Categories
Income Tax Legislation Planning Idea Planning Stuff Rulings

More on the Small Business Rollover

Yes I am way too excited about this… But the Commissioner has produced his first two bits of guidance on using this rollover.

In the first he looks at the consequences of using the rollover. This is all pretty simple stuff (cost base transfer…) but the final example has the trick in it…

Example 6 – Indirect tax consequence – subsequent debt forgiveness

Facts

  1. Dean operates a fishing tour business through a company, where he is the sole director and shareholder. The active assets of the business include a fishing boat, which cost the company $300,000.
  2. In January 2017, a discretionary trust is set up, Dean is one of the beneficiaries and a family trust election is made with Dean as the primary individual. The termination value and adjustable value of the boat is $260,000 at this time.
  3. The company transfers the boat to the trust for $260,000 as consideration, payable within 60 days. Both the company and the trust choose to apply the SBRR.
  4. The trustee does not pay at that time and enters into a written loan agreement that complies with the requirements of section 109N of the ITAA 1936.
  5. In June 2018, the company executes an effective deed to forgive the loan.

Other tax consequences are recognised

  1. A transfer of an asset has no direct income tax consequences, except as provided for under Subdivision 328-G. Related rollover relief for depreciating assets is available under section 40-340.
  2. The subsequent application of Division 7A to the loan, which was created in connection with the transfer of the assets, is an indirect consequence of the transfer and is not turned off by section 328-450. The forgiveness of the loan or failure to make minimum yearly repayments may give rise to a deemed dividend under Division 7A.

So a simple transfer of assets out of a company to a trust can lead to a big DIV 7A issue… But maybe not. Have a look at paragraph 1.65 of the EM to the Bill that introduced the rollover…

1.65 Consistent with the object of allowing small business owners flexibility to change their legal structure, the roll-over does not require that market value consideration, or any consideration, be given in exchange for the transferred assets. A transferor and transferee may, for example, agree to transfer the assets at cost in order to eliminate any future unrealised gains on membership interests held in the transferor entity. Where an asset transfer is made at other than market value, decreases and increases in the market values of any interests that are held in the transferor and transferee can result.

So if you transfer the assets for no consideration you get no debt to forgive and no Division 7A issues. The accountants scream “how do I account for this???” I say “work it out because if we transfer it at book value to make your accounting easy we have the company making a loan to the trust and that is much worse than your accounting problem!”

So beware of Division 7A traps when transferring out of a company using the rollover – especially as they are very easily fixable (if fixable is a word?).

In the second document the Commissioner considers what is a ‘genuine restructure of an ongoing business’? Remember that if we don’t have one of these genuine restructures we can’t use the rollover. SO what is a genuine restructure?

The following features indicate that a transaction is, or is part of, a ‘genuine restructure of an ongoing business’:

It is a bona fide commercial arrangement undertaken in a real and honest sense to facilitate growth, innovation and diversification, adapt to changed conditions, or reduce administrative burdens, compliance costs and/or cash flow impediments.

It is authentically restructuring the way in which the business is conducted as opposed to a ‘divestment’ or preliminary step to facilitate the economic realisation of assets.

The economic ownership of the business and its restructured assets is maintained.

The small business owners continue to operate the business through a different legal structure. For example, there is continued use of the transferred assets as active assets of the business, continuity of employment of key personnel and continuity of production, supplies, sales, or services.

It results in a structure likely to have been adopted had the small business owners obtained appropriate professional advice when setting up the business.

And if this is too vague (which it definitely is) the law provides a safe harbour rule…

To provide certainty to small businesses using the roll-over, a ‘safe harbour’ rule is included. A small business will be taken to satisfy the requirement that the transaction is, or is a part of, a genuine restructure of an ongoing business where, for three years following the roll-over:

There is no change in the ultimate economic ownership of any of the significant assets of the business (other than trading stock) that were transferred under the transaction;

Those significant assets continue to be active assets; and

There is no significant or material use of those significant assets for private purposes.

But in this document the Commissioner applies this rule to examples. He states that restructures that achieve substantially better asset protection, or allow employees to buy in, or allow new capital, or simplify complex affairs are all genuine restructures

But he goes on to say that transferring assets from a company to an individual and waiting 12 months to get the CGT discount on those assets is not a genuine restructure.

