Capital gains tax (CGT) and the unlimited amendment period
Under the CGT rules, where a change in ownership of an asset occurs pursuant to a contract for the disposal of that asset, the date of contract determines the tax year in which the transaction must be reflected in the taxpayer’s annual tax return. Whilst until a change in ownership there can be no CGT liability arising, when the change of ownership occurs, this CGT timing rule effectively treats the change of ownership as having occurred at the date of contract.
In the case of Metlife Insurance Ltd v Commissioner of Taxation [2008] FCA 568 (29 April 2008), the facts were that the taxpayer entered into a contract for the sale of certain business assets in the 2001 year, with settlement of the contract (and thus change of ownership) occurring in the 2002 year. After the general four year amendment period (for amending tax assessments) had expired, the Commissioner of Taxation amended the taxpayer’s tax assessment for the 2001 year to include a capital gain arising in respect of assets sold pursuant to the contract. The taxpayer challenged the Commissioner’s right to make the amended assessment, on the grounds that the Commissioner was ‘out of time’, the four year amendment period having expired.
The dispute before the Court was whether, in the circumstances, the Commissioner had an unlimited period to amend the assessment, since under the tax law there was (and still is) a provision which allows the Commissioner an unlimited amended period where the amendment is ‘to give effect to’ the CGT timing rule referred to above. The obvious reason for this unlimited amendment period is that without it, taxpayers could dispose of assets on a deferred settlement basis and avoid CGT where the change of ownership occurred outside the general amendment period.
The taxpayer’s argument was that this provision authorising an unlimited amendment period did not apply where the change of ownership occurs before the taxpayer lodges the tax return for the year in which the contract is entered into. Since the taxpayer lodged the 2001 year tax return after the change of ownership occurred in the 2002 year, the taxpayer’s position was that the Commissioner could only amend the return within the general (four year) amendment period.
Justice Emmett (at first instance) disagreed with the taxpayer and found that the amended assessment was validly issued, since the amended assessment was to ‘give effect to’ a change of ownership of an asset occurring in the 2002 year, pursuant to settlement of a contract entered into in the 2001 year.
Whilst based on the facts of the case, there was no need for the Court to consider whether there is an unlimited amendment period in circumstances where the change of ownership and date of contract occur in the same tax year, it would seem that the Commissioner is of the view that the amendment period in this situation is not unlimited. This is based on what was submitted to the Court by the Commissioner, as reflected in the following statement by Justice Emmett:
“The Taxpayer contends that the power to amend an assessment conferred by section 170(10AA), to give effect to the provisions listed in the Table, is triggered only if a subsequent event occurs after the original assessment is made, so necessitating its amendment. The Commissioner, on the other hand, contends that the amendment power may be exercised regardless of whether the subsequent event occurs before or after the making of the assessment sought to be amended, so long as it occurs after the end of the relevant year of income.”
Hopefully any Decision Impact Statement issued by the Commissioner with respect to this case will confirm that the Commissioner will administer the law consistently with the approach reflected in the Commissioner’s submission to the Court.
The trust loss rules: a question of classification
In ConnectEast Management Ltd v Commissioner of Taxation [2008] FCA 557 (29 April 2008), the proceedings concerned the classification of a trust for the purposes of the trust loss provisions of the tax law. The matter was before the Court as a result of an appeal against the disallowance of an objection by the taxpayer with respect to a private ruling issued by the Commissioner.
Briefly, under the trust loss provisions of the tax law, the ability to claim tax losses as a deduction is determined on the basis of ‘classification’ of the trust under those provisions, with different rules applying to a trust classified as either:
- a non-fixed trust
- a fixed trust
- an unlisted widely held trust
- an unlisted very widely held trust
- a wholesale widely held trust, or
- a listed widely held trust.
In the case before the Court:
- ConnectEast Investment Trust No. 2 (Subsidiary Trust) was owned by ConnectEast Holding Trust (Holding Trust), which owned one unit, and ConnectEast Investment Trust (Investment Trust), which owned 477,963,546 units
- the Subsidiary Trust was classified as an ‘unlisted widely held trust’ and both Holding Trust and Investment Trust were classified as ‘listed widely held trusts’, and
- these trusts together with other trusts and companies, formed the ConnectEast Group which is responsible for the construction and operation of the EastLink tollway.
The question before the Court was whether the Subsidiary Trust acquired the ‘higher’ classification status of its two owners (i.e. as a listed widely held trust), the benefit of attaining that ‘higher’ classification being that a more concessional testing regime applied for the purposes of satisfying the loss carry forward rules.
