Edited version of private advice

Authorisation Number: 1052187695701

Date of advice: 3 November 2023

Ruling

Subject: CGT - replacement rollover - liquidation

Question 1

Will the cash distribution from the liquidators be subject to the capital gains tax provisions in Parts 3-1 and 3-3 of the Income Tax Assessment Act 1997 (ITAA 1997)

Answer

Yes.

Question 2

Is the taxpayer entitled to apply roll-over relief under Division 124 of the ITAA 1997 to reduce any capital gains?

Answer

No.

Question 3

Does the 50% discount capital gain under Division 115 of the ITAA 1997 apply?

Answer

Yes, a 50% discount can apply for the individual and the trust.

This ruling applies for the following periods:

Year ending 30 June 20XX

The scheme commenced on:

DDMMYYYY

Relevant facts and circumstances

1.    Company A and B conducted a business by way of a number of trading platforms.

2.    Company A and B held a financial service Licence. It facilitated the acquisition of shares by clients through an online broker and made a range of financial products available to clients.

3.    Company A and B were involved in the misuse of client funds.

4.    The moneys paid to Company A and B by clients were determined by a court to be held on trust for the client's benefit.

5.    The funds held on trust for the respective clients became commingled.

6.    As a result of commingling between the funds, it was not feasible to identify money or any particular bank accounts or statutory trust as belonging to any individual client.

7.    As at DDMMYYYY there was a deficiency in the funds held by the companies to meet client entitlements with a Client Moneys Shortage.

8.    On DDMMYYYY Company A and B went into administration.

9.    As at the date of administration of the companies there was a single deficient mixed fund.

10.  The matter has been to the Federal Court.

11.  Key outcomes of the court decisions are:

•         shares acquired after DDMMYYYY and any cash; or shares acquired before DDMMYYYY and subsequently sold participate in the deficiency.

•         for shares purchased after DDMMYYYY investors have no entitlement to increases in value or dividends since the Administration date.

•         The date of valuation of client entitlements to the deficient fund was date of administration of Company B.

•         The clients' money was held on trust

•         Each particular investment was not traceable

•         There was a single deficient mixed fund

•         Contributions to the mixed fund ceased to be identifiable and the investors did not have a particular asset.

•         Each investor held an equitable charge over the entire fund to the extent of the value of their investment.

12.  You used Company A to trade warrants/options and hold share investments on capital account.

13.  The shares purchased post DDMMYYYY have been sold by the Liquidator and have gone into a pool for distribution (once the liquidator has taken out their fees). The accounts are based on their value on the DDMMYYYY.

14.  Funds that have been returned to you have been used to purchase new shares under the same ownership structure.

15.  A consequence of the court orders you will receive a cash distribution based on your Adjusted Account Balance as at DDMMYYYY.

16.  Funds that have been returned, have been used to purchase new shares under the same ownership structure.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 102-20

Income Tax Assessment Act 1997 section 104-10

Income Tax Assessment Act 1997 subsection 104-10(4)

Income Tax Assessment Act 1997 subsection 104-20(1)

Income Tax Assessment Act 1997 subsection 104-25(1)

Income Tax Assessment Act 1997 subsection 108-5(1)

Income Tax Assessment Act 1997 Division 110

Income Tax Assessment Act 1997 section 110-25

Income Tax Assessment Act 1997 Division 115

Income Tax Assessment Act 1997 section 116-20

Income Tax Assessment Act 1997 Subdivision 124-B

Income Tax Assessment Act 1997 section 124-70

Income Tax Assessment Act 1997 section 124-75

Reasons for decision

All legislative references are to the Income Tax Assessment Act 1997 (ITAA 1997) unless otherwise stated.

Question 1

Summary

The redemption or surrendering of your right to a share of the fund will trigger a CGT C2 event as a result of your right ending. You make a capital gain if the capital proceeds from the CGT C2 event exceed the cost base or a capital loss if the reduced cost base exceeds the capital proceeds (subsection 104-10(4)).

Detailed reasoning

You may make a capital gain or capital loss if a CGT event happens to a CGT asset (section 102-20).

Subsection 108-5(1) of the ITAA 1997 defines a CGT asset to be any kind of property, or a legal or equitable right that is not property.