Neither is succession planning where the assets of one company are split into two companies to allow Dad to give a company each to his two sons a genuine restructure (unless Dad meets the safe harbour above by waiting three years).

Finally he states that having a trust that transfers assets to a company to pay of a UPE and then having the company transfer it back at no consideration is not a genuine restructure as it just wipes out the UPE.

Getting the CGT discount and succession planning will come to your mind when planning a small business restructure but it cannot be the main reason you did it!

1 July 2016 is almost here and the Small Business Restructure Rollover is almost available…

Categories
Income Tax Legislation Planning Idea Planning Stuff

Small Business Restructure Rollover and Stamp Duties

I have discussed this rollover before so if you have no idea what I am talking about have a look at these links first.

The rollover is very broad, applying to CGT assets, revenue assets, trading stock and depreciable assets. But it does not cover all the taxes that may be rolled over under these restructures.

Clearly this does not cover State and Territory taxes, like stamp duty.

So does this mean that any restructure that we do is still going to cost us a whole lot of tax.

Remember, that stamp duty can be large. In NSW the current rate is $8,990 plus $4.50 for every $100, that the value exceeds $300,000. So restructure an inexpensive business premise of say $600,000 to a better entity (say out of a company and into a discretionary trust) then you end up with stamp duty of $22,490.

Ouch. But can we avoid this tax?

In NSW, as duty on the transfer of business assets or a declaration of trust over ‘business assets’ (other than land) will be abolished from 1 July 2016 you could consider keeping the land and buildings in the current structure and moving the “business” out of the current structure to another entity. Of course this would mean the land and buildings still sit in the old structure, which if it is a company may mean no access to the CGT concession and no income splitting on the earnings from the land and buildings….

At this point we need to ask ourselves is the future access to possibly the CGT concessions on the land and buildings and income splitting from the income of the land and buildings worth paying $22,490 of stamp duty today (using the $600,000 example above)? Get a spreadsheet out and do the maths!

But perhaps there is another way to avoid the stamp duty all together.

In most jurisdictions there are “corporate restructure” relief rules in the respective Duties Act. And if we were happen to forgo the income splitting benefits that we get from rolling assets into a discretionary trust, then we might be able to avoid the stamp duty on the sale of the property from the Company to a trust.

If the trust that we roll the land and building to was a unit trust, not a discretionary trust, then all the units in the unit trust have to be owned by the same underlying economic owners. This would be the case if the company from which we intend to roll the assets out of owns all of the units in the unit trust.

In NSW, section 273B of the Duties Act 1997 states:

Duty under this Act is not chargeable on a transaction if the Chief Commissioner is satisfied, on application by a party to the transaction, that:

(a) the transaction is a corporate reconstruction transaction, and

(b) the transaction, or the series of transactions of which the transaction is a part, is undertaken for the purpose of either or both of the following:

(i) changing the structure of a corporate group,

(ii) changing the holding of assets within a corporate group, and

(c) the transaction, or the series of transactions of which the transaction is a part:

(i) is not undertaken for a purpose of avoiding or reducing duty under this Act on another transaction, and

(ii) is not undertaken for the sole or dominant purpose of avoiding or reducing a liability for tax, other than duty under this Act, under a law of an Australian jurisdiction.

Note, that to get this you need to apply first to the Commissioner in each state or territory and there are different processes and timeframes for this approval in different jurisdictions.

Also note that while the term “corporate” is used in the definition about, a unit trust that is wholly owned by a company can be a part of a “corporate group” in the NSW Duties Act.

So would the Commissioner of Taxation in NSW agreed that rolling the land and buildings from a company to a unit trust where the units are all owned by the company is an exempt “corporate reconstruction” under Part 1 of Chapter 11 of the Duties Act 1997 (NSW)?

There is only one way to find out. Ask him. And if he says yes you can now use the small business restructure rollover without paying any taxes at all and get the land and building that are in a company into a trust that can access the 50% discount (as long as the trust holds the land and buildings for 12 months).

Choice (as my New Zealand friends say)!

Categories
Income Tax Legislation Tax Policy

Property transactions and clearance certificates

The Tax and Superannuation Laws Amendment (2015 Measures No 6) Bill 2015 is now law (just awaiting Royal Assent).

