs. It follows that there will be no tax benefit. Part IVA will not apply.

Dominant purpose

For completeness, we consider whether the Proposed Transactions were entered into for the dominant purpose of obtaining a tax benefit.

Section 177D of the ITAA 1936 says that Part IVA applies to a scheme if it would be concluded that a person who entered the scheme did so for the purpose of enabling a tax benefit.

The effect of subsection 177A(5) of the ITAA 1936 is that where a scheme being entered into for two or more purposes, a reference to 'purpose' in section 177D of the ITAA 1936 includes a reference to the 'dominant purpose.'

Subsection 177D(2) says that for the purpose of determining whether a person entered the scheme for the purpose of enabling a tax benefit, it is necessary to 'have regard' to a list of matters. We list and apply these to the Proposed Transactions in Table 10.

Table 10: Factors for determining purpose under section 177D of the ITAA 1936

We discussed the 'asset protection' motivation for the Proposed Transactions at paragraphs 98 to 117 when evaluating whether there was a tax avoidance purpose for the purposes of section 177E of the ITAA 1936. We concluded that asset protection, on balance, was a significant explanation for the Proposed Transactions, which outweighed potential tax avoidance purposes.

Our assessment for the purposes of determining whether the dominant purpose of the Proposed Transactions is to obtain a tax benefit is similar. We accept that asset protection is a significant non-tax consequence. Balancing the factors listed in Table 11, we consider that the asset protection consequences are more significant than any tax consequences (connected with the non-payment of the dividend to Person B) in explaining the Proposed Transactions. Although there are some features which have a contrived and artificial appearance, we do not conclude that the Proposed Transactions was entered into for the dominant purpose of Person B obtaining a tax benefit under the Person B dividend postulate.

Similarly, we consider that the asset protection explanation outweighs the significance of Person B obtaining a tax benefit under the avoiding DVS postulate. Some steps appear to have been designed to reduce the risk of triggering a value shift under Division 725 of the ITAA 1997. However, on balance we consider that those design features are incidental to the primary purpose of asset protection.

Conclusion

The Proposed Transactions were not entered into or carried out for the dominant purpose of obtaining a tax benefit under a scheme. Therefore, sections 177C and 177D of the ITAA 1936 will not apply. The Commissioner will not make a determination under section 177F of the ITAA 1936 about the Proposed Transactions.

Question 11

Will section 45A or 45B of the ITAA 1936 apply to the proposed issue of the RPS to Company D?

Summary

No. Sections 45A and 45B of the ITAA 1936 will not apply to the proposed issue of RPS to Company D under the Proposed Transactions. The Commissioner will not apply section 45C of the ITAA 1936 to treat dividends on the RPS as unfranked dividends.

Detailed reasoning

Broadly, sections 45A and 45B of the ITAA 1936 are anti-avoidance provisions which allow for certain benefits to be treated as unfranked dividends. Where the provisions apply, the Commissioner may treat benefits as unfranked dividends under section 45C of the ITAA 1936.

Section 45A of the ITAA 1936

Section 45A of the ITAA 1936 applies where a company:

•         streams the provision of capital benefits and the payment of dividends to its shareholders in such a way that: subsection 45A(1)

•         the capital benefits would be received by shareholders ('advantaged shareholders') who would derive a greater benefit from the capital benefits than other shareholders: paragraph 45A(1)(a)

•         it is reasonable to assume that other shareholders ('disadvantaged shareholders') have received, or will receive, dividends: paragraph 45A(1)(b).

Subsection 45A(3) of the ITAA 1936 says that a provision of a capital benefit includes the provision of shares in the company, the distribution of share capital or share premium, or something which has the effect of increasing the value of a share.

Subsection 45A(4) of the ITAA 1936 has a non-exclusive list of circumstances relevant to determining whether an advantaged shareholder derives a 'greater benefit' from capital benefits than other shareholders. We list these and apply them to the Proposed Transactions in Table 11.

Streaming of capital benefits to shareholders: preconditions in subsection 45A(1)

Under the Proposed Transactions, Company D will receive RPS, which is a capital benefit as defined in subsection 45A(3) of the ITAA 1936. Also, there could also be a temporary increase in the value of the RPS between when Company A declares and pays the dividend to Company D, which could also be a capital benefit.