CGT events are listed in Division 104; each CGT event prescribes specific conditions about when they happen.

Subsection 104-20(1) for example states that CGT event C1 happens if a CGT asset you own is lost or destroyed.

The words lost and destroyed are not defined in the Income Tax Assessment Acts, so they take on their ordinary meaning.

Paragraph 2 of Taxation DeterminationTD 1999/79: Income Tax: capital gains: does the expression 'lost or destroyed' for the purposes of CGT event C1 in subsection 104-20(1) of the Income Tax Assessment Act 1997 apply to:(a) a voluntary 'loss' or 'destruction'? (b) intangible assets? states:

The word 'lost' in its context in subsection 104-20(1) does not contemplate voluntary actions. The Macquarie Dictionary, 3rd ed, defines 'lost' as '1. past tense and past participle of lose' and defines 'lose' as '1. to come to be without, by some chance, and not know the whereabouts of: to lose a ring'. The word in its context in CGT event C1 suggests an involuntary rather than a voluntary act.

The circumstances of each case will determine the applicable CGT event.

CGT event C2

Relevantly, CGT event C2 in subsection 104-25(1) happens if your ownership of an intangible CGT asset ends in certain ways, including because the asset expires or is redeemed, cancelled, released, discharged, satisfied, abandoned, surrendered, or forfeited.

CGT event C2 has been applied in the context of bank accounts denominated in a foreign currency.

A bank account is a single asset, the one debt and chose in action. That is, a single debt existing between the customer and the banker in their respective capacities as creditor and debtor (Foley v. Hill [1843-1860] All ER 16).

As the bank account is one asset, each deposit adds to its cost base and reduced cost base and each withdrawal constitutes a part ending or part satisfaction of the debt asset. Each withdrawal will constitute CGT event C2 in section 104-25 of the ITAA 1997 happening to the relevant 'part' of the asset (the amount withdrawn).

CGT Capital gain or loss

You may make a net capital gain or loss from the event. Generally, you make a capital gain when the capital proceeds exceed the cost base. You make a capital loss when the reduced cost base exceeds the capital gain.

Broadly, capital proceeds include the money and market value of property you receive (or are entitled to receive) when an event happens (section 116-20). The cost base is generally what it cost you to buy it, plus other costs you incur to hold or dispose of it. It includes the money and market value of property you provide (or are required to provide) to acquire a CGT asset, and some other costs (section 110-25).

You include net capital gains from CGT events in your assessable income.

Application to your circumstances

CGT asset

A right was created when you invested funds into the Company's share trading account after the date determined by the court to be the deficiency date. As a result of the misconduct of the Companies and the resultant court proceedings those funds were intermingled with the funds of the companies and other traders and became part of the investment fund that was determined by a court to be held on trust by the companies for your benefit. For those investments that you undertook, while you may have had an intention to trade in shares, options and alike, and even though you hold records of shares held in your name at that time, because the deposits went into the Companies account that was determined by the court to be intermingled with other funds, your ownership of those shares are unable to be traced to you and it has been determined by the court that the Companies held client funds on trust. Your right was to a proportionate share of the fund based on the value of your investments as at DDMMYYYY and subject to any dealings and costs. The relevant asset is the right to share in the fund that the court has described as an equitable charge over the fund. As a result of entering into the arrangement with the Company, it is considered that you acquired equitable rights This right falls within the definition of a CGT asset under subsection 108-5(1).

CGT event

The redemption or surrendering of a right to a share of the fund will trigger a CGT C2 event as a result of your right to the share of the fund ending. The time of the event is when you entered a contract to end the asset, or, if there was no contract, when the right to the share of the fund ends.

Cost base

In calculating the CGT, the first element of the cost base for the event is the original amounts you have contributed to the share trading fund from DDMMYYYY onwards, together with the other contributions you have made over the period of your investment. You can also include other costs you incur to hold or dispose of the asset.

The money paid into the account will form part of the cost base and reduced cost base as outlined in Division 110.

The capital proceeds from the ending of the right are the amount you receive from the liquidators that represents your proportionate share of the fund.

You make a capital gain if the capital proceeds from the CGT C2 event exceed the cost base, or a capital loss if the reduced cost base exceeds the capital proceeds (subsection 104-10(4)).

