House of Representatives

Explanatory Memorandum

(Circulated by the authority of the Treasurer, the Hon Wayne Swan MP)

Chapter 3 Managed investment trusts: capital treatment and taxation of carried interests

Outline of chapter

3.1 Schedule 3 to this Bill amends the Income Tax Assessment Act 1997 (ITAA 1997) to allow eligible Australian managed investment trusts (MITs) to make an irrevocable election (that is, choice) to apply the capital gains tax (CGT) provisions as the primary code for the taxation of gains and losses on disposal of certain assets held as passive investments (primarily shares, units and real property). If a MIT is eligible to make an election and it has not done so, then any gains or losses on the disposal of eligible assets (excluding land, an interest in land, or an option to acquire or dispose of such an asset) will be treated on revenue account.

3.2 This Schedule also clarifies the taxation treatment of 'carried interest' units in MITs. These units will effectively be treated on revenue account in the hands of the unit holder.

3.3 All of the legislative references in this chapter are to the ITAA 1997 unless otherwise specified.

Context of amendments

3.4 The existing definition of a MIT (for the purpose of pay as you go (PAYG) withholding on certain fund payments to foreign residents) is contained in section 12-400 in Subdivision 12-H in Schedule 1 to the Taxation Administration Act 1953 (TAA 1953). Broadly, a MIT is a public unit trust that is listed, widely held or publicly offered managed investment scheme (MIS). To retain trust taxation, a public unit trust cannot at any time during an income year operate, or control operations of, an entity that carries on activity that is not eligible investment business. Otherwise, the unit trust is taxed like a company. Eligible investment business is broadly defined under Division 6C of the Income Tax Assessment Act 1936 (ITAA 1936) as investing in land for the purpose, or primarily for the purpose, of deriving rent, or investing or trading in certain financial instruments, including shares in a company and units in a unit trust.

3.5 Gains and losses on disposals of assets by MITs may be on revenue or capital account. Gains and losses that are treated on capital account are taxed under the CGT regime. Beneficiaries who are individuals or superannuation funds are entitled to the CGT tax concessions on distributions of capital gains. Foreign resident beneficiaries of a MIT, generally are not subject to tax on a MIT distribution attributable to a CGT gain, unless the gain relates to taxable Australian property.

3.6 In the 2009-10 Budget the Government announced that it would allow eligible Australian MITs that are not taxed like companies to make an irrevocable election to treat gains and losses on the disposal of certain assets (primarily shares, units and real property) on capital account for taxation purposes, subject to appropriate integrity rules. This measure is an important part of the Government's reforms to provide a more certain and competitive Australian tax regime for attracting foreign funds under management.

Summary of new law

3.7 Eligible MITs can make an irrevocable election/choice to apply the CGT provisions as the primary code for assessing gains and losses on disposal of certain assets (primarily shares, units and real property), subject to integrity rules. Eligible MITs include retail and wholesale entities that are MITs as defined in section 12-400 of Schedule 1 to the TAA 1953 and other retail and wholesale entities that are treated in the same way as a MIT due to the extended concept of a MIT established for the purposes of this measure.

3.8 If a MIT is eligible to make a choice but has not done so, then any gains or losses on the disposal of eligible assets (other than land, an interest in land, or an option or right to acquire or dispose of land) will be treated on revenue account. Land is not subject to this deemed revenue account treatment and whether land is treated on capital or revenue account will be based on an application of the general principles of the tax law.

3.9 The CGT provisions do not apply to distributions on 'carried interest' units in an eligible MIT; these amounts are included in the assessable income of the carried interest holder to the extent that they are not already included in their assessable income other than under the CGT provisions and are not a return of contributed capital on the carried interest.

3.10 Where a capital account choice is in force for the 2008-09 income year, the Commissioner of Taxation (Commissioner) is not able to amend prior year assessments, in respect of a re-characterisation of amounts from capital to revenue or vice versa, without the consent of the taxpayer.