It is not immediately clear whether subsection 45A(1) of the ITAA 1936 will only apply where the 'advantaged shareholder' was already an existing shareholder before being provided with the capital benefit, or if it is enough that the advantaged shareholder would become a shareholder in the company through receiving the capital benefit. For the purposes of this ruling, we assume, without deciding, that issuing shares to a new shareholder could be a 'streaming' of capital benefits. Therefore, we consider whether the elements of paragraphs 45A(1)(a) and 45A(1)(b) of the ITAA 1936 are met.

Capital benefits received by advantaged shareholders: paragraph 45A(1)(a)

The relevant capital benefits are received by Company D. The only other shareholder is Person B. For reasons set out in Table 11, we consider that the circumstances listed in subsection 45A(4) of the ITAA 1936 suggest that Company D is not an 'advantaged shareholder' in the sense of paragraph 45(1)(a) of the ITAA 1936. In brief, Company D cannot be considered an 'advantaged shareholder' who would derive a greater benefit than Person B: both Company D and Person B are Australian residents, do not have tax losses, and would receive the same benefit from imputation credits. The requirement in paragraph 45A(1)(b) of the ITAA 1936 is not met.

Table 11: circumstances in subsection 45A(4) of the ITAA 1936 applied to the Proposed Transactions: meaning of greater benefit from capital benefits

Disadvantaged shareholders will receive dividends: paragraph 45A(1)(b)

Even if Person B could be described as a 'disadvantaged shareholder', there is no suggestion that Person B will receive dividends. It is unclear that paragraph 45(1)(b) of the ITAA 1936 will be met.

Conclusion on section 45A

Section 45A of the ITAA 1936 will not apply to the Proposed Transactions. Even if Company D could be regarded as receiving 'streamed' capital benefits, paragraph 45A(1)(a) of the ITAA 1936 is not met because Company D will not derive a greater benefit from capital benefits than Person B.

Section 45B of the ITAA 1936

Section 45B of the ITAA 1936 applies where:

•         there is a scheme under which a person is provided with a demerger benefit or a capital benefit by a company: paragraph 45B(2)(a)

•         under the scheme, a taxpayer who may or may not be the person provided with the demerger benefit or the capital benefit, obtains a tax benefit: paragraph 45B(2)(b)

•         having regard to the relevant circumstances of the scheme, it would be concluded that the person, or one of the persons, who entered into or carried out the scheme did so for a purpose (whether or not the dominant purpose but not including an incidental purpose) of enabling a taxpayer to obtain a tax benefit: paragraph 45B(2)(c).

Subsection 45B(4) and 45B(5) of the ITAA 1936 explain when a person is provided with a demerger benefit or a capital benefit. Broadly, these concepts include the provision of ownership interests, the distribution of share capital or share premium, or something that has the effect of increasing the value of an ownership interest.

Subsection 45B(8) of the ITAA 1936 has a list of (non-exhaustive) 'relevant circumstances' of a scheme. We describe and apply these circumstances to the Proposed Transactions in Table 12.

Broadly, subsection 45B(9) of the ITAA 1936 says a person obtains a tax benefit if an amount of tax payable would be less than the amount that would have been payable if the demerger benefit or capital benefit had been an assessable dividend.

The Explanatory Memorandum to the Taxation Laws Amendment (Company Law Review) Bill 1998 at paragraph 1.32 said:

A purpose is an incidental purpose when it occurs fortuitously or in subordinate conjunction with one of the main or substantial purposes of the scheme, or merely follows that purpose as its natural incident.

Subsection 45B(1) of the ITAA 1936 confirms that 'scheme' has the same meaning as in section 995-1 of the ITAA 1997.

Provision of a demerger benefit or capital benefit: paragraph 45B(2)(a)

Under the Proposed Transactions, Company D will receive RPS (ownership interests) in Company A, which is both a demerger benefit and a capital benefit for the purposes of section 45B of the ITAA 1936. It could also be argued that the declaration of a dividend on the RPS will briefly (before the dividend is paid) increase the value of those RPS. The declaration of the dividend could also be a demerger benefit and/or a capital benefit. Both steps in the Proposed Transactions meet paragraph 45B(2)(a) of the ITAA 1936.

Obtains a tax benefit: paragraph 45B(2)(b)

Subsection 45B(9) of the ITAA 1936 explains that a person will receive a tax benefit under section 45B of the ITAA 1936 if they would pay less tax then the amount that would have been payable if the demerger benefit or capital benefit were an assessable dividend.