I don’t like it at all…

But we now need to understand that from 1 July 2016 a purchaser of certain CGT assets, being asset valued at $2 million or more that are taxable Australian real property or an indirect interest in Australian real property, will need to withhold 10% of the purchase price and remit it to the Commissioner if the seller does not provide a “clearance certificate” from the Commissioner.

I should also acknowledge this withholding does not apply to transactions listed on an approved stock exchange or whether the foreign resident vendor is under external administration or in bankruptcy.

This will be a process nightmare so lets step through how this SHOULD work in practice

A resident vendor…

A vendor goes to http://www.ato.gov.au/FRCGW (should be up and running before 30 June 2016) and submits an online application called the clearance certificate application.

Once the application for a clearance certificate is lodged there will be an automated process for the issue, or rejection, of a clearance certificate. Where the Commissioner has all the required information to assess if the vendor is a resident, it is expected that clearance certificates will be provided within days of being submitted.

However, where there are data irregularities or exceptions, the clearance certificates will be provided within 14 to 28 days. In addition, the Commissioner states that higher risk and unusual cases may take longer than 28 days.

This clearance certificate can be applied for before the property is listed for sale and the clearance certificate will be valid for 12 months.

A non resident vendor making a small or no capital gain (exempt asset) or making a capital loss

This is where the second form at www.ato.gov.au/FRCGW (should be up and running before 30 June 2016), called the variation application, comes into play.

Where the vendor is not entitled to a clearance certificate because they are a non-resident, but they believe a withholding of 10% is inappropriate, the vendor can apply for a variation.

The vendor completes this on-line form requesting a lesser withholding rate be determined by the Commissioner. The Commissioner may then issue a notice of variation and this should be provided to the purchaser before settlement to ensure the reduced withholding rate applies.

Every seller of assets greater than $2 million

If you are provided with a clearance certificate by settlement – nothing changes.

If you are not – withhold 10% of the amount and only pay the vendor 90%. Where an amount is withheld, the purchaser is required to complete an online form, called the Purchaser payment notification, to provide details of the vendor, purchaser and the asset being acquired. Again this can be found at at www.ato.gov.au/FRCGW (should be up and running before 30 June 2016). The purchaser will then receive a payment reference number, with various methods to make the payment of the withheld amount.

AND NOW THE BAD NEWS – WHAT IF A SELLER FORGETS TO GET A CLEARANCE CERTIFICATE AND FORGETS TO WITHHOLD 10%?

The penalty for failing to withhold is equal to the amount that was required to be withheld and paid. So make sure the contracts require the vendor to provide a clearance certificate or agree that the amount to be paid to them is only 90% of the contract price.

Not a final withholding…

Remember, this withholding is not a final withholding tax, so the seller will still need to include any capital gain in their tax return and claim a credit for the amount withheld.

I don’t like it at all…

Categories
Income Tax Legislation Planning Idea Planning Stuff

The Small Business Restructure Rollover is now before the Parliament!

Its almost law!!!!

Under this Bill, from 1 July 2016, small businesses can roll-over “active assets” that are CGT assets, trading stock, revenue assets and depreciating assets as part of a genuine restructure of a small business from one entity to another.

In Summary, here is how it works:

Subdivision 328-G creates an optional roll-over where a small business entity transfers an active asset of the business to another small business entity as part of a genuine business restructure, without changing the ultimate economic ownership of the asset.

Genuine restructure

In the EM the Treasury makes it clear that they could not come up with a solution to all the tax savings ideas that this rollover could create so they have added the “genuine restructure” rule. As they state in the EM:

“The genuine restructure principle distinguishes genuine restructures from artificial or inappropriately tax-driven schemes. This acknowledges that while tax considerations are significant factors in small business structuring, a minority of taxpayers and advisers may try to manipulate the operation of a ‘black letter’ provision of the tax law to achieve an inappropriate or uneconomic tax outcome.”

So if you have a company with lots of assets and a Division 7A loan and you transfer all the assets other than the loan (which you can’t transfer according to paragraph 1.40 of the EM as it is not an active asset) for no consideration so that there is no distributable surplus left in the company so you can forgive the loan, this may not be a “genuine restructure”.

