Edited version of private advice

Authorisation Number: 1052096158522

Date of advice: 10 March 2023

Ruling

Subject: Base rate entity

Question

Is ABC Pty Ltd a base rate entity pursuant to section 23AA of the Income Tax Rate Act 1986 (ITRA 1986) in the financial year ended 30 June 20XX?

Answer

No

This ruling applies for the following period:

Period ending 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

ABC Pty Ltd (ABC) is the head entity of a tax consolidated group carrying on business. The subsidiary members of the group are A Coy Pty Ltd and B Coy Pty Ltd.

The annual turnover under section 328-120 of ITAA 1997 of the tax consolidated group in 20XX-XX was approximately $X million.

The tax consolidated group had less than X% of its annual turnover classified as base rate entity passive income for the purposes of section 23AB of the Income Tax Rates Act 1986 (ITRA)) in the 20XX financial year.

Ownership of ABC

Approximately X% of the shares in ABC are owned by DEF Pty Ltd as trustee of the DEF Trust.

The DEF Trust is owned X% by GHI Coy as custodian for JKL Pty Limited as trustee for the A Trust.

A Trust's sole unit holder is Fund Pty Ltd as trustee for The Fund Trust (The Fund).

The Fund

The Fund is an industry superannuation fund regulated by the Australian Prudential Regulation Authority (APRA).

The Fund caters to all Australians regardless of occupation or location.

In the 20XX year The Fund:

• Manages over $X billion in funds for members
• Has X members
• Received contributions from employers
• Paid out insurance claims
• Received Super Guarantee contributions, salary sacrifice, voluntary and roll-in contributions
• Paid retirement benefits
• Financial Planners provided Statements of Advice
• Reduced administration fees for accumulation members
• Generated positive investment returns
• Increased membership
• Has executive officers and a number of staff
• Prepared and provided Annual Statements to its members

The Fund has a number of highly experienced Board members and Managers.

The Fund's Strategic plan includes a statement of purpose.

There are a number of strategies, programs and projects within the strategic plan.

The Fund provides financial services to members.

The Fund has a number of investment options available to members. Each of these options have their own objectives as stated in the annual report.

Over the past 10 years, The Fund's X investment option has returned an average of X% each year.

The Fund has a wide variety of investments in Infrastructure, Cash, Equity and Index Funds.

The Fund employs the services of professional entities including Investment Managers, Financial Planners, Auditors, Actuaries, Asset Consultants, Tax Advisors, Legal Advisers, etc.

The Fund has decided to exit certain investments during the 20XX financial year.

The trust deed for The Fund does not specifically state that the trust can carry on a business. However, specific investment powers of the trustee are addressed.

Relevant legislative provisions

Income Tax Rate Act 1986 section 23AA

Income Tax Rate Act 1986 section 23

Income Tax Rate Act 1986 section 23AB

Income Tax Assessment Act 1997 section 328-115

Income Tax Assessment Act 1997 section 328-120

Income Tax Assessment Act 1997 section 328-125

Income Tax Assessment Act 1997 subsection 328-125(7)

Reasons for decision

Section 23 of the Income Tax Rate Act 1986 (ITRA 1986) provides the rates of tax payable by a company, other than a company in the capacity of a trustee, with the applicable tax rate determined reliant on whether the company is a base rate entity.

Base Rate Entities

Section 23AA of the ITRA 1986 provides that an entity is a base rate entity for a year of income if:

(a)  no more than 80% of its assessable income for the year of income is base rate entity passive income; and

(b)    its aggregated turnover (within the meaning of the Income Tax Assessment Act 1997 (ITAA 1997) for the year of income, is less than $50 million.

As set out in the facts, ABC has less than X% of its assessable income classified as base rate entity passive income for the purposes of section 23AB of ITRA1986 in the 20XX-XX financial year meaning the 'not more than 80%' requirement was satisfied.

Aggregated turnover

Section 328-115 of the ITAA 1997 provides the meaning of aggregated turnover for an income year (which is the sum of the relevant annual turnovers) and includes:

(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.

Annual turnover under section 328-120 of ITAA 1997 includes the total ordinary income that the entity derives in the income year in the ordinary course of carrying on a business.

The annual turnover of the ABC tax consolidated group in 20XX-XX was approximately $X million.

'Connected with' - Entities other than discretionary trusts

Pursuant to section 328-125 of the ITAA 1997 an entity is connected with another entity if either entity controls the other entity or both entities are controlled by the same third entity.

An entity (the first entity) controls another entity (excluding a discretionary trust) if the first entity, its affiliates, or the first entity together with its affiliates own at least 40% of the income, capital or voting entitlements.

If a first entity directly controls a second entity, the first entity is also treat as controlling any other entity that is directly or indirectly controlled by the second entity in accordance with subsection 328-125(7) of ITAA 1997.

