Edited version of private advice

Authorisation Number: 1052061947600

Date of advice: 23 November 2022

Ruling

Subject: Beneficial ownership

Question 1

Is there a change in beneficial ownership as a result of the proposed transaction to transfer the 20 shares in Company A held by the child to the Taxpayer under Part 3-1 or Part 3-3 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

Question 2

Once the proposed transaction is completed, will the transfer of shares from the ex-spouse to the Taxpayer (including the time the child legally held the shares) maintain its pre-CGT status under subsection 126-5(6) of the ITAA 1997?

Answer

Yes.

This ruling applies for the following periods:

1 July 20XX to 30 June 20XX

1 July 20XX to 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

Company A was incorporated before 20 September 1985.

At corporation, the Taxpayer and the now ex-spouse both held one share each in Company A.

At the time of incorporation, the Corporations Act 1989 required a minimum two directors and two members. This has also been included in Company A's Articles of Association.

The Taxpayer operated a business through Company A.

The Taxpayer and the ex-spouse separated.

By way on consent orders of the Family Court, the ex-spouse was ordered to resign as a director and to transfer their share in Company A to the Taxpayer or the nominee for no consideration.

As at the date on the consent orders, the Corporations Act 1989, now repealed, still required a minimum of two directors and two members.

Minutes of a director's meeting noted:

• The ex-spouse resigned as a director and the Taxpayer's child was appointed in their place, and
• The Taxpayer was advised that the ex-spouse should remain as a shareholder.

As a result, there was no change made to the legal owner of the ex-spouse's share at the meeting.

The Taxpayer lodged on behalf of Company A as director a form to the relevant authority indicating the ex-spouse is not the beneficial owner of the share.

The requirements for a minimum of two directors and two members were removed from the Corporations Act 1989 in 1995. However, Company A's Articles of Association was not updated at that time and remained a minimum two directors and two members.

The Taxpayer wished to remove the ex-spouse as a shareholder. The Taxpayer was advised to transfer the shares held by the ex-spouse to their child as bare trustee for the Taxpayer.

The Taxpayer was not advised at the time that they should transfer the ex-spouse's share to themselves.

The Taxpayer as director of Company A notified the relevant authority that the ex-spouse's share was transferred to XXX as the non-beneficial owner of the share.

The child is the legal owner of the shares only.

The Taxpayer and the child have considered at all times the Taxpayer is the beneficial owner of all shares issued in Company A.

The child will not receive any compensation as a result of the shares being transferred to the Taxpayer.

At the proposed time the share will transfer to the Taxpayer, there will be no claim or entitlement by the child (as trustee) against the shares (trust property). That is, there is no claim by the Trustee under Trustee indemnity.

A resolution was passed that each of the issued 2 ordinary shares are to be subdivided into 20 ordinary shares for no consideration pursuant to subsection 254H(4) of the Corporations Act 2001. The taxpayer as director of Company A notified the relevant authority of this transaction that indicated the child was registered as the shareholder of the new 20 ordinary shares but not the beneficial owner. The Taxpayer held the other new 20 ordinary shares.

Subject to the outcome of this ruling, the Taxpayer proposes to:

• Adopt a new constitution for Company A that permits a sole director and sole member, and
• Transfer the shares held by the child to the Taxpayer.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 126-5

Income Tax Assessment Act 1997 Section 112-25

Income Tax Assessment Act 1997 Section 104-10

Income Tax Assessment Act 1997 Section 149-10

Income Tax Assessment Act 1997 Section 149-15

Income Tax Assessment Act 1997 Section 149-30

Income Tax Assessment Act 1997 Section 106-50

Reasons for decision

Question 1

Summary

The beneficial ownership of the shares has always been with the Taxpayer. This is unaffected by the proposed transaction to transfer the 20 shares in Company A held by the child to the Taxpayer. We note that you have confirmed that the transfer will occur and that at the time of the transfer there will be no trustee indemnity.

Detailed reasoning

Absolute entitlement

Where a beneficiary is absolutely entitled to a CGT asset as against the trustee, section 106-50 of the ITAA 1997 states that any act done in relation to the CGT asset by the trustee will be treated as if the act was done by the absolutely entitled beneficiary. That is, the absolutely entitled beneficiary is treated as the owner of the CGT asset.