When the RPS are first issued, they have no dividend rights, and only carry a right to a return of the subscription amount on winding up. For the reasons discussed at paragraphs 51 to 55, the RPS are arguably valueless at this point: the return of the subscription amount is contingent on winding up, which may not happen for many years.[27] If the RPS are valueless, or carry only nominal value, the tax benefit would be nil or minimal.[28]

If there is a lag between the declaration and payment of the dividend, it could be argued that the value of the RPS temporarily increase by the amount of the dividend. Subsection 45B(9) of the ITAA 1936 requires a comparison between the amount that would have been payable if the demerger benefit and/or capital benefit was paid as a dividend, and what was actually paid. Under the Proposed Transactions, Company D will be paid the dividend, and will be assessed on that dividend. In other words, the assumption required by 45B(9) of the ITAA 1936 will happen anyway, so there will be no difference in tax payable. Therefore, there will be no tax benefit. Paragraph 45B(2)(b) of the ITAA 1936 will not be met.

Purpose of obtaining a tax benefit: paragraph 45B(2)(c)

We consider that it could not be concluded that any person entered into or carried out the Proposed Transactions for a purpose of obtaining a tax benefit for the purposes of section 45B of the ITAA 1936. We concluded in paragraphs 180 and 181 that the value of the tax benefit will be nil or minimal. If there is a minimal tax benefit, that benefit would clearly be incidental to the main purpose of the Proposed Transactions, namely, to pay a dividend to Company D.

For completeness, we apply the specific circumstances listed in paragraph 45B(8) to the Proposed Transactions in Table 12.

Table 12: relevant circumstances of a scheme

Conclusion on 45B of the ITAA 1936

We concluded at paragraphs 180 and 181 that there is either no, or a minimal, tax benefit, and that any tax benefit would be incidental to the main purpose behind the Proposed Transactions. Therefore, the requirements of section 45B of the ITAA 1936 will not be met.

Conclusion

Neither sections 45A nor 45B of the ITAA 1936 will apply. The Commissioner will not treat any demerger benefit or capital benefit as an unfranked dividend.

[1] Note: in this ruling, the client has referred to certain shares issued by Company A as redeemable preference shares: see paragraph 19 for the proposed terms. However, the term 'preference share' implies a fixed payment, with capital returned in preference to ordinary shares. Further, 'redeemable' implies the share may be redeemed or cancelled at either the discretion of a party, or on the happening of some event. These shares are only redeemable on winding up. Despite these reservations, we use the phrase 'redeemable preference shares' for consistency with the ruling questions asked by the applicant.

[2] Approximate figures have been used for the purpose of this edited version.

[3] Approximate figures have been used for the purpose of this edited version.

[4] See ATO Interpretative Decision ATO ID 2003/527 Income Tax: Redeemable preference shares: debt interest under Division 974;ATO Interpretative Decision ATO ID 2003/665: Income Tax: Redeemable preference shares: interaction between sections 974-20 and 974-30 of the ITAA 1997;ATO Interpretive Decision ATO ID 2003/898 Income Tax: Debt/Equity: whether redeemable preference shares are an equity interest or a debt interest.

[5] Macmillan Publishers Australia, The Macquarie Dictionary online, www.macquariedictionary.com.au, accessed 28 June 2021.

[6] We consider that a contingent right to a mere return of a nominal subscription sum, without other returns or interest, has little or no value.

[7] Only individuals can be CGT concession stakeholders: see section 152-60 of the ITAA 1997.

[8] Very broadly, under Division 1A of former Part IIIAA of the Income Tax Assessment Act 1936, an entity holding preference shares would be a 'qualified person' ifthey held the preference shares for at least 90 days: see former subsection 160APHO(2) of the ITAA 1936.

[9] See also TD 2014/1 at paragraph 21.

[10] See generally, Austin, R and Ramsay, IM (2021) Ford, Austin & Ramsay's Principles of Corporations Law, LexisNexis Australia, at [4.140]. Accessed online at https://advance.lexis.com on 24 June 2021.

[11] For example, the maximum financial penalty for an individual under the Work Health and Safety Act 2011 (NSW) is 3,465 penalty units: see section 31 'gross negligence or reckless conduct - Category 1'. The current value of a penalty unit is $110: see section 17 of the Crimes (Sentencing Procedure) Act 1999, which means the maximum financial penalty under NSW WH&S law would be $381,150. Company A's director and officer liability insured amount is $XM. We note that maximum financial penalties could be different in other jurisdictions.

