Edited version of private advice

Authorisation Number: 1052329970065

Date of advice: 13 November 2024

Ruling

Subject: Business continuity test

Question 1

Does Company X satisfy the Business Continuity Test under section 165-210 of the Income Tax Assessment Act 1997 (ITAA 1997), throughout the relevant times in respect of the carry forward tax losses incurred during the relevant income years, such that they would be eligible for utilisation by Company X in the income year ended 30 June 20XX?

Answer 1

No.

Question 2

Does Company X satisfy the Business Continuity Test under section 165-211 of the ITAA 1997, throughout the relevant times in respect of the carry forward tax losses incurred during the relevant income years, such that they would be eligible for utilisation by Company X in the income year ended 30 June 20XX?

Answer 2

No.

This ruling applies for the following period:

Income year ended 30 June 20XX.

The scheme commenced on:

1 July 20YY

Relevant facts and circumstances

Estate structure and activities

Company Y was the head company of an income tax consolidated group (Y Group).

The Y Group operated a production and distribution business.

A Share Sale Agreement was entered into between the Vendor and the Covenanters and the Purchasers and Company X.

The Share Sale Agreement was completed with Company Z acquiring approximately 99.99% of the issued share capital of the Company X.

The Y Group's brands were not part of the Share Sale Agreement.

The Y Group did not provide Company X with their customer lists. Some customers that sought services from the Y Group continue to be serviced in the same way by Company X.

Post Share sale agreement completion

The business was not idle at the date of settlement. In support of this, various documents were provided.

Company X sells its own products it produces to businesses and specialist retail outlets. Company X did not operate retail outlets and did not sell directly to the consumer.

An employee list was provided for the Y Group for the relevant income year.

An employee list was provided for the Y Group for the period right before the Share Sale.

An employee list was provided for Company X for the period after the Share Sale.

A list of the Y Group's top customers by revenue and details of their relationship to the Y Group was provided.

For several years prior to the Share Sale Agreement, the Y Group was trading as an unprofitable business. The Y Group was incurring losses for several reasons.

A list of Company X's top customers by revenue and details of their relationship to Company X was provided.

A list of Company X's top customers according to revenue they generated was provided for the Business Continuity Test Period.

Since acquiring shares in the Y Group, the new owners have invested capital into improving the technology and processes. They have incurred costs on replacing equipment that was worn out or inefficient.

A YTD Depreciation Schedule for the relevant financial year was provided. These showed no depreciating assets were acquired for the previous financial year or for the period leading up to the Share Sale.

A list of the assets acquired after the Share Sale was also provided.

The Consolidated Group provided a schedule of their tax losses that it is seeking to begin to offset against the profits generated in the relevant income year.

Relevant legislative provisions

Income Tax Assessment Act 1997 section 165-10

Income Tax Assessment Act 1997 section 165-13

Income Tax Assessment Act 1997 subsection 165-13(2)

Income Tax Assessment Act 1997 section 165-210

Income Tax Assessment Act 1997 subsection 165-210(1)

Income Tax Assessment Act 1997 subsection 165-210(2)

Income Tax Assessment Act 1997 paragraph 165-210(2)(a)

Income Tax Assessment Act 1997 paragraph 165-210(2)(b)

Income Tax Assessment Act 1997 subsection 165-210(3)

Income Tax Assessment Act 1997 subsection 165-210(4)

Income Tax Assessment Act 1997 section 165-211

Income Tax Assessment Act 1997 subsection 162-211(2)

Reasons for decision

All legislative references contained in the reasons for decision are to the Income Tax Assessment Act 1997 (ITAA 1997) unless otherwise specified.

The Business Continuity Test

Section 36-25 sets out special rules for deducting tax losses. Item 2 in table 2 of section 36-25 refers to the relevant tests in Subdivision 165-A.

Section 165-10 provides that a company cannot deduct a tax loss unless either it meets the conditions in section 165-12 (the Continuity of Ownership Test) or section 165-13 (the Business Continuity Test).

In this case, Company X has failed the Continuity of Ownership Test (COT) as a result of Company Z acquiring approximately 99.99% of the issued share capital of the Y Group (the COT Failure).

A company can satisfy the Business Continuity Test by satisfying one of two 'limbs' being:

•                     carrying on the same business under the test in section 165-210 (SBT), or

•                     carrying on a similar business under the test in section 165-211 (SiBT).

The SiBT in section 165-211 is only available for losses made in income years starting on or after 1 July 2015.

Section 165-210 states:

(1)           A company satisfies the business continuity test if throughout the business continuity test period it carries on the same business as it carried on immediately before the test time.