Draft Taxation Ruling TR 2004/D25 Income tax: capital gains: meaning of the words 'absolutely entitled to a CGT asset as against the trustee of a trust' as used in Parts 3-1 and 3-3 of the Income Tax Assessment Act 1997 (TR 2004/D25) discusses the circumstances in which a beneficiary of a trust is considered to be absolutely entitled to a CGT asset of a trust as against its trustee.

Paragraph 10 of TR 2004/D25 states:

The core principle underpinning the concept of absolute entitlement in the CGT provisions is the ability of a beneficiary, who has a vested and indefeasible interest in the entire trust asset, to call for the asset to be transferred to them or to be transferred at their direction. This derives from the rule in Saunders v. Vautier applied in the context of the CGT provisions .... The relevant test of absolute entitlement is not whether the trust is a bare trust ....

The following paragraphs are extracted from 73 to 75 of TR 2004/D25:

73. The interest a beneficiary has in the trust asset or assets must be vested in possession and indefeasible. A trustee would only be obliged to satisfy a demand from a beneficiary with such an interest.

74. A vested interest is one that is bound to take effect in possession at some time and is not contingent upon an event occurring that may or may not take place. A beneficiary's interest in an asset is vested in possession if they have the right to immediate possession or enjoyment of it.

75. Also, the interest must not be able to be defeated by the actions of any person or the occurrence of any subsequent event.

CGT event A1

CGT event A1 occurs under subsection 104-10(1) of the ITAA 1997 when there is a change in ownership of a CGT asset.

However, subsection 104-10(2) of the ITAA 1997 states:

You dispose of a CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event or by operation of law. However, a change of ownership does not occur if you stop being the legal owner of the asset but continue to be its beneficial owner.

Marriage breakdown

CGT generally applies to all changes of ownership of assets on or after 20 September 1985. However, subdivision 126-A of the ITAA 1997 outlines the circumstances where a capital gain may be disregarded following a marriage breakdown.

Subsection 126-5(1) of the ITAA 1997 provides that there is a roll over if a CGT event (the trigger event) happens involving an individual (the transferor) and his or her spouse or former spouse (the transferee) because of:

  (a)        a court order under the Family Law Act 1975 (FLA) or under a state law, territory law or foreign law relating to breakdowns of relationships between spouses; or

Paragraph 126-5(2)(a) of the ITAA 1997 states that only these CGT events are relevant which included CGT events A1 and B1 from a disposal case.

In respect of the CGT consequences for the transferor on disposal, subsection 126-5(4) of the ITAA 1997 states that a capital gain or a capital loss the transferor makes from the CGT event is disregarded.

For a disposal case where the transferor acquired the asset before 20 September 1985, subsection 126-5(6) of the ITAA 1997 states the transferee is taken to have acquired it before that day. There is a note at subsection 126-5(6) that states:

A capital gain or loss you make from a CGT asset you acquired before 20 September 1985 is generally disregarded; see Division 104. This exemption is removed in some situations: see Division 149.

Asset split

Section112-25 of the ITAA 1997 sets out the rules when an asset is split, changed or merged. Subsection 112-25(1) states:

This section sets out what happens if:

          (a)       a *CGT asset (the original asset ) is split into 2 or more assets (the new assets ); or

          (b)      a *CGT asset (also the original asset ) changes in whole or in part into an asset (also the new asset ) of a different nature;

and you are the beneficial owner of the original asset and each new asset.

Subsection 112-25(2) of the ITAA 1997 states that the splitting or change is not a CGT event.

Taxation Determination TD 2000/10 Income tax: capital gains: what are the CGT consequences for a shareholder if a company converts its shares into a larger or smaller number of shares? (TD 2000/10) considers the CGT consequences for a shareholder upon conversion by a company of its shares into a larger or smaller number of shares. At paragraph 1, it provides:

If a company converts its shares into a larger or smaller number of shares ('the converted shares') in accordance with section 254H of the Corporations Law ('C Law') in that:

               (a)        the original shares are not cancelled or redeemed in terms of the C Law;

               (b)        there is no change in the total amount allocated to the share capital account of the company; and

               (c)        the proportion of equity owned by each shareholder in the share capital account is maintained;

no CGT event happens to the shareholder's original shares for capital gains purposes. While there is a change in the form of the original shares, there is no change in their beneficial ownership. The issue of roll-over relief under section 124-240 of the Income Tax Assessment Act 1997 ('the 1997 Act') does not arise because no CGT event happens to the shares.

Paragraph 2 of TD 2000/10 states:

The converted shares have the same date of acquisition as the original shares to which they relate. For example, if the original shares were acquired before 20 September 1985 (pre-CGT shares), the converted shares have the same acquisition date.

