Edited version of private advice

Authorisation Number: 1052027267465

Date of advice: 2 September 2022

Ruling

Subject: Small business restructure rollover relief

Question 1

Will roll-over under Subdivision 328-G of the Income Tax Assessment Act 1997 (ITAA 1997) be available in respect of all trading stock transferred from Trust A to Trust B?

Answer

Yes.

Question 2

Will roll-over under item 8 of the table in subsection 40-430(1) of the ITAA 1997 be available in respect to all depreciating assets transferred from Trust A to Trust B?

Answer

Yes.

This ruling applies for the following period:

Year ending 30 June 2023

The scheme commences on:

1 July 2022

Relevant facts and circumstances

Company A (corporate trustee) is the trustee for Trust A since establishment of the Trust.

Trust A is a discretionary trust and conducts a primary production business.

Trust A is an Australian resident for tax purposes.

Person A and Person B are the only directors and shareholders of the corporate trustee.

You provided us with the details for the beneficiaries of Trust A who are all family members.

Trust A's aggregated turnover for the 2022 financial year was less than $10 million.

Trust A leases the land to operate the primary production business from related parties.

The proposed transaction

Trust A will transfer its business assets to Trust B, a newly created discretionary trust.

The business assets include sheep (trading stock) and plant and equipment.

The sale will be for no consideration.

The beneficiaries of Trust B will remain the family members of Person A.

The proposed transaction will occur during the 2023 financial year.

The aggregated turnover of Trust B in the 2023 income year will be less than $10 million.

Following the transaction, Trust B will continue to conduct business in the same manner as Trust A.

Trust B has no plans to sell the business or its assets to a third party or to cease the business.

You provided us with details around the proposed arrangement being considered and that the primary purpose for the transfer is to modernise the Trust Deed through establishing a new Trust.

Relevant legislative provisions

Income Tax Assessment Act 1997 Paragraph 152-40(1)(a)

Income Tax Assessment Act 1997 Paragraph 152-40(1)(b)

Income Tax Assessment Act 1997 Subsection 328-110(1)

Income Tax Assessment Act 1997 Paragraph 328-110(1)(a)

Income Tax Assessment Act 1997 Paragraph 328-110(1)(b)

Income Tax Assessment Act 1997 Subparagraph 328-110(1)(b)(i)

Income Tax Assessment Act 1997 Subsection 328-115(1)

Income Tax Assessment Act 1997 Subsection 328-115(2)

Income Tax Assessment Act 1997 Subsection 328-120(1)

Income Tax Assessment Act 1997 Subdivision 328-G

Income Tax Assessment Act 1997 Section 328-430

Income Tax Assessment Act 1997 Subsection 328-430(1)

Income Tax Assessment Act 1997 Paragraph 328-430(1)(a)

Income Tax Assessment Act 1997 Paragraph 328-430(1)(b)

Income Tax Assessment Act 1997 Subparagraph 328-430(1)(b)(i)

Income Tax Assessment Act 1997 Paragraph 328-430(1)(c)

Income Tax Assessment Act 1997 Paragraph 328-430(1)(d)

Income Tax Assessment Act 1997 Subparagraph 328-430(1)(d)(i)

Income Tax Assessment Act 1997 Paragraph 328-430(1)(e)

Income Tax Assessment Act 1997 Paragraph 328-430(1)(f)

Income Tax Assessment Act 1997 Subsection 328-430(2)

Income Tax Assessment Act 1997 Section 328-435

Income Tax Assessment Act 1997 Section 328-445

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

Reasons for decision

Summary

The disposal of the business by Trust A to Trust B in accordance with the proposed transaction will satisfy the conditions for roll-over under section 328-430 of the ITAA 1997.

Detailed reasoning

The Law

Subdivision 328-G of the Income Tax Assessment Act 1997 (ITAA 1997) allows flexibility for owners of small business entities to restructure their businesses and the way their business assets are held while disregarding tax gains and losses that would otherwise arise.