Under subsection 328-125 of the ITAA 1997, and for the purpose of section 328-115:

• The Fund controls the A Trust,
• the A Trust controls the DEF Trust,
• the DEF Trust controls ABC.

This means that The Fund is taken to control ABC and so is connected with ABC.

As The Fund is connected with ABC, pursuant to section 328-115 of the ITAA 1997, the annual turnover of The Fund must be included in the aggregated turnover of ABC. Pursuant to section 328-120, The Fund's annual turnover includes ordinary income derived in the course of carrying on a business. Therefore, it is necessary to determine if The Fund is carrying on a business.

Carrying on a business

The ATO website provides guidance as towhen an APRA regulated fund may be carrying on a business(https://www.ato.gov.au/Super/APRA-regulated-funds/In-detail/APRA-resources/Deductions-for-APRA-regulated-super-funds/?page=3#returntofootnote18). It states:

The activities of some APRA-regulated super funds in dealing in shares and other investments may amount to the carrying on of a business. We assess the super fund's investment activities against relevant factors to see whether they amount to the carrying on of a business.

These indicators include:

•         whether the activity has a significant commercial purpose or character

•         if there is a purpose of profit

•         repetition and regularity of the activity

•         if the activity is planned, organised and carried on in a businesslike manner such that it is directed at making a profit

•         size, scale and permanency of the activity.

Whether APRA-regulated super funds satisfy the above indicators to be considered to be carrying on a business for tax law purposes will depend on their particular circumstances.

Although, it is a well-established principle of trust law that a trustee cannot carry on a business unless expressly authorised to do so by the trust instrument or by statute, Taxation Ruling TR 93/17 Income tax: income tax deductions available to superannuation funds (TR 93/17) states that, in many cases, the activities of a superannuation fund may amount to carrying on a business for tax purposes (paragraph 14).

The sole purpose of superannuation funds is to provide benefits to members on retirement or attainment of a certain age, or the provision of benefits to dependants on the death of a member. Therefore, superannuation funds are generally prohibited from undertaking speculative activities or carrying on an active business such as operating a retail shop, motel or primary production business. However, the activities of a superannuation fund in holding shares and other investments and from time to time realising them, in some cases, may amount to the carrying on of a business (TR 93/17 paragraph 13).

As further explained in paragraph 14 of TR 93/17:

•         There is no single factor that determines the question of whether a superannuation fund is carrying on an investment business or a business of trading in shares.

•         A significant factor is that its activities are undertaken by a trustee with an obligation of prudence. This obligation puts trustees in a different position to trading companies. As such, in many cases, the investment and share trading activities of a superannuation fund will not amount to carrying on business but will simply be the performance of a fiduciary duty to preserve the assets of the fund for the benefit of members.

•         Other factors may indicate that the fund is in fact carrying on a business; for instance:

−     the volume, frequency and scale of activities (bearing in mind the size of the portfolio);

−     a systematic course of buying and selling for the purpose of producing profits; and

−     the intention of the trustee.

•         Ultimately, the question is one of fact and degree, a question of impression.

Further discussion on the relevant indicators of carrying on business is also provided in Taxation Ruling TR 97/11 Income tax: Am I carrying on a business of primary production? (TR 97/11)

No one indicator is decisive. The indicators must be considered in combination and as a whole. Whether a business is being carried on depends on the large or general impression gained from examination of the facts (Martin v. FC of T (1953) 90 CLR 470 at 474; 5 AITR 548 at 551) from looking at all the indicators, and whether these factors provide the operations with a 'commercial flavour' Ferguson v. FC of T (1979) 37 FLR 310 at 325; 79 ATC 4261 at 4271; (1979) 9 ATR 873 at 884). The weighting to be given to each indicator may vary from case to case (TR 97/11, paragraph 16).

Purpose of profit

In Hope v The Council of the City of Bathurst (1980) 144 CLR 1; 80 ATC 4386; (1980) 12 ATR 231 (Hope), Mason J said that business activities are usually activities that are 'engaged in for the purpose of profit on a continuous and repetitive basis' (TR 97/11 paragraph 47).

Application to The Fund's circumstances

The Fund is an Industry superannuation fund (Industry Fund). Industry Funds are organisations that are run only to benefit its members. This means that all the profits are returned to the fund and to its members and all profits are generated and re-invested to maximise retirement benefits for members. It is The Fund's intention to make a profit. This is evident in a number of aspects of their business. The Fund identifies itself as part of the "profit-to-members" superannuation sector, otherwise known as an industry super fund. That is, it aims to make a profit and distribute that profit to its members.

Based on the objectives of the various investment options as stated in The Fund's annual report, it is clear that The Fund entered into the activities with an intention to make a profit from their investment activities and has generated profits for many years. The Fund has engaged the expertise of investment managers and as a result have made profits consistently over the past ten years.