There is a safe harbour for the “genuine restructure” rule. If, for three years following the roll-over:

  1. there is no change in the ultimate economic ownership of any of the significant assets of the business (other than trading stock) that were transferred under the transaction;
  2. those significant assets continue to be active assets; and
  3. there is no significant or material use of those significant assets for private purposes.

Then you have a genuine restructure.

Small Business Entity

This is the definition we all know (carrying on a business and passes the $2 million turnover test) but also includes the affiliates, connected entities and partners of a small business.

The Ultimate Economic Ownership

This has not changed from the draft Bill. You can still roll into a discretionary trust if all the original owners are covered by a family trust election over the discretionary trust.

I do love it that the EM shows exactly how we will use this rollover time and time again in example 1.3:

“Chris and Victoria are husband and wife and are the only shareholders in Puppy Co, with each owning one share with a cost base of $2 per share.

Puppy Co has successfully carried on a puppy training school and has acquired significant assets including puppy boarding facilities, a vehicle, and goodwill.

Victoria and Chris wish to transfer the puppy boarding premises from Puppy Co to a recently settled discretionary trust, the Fluffy Trust, which will lease the premises to Puppy Co. The family trust election is made nominating Victoria as the primary individual controlling the trust. Victoria and Chris are members of Victoria’s family group.

For the purpose of the roll-over, there will not be a change in the ultimate economic ownership of the premises as a result of the transfer of the asset from Puppy Co to the Fluffy Trust. Therefore, assuming that the other requirements are also met, the roll-over would be available in respect of the transfer.”

An Active Asset

This is just like the standard rules in the small business CGT Concessions.

However, due to the Division 7A opportunities, like the one discussed above, the EM states that assets such as loans to shareholders of a company are not active assets.

“A purported transfer of such assets to the debtor shareholder, or trust liable to pay the unpaid distribution could potentially defeat the operation of Division 7A of Part III of the Income Tax Assessment Act 1936 (ITAA 1936). The roll-over cannot be used for such transfers.

Example 1.5

Mr and Mrs Smith are directors and shareholders of private company ABC Pty Ltd. They each own 50 shares in ABC Pty Ltd, which operates the family business of a milk bar.

Due to the administrative burden of operating a private company,

Mr and Mrs Smith decide to restructure their business affairs. They use the small business restructure roll-over and transfer all plant and equipment of the milk bar to a newly formed partnership.

A complying Division 7A loan for $50,000 to Mr Smith also exists in the balance sheet of ABC Pty Ltd. The Division 7A loan cannot be transferred to the partnership as it not an active asset, and the normal operation of Division 7A continues to apply in respect of the loan.”

And here are all the other bits an pieces we need to be aware of…

Tax planning

The Treasury is scared we will “misuse” this rollover. Therefore they have put in lots of integrity rules – in addition to the “Genuine restructure” rule.

The Bill makes it clear that Part IVA, containing the general anti-avoidance provisions of the taxation law, can apply to a scheme involving the application of the roll-over.

The Bill also has an integrity rule (called the loss denial rule) to ensure that a capital loss on any direct or indirect membership interest in the transferor or transferee that is made subsequent to the rollover will be disregarded, except to the extent that the taxpayer can demonstrate that the loss is reasonably attributable to something other than the roll-over transaction.

Pre-CGT assets

Pre-CGT assets transferred under the roll-over will retain their pre-CGT status in the hands of the transferee.

It’s optional

Need I say more… But I am struggling to work out why you would not want to use this… Say this is the last year you will be a small business entity due to turnover growth and you want to use the $500,000 lifetime concession so you want there to be a CGT event… There, I thought of an example!

Residency

To be eligible for the roll-over, both the transferor and the transferee of the assets must be residents of Australia.

SMSFs?

The roll-over will not apply to a transfer to or from an exempt entity or complying superannuation entity

The CGT Discount

As soon as we looked at this law we knew it would allow us to roll a CGT asset from a company that cannot use the 50% discount, to a trust that can.

In the new Bill, the Treasury have tried to solve this problem by making the time period for eligibility for the CGT discount will recommence from the time of the transfer. To quote from the EM:

“This is consistent with the policy intent of the roll-over, which is to make it easier for small business owners to change the legal entity or entities that run the business in the course of a genuine restructure of an ongoing business. The policy is not to facilitate the transfer of assets to an entity that is entitled to the CGT discount shortly before the sale of the asset.”

