Edited version of private advice

Authorisation Number: 1052080929737

Date of advice: 3 March 2023

Ruling

Subject: Not for profit entity - maintenance of income tax exemption status post merger

Question

Will the completion of the Transaction disturb Company A's income tax exemption status in accordance with section 50-30 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No.

This ruling applies for the following periods:

Income year ended 30 June 20XX

Income year ended 30 June 20XX

Income year ended 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

1.    Company A is a not-for-profit entity that is registered as a private health insurer under Division 3 of Part 2 of the Private Health Insurance (Prudential Supervision) Act 2015 (PHIPS Act 2015) and is listed on the register of private health insurers published on the APRA website.

2.    Company A's constitution prevents the distribution of income or property to its members whilst Company A is operating and upon winding up.

3.    Company A's constitution prevents it being registered as a for profit insurer.

4.    Company A's policy holders are customers of Company A and are not members of Company A.

5.    Company B is a for profit entity that is registered as a private health insurer under Division 3 of Part 2 of the PHIPS Act 2015 and is listed on the register of private health insurers published on the APRA website.

6.    Company B's policy holders are customers of Company B and are not members of Company B.

7.    Company B is a wholly owned subsidiary of Company A.

8.    The Transaction occurred on xxxx. Under the Transaction, Company A and Company B merged their private health insurer businesses. Company B will be subsequently liquidated.

9.    On xxxx APRA approved the arrangement for the merger of Company A and Company B pursuant to subsection 33(3) of the PHIPS Act 2015. Under the merger:

                      i.        Company B's policy holders were transferred to the health benefits fund conducted by Company A pursuant to section 33 of the PHIPS Act 2015.

                     ii.        Pursuant to the Private Health Insurance (Prudential Supervision) Rules 2019, all Company B's assets and benefits were transferred to Company A and in consideration for the asset transfer, Company A assumed the liabilities of Company B.

10.  Company A and Company B agreed to the following, In particular:

a.    All Company B policyholders become Company A policy holders.

b.    Company B's fund rules are inserted, where applicable, into Company A's fund rules.

c.     Company B's assets and liabilities will be transferred to Company A.

11.  While Company A changed its Fund Rules under the merger (i.e., Company B's fund rules were inserted, where applicable, into Company A's fund rules), the changes do not contravene the terms of its constitution.

12.  After a transitional period, Company B will be wound up. This is estimated to occur in xxxx.

13.  The effects of the Transaction following the completion are as follows:

•         Company B's policyholders ceased to be Company B's policy holders and became Company A's policy holders. There was no diminution of benefits to Company B's policy holders from becoming Company A's policyholders.

•         The health benefits fund to which Company B's health fund rules are referable became Company A's health benefits fund, resulting in benefits to the incoming Company B's policy holders being carried by Company A.

•         Company B's activities will significantly reduce, as it is now in the process of winding down. Notably, policyholder premiums are now paid by policyholders to Company A, and Company B no longer receives premium income.

•         After the merger and the transfer of its policies and assets to Company A under the Transaction, Company B will stop issuing health policies.

•         At no point during or after the Transaction was there, nor will there be, because of the Transaction, any dilution or exit of value outside any of the following:

o   Company B.

o   Company A; or

o   The merged Company B and Company A group.

This is because no amendment has been made to either entity's Constitution to otherwise permit a distribution of any value to members or policy holders at any time before, during or after completion.

•         Company A would not/ did not contravene its constitution during the merger in a way that might affect it's not-for-profit status or contravene the private health insurer registration with APRA.

Assumption

Company A continues to be registered as a private health insurer under Division 3 of Part 2 of the PHIPS Act 2015.

Relevant legislative provisions

Section 50-30 of the Income Tax Assessment Act 1997

Reasons for decision

Section 50-1 of the ITAA 1997 provides that the total ordinary income and statutory income of certain entities is exempt from income tax. In some cases, the exemption is subject to special conditions.

Table item 6.3 of section 50-30 of the ITAA 1997 provides that a private health insurer within the meaning of the PHIPS Act 2015 is an income exempt entity if it fulfilled the special condition that it is not carried on for the profit or gain of its individual members

Private health insurer- Post Transaction

Firstly, to qualify as an income tax exempt entity under item 6.3 of ITAA 1997, Company A must be a private health insurer after the completion of the Transaction.

The PHIPS Act 2015 defines a private health insurer as a body that is registered under Division 3 of Part 2 of the Act. In particular:

•         Subsection 12(1) provides that a body that is a company within the meaning of the Corporations Act 2001 and is a constitutional corporation may apply to APRA for registration as a private health insurer.

