Edited version of private advice

Authorisation Number: 1051914655018

Date of advice: 15 November 2021

Ruling

Subject: Capital return

Question 1

Will any part of the proposed Capital Return by Holdco to its shareholders be a dividend within the meaning of subsection 6(1) of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

No.

Question 2

Will the Commissioner seek to make a determination under subsection 45B(3) of the ITAA 1936 that section 45C of the ITAA 1936 applies to deem any part of the Capital Return by Holdco to its shareholders to be a dividend paid out of profits?

Answer

No.

Question 3

Will the Commissioner make a determination under subsection 45B(3) of the ITAA 1936 to impose a debit to the franking account of the company under subsection 45C(3) in respect of the proposed Capital Return?

Answer

No.

This private ruling applies for the following period:

Income year ended 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

This private ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are different from these facts, this private ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

Background information

Holdco is the head entity of an Australian tax consolidated group (Holdco TCG).

Holdco currently has a number of shares on issue.

The shares on issue are ordinary shares and have equal rights to dividends and capital. Ordinary shares participate in dividends and proceeds on winding up of the Company in proportion to the number of shares held.

Holdco intends to return a capital amount of to its shareholders through the proposed distribution (Capital Return). The Capital Return will be paid to all shareholders on an equal basis proportionate to their investment in Holdco.

Holdco will debit the amount of the Capital Return to its share capital account.

The share capital account of Holdco is not tainted within the meaning of Division 197 of the ITAA 1997.

Relevant legislative provisions

Income Tax Assessment Act 1936 subsection 6(1)

Income Tax Assessment Act 1936 paragraph 6(1)(d)

Income Tax Assessment Act 1936 section 45B

Income Tax Assessment Act 1936 subsection 45B(1)

Income Tax Assessment Act 1936 subsection 45B(2)

Income Tax Assessment Act 1936 paragraph 45B(2)(c)

Income Tax Assessment Act 1936 subsection 45B(3)

Income Tax Assessment Act 1936 subsection 45B(5)

Income Tax Assessment Act 1936 subsection 45B(8)

Income Tax Assessment Act 1936 paragraph 45B(8)(a)

Income Tax Assessment Act 1936 paragraph 45B(8)(b)

Income Tax Assessment Act 1936 paragraph 45B(8)(c)

Income Tax Assessment Act 1936 paragraph 45B(8)(d)

Income Tax Assessment Act 1936 paragraph 45B(8)(e)

Income Tax Assessment Act 1936 paragraph 45B(8)(f)

Income Tax Assessment Act 1936 paragraph 45B(8)(g)

Income Tax Assessment Act 1936 paragraph 45B(8)(h)

Income Tax Assessment Act 1936 paragraph 45B(8)(i)

Income Tax Assessment Act 1936 paragraph 45B(8)(j)

Income Tax Assessment Act 1936 paragraph 45B(8)(k)

Income Tax Assessment Act 1936 subsection 45B(9)

Income Tax Assessment Act 1936 subsection 45B(10)

Income Tax Assessment Act 1936 section 45C

Income Tax Assessment Act 1936 subsection 45C(3)

Income Tax Assessment Act 1936 section 318

Income Tax Assessment Act 1936 paragraph 177D(2)(a)

Income Tax Assessment Act 1936 paragraph 177D(2)(b)

Income Tax Assessment Act 1936 paragraph 177D(2)(c)

Income Tax Assessment Act 1936 paragraph 177D(2)(d)

Income Tax Assessment Act 1936 paragraph 177D(2)(e)

Income Tax Assessment Act 1936 paragraph 177D(2)(f)

Income Tax Assessment Act 1936 paragraph 177D(2)(g)

Income Tax Assessment Act 1936 paragraph 177D(2)(h)

Income Tax Assessment Act 1997 section 104-135

Income Tax Assessment Act 1997 Division 197

Income Tax Assessment Act 1997 Division 855

Income Tax Assessment Act 1997 section 855-15

Income Tax Assessment Act 1997 section 855-25

Income Tax Assessment Act 1997 subsection 975-300(3)

Income Tax Assessment Act 1997 subsection 995-1(1)

Reasons for decision

Question 1

Summary

The proposed Capital Return by Holdco to its shareholders will not be a dividend within the meaning of subsection 6(1) of the ITAA 1936.

Detailed reasoning

Pursuant to subsection 6(1) of the ITAA 1936, the term dividend includes any distribution made by a company to its shareholder. However, paragraph 6(1)(d) excludes from the definition of dividend any:

moneys paid or credited by a company to a shareholder or any other property distributed by a company to shareholders (not being moneys or other property to which this paragraph, by reason of subsection (4), does not apply or moneys paid or credited, or property distributed for the redemption or cancellation of a redeemable preference share), where the amount of the moneys paid or credited, or the amount of the value of the property, is debited against an amount standing to the credit of the share capital account of the company...

