Senate

Revised Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)

Chapter 7 Demutualisation of Tower Corporation

Outline of chapter

7.1 Schedule 7 to this bill amends the ITAA 1997 to:

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ensure that taxpayers who received shares in Tower Limited as a consequence of the demutualisation of Tower Corporation (a former New Zealand resident mutual company) in October 1999 are not subject to CGT at the time their membership rights ceased to exist; and

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specify the cost base for shares received in Tower Limited as a consequence of giving up those membership rights.

7.2 Consequently, depending on the circumstances, the CGT taxing point for taxpayers who received shares in Tower Limited as a consequence of the demutualisation of Tower Corporation is deferred until a CGT event happens to the shares in Tower Limited.

Context of amendments

7.3 Tower Corporation was a New Zealand mutual insurance company which demutualised on 1 October 1999. As part of the demutualisation scheme, Tower Corporation changed its name to Tower Limited. Under the demutualisation scheme, members of Towers Australian subsidiary company, Tower Life (Australia), were entitled to partly paid shares in Tower Limited (the demutualised company) as consideration for giving up their membership rights. Entitlements of members who did not take up their rights to shares in Tower Limited prior to the time of the share issue were transferred to the Tower Safe Trust until those members could be located. Members who were verified by the trustee of the Tower Safe Trust could elect to receive partly paid shares in Tower Limited or could direct the trustee to sell the shares on their behalf and receive a cash distribution.

7.4 Under the current law, special rules apply to taxpayers who receive shares in Australian resident life insurance companies that demutualise. Those rules do not apply to non-resident life insurance companies that demutualise. Therefore, taxpayers who had membership rights affected by the demutualisation of Tower Corporation would be subject to CGT on the surrender of their membership interests, even though they did not actually receive shares at that time or may never receive shares, or the proceeds from a direction to sell the shares, because they do not identify themselves to the Tower Safe Trust.

7.5 A significant number of Australian resident taxpayers had membership rights in Tower Corporation because they were policyholders of Tower Life (Australia). Those members became entitled to shares in Tower Life as a consequence of the demutualisation of Tower Corporation, and therefore had membership rights in Tower Corporation at the time that it ceased to be a mutual entity.

Summary of new law

7.6 The amendments will ensure that:

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taxpayers who received partly paid shares in Tower Limited directly as a result of giving up their membership rights in Tower Corporation are not subject to CGT until a CGT event happens to the shares after the acquisition of those shares;

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taxpayers who receive, or have received, partly paid shares in Tower Limited from the Tower Safe Trust as a result of giving up their membership rights in Tower Corporation are not subject to CGT until they are absolutely entitled to receive those shares; and

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the cost base of shares received on the demutualisation of Tower Corporation only includes amounts paid to actually acquire the shares.

Comparison of key features of new law and current law

Detailed explanation of new law

No CGT event on ending of membership rights in Tower Corporation

7.7 Any capital gain or capital loss from a CGT event happening when taxpayers give up membership rights in Tower Corporation, a New Zealand resident mutual company, at the time it ceased to be a mutual entity, will be disregarded. [Schedule 7, item 2, subsections 118-550(1) and (2)]

7.8 Tower Corporation demutualised on 1 October 1999. Under the demutualisation scheme, members of Towers Australian subsidiary company, Tower Life (Australia), were entitled to partly paid shares in Tower Limited (the demutualised company) as consideration for giving up the membership rights acquired in Tower Corporation under the demutualisation. Entitlements of members who did not take up their rights to shares in Tower Limited prior to the time of the share issue were transferred to the Tower Safe Trust until those members could be located.

Partly paid shares received directly from Tower Limited

7.9 Taxpayers who received partly paid shares in Tower Limited directly as a result of surrendering their membership rights in Tower Corporation will not be liable to CGT:

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at the time their membership interests in Tower Corporation were surrendered (CGT event C2); or

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at the time their rights to receive shares in Tower Limited were cancelled on subscribing for shares (CGT event C2).

7.10 Rather, a CGT consequence will arise only when a CGT event happens to the shares in Tower Limited after their acquisition. For example, a CGT consequence will arise on the actual disposal of the shares (CGT event A1).

Example 7.1

Gabbie was a member of Tower Life (Australia) in September 1999 and received 50% paid up shares in Tower Limited in consideration for giving up her membership rights in Tower Corporation. Gabbie applied for shares prior to the time of the share issue and therefore received her shares directly. Gabbie will not have any CGT consequences as a result of surrendering her membership rights in Tower Corporation. Rather, Gabbie will be liable to CGT only when a CGT event, such as the sale of the shares, happens to the shares in Tower Limited after she acquires them.

Partly paid shares received from the Tower Safe Trust

7.11 Taxpayers who received partly paid shares in Tower Limited indirectly from the Tower Safe Trust as a result of surrendering their membership rights in Tower Corporation will not be liable to CGT:

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at the time their membership interests in Tower Corporation were surrendered (CGT event C2); or

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at the time their right to receive shares in Tower Limited was cancelled in exchange for an interest in the Tower Safe Trust (CGT event C2).

7.12 Rather, a CGT consequence will arise only when a taxpayer becomes absolutely entitled to an asset of the trust - that is, when he or she becomes absolutely entitled against the trustee of the Tower Safe Trust to receive shares in Tower Limited (CGT event E5).

Example 7.2

Chantilly was a member of Tower Life (Australia) in September 1999 and was entitled to receive 50% paid up shares in Tower Limited. Chantilly did not subscribe for those shares prior to the time of the share issue and, consequently, her share entitlement was transferred to the Tower Safe Trust. Chantilly subsequently applied for shares from the Trust and received her partly paid shares. Chantilly will not have any CGT consequences as a result of surrendering her membership rights in Tower Corporation or when her right to receive shares was exchanged for an interest in the Trust. Rather, a CGT event (CGT event E5) will happen only when Chantilly is absolutely entitled to receive shares in Tower Limited from the trustee of the Tower Safe Trust. Chantilly will make a taxable capital gain at this time.

Cost base of shares in Tower Limited

7.13 The cost base and reduced cost base of the shares in Tower Limited received as a result of surrendering membership rights in Tower Corporation does not include any amounts paid in acquiring or maintaining those membership rights or any membership rights in Tower Life (Australia). [Schedule 7, item 2, subsection 118-550(3)]

7.14 Therefore, the cost base and reduced cost base of the shares in Tower Limited received as a result of surrendering membership rights in Tower Corporation will only include:

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any amount actually paid by a taxpayer to make the shares fully paid up; and

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any incidental costs, as defined in section 118-35, associated with the acquisition of the shares.

Application and transitional provisions

7.15 The amendments will apply from 23 September 1999. The amendments are beneficial to taxpayers because they defer the CGT liability that arises as a consequence of surrendering their membership rights in Tower Corporation. The Tower Corporation demutualised on 1 October 1999 and relied on the announcement of these measures to advise Australian taxpayers about the consequences of accepting the demutualisation proposal.

Consequential amendments

7.16 The CGT cost base rules are generally set out in Divisions 110 and 112 of the ITAA 1997. Subdivision 112-B contains a guide for special cost base rules that apply in particular circumstances. A consequential amendment is made to insert a signpost to the special cost base rules set out in new section 118-550 for taxpayers who receive shares in Tower Limited as a result of surrendering membership rights in Tower Corporation. [Schedule 7, item 1, section 112-92]