(2)           However, the company does not satisfy the business continuity test under this section if, at any time during the business continuity test period, it derives assessable income from:

(a)           a business of a kind that it did not carry on before the test time; or

(b)           a transaction of a kind that it had not entered into in the course of its business operations before the test time.

(3)           The company also does not satisfy the business continuity test under this section if, before the test time, it:

(a)           started to carry on a business it had not previously carried on; or

(b)           in the course of its business operations, entered into a transaction of a kind that it had not previously entered into;

and did so for the purpose, or for purposes including the purpose, of being taken to have carried on throughout the business continuity test period the same business as it carried on immediately before the test time.

Business Continuity Test Period and the Test Time

To apply the Business Continuity Test, the Business Continuity Test Period and the Test Time need to be established. Section 165-13 defines the Business Continuity Test Period and the Test Time.

Subsection 165-13(2) states that the Business Continuity Test Period for a company is the income year in which the company wishes to deduct tax losses of earlier income years. For the present purposes, the Business Continuity Test Period is the income year ended 30 June 20XX.

The Test Time is determined by the table provided by subsection 165-13(2). Item 1 of the table states that, where practicable, the test time is the latest time that the company can show that it has satisfied the COT in subsections 165-12(2), (3) and (4) (regarding the company maintaining the same owners). The latest time that Company X is able to show that subsections 165-12(2), (3) and (4) were able to be met was just before Company Z became 99.9% owner of the Y Group). Therefore, this is the Test Time for the losses subject to this ruling.

The Similar Business Test

To satisfy the SBT in section 165-210, the Taxpayer must be able to satisfy the following sub-tests:

•                     The Same Business Test (a positive test) - the company must carry on the same business during the Business Continuity Test Period that it carried on immediately before the Test Time (subsection 165-210(1))

•                     The New Business Test (a negative test) - the company must not derive assessable income from carrying on a business of a kind that it did not carry on before the Test Time (paragraph 165-210(2)(a))

•                     The New Transactions Test (a negative test) - the company must not derive assessable income, in the course of its business operations, from a transaction of a kind that it had not entered into before the Test Time (paragraph 165-210(2)(b)), and

•                     The Anti-Avoidance Test - the company did not commence certain business activities before the Test Time for the purpose of satisfying the SBT (subsection 165-210(3)).

The first three of the above sub-tests form a descending hierarchy that first tests the business of the company as an entirety (its 'overall business'), then the component undertakings or enterprises, if any, of that business and, finally, the individual transactions by which the business is carried on.

The Commissioner's views concerning the application of the SBT and each of the sub-tests are set out in Taxation Ruling TR 1999/9 Income tax: the operation of sections 165-13 and 165-210, paragraph 165-35(b), section 165-126 and section 165-132.

Application of the SBT

TR 1999/9 provides, at paragraph 57 and 58 that the business of a company is identified, for the purpose of applying the same business test, by reference to the business activities carried on by that company and not by reference to the business activities carried on by a commonly owned or controlled group of companies to which that company belongs.

However, Taxation Ruling TR 2007/2 Income tax: application of the same business test to consolidated and MEC groups - principally, the interaction between section 165-210 and section 701-1 of the Income Tax Assessment Act 1997 sets out the Commissioner's views on how the SBT applies in the context of determining whether deductions are available to the head company of a consolidated group in respect of prior year tax losses and other matters.

Paragraph 12 of TR 2007/2 states:

12. If in respect of a particular year of income the head company of a consolidated group has failed a relevant continuity of ownership test, then the same business test in section 165-210 will be relevant when calculating taxable income to determine the income tax liability of the head company. The single entity rule therefore will apply in this context (refer to section 701-1 and Taxation Ruling TR 2004/11 - Income tax: consolidation: the meaning and application of the single entity rule in Part 3-90 of the Income Tax Assessment Act 1997).

Paragraphs 14 and 15 of TR 2007/2 further state:

14. Under the single entity rule of subsection 701-1(1), subsidiary members of a consolidated group are taken for the purposes of the same business test (section 165-210) (among other purposes), to be parts of the head company. In this context, the principles set out in TR 1999/9 in respect of the application of the same business test to a single company apply equally to the head company of a consolidated group.

15. When determining the one overall business carried on by the head company of a consolidated group for the purposes of subsection 165-210(1) it is necessary to have regard to the activities of the subsidiary members of the group. Applying the principles of TR 1999/9, one overall business of the head company is to be identified by examining all of the activities, enterprises or undertakings carried on:

•                     at the appropriate test time by all those entities that were members of the consolidated group at that time; and

•                     by all entities during that part of the same business test period when they were members of the consolidated group.