In considering whether the ‘higher’ classification was obtained the Court was required to rule on the effect of a provision in the relevant law which effectively provided that where a trust is an unlisted widely held trust, an unlisted very widely held trust or a wholesale widely held trust and ‘each of one more trusts of a higher level’….has, directly or indirectly, fixed entitlements to all of the income and capital of the trust’, then the trust will instead be treated as classified under that ‘higher’ classification. Thus the taxpayer’s submission was that since all the units on issue were owned by two listed widely held trusts, the Subsidiary Trust should be classified as a listed widely held trust.
In rejecting the taxpayer’s submission, Justice Heerey J stated that “to confer the benefit of the higher status only where the status-seeking subsidiary is wholly owned by the trust of that higher status is a rational legislative objective. That objective has been achieved in the language of the statute (section 272-127), which admits of only one meaning”. However, the facts of the case were that there was not one trust of a ‘higher’ classification which owned (directly or indirectly) all of the units in the Subsidiary Trust. His Honour noted that the words of the statute provided that where the provision is satisfied the ‘status-seeking trust’ is treated as a trust of the same kind ‘as the trust of the highest level’. In His Honour’s view, “the use of the singular ’trust’ is fatal to the applicant’s construction, which must accommodate the possibility of multiple trusts together conferring their status on the status-seeking trust”.
For further information please contact your usual PricewaterhouseCoopers adviser, or:
David Romans, Partner
Institutional Corporate Tax
Phone: +61 3 8603 6862
david.romans@au.pwc.com
David Ireland, Partner
Institutional Corporate Tax
Phone: +61 2 8266 2883
david.ireland@au.pwc.com
Mike Davidson, Partner
Institutional Corporate Tax
Phone: +61 2 8266 8803
m.davidson@au.pwc.com
Ronen Vexler, Partner
Institutional Corporate Tax
Phone: +61 3 8603 3337
ronen.vexler@au.pwc.com
The Commissioner’s approach to capital reductions
On 15 May 2008, the Commissioner of Taxation issued Practice Statement Law Administration PS LA 2008/10 which sets out the intended administrative approach with respect to the application of the anti-capital streaming provisions (section 45B of the Income Tax Assessment Act 1936) to capital reductions by companies and certain unit trusts.
In issuing the Practice Statement to provide guidance to his Officers, the Commissioner notes that section 45B is a specific anti-avoidance provision “concerned with providing a framework in the taxation law that would prevent companies from distributing what are effectively profits to shareholders as preferentially taxed capital rather than dividends”. With the introduction of the debt and equity rules, the provision also applies to ‘non-share capital returns’ to holders of ‘non-share equity interests’.
Whilst the Commissioner observes that section 45B is not a ‘profits first’ rule, he notes that it is a “sanction against schemes to provide shareholders with capital benefits, including distributions of share capital, which were entered into or carried out for a significant purpose of enabling the shareholder to benefit from receiving preferentially taxed capital rather than profit…[and] by implication it does presuppose some objective non-tax basis for distributing capital rather than profits, where both are available”.
A view, as to the general approach that the Commissioner intends to take with respect to the application of section 45B, is reflected in the following statement made by the Commissioner in PS LA 2008/10
“If, therefore, a company can choose to distribute either capital or profits, there should be compelling, objective and commercial reasons why a company would choose the difficulty of distributing share capital over the relative simplicity of distributing profits, other than the tax preference of shareholders. Section 45B provides for those reasons to be identified and considered in determining whether the requisite purpose for the application of the section is present in relation to the distribution.”
In the case where the capital reduction is financed by borrowings, the Practice Statement provides that, since equity includes both retained profits and share capital, Officers should regard the capital distribution as being attributable to the share capital and retained earnings on a proportionate basis unless there are relevant factors which indicate otherwise.
Additionally, the Commissioner states that where a distribution is attributable to surplus cash from the disposal of assets of the business:
- if the source of capital for those assets can be directly traced – then this ‘tracing approach’ should be adopted to determine the level of capital which was attributable to those assets (and therefore available for distribution as a consequence of the disposal of those assets), or
- otherwise – the share capital of a company should be allocated across the assets of that company by apportioning based on the market values of those assets (‘the slice approach’).
The Commissioner’s intended administration of section 45B as outlined in PS LA 2008/10 largely documents the Commissioner’s prior positions and therefore does little to reduce the need for companies to seek rulings from the Commissioner whenever a capital reduction is proposed.
For further information, please contact your usual PricewaterhouseCoopers adviser or:
Wayne Plummer, Partner
Institutional Corporate Tax
Phone: +61 2 8266 7939
wayne.plummer@au.pwc.com
Peter Collins, Partner
International Tax & Transaction Services
Phone: +61 3 8603 6247
peter.collins@au.pwc.com
Simon Rooke, Partner
Institutional Corporate Tax
Phone: + 61 3 8603 4133
simon.rooke@au.pwc.com
Alastair McLean, Partner
Institutional Corporate Tax
Phone: +61 8266 7139
alastair.mclean@au.pwc.com