Section 328-430 of the ITAA 1997 discusses when a roll-over is available. There are six basic conditions in subsection 328-430(1) of the ITAA 1997 that must be satisfied and they are as follows:

A roll-over under this Subdivision is available in relation to an asset that, under a transaction, an entity (the transferor) transfers to one or more other entities (transferees) if:

(a) the transaction is, or is a part of, a genuine restructure of an ongoing *business; and

(b) each party to the transfer is an entity to which any one or more of the following applies:

(i)   it is a *small business entity for the income year during which the transferred occurred;

(ii)  it has an *affiliate that is a small business entity for that income year;

(iii) it is *connected with an entity that is a small business entity for that income year;

(iv)it is a partner in a partnership that is a small business entity for that income year; and

(c) the transaction does not have the effect of materially changing:

(i)   which individual has, or which individuals have, the ultimate economic ownership of the asset; and

(ii)  if there is more than one such individual - each such individual's share of that ultimate economic ownership; and

(d) the asset is a *CGT asset (other than a *depreciating asset) that is, at the time the transfer takes effect:

(i)   if subparagraph (b)(i) applies - an *active asset; or

(ii)  if subparagraph (b)(ii) or (iii) applies - an active asset in relation to which subsection 152-10(1A) is satisfied in that income year; or

(iii) if subparagraph (b)(iv) applies - an active asset and an interest in an asset of the partnership referred to in that subparagraph; and

(e) the transferor and each transferee meet the residency requirement in section 328-445 for an entity; and

(f)  the transferor and each transferee choose to apply a roll-over under this Subdivision in relation to the assets transferred under the transaction.

Note: The roll-over of a depreciating asset transferred in the restricting of a small business is addressed in item 8 of the table in subsection 40-340(1) of the ITAA 1997.

The transferor is Trust A who will be transferring the business to the transferee, being Trust B.

In addition, subsection 328-430(2) of the ITAA 1997 provides that roll-over is not available under Subdivision 328-G of the ITAA 1997 if the transferor or any transferee is either an exempt entity or a complying superannuation entity. As all the parties in the Proposed Transition are not either of these types of entities, subsection 328-430(2) of the ITAA 1997 does not apply.

Each requirement in subsection 328-430(1) of the ITAA 1997 will now be considered in detail.

Paragraph 328-430(1)(a) of the ITAA 1997 - genuine restructure

The Law

Paragraph 328-430(1)(a) of the ITAA 1997 requires that the transition is, or is part of, a genuine restructure of an ongoing business.

Whether a transaction is or is part of a 'genuine restructure of an ongoing business' is a question of fact that is determined having regard to all of the circumstances surrounding the restructure.

Law Companion Ruling LCR 2016/3 Small Business Restructure Roll-over: genuine restructure of an ongoing business and related matters (LCR 2016/3) provides guidance on whether a transaction will be part of a 'genuine restructure of an ongoing business'.

LCR 2016/3 states that a genuine restructure of an ongoing business is one that could be reasonably expected to deliver benefits to small business owners in respect to their efficient conduct of the business. It can encompass a restructure of the way in which business assets are held where that structure is likely to have been adopted had the business owners obtained appropriate professional advice when setting up the business.

Paragraph 7 of LCR 2016/3 outlines the following features that indicate a transaction is, or is part of a genuine restructure of an ongoing business:

•                    it is a bona fide commercial arrangement undertaken to facilitate growth, innovation and diversification, to adopt to change conditions, or to reduce administrative burdens and compliance costs

•                    it is authentically restructuring the way the business is conducted, as apposed to a divestment or a preliminary step to facilitate the economic realisation of assets

•                    the economic ownership of the business and its restructured assets is maintained

•                    the business owners continue to operate the business through a different legal restructure, and

•                    it results in a structure likely to have been adopted had the small owners obtained appropriate professional advice when setting up the business.

However, the restructure of an ongoing business by a business owner is not genuine if it is done in the course of winding down to transfer wealth between generations or realising their ownership interests. A restructure is likely to not be a genuine restructure of an ongoing business if:

•                    it is a preliminary step to facilitate the economic realisation of assets, or takes place in the course of winding down to transfer wealth between generations

•                    it effects an extraction of wealth from the assets of the business for personal investment or consumption

•                    it creates artificial losses or brings forward their recognition

•                    it effects a permanent non-recognition of gain or creates artificial timing advantages, and/or

•                    there are other tax outcomes that do not reflect economic reality.

Application to your circumstances

The primary production business will continue to be carried on by Trust B after the proposed transaction has been implemented. Whilst the ongoing business will continue, what has to be ascertained is whether the proposed transaction is a 'genuine restructure' of an ongoing business.

You have stated that the main reason for implementing the proposed transaction is to modernise the Trust Deed.

You have not provided sufficient reasons why modernising the Trust Deed could be reasonably expected to deliver benefits to small business owners in respect to their efficient conduct of the business.