[12] See, for example, section 180 for duty of care and diligence in the Corporations Act 2001, or similar duties at common law or equity. see generally, Austin, R and Ramsay, IM (2021) Ford, Austin & Ramsay's Principles of Corporations Law, LexisNexis Australia, at [8.305-8.350]. Accessed online at https://advance.lexis.com on 24 June 2021.

[13] For example, section 151 of the ACL for false or misleading statements about goods or services: $10M for a body corporate, $500K for another person.

[14] See, for example, Wah Tat Bank Ltd v Chan Cheng Kum [1975] A.C. 507, at 514-515 per Lord Salmon; Microsoft Corporation v Auschina Polaris Pty Ltd (1996) 71 FCR 231, at [246] per Lindgren J; Kalamazoo (Aust) Pty Ltd v Compact Business Systems Pty Ltd (1985) 84 FLR 101 at 127 per Thomas J.

[15] See, for example, discussion in King v Milpurrurru (1996) 66 FCR 474, at 495-501 per Beazley J.

[16] See, for example, Trevor Ivory Ltd v Anderson [1992] 2 NZLR 517 at 527 per Hardie Boys J.

[17] See section 120 of the Bankruptcy Act 1966 about 'undervalued transactions'. The effect of this provision is that a transfer for no consideration or less than market value is void if it took place up to five years before the bankruptcy commenced. Subsection 120(3) of the Bankruptcy Act 1966 provides a defence to a related party if the transaction took place more than four years before the bankruptcy commenced, and the related party proves that the transferor was solvent at the time of the transfer.

[18] See, for example, Section 588FB of the Corporations Act 2001 (Cth) about 'uncommercial transactions'.

[19] See, for example, the following provisions in the Corporations Act 2001 covering company directors or officers: section 180 for duty of care and diligence, section 181 for duty of good faith and proper purpose, section 182 for duty not to misuse their position. There are also equivalent duties recognised in common law and equity: see generally, Austin, R and Ramsay, IM (2021) Ford, Austin & Ramsay's Principles of Corporations Law, LexisNexis Australia, Chapter 8 'Acting Properly, in the Interests of the Company, and with Care'. Accessed online at https://advance.lexis.com on 24 June 2021.

[20] The Explanatory Memorandum to the Taxation Laws Amendment Bill (No. 3) 1998, at paragraph 8.61, says:

[21] 'Corporate tax entity' is defined in section 960-115 of the ITAA 1997 to include a company.

[22] The Explanatory Memorandum to the Tax Laws Amendment (Countering Tax Avoidance and Multinational Profit Shifting) Bill 2013, which introduced amendments to Part IVA including introducing 177CB of the ITAA 1936, at paragraphs 1.37 referred to the 'would have been included' limb as the 'annihilation approach', and at 1.39 referred to the 'might reasonably be expected to have been included' limb as the 'reconstruction approach'. We adopt similar terms for convenience.

[23] See, eg, Federal Commissioner of Taxation v Hart [2004] HCA 26 at [65] per Gummow and Hayne JJ.

[24] We note in passing that for the second possibility, it could also be argued that section 725-90 of the ITAA 1997 provides taxpayers with a specific 'choice' in the sense of 177C(2)(a) of the ITAA 1936. If so, that would mean that the non-inclusion of an amount of assessable income, where section 725-90 of the ITAA 1997 would apply, could not be a 'tax benefit' for the purposes of Part IVA. We do not need to determine this point for the purposes of the ruling.

[25] Subsection 6(1) of the ITAA 1936.

[26] Very broadly, former section 46F of the ITAA 1936 disallowed rebates if an unfranked dividend was paid to a shareholder, or where a determination was made under subdivision 204-D of the ITAA 1997 or 177EA of the ITAA 1936.

[27] Given the time value of money, if winding-up doesn't happen for several years, the present value of the right to repayment of the subscription amount would almost certainly be less than what was paid to acquire the RPS.

[28] If we assumed the subscription sum was a reliable way to determine the value of the demerger or capital benefit (noting this value is arguably overstated for the reasons mentioned in footnote 27), the dividend would be equal to the subscription sum of $10. Company D has a 30% tax rate so the 'capital benefit' would be $3.