So you can still do the roll to a trust to get the discount, you just need to do it a year in advance (and as a part of a genuine restructure as discussed above).

No longer transfer for no consideration

The draft Bill stated the transfer had to be at no consideration. However, the new Bill states that the roll-over does not require that market value consideration, or any consideration, be given in exchange for the transferred assets.

So where an asset transfer is made at other than market value, decreases and increases in the market values of any interests that are held in the transferor and transferee can result.

New membership interests issued as consideration for the transfer

Where membership interests are issued in consideration for the transfer of a roll-over asset or assets, the cost base and reduced cost base of those new membership interests is worked out based on the sum of the roll-over costs and adjustable values of the roll-over assets, less any liabilities that the transferee undertakes to discharge in respect of those assets, divided by the number of new membership interests.

Effect on 15 year CGT exemption

I am only including this as I asked for it and the Treasury said yes… For the purpose of determining eligibility for the 15 year CGT exemption for small businesses, the transferee will be taken as having acquired the asset whether the transferor acquired it.

Categories
Income Tax Legislation Planning Stuff Tax Policy

Innovation Tax Changes

Why does “innovation” have anything to do with tax changes? In the Government’s Innovation Statement most of the expenditure is making tax changes.

Tax is a revenue raising device… Not a method to change people’s actions. When you use tax policy to do anything other than raise revenue you get bad policy.

But here are the changes announced.

The “same business test” becomes the “predominantly similar business test”. This means you can still get to the losses if the business uses similar assets and generates income from similar sources. Let the loss trading begin!

Taxpayers will now be able to self-assess the tax effective life of acquired intangible assets that are currently fixed by statute. So instead of having to depreciate a patent over 20 years or in house software over 5, a taxpayer can now self assess its life.

Are you excited yet???

Early Stage Venture Capital Limited Partnerships (stay away as these are messy) will be able to get a10% non-refundable tax offset on capital invested. These partnerships can also get bigger than the current law allows before having to wind up.

Wake me up…

Lastly, certain investors will get a 20% non-refundable tax offset on investments (capped at $200,000 per investor per year) and a 10 year exemption on capital gains tax, provided investments are held for three years. Now this sounds more exciting. So what can I invest in to get these benefits?

The Government has not decided yet…. ARRRRAAAAHHHH. All we know is that these company must have been incorporated during the last three income years, not listed on any stock exchange and have expenditure and income of less than $1 million and $200,000. But in addition to this the company must be undertaking eligible activities – and no one knows what these are. This is just a perfect example of the marking coming before the policy!

Lets talk in 2016 about this

Categories
GST Legislation

GST for non-residents made easy

It has been out for a while, but there is some draft law that proposes big changes to GST.

The first part of the draft Tax Laws Amendment (GST treatment of Cross-Border Transactions) Bill is exactly as we expected… The government will impose GST on offshore intangible supplies to Australian consumers from 1 July 2017.

But the second half of the Bill proposes a series of changes to the “connected to Australia” rules in the GST Act. And if these changes are implemented there will be a massive drop in the number of non-resident suppliers in cross-border business-to-business arrangements that must apply the GST system. But the draft Bill has not start date yet so don’t get to excited…

This draft Bill does three interesting things for non-residents:

First, the draft Bill creates a new type of supply, which is specifically made not connected with Australia. This is a supply made by a supplier who is a non-resident, that is not be made through an enterprise that the supplier carries on in Australia, and the recipient of the supply must be registered, must be carrying on an enterprise in Australia and must not acquire the thing solely for a private or domestic purpose.

Put simply, non-residents who don’t have an enterprise in Australia that only transact business to business will find that they no longer have GST obligations.

Second, the current GST Act uses the income tax definition of “permanent establishment” to establish if there is an enterprise carried on in Australia. The new rule proposed by this draft Bill will be that an enterprise of an entity will be carried on in Australia if the enterprise is carried on by particular individuals who are in Australia and either, the enterprise is carried on through a fixed place in Australia, or the enterprise of the entity is carried on, or is intended to be carried on, through one or more places in Australia for more than 183 days in a 12-month period.

