Edited version of private advice

Authorisation Number: 1051950747933

Date of advice: 26 April 2022

Ruling

Subject: Capital gains tax

Question 1

Is Person A (A) a significant individual and CGT concession stakeholder of the company under section 152-55 and 152-60 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes.

Question 2

Can the company make a payment of XX% of the exempt amount to A under section 152-125 of the ITAA 1997?

Answer

Yes.

This ruling applies for the following period:

•                year ending 30 June 20XX

•                year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

XYZ (the Company) was established in Jxxx 19XX and operates an enterprise.

The company purchased DEF hectares (Property 1) in 19XX for $XXX,000.

The company purchased GH hectares (Property 2) in 19XX for $XXX,000.

The company has three Directors Person A (A), Person B (B) and Person C (C).

A and B are related.

B and C are spouses. They have two children Person D (D) and Person E (E).

The company has two classes of shares, Class A and Class B.

Class A shareholders have XXX votes for each share at any meeting.

Class B shares do not have the right to vote at any meeting of the company.

The current shareholders and acquisition date are as followed:

Class A Shares

A holds xxx shares, acquired in Jxxx 19XX.

B holds xxx shares, acquired in Jxxx 19XX.

The company constitution under Clause V.W, states the following in relation to Class A shares:

•                subject to the provision of subparagraph (b)(1), each Class A share shall have an entitlement to share equally in the net surplus capital of the company in a winding up of the Company,

•                XXX votes for each A class share held at any meeting,

•                The right to participate in or receive any payment of any dividend declared by the Directors in respect of Class A shares.

Class B Shares

A holds XX,XXX shares, acquired in Jxxx 19XX and Jxxx 19XX.

C holds X,XXX shares, acquired in Jxxx 19XX and Jxxx 19XX.

D holds X,XXX shares, acquired in Xxx 19XX and Jxxx 19XX.

E holds X,XXX shares, acquired in Xxx 19XX and Jxxx 19XX.

The company constitution under Clause V.W, states the following in relation to Class B shares:

•                The right in a winding up of the company to the return of the capital paid up thereon (so that every such shall have an entitlement to its original par value of $X.00) but with no further right to participate in the assets of the company provided that the aforesaid right shall apply only if there are sufficient funds available to pay also the sum of $X.00 at least on all allotted Class A Shares and if such is not the case then the net surplus capital of the company shall be dividend equally between the holders of both classes of shares directly in proportion to their respective holdings,

•                No right to vote at any meeting of the company,

•                The right to participate in or receive payment of any dividend declared by the Directors in respect of Class B shares.

The company is a small business entity with a turnover of less than $2 million.

Both Property 1 and Property 2 are owned by the company that have been used solely in the business.

Property 1 and Property 2 are active assets of the company and are currently on the market to sell.

A is xxxx and has ceased actively working on the Properties.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 section 152-10

Income Tax Assessment Act 1997 subsection 152-35(1)

Income Tax Assessment Act 1997 section 152-40

Income Tax Assessment Act 1997 section 152-55

Income Tax Assessment Act 1997 section 152-60

Income Tax Assessment Act 1997 section 152-110

Income Tax Assessment Act 1997 section 152-125

Reasons for decision

Question 1

CGT Concessional Stakeholder

Section 152-60 of the ITAA 1997 explains an individual is a CGT concession stakeholder of a company or trust at a time if the individual is:

(a)          a significant individual in the company or trust; or

(b)          a spouse of a significant individual in the company or trust, if the spouse has a small business participation percentage in the company or trust at that time that is greater than zero.

Significant Individual

Under section 152-55 of the ITAA 1997 an individual is a significant individual in a company or trust if they have a small business participation percentage in the company or trust of at least 20%. This 20% can be made up of direct and indirect percentages.

Small business participation percentage

Section 152-70 of the ITAA 1997 states the direct small business participation percentage in a company is the percentage of:

•         voting power that the entity is entitled to exercise

•         any dividend payment that the entity is entitled to receive

•         any capital distribution that the entity is entitled to receive, or

•         if they are different, the smallest of the three definitions above.