More specifically the reasons do not satisfy the requirements outlined in paragraph 7 of LCR 2006/3, including that the restructure is being undertaken to facilitate growth, innovation and diversification, to adapt to changed conditions or to reduce administrative burdens and compliance costs.

Safe Harbour Rule

The Law

Subdivision 328-G of the ITAA 1997 contains a safe harbour rule that provides an alternative way to meet the 'genuine restructure of an ongoing business' condition.

Section 38-435 of the ITAA 1997 states:

For the purposes of paragraph 328-430(1)(a) (but without limiting that paragraph), a transaction is, or is a part of, a genuine restructure of an ongoing *business if, in the 3 year period after the transaction takes effect:

(a)  there is no change in ultimate economic ownership of any of the significant assets of the business (other than *trading stock) that were transferred under the transaction; and

(b)  those significant assets continue to be *active assets; and

(c)   there is no significant or material use of those significant assets for private purposes.

Paragraph 78 of LCR 2016/3 states:

Where the safe harbour rule is satisfied, it is not necessary to consider whether the arrangement would otherwise be a 'genuine restructure of an ongoing business' under paragraph 328-430(1)(a) of the ITAA 1997.

Application to your circumstances

You have stated that following the transaction:

•                    there are no plans to sell the business

•                    there are no plans to sell any of the assets of the business (other than selling trading stock in the ordinary course of your business).

Based on your statements and the assumption that there will be no change in economic ownership, the safe harbour rule in section 328-435 of the ITAA 1997 is expected to be satisfied. Therefore, for the purposes of paragraph 328-430(1)(a) of the ITAA 1997, the proposed transaction will be treated as a genuine restructure of an ongoing business.

Paragraph 328-430(1)(b) of the ITAA 1997 - small business or related entity

The Law

Paragraph 328-430(1)(b) of the ITAA 1997 requires both the transferor and the transferee to be one or more of the following entities in the income year the proposed transaction occurs:

(i)      a small business entity

(ii)     an affiliate of a small business entity

(iii)    connected with a small business entity

(iv)    a partner in a partnership that is a small business entity.

Small business entity

Subsection 328-110(1) of the ITAA 1997 provides that you are a small business entity for an income year if:

(a)  you carry on a *business in the current year; and

(b)  one or both of the following applies:

(i)  you carried on a business in the income year (the previous year) before the current year and your *aggregated turnover for the previous year was less than $10 million;

(ii) your aggregated turnover for the current year is likely to be less than $10 million.

The term 'business' is defined in subsection 995-1(1) of the ITAA 1997 to include any profession, trade, employment, vocation or calling, but does not include occupation as an employee.

The next requirement is to determine if the aggregated turnover of the taxpayer is less than $10 million in the relevant income year. 'Aggregated turnover' for an income year is defined in subsection 328-115(1) of the ITAA 1997 as the sum of the relevant annual turnovers excluding any amounts covered by subsection (3).

The 'relevant annual turnovers' are defined in subsection 328-115(2) of the ITAA 1997 as:

(a)          your *annual turnover for the income year; and

(b)          the annual turnover for the income year of any entity (a relevant entity) that is *connected with you at any time during the income year; and

(c)           the annual turnover for the income year of any entity (a relevant entity) that is an *affiliate of yours at any time during the income year.

The amounts excluded under subsection 328-115(3) of the ITAA 1997 are amounts derived from dealings between you and any entities that are connected with you or are your affiliates, or amounts derived from dealings between those entities.

Application to your circumstances

Trust A is conducting a primary production business and would therefore satisfy the requirement in paragraph 328-110(1)(a) of the ITAA 1997.

You have advised that Trust A's aggregated turnover for the 2022 financial year will be less than $10 million and that Trust B's aggregated turnover for the 2023 financial year will be less than $10 million therefore paragraph 328-110(1)(b) of the ITAA 1997 will be satisfied.

Since paragraphs 328-110(1)(a) and (b) of the ITAA 1997 are both satisfied, you are both a small business entity in accordance with subsection 328-110(1) of the ITAA 1997.

Paragraph 328-430(1)(c) of the ITAA 1997 - ultimate economic owner

The Law

Paragraph 328-430(1)(c) of the ITAA 1997 requires the transaction to not have the effect of materially changing which individual has, or which individuals have, the ultimate economic ownership of the assets. Additionally, where more than one individual holds the ultimate economic ownership of the asset, each individual's share of that ownership must not materially change.

section 328-440 of the ITAA 1997 contains an alternative ultimate economic ownership test for discretionary trusts. Section 328-440 of the ITAA 1997 states that for the purposes of paragraph 328-430(1)(c) of the ITAA 1997, a transaction does not have the effect of changing the ultimate economic ownership of an asset, or any individual's share of that ultimate economic ownership, if the requirements in that section are satisfied.