Third, the draft Bill states that GST-free supplies made by a non-resident supplier will not be counted towards the turnover test so they will only need to assess if their taxable supplies are greater than $75,000 to see if they need to register for GST.

 

 

 

 

 

Categories
Legislation Tax Policy

What are we waiting for…

Each December I try to wrap up the year with the tax promises that have not quite made it into law. While the list has VERY, VERY SLOWLY, getting shorter, there are still a number of measures that are yet to get in to the tax laws.

And remember, after the last election, this Government promised it would be different to the previous Government (heard that before) and not leave announced measures unenacted.

So here is the list:

Announcements sitting in Bills before the Parliament

Draft law in the public for consultation

And the stuff that is announced but nothing has been done other than an announcement

  • Innovation statement stuff – OK it was only announce in December
  • No low value GST threshold – GST changes are always is slow as each State and Territory has to have a go at it
  • Amendments the tax hedging rules
  • Functional currency rules — extending the range of entities that can use a functional currency
  • Debt/equity tax rules — limiting scope of integrity rule
  • Taxation of financial arrangements — foreign currency regulations — technical and compliance cost savings amendments

That is not a very long list. But there is an election coming so lets see what tax policies come up.

Categories
Income Tax Legislation Planning Idea Planning Stuff

Newish Tax Concession For Farmers

The Government has released draft legislation that makes certain tax concessions available to farmers even better than they currently are.

In the draft legislation, the Government proposes to make the following changes to the Farm Managed Deposit scheme (and a reminder for those city slickers, the FMD scheme allows farmers to claim a tax deduction for deposits into their FMD bank account, and this means they only pay tax in the income in the year they take it out of the FMD account):

  • Increase the maximum amount that can be held in FMDs to $800,000. As many farmers are already at the $400,000 cap, this means they can take $400,000 from next years income, put it into their FMD and pay not tax on it in that year;
  • Allow primary producers experiencing severe drought conditions to withdraw an amount held in an FMD within 12 months of deposit in the income year following deposit without affecting the income tax treatment of the FMD in the earlier income year; and
  • Allow amounts held in an FMD to offset (ie. reduce the interest charged on) a loan or other debt relating to the FMD owner’s primary production business. That effectively means a farmer can decrease the interest on THEIR PRIMARY PRODUCTION BUSINESS loan (not other loans) at the cost of the meagre interest they were getting on their FMD.

This all starts on 1 July 2016 so it is worth farmers who already have a $400,000 FMD to start warehousing income so they can get the additional $400,000 deductions they can get by increasing their FMD balance to $800,000.

Also, it is worth getting ready to use the FMD as an offset from 1 July 2016.

Categories
Budget Income Tax Legislation Planning Idea Planning Stuff

Wow! I mean wow!!! Like wow!!!

In the May budget the government promised a new rollover for small businesses that allowed them to change their structure without (federal) tax effects.

The Treasury has released a draft of this rollover and it is amazing.

Listen to this… You can roll small business assets into a new structure if ultimate economic ownership of the assets do not change and for discretionary trusts…

“every individual who, just before or just after the transfer took effect, had ultimate economic ownership of the asset was a member of the family group of that family trust.”

So from 1 July 2016 you will be able to change a small business structure to a discretionary trust if the individual owners of the old structure, looking through the structure, are covered by a family trust election over the new discretionary trust.

Wow!

This rollover will cover depreciable assets, trading stock, CGT assets and othe revenue assets. It does this by deeming the new entity to have purchased the assets from the current structure at its tax value (cost base, written down value…) rather than market value.

This is only draft legislation At the moment but if this gets up we will be able to change small business structures to a discretionary trust after the business has proven itself to be successful WITHOUT crystalising any capital gains tax! Of course the discretionary trust will have the same cost base for the assets as the previous structure did.

This would mean you could transfer to other structures if you wanted to (other than super funds).