Repetition and regularity of the activities

The repetition of activities by an entity over a period of time on a regular basis helps determine whether the entity is 'carrying on' a business. For example, in Hope the 'transactions were entered into on a continuous and repetitive basis', such that the taxpayer's activities 'manifested the essential characteristics required of a business' (paragraph 55 of TR 97/11).

The taxpayer's activities should involve repetition and regularity and have an air of permanence about them. With regards to the business of superannuation funds, repetition and regularity may found in activities such as investments, new memberships, collection of contributions, paid out insurance claims, paid out retirement benefits, financial advice provided, and queries addressed.

Application to The Fund's circumstances

The Fund conducts a number of its activities on a repeated and regular basis. These activities are repeated year after year and display characteristics of permanency.

Based on the information provided in the 20XX-XX annual report for The Fund, the activities performed by The Fund are undertaken on a regular and repeated basis.

Planned, organised and carried on in a businesslike manner such that it is directed at making a profit

A taxpayer's activities are more likely to amount to the carrying on of a business where they are carried out in a systematic and organised manner. This usually involves matters such as advertising for customers in a consistent and systematic manner, maintaining operations on a consistent basis, retaining and pursuing profitable activities, discontinuing unprofitable activities, and keeping appropriate business records.

Application to The Fund's circumstances

The Fund operate in a systematic and organised manner. They deliver outcomes to their members using the strategic plan. The plan is achieved with strategies that are affected with the development and deployment of a number of work programs. Membership of The Fund is open to anyone in Australia. The Fund aims to grow and retain membership.

Within the Investment Strategy are mechanisms to discontinue investments that don't perform or meet strategy objectives. There are also mechanisms in place to retain and pursue profitable activities.

The Fund keeps all appropriate business records to comply with requirements to operate as a complying superannuation fund. It is registered with APRA and regulated under the SIS Act. This includes but is not limited to annual reports, financial statements, income tax returns, and annual statements for members.

As previously discussed, The Fund's operations are profitable.

The factors discussed above show that the activities of The Fund are planned, organised and carried on in a businesslike manner. These activities are directed at making a profit and do make a profit.

The size, scale and permanency of the activities

The larger the scale of the activities the more likely it will be that the taxpayer is carrying on a business. The business should be large enough to make it commercially viable and provide the taxpayer with a reasonable expectation of making a profit from the activities (TR 97/11 paragraph 77).

Application to The Fund's circumstances

The Fund manages over $X billion in funds for its more than X members. Over the course of 20XX X employers paid super contributions to The Fund. Members received over $X million in Super Guarantee contributions and paid around $X million in salary sacrifice amounts. The Fund paid retirement benefits of over $X million.

The size and scale of The Fund is large. It manages a significant amount of assets and has done so at a profit for more than X years. The Funds is commercially viable as evidenced by past performance. The size scale and permanency of the activities are indicative of carrying on a business.

Significant commercial purpose or character

The 'significant commercial purpose or character' indicator is closely linked to the other indicators and is a generalisation drawn from the interaction of the other indicators. It is particularly linked to the size and scale of activity, the repetition and regularity of activity and the profit indicators.

Application to The Fund's circumstances

The indicators of size and scale, repetition and regularity, and profit have all been discussed above. In each instance, the activities of The Fund have demonstrated a commercial character. The following facts are considered relevant to whether the activities have a significant commercial purpose or character:

• The Fund employs the services of professional entities including Investment Managers, Financial Planners, Auditors, Actuaries, Asset Consultants, Tax Advisors, Legal Advisers, etc.
• The Fund has a strategic plan and utilises various strategies, programs and projects to bring the plan to fruition.
• The Fund has a number of highly experienced Board members and Managers.
• The Fund has a long history of undertaking these activities. It is also relevant that their experience extends beyond their incorporation as they began from a merging of existing industry funds.
• The Fund is available to anyone who wishes to join and is marketed to all via national marketing campaigns.
• The Fund has in excess of X members
• The Fund manages more than $X billion in assets
• The Fund has consistently made profits for its members
• The Fund offers competitive produces and performance relative to other industry funds.
• The Fund has an intention to make profits for its members.
• The Fund complies with all legislative requirements for a Complying Superannuation Fund.

Taking the above factors into account, the Commissioner considers the activities of The Fund have a significant commercial purpose or character.

Conclusion

The large and general impression gained from our examination of the facts and looking at all indicators in combination and as a whole, is that the operations of The Fund have a significant commercial flavour. It is considered that that The Fund is carrying on a business.

As The Fund is connected with ABC under subsection 328-125 of the ITAA 1997, the annual turnover of The Fund must be included in the aggregated turnover of ABC.

As a result, although no other affiliates or entities connected with ABC have been considered, it is clear that ABC is not a base rate entity pursuant to section 23AA of the ITRA 1986 in the financial year ended 30 June 20XX as their aggregated turnover is in excess of the $50 million threshold.