Section 328-440 of the ITAA 1997 is satisfied if the assets are included in the property of a family trust (as defined in Schedule 2F to the ITAA 1936) either just before or just after the transaction takes / took effect. Additionally, every individual who had the ultimate economic ownership of the asset just before and just after the transfer must be members of the family group (within the meaning of Schedule 2F to the ITAA 1936) relating to the family trust.

Application to your circumstances

Trust A is a non-fixed trust for the purposes of section 272-70 of Schedule 2F of the ITAA 1936 and has not made a family trust election. Trust A will make a family trust election in the 2023 financial year nominating a specified individual, Person A, under section 272-80 of Schedule 2F to the ITAA 1936. As the assets are the property of Trust A immediately before the proposed transaction takes effect, this will satisfy the requirement in subparagraph 328-440(a)(i) of the ITAA 1997.

Just before the transaction takes effect, the individuals who have the ultimate economic ownership of the assets of Trust A are the members of the family group. Just after the proposed transaction will take effect the same individuals will have the ultimate economic ownership of the farming assets as the family group members of Trust A, therefore satisfying the requirements in paragraph 328-440(b) and (c) of the ITAA 1997.

Consequently, as the alternative ultimate economic ownership test under section 328-440 of the ITAA 1997 will be satisfied, this will satisfy the requirement in paragraph 328-430(1)(c) of the ITAA 1997.

Paragraph 328-430(1)(d) of the ITAA 1997 - active assets

The Law

Paragraph 328-430(1)(d) requires the CGT asset is, at the time the transfer takes effect:

(i)            if subparagraph (b)(i) applies - an *active asset; or

(ii)           if subparagraph (b)(ii) or (iii) applies - an active asset in relation to which subsection 152-10(1A) is satisfied in that income year, or would be satisfied in that income year if paragraph 152-10(1AA)(b) were disregarded; or

(iii)          if subparagraph (b)(iv) applies - an active asset and an interest in an asset of the partnership referred to in that subparagraph

In this case, subparagraph 328-430(1)(b)(i) applies, therefore the condition in subparagraph 328-430(1)(d)(i) must be satisfied. To satisfy this condition, the business assets and trading stock must be an active asset.

Active assets

Paragraph 152-40(1)(a) of the ITAA 1997 provides that a tangible or intangible asset is an active asset if you own the asset and it is used, or held ready for use, in a business carried on (whether alone or in a partnership) by you, your affiliate or another entity that is connected with you.

Paragraph 152-40(1)(b) of the ITAA 1997 provides that an intangible CGT asset is an active asset if you own the asset and it is inherently connected with a business that is carried on (whether alone or in a partnership) by you, your affiliate or another entity that is connected with you.

Application to your circumstances

The plant and equipment that is fixed to the land are tangible assets that are used by Trust A in carrying on the primary production business. They are active assets of Trust A.

The trading stock of Trust A is an intangible asset and is inherently connected with carrying on the primary production business. It is an active asset of Trust A.

The trading stock, and the plant and equipment are active assets. Therefore, the requirement in subparagraph 328-430(1)(d)(i) of the ITAA 1997 will be satisfied.

Paragraph 328-430(1)(e) of the ITAA 1997 - residency

Paragraph 328-430(12)(e) of the ITAA 1997 requires both the transferor and the transferee to meet the residency requirements outlined in section 328-445 of the ITAA 1997. As Trust A and Trust B are both Australian residents for tax purposes, the requirement in paragraph 328-430(1)(e) of the ITAA 1997 will be satisfied.

Paragraph 328-430(1)(f) of the ITAA 1997 - roll-over choice

Paragraph 328-430(1)(f) of the ITAA 1997 requires both the transferor and the transferee to choose to apply the roll-over under Subdivision 328-G in relation to the trading stock and assets being transferred under the transaction.

You have stated and it is an assumption of this ruling, that both Trust A and Trust B will choose to apply the roll-over in relation to the transfer of the business. Therefore, the requirement in paragraph 328-430(1)(f) of the ITAA 1997 will be satisfied.

Conclusion

As each of the requirements in subsection 328-430(1) of the ITAA 1997 have been met, Trust A is eligible to choose roll-over relief under Subdivision 328-G of the ITAA 1997 in relation to the proposed transaction.