Subsection 6(4) of the ITAA 1936 provides that paragraph 6(1)(d) of the definition of dividend in subsection 6(1) does not apply if, under the agreement:

(a)             a person pays or credits any money or gives property to the company and the company credits its share capital account with the amount of the money or the value of the property; and

(b)             the company pays or credits any money, or distributes property to another person, and debits its share capital account with the amount of the money or the value of the property so paid, credited or distributed.

The term 'share capital account' is defined in section 975-300 of the Income Tax Assessment Act 1997 (ITAA 1997) as an account which the company keeps of its share capital, or any other account created on or after 1 July 1998 where the first amount credited to the account was an amount of share capital.

Subsection 975-300(3) of the ITAA 1997 provides that an account is generally taken not to be a share capital account if it is tainted. Section 197-50 states that a share capital account is tainted if an amount to which Division 197 applies, is transferred to the account and the account is not already tainted.

Holdco's share capital consists solely of ordinary shares. The Capital Return will be debited against Holdco's share capital account. Holdco has confirmed that its share capital account is not tainted within the meaning of Division 197 of the ITAA 1997.

Based on the facts provided, paragraph 6(1)(d) of the ITAA 1936 will exclude the return of share capital from the definition of dividend in subsection 6(1). Further, subsection 6(4) will have no application in respect of the Capital Return as there is no such agreement in place.

Consequently, the Capital Return is not a dividend as defined in subsection 6(1) of ITAA 1936.

Question 2

Summary

The Commissioner will not make a determination under subsection 45B(3) of the ITAA 1936 that section 45C of the ITAA 1936 will apply to the whole, or any part, of the capital benefit provided to the representative shareholders of Holdco as a result of the proposed Capital Return.

Detailed reasoning

Subsection 45B(1) of the ITAA 1936 provides that one of the purposes of section 45B is to ensure that relevant amounts are treated as dividends for tax purposes if certain payments, allocations or distributions are made in substitution for dividends.

Subsection 45B(2) of the ITAA 1936 sets out the conditions under which section 45B of the ITAA 1936 applies. Relevantly, this section applies to the provision of a capital benefit if:

(a)             there is a scheme under which a person is provided with a capital benefit by a company, and

(b)             under the scheme a taxpayer, who may or may not be the person provided with the capital benefit, obtains a tax benefit, and

(c)             having regard to the relevant circumstances of the scheme, it would be concluded that the person, or one of the persons, entered into the scheme or carried out the scheme or any part of the scheme for a purpose, other than an incidental purpose, of enabling a taxpayer to obtain a tax benefit.

Where the requirements of subsection 45B(2) of the ITAA 1936 are met, subsection 45B(3) empowers the Commissioner to make a determination under section 45C in relation to a capital benefit.

The effect of a determination made under paragraph 45B(3)(b) of the ITAA 1936 is that part or all of a capital benefit will be an unfranked dividend paid to the relevant taxpayer out of profits (subsections 45C(1) and (2) of the ITAA 1936).

Scheme

Subsection 45B(10) of the ITAA 1936 provides that 'scheme' in section 45B has the same meaning as provided in subsection 995-1(1) of the ITAA 1997. That definition is widely drawn and includes any arrangement, scheme, plan, proposal, action, course of action or course of conduct, whether unilateral or otherwise.

The Capital Return from Holdco to its shareholders will be a 'scheme' within the broad meaning of that term, for the purposes of section 45B of the ITAA 1936.

Capital benefit

Subsection 45B(5) of the ITAA 1936 specifies that a reference to a person being 'provided with a capital benefit' is a reference to any of the following:

•                 they are provided with an ownership interest in a company

•                 they receive distributions of share capital or share premium, or

•                 something is done that increases the value of their ownership interest.

The amount of the Capital Return that Holdco will debit against its share capital account is a capital benefit as defined by subsection 45B(5) of the ITAA 1936 as it is distribution of share capital.

Tax benefit

Subsection 45B(9) of the ITAA 1936 provides that a relevant taxpayer 'obtains a tax benefit' if an amount of tax payable by that taxpayer would, apart from the operation of section 45B, be less than the amount that would have been payable if the 'the capital benefit had been a dividend.

Ordinarily, a return of capital would be subject to the CGT provisions of the income tax law for Australian resident shareholders. Unless the amount of the distribution exceeds the cost base of the shares, there will only be a cost base reduction under CGT event G1 (section 104-135 of the ITAA 1997). It is only to the extent (if any) that the distribution exceeds the cost base of the shares that a capital gain is made.