•         Section 14 provides that APRA rules may set out criteria for the registration of bodies as private health insurers.

APRA maintains a register of private health insurers on its website (https://www.apra.gov.au/register-of-private-health-insurers). Company A is listed as an institution which is regulated by APRA in accordance with the PHIPS Act 2015. Therefore, Company A continues, after APRA's approval of the arrangement for the merger of Company A and Company B, to be registered as a private health insurer under the PHIPS Act 2015 by APRA.

Consequently, Company A currently meets the requirement in item 6.3 that it is a 'private health insurer' within the meaning of that term under the PHIPS Act 2015.

Not for profit entity- Post Transaction

Secondly, to qualify as an income tax exempt entity under item 6.3 of ITAA 1997, Company A must also have a not-for-profit status after the completion of the Transaction.

The phrase 'not carried on for the profit or gain of its individual members' is not defined in the income tax provisions. The meaning of this phrase was considered in Taxation Ruling TR 2022/2 - Income tax: the games and sports exemption (TR 2022/2)

In TR 2022/2, the Commissioner discusses this phrase in the context of the income tax exemption provision that applies to sporting organisations under paragraph c of item 9.1 of the table in section 50-45 of the ITAA 1997:

"Non- profit

11. To qualify for the games and sports exemption, a club must be not-for-profit (the 'not-for-profit requirement' in this Ruling). The club must not be carried on for the purposes of individual members' profit or gain, either while the club is operating or on its winding up.

12. Club members may receive communal membership benefits, such as the use of the facilities, that are incidental to the club's objects. This will not prevent the club meeting the not-for-profit requirement. The club may also pay members reasonable remuneration for services they perform for the club.

13. Clubs can use various mechanisms to ensure they meet the not-for-profit requirement. 'Not-for-profit' clauses in governing documents are the most common way. These prevent the distribution of profits or assets for the benefit of particular persons while the club is operating and on winding up.

14. Examples of suitable not-for-profit clauses are:

•         Not-for-profit clause - the assets and income of the club shall be applied solely in furtherance of its objects and no portion shall be distributed directly or indirectly to the members of the club except as bona fide compensation for services rendered or expenses incurred on behalf of the club.

•         Dissolution clause - in the event of the club being dissolved, the amount that remains after dissolution and the satisfaction of all debts and liabilities of the club shall be transferred to any organisation that is carried on for a similar purpose, which is not carried on for the profit or gain of its individual members.

15. If a club is prohibited by statute from distributing profits or assets (for example, state or territory laws for incorporated associations) for the benefit of particular persons while the club is operating and on winding up, the club's governing documents are taken to contain the appropriate not-for-profit clauses.

15. To meet the not-for-profit requirement, a club's actions must also be consistent with its non-profit clauses which prohibit distributions for the private benefit of its members."

As such, the ATO accepts an entity as non-profit where its constituent or governing documents prevent it from distributing profits or assets for the benefit of its members - both when operating and on winding up.

It is relevant in this regard that Company A's constitution prevents the distribution of income or property to its members whilst Company A is operating and upon its winding up.

Based on the existing terms of the HCF constitution, it is not carried on for the profit or gain of its individual members, and therefore meets the special condition in item 6.3 of section 50-30.

In respect of the issue of whether the Transaction affected Company A's not-for-profit status as a private health insurer, the following matters are considered relevant:

•         Company A would not/did not contravene its constitution during the merger in a way that might affect its not for profit status or contravene the private health insurance laws in a way that might affect its private health insurer registration with APRA.

•         While Company A changed its Fund Rules under the merger, the changes do not contravene the terms of its constitution.

•         At no point during or after the Transaction has there been, nor will there be as a result of the Transaction, any dilution or exit of value outside the Company B, Company A, or the merged Company B and Company A group. Hence, the combined assets of Company A and Company B will continue on under Company A and there is no leakage or distribution of any net assets to another 3rd party or any of its members. Consequently, it is accepted that there are no financial benefits given to any of the members to Company A as a result of the merger.

•         It is a material fact that the not-for profit clause and the dissolution clause of the Company A's constitution continue to be retained and remain operative following the Transaction, such that the assets and income of Company A continue to be applied in furtherance of its objects and will not be distributed to its councillors; and that, upon its dissolution, any property that remains, after satisfaction of all its debts and liabilities, will not be distributed among the councillors but must be given to an entity which has objects similar to Company A's and which prohibits the distribution of its income and property to its members.

Consequently, it is considered that Company A continues to meet the special condition in item 6.3 of section 50-30 and will be an income tax exempt entity under section 50-30.