Want an example:

Victoria and Chris are husband and wife and are the only shareholders in Puppy Co the premises, a vehicle, cash, accounts receivable, and goodwill. Victoria and Chris wish to transfer the premises from Puppy Co to a recently settled discretionary trust, the Fluffy Trust, which will lease the premises to Puppy Co. Victoria and Chris, and their family members, are the only objects of the Fluffy Trust, which has made a family trust election. Puppy Co is a small business entity that satisfies the maximum net asset value test, and the premises are an asset of the business carried on by Puppy Co. The Fluffy Trust is not a small business entity in the income year, but it is connected with Puppy Co, and the premises satisfy the test in subsection 152-10(1A). For the purpose of the roll-over, there has not been a change in the ultimate economic ownership of the premises by the transfer of the asset from Puppy Co to the Fluffy Trust. Therefore, assuming that the other requirements are also met, the roll-over would be available in respect of the transfer. The premises are a CGT asset of Puppy Co, which it acquired on 1 July 2002 for $300,000. The current market value of the premises is $600,000. Under the roll-over, Puppy Co is taken to have disposed of the premises for the roll-over cost, and the Fluffy Trust is taken to have acquired the premises for the roll-over cost. This is the amount necessary so that Puppy Co makes neither a capital gain nor a capital loss from the transfer of the premises. Therefore the roll-over cost is $300,000. Following the transfer of the premises from Puppy Co to the Fluffy Trust, the value of Puppy Co has been reduced by the market value of the premises, namely $600,000. The cost base of each of Victoria and Chris’s shares in Puppy Co is reduced by $6,000 to reflect the transfer of value from the trust.

Categories
Legislation Rulings

Earnouts – the wait is over

A long, long time ago in a Tax Office far, far away…

After waiting 6 and a half years the Treasury has finally drafted some legislation to fix up how capital gains tax concessions apply to earnouts.

But just a quick reminder on the history of this issue…

In October 2007 the then Commissioner of Taxation released a draft ruling (Draft Taxation Ruling TR 2007/D10) that stated the small business CGT concessions could NOT apply to payments under earnout arrangements. As this outcome was ridiculous, the Commissioner never finalised the draft ruling waiting for the Treasury to fix the legislation. And the clock started ticking…

In 2010 the then Assistant Treasurer announced they would make a legislative changes to overcome some some consequences of the Commissioner’s position in the draft ruling (3 years to get a press release).

In 2013 the then Assistant Treasurer confirmed they would continue with this proposed legislative change (another 3 year to get another press release saying they will do what the first press release said).

During this time the Treasury was working hard to come up with the obvious solution that everyone knew. They released a discussion paper saying what we all thought, and had consultation in 2010 and 2011 where we told them we agree with what they want to do. It was so obvious what was going to happen that the Commissioner has allowed taxpayers to apply the law in expectation of what it will be under these changes all the way back to 2007 …

And now on to what the Treasury has done in the last 6 and a half years…

The draft law does four things:

  • Capital gains and losses in respect of a look-through earnout right are disregarded;
  • Financial benefits under or in respect of a ‘look-through’ earnout right are included when determining the capital proceeds or cost base of the underlying business asset to which the arrangement relates;
  • A taxpayer’s assessment for a tax related liability that can be affected by financial benefits provided or received under a ‘look-through’ earnout right may be amended for up to four years after the earnout arrangement expires.
  • Capital losses arising from a CGT event related to an earnout right may not be taken into account in determining tax liabilities until such time as they cannot be reduced by future financial benefits received under a relevant look-through earnout right.

So the draft law means that where there is an earnout, the only CGT event is the sale of the business and any future payments under the arrangement is just a change in consideration for that sale. Therefore, the small business CGT concession can apply to all the consideration for the sale of the business. Exactly what we always thought.

Just a few quick notes:

  1. This only applies to active assets;
  2. This only applies to real earnouts, and not to just deferred payment plans – the financial benefits provided must also be not able to be reasonably ascertained at the time the right is created;
  3. All the payments under the earnest have to be paid within four years;
  4. All look-through earnout rights must be created as part of arrangements entered into on an arm’s-length basis.

An 18 page bill, a 33 page EM and a two page issue register in 78 months since the issue arose, and remember there was a pretty obvious answer in October 2007 – so obvious we just kept lodging returns as if the law was as this draft law is.

But at least the Commissioner has learnt a lesson. Releasing a draft Ruling with a ridiculous outcome (but correct at law) is not an effective way to encourage the Treasury to quickly fix the law…