In line with TR 2007/2, the principles contained in TR 1999/9 apply to Company X as the head company of a Consolidated Group and Company X is considered to be carrying on one overall business that consists of all the businesses carried on by its subsidiary members.

The positive test in subsection 165-210(1) requires a comparison of the business carried out throughout the Business Continuity Test Period, with the business carried on immediately before the Test Time.

TR 1999/9 provides extensive commentary on how the Commissioner will apply the Same Business Test, including (but not limited to) the following relevant principles:

•                     To satisfy the Same Business Test, the company must be able to show that, during the Business Continuity Test Period, it carried on at all times the same business as the business that the company carried on at the Test Time (paragraph 30 of TR 1999/9).

•                     Gibbs J in Avondale Motors (Parts) Pty Ltd v. FC of T (1971) 124 CLR 97; 45 ALJR 280; 2 ATR 312; 71 ATC 4101 held that the 'same business' means an 'identical business' rather than a business of the same or similar kind (paragraph 31 of TR 1999/9).

•                     Whether a company is carrying on the same business or a new business is a question of fact (paragraph 33 of TR 1999/9).

•                     When identifying the business carried on by the company immediately before the Test Time, it is relevant to consider all of the activities of the company, though those activities must be considered as a whole, so as to consider the overall business of the company at that time (paragraph 34-37 of TR 1999/9).

•                     An identical business does not mean that the business of the taxpayer during the Business Continuity Test Period must be identical in every respect to the business carried out immediately before the Test Time. A business may be the same, even though there have been some changes in the way in which it is carried on, provided the identity of the business is not changed (paragraph 38 of TR 1999/9).

•                     Mere expansion or contraction of the taxpayer's business may not result in a change in the identity of the business carried on by the taxpayer. However, expansion or reduction in business activities is likely to result in a change in the identity of the taxpayer if carried out to a sufficient extreme or results in sudden and drastic change. A mere expansion of business activities is distinct from the evolution of a business (paragraph 39-43 of TR 1999/9).

•                     If a company acquires and merges with its original business another undertaking or enterprise, even if the amalgamated businesses are of a similar kind, the company fails the Same Business Test when, considered as a whole, the business of the company in the year of recoupment cannot fairly be regarded as the same, albeit expanded, business carried on at the change-over. Similarly, the acquisition of an undertaking that alters the nature of the overall business causes a company to fail the same business test (paragraph 44-45 of TR 1999/9).

•                     There are various relevant factors to take into account in determining whether the same business test is satisfied by a taxpayer. A single factor or matter might be so important that it determines the issue but, usually, it is a combination of factors, appropriately weighted, that decides whether the same business is carried on. A factor that in isolation has little weight, may in combination with other factors have great weight and, conversely, something that is significant when it appears with other changes, may have no importance when it appears alone (at paragraph 59 of TR 1999/9).

•                     It is not only changes that must be weighed: one must have due regard to what remains the same. In determining whether the same business test is satisfied, significant weight is given to changes after the change-over in the income producing product or service of the taxpayer, how it is produced, acquired or provided and/or changes in the market for that product or service. But even these are a question of fact and degree often to be decided in the context where some expansion or contraction would be expected (at paragraph 59 of TR 1999/9).

•                     An expansion or contraction of the taxpayer's business activities may not, in itself, result in a change in the identity of the business carried on by the taxpayer. However, the expansion or contraction of activities may result in a change in the identity or character of the business, taking into account the nature and extent of the expansion or contraction. In particular, the organic growth of a business through the adoption of new compatible operations in the ordinary way and, similarly, the discarding of old operations in that way, may not cause a taxpayer to fail the same business test, but a sudden and dramatic change brought about by the loss or acquisition of business operations on a considerable scale is likely to do so (at paragraph 60(d) of TR 1999/9).

•                     The commencement or acquisition, by merger or otherwise, of new undertakings (including going concerns and similar or complementary undertakings) may cause a company to fail the same business test, e.g., if the result is to alter the character of the overall business (at paragraph 60(f) of TR 1999/9).

•                     Other factors relevant factors include the name of the taxpayer, the location of the business, the existence of a period or periods of dormancy, and the circumstances accounting for the inactivity and in which activity is resumed (at paragraph 60(g) of TR 1999/9).