By contrast, if the Capital Return had instead been a dividend, it would generally be included in the assessable income of these shareholders.

The provisions of Division 855 of the ITAA 1997 will operate to disregard any capital gain or capital loss, as their interest in Holdco is not 'taxable Australian property' as defined by section 855-15 for those shareholders that are non-residents

If the Capital Return received by the non-resident shareholder had instead been a dividend, it would be subject to dividend withholding tax under section 128B of the ITAA 1936 to the extent that it is unfranked.

Accordingly, the Holdco shareholders will obtain a tax benefit for the purposes of section 45B of the ITAA 1936 as the tax payable on the Capital Return will be less than the amount of tax payable if the Capital Return had it been an assessable dividend.

Relevant circumstances

For the purposes of paragraph 45B(2)(c) of the ITAA 1936, the Commissioner is required to consider the 'relevant circumstances' set out under subsection 45B(8) to determine whether any part of the scheme would be entered into for a purpose, other than an incidental purpose, of enabling a relevant taxpayer to obtain a tax benefit.

The test of purpose is an objective one. The question is whether, objectively, it would be concluded that a person who entered into or carried out the scheme did so for the purpose of obtaining a tax benefit for the relevant taxpayer in respect of the capital benefit. The purpose does not have to be the most influential or prevailing purpose, but it must be more than an incidental purpose.

The relevant circumstances of a scheme as outlined in subsection 45B(8) of the ITAA 1936 are as follows:

(a)             the extent to which the demerger benefit or capital benefit is attributable to capital or the extent to which the demerger benefit or capital benefit is attributable to profits (realised and unrealised) of the company or of an associate (within the meaning in section 318 ) of the company;

(b)             the pattern of distributions of dividends, bonus shares and returns of capital or share premium by the company or by an associate (within the meaning in section 318 ) of the company;

(c)             whether the relevant taxpayer has capital losses that, apart from the scheme, would be unutilised (within the meaning of the Income Tax Assessment Act 1997 ) at the end of the relevant year of income;

(d)             whether some or all of the ownership interests in the company or in an associate (within the meaning in section 318) of the company held by the relevant taxpayer were acquired, or are taken to have been acquired, by the relevant taxpayer before 20 September 1985;

(e)             whether the relevant taxpayer is a non-resident;

(f)              whether the cost base (for the purposes of the Income Tax Assessment Act 1997) of the relevant ownership interest is not substantially less than the value of the applicable demerger benefit or capital benefit;

(g)             (Repealed by No 101 of 2006)

(h)             if the scheme involves the distribution of share capital or share premium - whether the interest held by the relevant taxpayer after the distribution is the same as the interest would have been if an equivalent dividend had been paid instead of the distribution of share capital or share premium;

(i)               if the scheme involves the provision of ownership interests and the later disposal of those interests, or an increase in the value of ownership interests and the later disposal of those interests:

(i)               the period for which the ownership interests are held by the holder of the interests; and

(ii)             when the arrangement for the disposal of the ownership interests was entered into;

(j)               for a demerger only:

...

(k)             any of the matters referred to in subsection 177D(2).

Having regard to the relevant circumstances of the proposed scheme, as set out in subsection 45B(8) of the ITAA 1936, it is considered that the Capital Return is not being undertaken for the more than incidental purpose of obtaining a tax benefit.

Accordingly, the Commissioner will not make a determination under subsection 45B(3) of the ITAA 1936 that section 45C will apply to the whole, or any part, of any benefit provided to the representative shareholders of Holdco under the proposed arrangement.

Question 3

Summary

The Commissioner will not make a determination under subsection 45B(3) of the ITAA 1936 to impose a debit to the franking account of the company under subsection 45C(3) in respect of the proposed Capital Return.

Detailed reasoning

If the Commissioner makes a determination under subsection 45B(3) of the ITAA 1936 that section 45C applies to the amount of the capital benefit, the Commissioner may make a further determination under subsection 45C(3) that all or part of the capital benefit was paid under a scheme for which a non-incidental purpose was to avoid franking credits arising.

The effect of a determination under subsection 45C(3) of the ITAA 1936 is that on the day the notice of the determination is served in writing on the company, a franking debit of the company arises in respect of the capital benefit. The amount of the debit is the amount of the franking credit on a dividend of an amount equal to the capital benefit or the part of the benefit had the company paid such a dividend at the time it provided the capital benefit, and fully franked it.

As no determination will be made under subsection 45B(3) of the ITAA 1936 that section 45C applies, it follows that the Commissioner will not make a determination under subsection 45C(3) to impose a debit to the franking account of Holdco.