Paragraph 6 of TD 2000/10 states:

This Taxation Determination rewrites and replaces Taxation Determination TD 95/30. There is no material change in this Taxation Determination to the views expressed in TD 95/30 apart from updating it with the rewritten income tax law in the 1997 Act and with recent Corporations Law changes.

Application to your circumstances

If your case, you acquired a share in Company A as a result of your marriage breakdown from your ex-spouse. The consent orders required your ex-spouse to transfer their share in Company A to the Taxpayer. CGT event A1 occurs when your ex-spouse transfers their ownership of the share to the Taxpayer.

However, as it was a requirement under the Corporations Act 1989 that there must be two shareholders in a private company, the Taxpayer was advised that the ex-spouse holds onto the share on their behalf. Company A notified the relevant authority that your ex-spouse was not the beneficial owner of the share.

This share held by your ex-spouse was later transferred to your childn as bare trustee for the Taxpayer at the Taxpayer's request. This was reported with the relevant authority. It was considered by both the Taxpayer and their child that the Taxpayer was the beneficial owner of the share.

A resolution was passed that each of the issued 2 ordinary shares are to be subdivided into 20 ordinary shares for no consideration pursuant to subsection 254H(4) of the Corporations Act 2001. The Taxpayer as director of Company A notified the relevant authority of this transaction that the child was registered as the shareholder of the new 20 ordinary shares but not the beneficial owner. The Taxpayer held the other new 20 ordinary shares. As Company A split the two original shares into 20 shares each, the Taxpayer is still the beneficial owner of the original asset and each new asset pursuant to subsection 112-25(1) of the ITAA 1997. No CGT event occurs under subsection 112-25(2).

Based on the transactions described above, it is accepted that the Taxpayer had beneficial ownership of the share pursuant to section 106-105 of the ITAA 1997 from the date of the court order.

It is accepted that the later transfer to your child does not affect the beneficial ownership of the Taxpayer.

It is accepted that the later share split does not affect the beneficial ownership of the Taxpayer.

It is not considered that there will be change in ownership when the child transfers legal ownership of the 20 Company A shares to the Taxpayer. This is because the bare trust ceasing (with no claim/s by the Trustee) does not affect beneficial ownership of the Taxpayer in relation to those shares.

The Taxpayer has held beneficial ownership since the court order and will hold both the beneficial and legal ownership from the date the shares are transferred.

Question 2

Summary

The transfer of shares from the ex-spouse to the Taxpayer (including the time the child legally held the shares) will maintain their pre-CGT status pursuant to subsection 126-5(6) of the ITAA 1997.

Detailed reasoning

As discussed at Question 1, CGT generally applies to all changes of ownership of assets on or after 20 September 1985.

Marriage breakdown

Subdivision 126-A of the ITAA 1997 outlines the circumstances where a capital gain may be disregarded following a marriage breakdown.

If certain conditions are met there is an automatic roll-over of the capital gain for the transferring spouse if a CGT event happens as a result of a marriage breakdown.

Subsection 126-5(1) of the ITAA 1997 provides that there is a roll over if a CGT event (the trigger event) happens involving an individual (the transferor) and his or her spouse or former spouse (the transferee) because of:

  (a)        a court order under the Family Law Act 1975 (FLA) or under a state law, territory law or foreign law relating to breakdowns of relationships between spouses; or

Paragraph 126-5(2)(a) of the ITAA 1997 states that only these CGT events are relevant which include CGT events A1 and B1 from a disposal case.

In respect of the CGT consequences for the transferor on disposal, subsection 126-5(4) of the ITAA 1997 states that a capital gain or a capital loss the transferor makes from the CGT event is disregarded.

However, for a disposal case where the transferor acquired the asset before 20 September 1985, subsection 126-5(6) of the ITAA 1997 states the transferee is taken to have acquired it before that day. There is a note at subsection 126-5(6) that states:

A capital gain or loss you make from a CGT asset you acquired before 20 September 1985 is generally disregarded; see Division 104. This exemption is removed in some situations: see Division 149.

For a disposal case where the transferor acquired the asset before 20 September 1985, subsection 126-5(6) of the ITAA 1997 states the transferee is taken to have acquired it before that day.

Division 149

Division 149 of the ITAA 1997 outlines the rules which govern when an asset acquired by a taxpayer before 20 September 1985 is treated as having been acquired after that date for CGT purposes.

