Edited version of private advice

Authorisation Number: 1052032589230

Date of advice: 16 September 2022

Ruling

Subject: Pre-CGT shares

Question

Will the capital gain made on the disposal of the Company shares be disregarded under paragraph 104-10(5)(a) of the Income tax Assessment Act 1997?

Answer

Yes

This ruling applies for the following period:

Year ending 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

The Company was incorporated prior to 20 September 1985.

The initial shareholders of the Company were:

At inception of the Company, financial assistance was sought from Individual C.

At the time of incorporation of the Company, Individual C was under a contractual restraint of trade (the Restraint) in relation to the sale of their interest in another entity. The Restraint prevented Individual C from owning shares in a business similar to that conducted by the Company.

At or about the time of incorporation, Individual C facilitated a credit facility for the Company (the Security) by providing security over personal assets.

At or about the time of incorporation, and as consideration for the provision of the Security, the Company, Individual A, Individual B and Individual C (the Stakeholders) agreed that the Company would grant shares in the Company to Individual C when the Restraint ended (Share Grant Agreement).

At the same time that the Share Grant Agreement was entered into, the Stakeholders also agreed that the Company would issue additional ordinary shares in the capital of the Company to Individual A when the shares were issued pursuant to the Share Grant Agreement in order for Individual A to maintain a X% shareholding in the Company (Top-Up Agreement).

There were no subsequent changes to the Share Grant Agreement or the Top-Up Agreement, nor were there any other agreements entered into for the issue of additional Company shares to Individual A.

The Restraint ended in late XX and:

•         in accordance with the Share Grant Agreement - Individual C was issued X ordinary shares in the capital of the Company, and

•         in accordance with the Top-Up Agreement, Individual A was issued with an additional number of ordinary shares in the capital of the Company.

The shares in the Company were sold to a third party purchaser earlier in 20XX and, at the time of the sale, the shareholders of the Company were:

CGT event K6 does not apply to the sale of the shares.

Individual A's original shares are pre-CGT shares.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 paragraph 104-10(5)(a)

Income Tax Assessment Act 1997 Division 109

Income Tax Assessment Act 1997 item 2 of the table in section 109-10

Reasons for decision

Section 104-10 sets out how to work out if you have made a gain or loss from CGT event A1.

Paragraph 104-10(5)(a) provides that any capital gain or capital loss you make on disposal of an asset acquired before 20 September 1985 (pre-CGT) is disregarded.

The time of acquisition of the shares is determined in accordance with Division 109.

When a company issues or allots shares, the time of acquisition of the shares is when the contract is entered into or, where there is no contract, when the shares are issued or allotted (item 2 of the table in section 109-10).

A contract is a legally binding agreement between two or more parties and is required to have the attributes prescribed by common law for the formation of a contract, including an offer, acceptance, consideration, and an intention to create legal relationships.

The time when a contract is entered into is the time when it comes into existence for general law purposes. Generally, a binding contract is entered into where one party communicates unconditional acceptance of an offer made by the other party.

The relevant contract is the contract that is the source of the obligation to make a specific issue or allotment of shares.

Before 20 September 1985, a Share Grant Agreement was entered into under which:

•         Individual C provided Security for the Company,

•         in exchange for that Security, the Stakeholders agreed that, when Individual C's Restraint ended, the Company would grant shares in the Company to Individual C.

In addition to the Share Grant Agreement, a Top-Up Agreement was entered under which when the shares were granted to Individual C pursuant to the Share Grant Agreement, additional shares would be issued to Individual A so as to maintain their X% shareholding.

The Top-Up Agreement was conditional upon the Share Grant Agreement. Individual A could not be issued their additional shares unless and until Individual C was issued with their shares pursuant to the Share Grant Agreement.

However, at the time Individual C was under a Restraint that acted as a barrier in holding shares in the type of business the Company conducted until the end of the Restraint.

The Share Grant Agreement, and consequently the Top-Up Agreement were not completed under after the end of the Restraint period.

Accordingly, the mismatch in the timing between the Security provided by Individual C and Individual A being issued the additional Company shares is explained by the Restraint period.

The Top-Up Agreement contains all the elements of a contract.

As there were no changes to the original Top-Up Agreement or any other subsequent agreements or contracts entered into for the issue of the additional Company shares to Individual A, the contract that is the source of the obligation to issue the additional Company shares to Individual A is the Top-Up Agreement.

Accordingly, Individual A's additional Company shares are taken to be acquired before 20 September 1985 and any capital gain made by Individual A on the disposal of these shares is disregarded under paragraph 104-10(5)(a).