Question 2

Summary

Access to the rollover relief in Subdivision 124-B does not arise as you do not meet the threshold requirements of the provision. The CGT asset of your right to the share in the fund ends, it has not been compulsorily acquired, or lost or destroyed.

Detailed reasoning

CGT rollover

Subdivision 124-B outlines the requirements for a replacement asset roll-over where an original asset has been compulsorily acquired, lost or destroyed. A replacement asset rollover allows an entity to defer the making of a capital gain or loss from one CGT event until a later CGT event happens.

Subsection 124-70(1) says you may choose a roll-over if any of the listed events happens to a CGT asset you own (referred to as the original asset). The third item in the list is when 'it, or part of it' is lost or destroyed (paragraph 124-70(1)(b)).

The loss or destruction of a CGT asset would ordinarily result in CGT event C1 happening (section 104-20). Subdivision 124-B operates by allowing you to choose roll-over relief from the CGT consequences that would normally flow from that CGT event.

Subsection 124-70(2) provides you must receive money or another CGT asset (except a car, motorcycle or similar vehicle), or both as compensation for the event happening; or under an insurance policy against the risk of loss or destruction of the original asset.

Section 124-75 sets out additional requirements to be satisfied where you receive money, these are:

•         you can only choose roll-over if section 124-75 is satisfied (subsection 124-75(1))

•         you must incur expenditure on acquiring, repairing, or restoring the CGT asset (or damaged parts thereof) (subsection 124-75(2))

•         you cannot have incurred the expenditure any earlier than 12 months before the CGT event happens (paragraph 124-75(3)(a))

•         you cannot incur the expenditure any later than 12 months after the end of the income year in which the CGT event happens (subject to the Commissioner allowing additional time) (paragraph 124-75(3)(b))

•         if just before the loss or destruction of the original asset, it was used or installed ready for use (or in the process of being installed) in your business then the replacement asset must be used or installed ready for use in the business for a reasonable time after you acquired it; and if not, then you must use the other asset (replacement) for the same or similar purpose for which you acquired the original asset (subsection 124-75(4)), and

•         the other asset (replacement) cannot have its decline in value calculated under Division 40 (subsection 124-75(5))

Same or similar purpose

Whether a CGT asset is used for the same or a similar purpose as another asset is a question of fact and degree.

Taxation Determination TD 2000/42 Income tax: capital gains: what is the scope of the words 'use the other asset ... for the same purpose ... or for a similar purpose' in subsection 124-75(4) of the Income Tax Assessment Act 1997 in relation to a replacement asset? (TD 2000/42) provides general guidance on the application of the requirement in subsection 124-75(4) in its outline of the following principles:

1. The words 'use the other asset... for the same purpose... or for a similar purpose' should be read in their context in subsection 124-75(4) of the Income Tax Assessment Act 1997.

2. Whether a CGT asset is used for the same or a similar purpose as another asset is a question of fact and degree....

Application to your circumstances

Access to the rollover relief in Subdivision 124-B does not arise as you do not meet the threshold requirements of the provision. The CGT asset of your right to the share in the fund ends, it has not been compulsorily acquired, or lost or destroyed.

Question 3

Summary

Where there is a capital gain, the individual and the trust who held the CGT asset for greater than 12 months, are entitled to apply the 50% CGT discount under Division 115 to any capital gain made. A company cannot use the CGT discount.

Detailed reasoning

Discount capital gains

Division 115 of the ITAA 1997 provides the conditions for a discount capital gain.

You make a discount capital gain if the following requirements are satisfied:

• you are an individual or trust
• a CGT event happens to a CGT asset of yours after 11:45am (by legal time in the Australian Capital Territory) on 21 September 1999
• you acquired the CGT asset at least 12 months before the CGT event, and
• you do not choose to use the indexation method.

For Australian resident individuals and trust the discount percentage is 50% (section 115-10). However, you can only reduce your capital gain after applying all your capital losses for the year and any unapplied net capital losses from earlier year.

A company cannot use the CGT discount.

Application to your circumstances

Where there is a capital gain, the individual and the trust who held the CGT asset for greater than 12 months, are entitled to apply the 50% CGT discount under Division 115 to any capital gain made. A company cannot use the CGT discount.