Taxation Determination TD 2006/77 provides that all classes of shares must be taken into account in determining if a company has a significant individual. It follows that a shareholder that holds more than 20% of one class of shares in a company will not be a significant individual if their right to any distribution of income or capital from the company is dependent on a discretion to make distributions to any class of shares to the exclusion of the other classes of shares. A shareholder must be capable of receiving at least 20% of any distribution regardless of how a discretion is exercised.

TD 2006/77 provides the following example:

Bedrock Co has two different classes of shares, A and B, which have equal distribution rights. Only the A class shares have voting rights. Each class of shares is held by different shareholders - the A class shares being held in equal proportions by Fred and Barney and the B class shares being held in equal proportions by their respective wives, Wilma and Betty.

The directors of Bedrock Co can decide to make a distribution of income or capital to either class of shares to the exclusion of the other class of shares. There is the possibility of any of the shareholders receiving 50% of a distribution from the company, depending on the exercise of the directors' discretion.

In this situation, Bedrock Co does not have a significant individual. There is no specific individual who has the right to receive at least 20% of any distribution the company may make. Fred and Barney (who each hold 50% of the voting power) might receive 50% of a distribution or they might not receive anything at all, depending on how the directors exercise their discretion.

Application to your circumstances

In this case, both A and B each hold XX% of the class A shares. They are each are entitled to XX% of the votes and XX% of any dividend declared in favour of the class A shares.

A holds XX% of the class B shares, C holds XX%, D XX.X% and E XX.X%. These shares do not carry any voting rights. They are each entitled to their respective percentage of any dividend declared in favour of the class B shares.

Class A shareholders are entitled to the net surplus capital of the company as per Clause V.W in the company constitution. Therefore, A and B have equal shares which entitles them to XX% of the net surplus capital.

Class B shareholders are entitled to receive $X per share if there is enough cash to repay after Class A receive their par value. If there is insufficient cash to pay Class A their par value, then the net surplus capital is to be divided equally based on the individual's total shareholdings regardless of share class.

Based on the above, A is entitled to XX% of the voting rights, XX% of the dividends and XX% of the capital in relation to their shareholdings. Therefore, A is a significant individual and CGT concessions stakeholder of the company.

While B is entitled to XX% of the votes, as they do not hold any Class B shares, they may receive X% of the dividends if a dividend is declared in favour of the Class B shareholders. Therefore, B has a small business participation percentage in the company of X%.

The remaining shareholders also have a small business participation percentage in the company of X% as they do not hold any voting rights.

Question 2

Distributions of the exempt amount

Subsection 152-125(1) of the ITAA 1997 provides that, if a capital gain made by a company is disregarded under the small business 15-year exemption, any distribution made by the company of that exempt amount to a CGT concession stakeholder is not included in the assessable income of the CGT concession stakeholder, and not deductible to the company, if the following conditions are satisfied:

•                the company makes a payment within two years after the CGT event that resulted in the capital gain or, in appropriate circumstances, such further time as allowed by the Commissioner

•                the payment is made to an individual who was a CGT concession stakeholder of the company just before the CGT event, and

•                the total payments made to each CGT concession stakeholder does not exceed an amount determined by multiplying the CGT concession stakeholders control percentage by the exempt amount.

Under subsection 152-125(2) of the ITAA 1997, in determining the taxable income of the company, disregard the total amount of the payment made to the CGT concession stakeholder up to the following limit of:

Stakeholder's participation percentage x exempt Amount

Subsection 152-125(3) of the ITAA 1997 explains if a company makes such a payment, this Act applies to the payment, to the extent that it is less than or equal to the limit mentioned in subsection (2), as if:

(a)          it were not a dividend; and

(b)          it were not a frankable distribution.

Application to your circumstances

In this case, as discussed in question 1, A's small business participation percentage in the company is XX%. Therefore, provided the basic conditions and the requirements of the 15 year exemption are satisfied the company can make a payment to A of XX% of the exempt amount.