TR 1999/9 provides at paragraph 61, a list of matters that would be relevant to consider in a manufacturing context for example, noting that the list is not a checklist and is not exhaustive. These matters broadly include:

•                     changes in the nature of the product manufactured or activities undertaken by the taxpayer and changes in the way in which the business is carried out (subparagraph 61(a)-(c) of TR 1999/9)

•                     changes in the customer base and mix of customers (subparagraph 61(d)-(e) of TR 1999/9)

•                     changes in turnover or gross assets attributable to the sale of product to particular customer bases(subparagraph 61(f) of TR 1999/9)

•                     changes in the method of selling products and services (subparagraph 61(g) of TR 1999/9)

•                     changes in the taxpayer's capital and working capital (subparagraph 61(h) of TR 1999/9)

•                     changes in goodwill (subparagraph 61(i) of TR 1999/9)

•                     changes in the location where the taxpayer carries on business and where customers are located (subparagraph 61(j) of TR 1999/9)

•                     changes in the trade names, trademarks, patents, royalty arrangements or other intellectual property rights of the taxpayer (subparagraph 61(k) of TR 1999/9)

•                     changes in the number of persons employed by the taxpayer or who are contracted by the taxpayer(subparagraph 61(l) of TR 1999/9)

•                     changes in the directors and/or management of the taxpayer (subparagraph 61(m) of TR 1999/9)

Conclusion - same business test

Paragraph 56 of TR 1999/9 states:

There are various relevant factors to take into account in determining whether the same business test is satisfied by a taxpayer. A single factor or matter might be so important that it determines the issue but, usually, it is a combination of factors, appropriately weighted, that decides whether the same business is carried on during the period of recoupment. A factor that in isolation has little weight, may in combination with other factors have great weight and, conversely, something that is significant when it appears with other changes, may have no importance when it appears alone.

The facts indicate that the Y Group was winding down operations immediately before the Share Sale Agreement. After the Share Sale Agreement and during the test period, there were major changes to the identity of the business, the customer base and the goodwill of the business. This supports the conclusion that the business carried on by Company X during the period of recoupment is not the same as the one that existed at or prior.

Company X fails the SBT for the losses incurred during the relevant financial years such that they are not eligible for utilisation by Company X in the income year ended 30 June 20XX.

Similar business test

The Business Continuity Test introduced by the Treasury Laws Amendment (2017 Enterprise Incentives No. 1) Act 2019 retained the existing 'same business test' (section 165-210) and introduced the 'similar business test' (section 165-211). Under the SBiT, companies and listed widely held trusts can utilise tax losses made from carrying on a business against income derived from carrying on a similar business following a change in ownership or control.

The SBiT operates in a way that is comparable to the SBT but removes the negative limbs. Removal of the negative limbs allow companies to engage in new business activities and transactions that evolve from their pre-existing business, without losing access to their losses, encouraging innovation.

Paragraph 165-211(1)(a) states that:

165-211(1)

A company also satisfies the business continuity test in relation to:

a.            a tax loss for an income year starting on or after 1 July 2015; or

...

if throughout the business continuity test period it carries on a business (its current business) that is similar to the business it carried on immediately before the test time (its former business).

The SBiT in section 165-211 is applicable to Company X for recoupment of losses incurred during the relevant financial years.

Subsection 165-211(2) outlines the following four matters (non-exhaustive) that must be taken into account in ascertaining whether the company's current business is similar to its former business:

(a)           the extent to which the assets (including goodwill) that are used in its current business to generate assessable income throughout the business continuity test period were also used in its former business to generate assessable income;

(b)           the extent to which the activities and operations from which its current business generated assessable income throughout the business continuity test period were also the activities and operations from which its former business generated assessable income;

(c)           the identity of its current business and the identity of its former business;

(d)           the extent to which any changes to its former business result from development or commercialisation of assets, products, processes, services or marketing or organisational methods of the former business.

Paragraph 7 in the Law Companion Ruling LCR 2019/1 - The business test - carrying on a similar business provides guidance on the application of section 165-211 and describes 'similar' as follows:

It is still the case, however, that the overall business must satisfy the similar business test. The meaning of 'similar' depends on the context in which the term arises. In the context of the similar business test, 'similar' does not mean similar 'kind' or 'type' of business. The focus remains on the identity of a business, as well as continuity of business activities and use of assets to generate assessable income. Accordingly, it will be more difficult to satisfy the similar business test if substantial new business activities and transactions do not evolve from, and complement, the business carried on before the test time. (Emphasis added)

Paragraph 8 of LCR 2019/1 states:

For the purpose of determining whether a business remains sufficiently similar, the four factors that must be taken into account require a comparison between the essential characteristics of the business before and after the relevant change in ownership or control. These four factors do not limit consideration of any other matter that may be relevant to this determination. The weight to be given to each factor will depend on the facts and circumstances of each case.

Conclusion - similar business test

Based on a weighing up of the above factors, Company X does not satisfy the similar business test under section 165-211, in respect of the carry forward tax losses incurred during the relevant financial years These tax losses are not eligible for utilisation by Company X in the year ended 30 June 20XX.