Majority underlying interests in a CGT asset is defined in subsection 149-15(1) of the ITAA 1997 as:

(a)  more than 50% of the beneficial interests that ultimate owners have (whether directly or indirectly) in the asset; and

(b)  more than 50% of the beneficial interests that ultimate owners have (whether directly or indirectly) in any ordinary income that may be derived from the asset.

From the definition it is clear that ultimate owners must have greater than 50% of the beneficial interests in both the asset and any ordinary income that may be derived from the asset.

Subsection 149-15(2) of the ITAA 1997 defines an underlying interest in a CGT asset as:

"...a beneficial interest that an ultimate owner has (whether directly or indirectly) in the asset or in any ordinary income that may be derived from the asset."

Ultimate owners are defined in subsection 149-15(3) of the ITAA 1936 and, relevantly for the purposes of this ruling, includes an individual.

Subsection 149-30(1) of the ITAA 1997 states that 'the asset stops being a pre-CGT asset at the earliest time when majority underlying interests in the asset were not had by ultimate owners who had majority underlying interests in the asset immediately before 20 September 1985.

Subsection 149-30(2) of the ITAA 1997 provides that if the Commissioner is satisfied, or thinks it reasonable to assume, that at all times on and after 20 September 1985 and before a particular time majority underlying interests in the asset were had by ultimate owners who had majority underlying interests in the asset immediately before that day, subsections (1) and (1A) apply as if that were in fact the case.

Subsections 149-30(3) and (4) of the ITAA 1997 provide that if an ultimate owner (new owner) has acquired an interest in an asset because it was transferred to the new owner as a result of a marriage breakdown (with the former owner), the new owner is treated as having held the underlying interest of the former owner over the years.

CGT event A1

CGT event A1 occurs under subsection 104-10(1) of the ITAA 1997 when there is a change in ownership of a CGT asset.

However, subsection 104-10(2) of the ITAA 1997 states:

You dispose of a CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event or by operation of law. However, a change of ownership does not occur if you stop being the legal owner of the asset but continue to be its beneficial owner.

As mentioned at Question 1, TD 2000/10 considers the CGT consequences for a shareholder upon conversion by a company of its shares into a larger or smaller number of shares.

Paragraph 2 of TD 2000/10 states:

The converted shares have the same date of acquisition as the original shares to which they relate. For example, if the original shares were acquired before 20 September 1985 (pre-CGT shares), the converted shares have the same acquisition date.

Application to your circumstances

The Taxpayer became the beneficial owner of the ex-spouse's 1 share in Company A as a result of a marriage breakdown. The consent orders required your ex-spouse to transfer their 1 share in Company A to the Taxpayer. CGT event A1 occurs when your ex-spouse transfers their ownership to the Taxpayer as a result of the consent orders under paragraph 126-5(1)(a) of the ITAA 1997. As a result of the shares being transferred to the Taxpayer pursuant to the consent orders, subsection 126-5(6) would apply where the transferor being the ex-spouse acquired their share before 20 September 1985, the transferee being the Taxpayer is taken to have acquired that share before that day provided the Taxpayer meets the requirements of Division 149.

The 2 ordinary shares in Company A had been held by the ex-spouse and the Taxpayer since Company A was incorporated before 20 September 1985. The beneficial ownership of the ex-spouse's one share was transferred to the Taxpayer after 20 September 1985 due to a court order for a marriage breakdown. Therefore, section 149-30(4) of the ITAA 1997 would apply such that the new owner being the Taxpayer is treated as having held the underlying interests of the former owner over the years, and accordingly it is taken that there has not been a change in majority underlying interests of the company.

The Commissioner is satisfied that the majority underlying interests in Company A have been held after 20 September 1985 by the same ultimate owners who held the interests immediately before 20 September 1985. It is accepted the share is a pre-CGT asset.

It has been established in Question 1 that Company A satisfied the requirements of the share split in subsection 112-25(1) of the ITAA 1997.

Furthermore, it was established at Question 1 that the Taxpayer continued to have beneficial ownership in Company A shares before and after the share split which includes when the ex-spouse transferred their 1 share in Company A to the taxpayer due to a court order as well as the period the ex-spouse and the child legally held the shares on the Taxpayer's behalf.

Consequently, the proposed transfer of shares in Company A to the Taxpayer (including the time the share/s where held by the ex-spouse and child) will retain their pre-CGT status pursuant to subsection 126-5(6), 149(3) and (4) of the ITAA 1997.