Comparison of key features of new law and current law

Detailed explanation of new law

Scope and meaning of a managed investment trust

3.11 A trust may be a MIT or be treated in the same way as a MIT in relation to an income year if it meets:

•

the definition of 'managed investment trust' in Subdivision 12-H in Schedule 1 to the TAA 1953; or

•

one of the other provisions that allow the trust to be treated in the same way as a MIT for the purposes of Division 275 of the ITAA 1997.

3.12 The extended concept of MIT ensures that certain widely held trusts (including certain wholesale trusts) that do not meet the requirements in Subdivision 12-H will, subject to the satisfaction of the relevant requirements of Division 275, be treated in the same way as a MIT for the purposes of this measure. (Broadly, a wholesale trust is a MIS that has wholesale clients and is not required to be registered under the Corporations Act 2001 (Corporations Act)). These other widely held trusts will therefore be entitled to capital account treatment on the disposal, cessation of ownership or other realisation of certain investments.

3.13 A widely held trust that would not satisfy Subdivision 12-H solely because the trustee does not make a fund payment in relation to the income year will be able to meet the extended concept of a MIT. [Schedule 3, item 4, section 275-20 of Division 275 of Part 3-25]

Managed investment trust

3.14 Broadly under Subdivision 12-H a trust is a MIT if all of the following requirements are satisfied at the test time in an income year:

•

the trust is an Australian resident (connected with Australia);

•

the trust is a MIS under the Corporations Act that satisfies licensing requirements for MISs; and

•

the trust is either listed, widely held or a specified widely held entity is a member of the trust.

Trusts treated in the same way as a managed investment trust

Wholesale trusts Not subject to the requirement to be operated or managed by financial services licensee

3.15 A unit trust will be treated in the same way as a MIT in relation to an income year if it is an Australian resident trust and every member of the trust is a MIT (or treated as a MIT) in relation to the income year. [Schedule 3, item 4, subsection 275-15(1) of Division 275 of Part 3-25]

Example 3.1

Bennett Trust is an Australian resident unit trust. Bennett Trust has two beneficiaries - Aaron Trust (a MIT under Subdivision 12-H) and Liz Trust (a trust treated the same as a MIT).

As all members of Bennett Trust are either MITs because of Subdivision 12-H, or treated the same as a MIT under this measure, Bennett Trust will be treated the same as a MIT in relation to the income year.

Operated or managed by a financial services licensee

3.16 An Australian resident trust will also be treated in the same way as a MIT if it is managed or operated by a financial services licensee holding an Australian financial services licence whose licence covers the provision of financial services to wholesale clients or by an authorised representative of such a financial services licensee, and the trust satisfies one of the following:

•

the only members of the trust are MITs (or treated as MITs); life insurance companies; or complying superannuation funds, complying approved deposit funds or foreign superannuation funds with at least 50 members;

•

the trust has at least 50 members (the term 'member' being used in a defined sense, see paragraphs 3.18 and 3.19);

•

the members of the trust that are entities listed in subsection 12-400(2) in Schedule 1 to the TAA 1953 directly or indirectly:

-

hold (or have the right to acquire) interests representing at least 75 per cent of the value of the interests in the trust;

-

have the control of, or the ability to control, 75 per cent or more of the rights attaching to membership interests in the trust; or

-

have the right to receive 75 per cent or more of any distribution of income that the trustee may make; or

•

the trust is created, or was a MIT (or treated the same as a MIT except because it was created during the income year) in relation to the previous income year and ceases to exist, during the income year.

[Schedule 3, item 4, subsections 275-5(1) to (5) of Division 275 of Part 3-25]

3.17 The terms 'financial services', 'wholesale clients' and 'authorised representative' are terms defined by the Corporations Act.

Example 3.2

INS Trust is wholly-owned by a life insurance company. INS Trust is an Australian resident trust and is operated by the holder of an Australian financial services licence.

As INS Trust is not a MIS (as defined in section 9 of the Corporations Act) and as a result it does not meet the definition of MIT in section 12-400 in Schedule 1 to the TAA 1953.

However, as every member of the trust is either a MIT or an entity specified in Subdivision 12-H (for example, a life insurance company), the trust is an Australian resident trust and is managed or operated by the holder of an Australian financial services licence, INS Trust will be treated in the same way as a MIT for the purposes of this measure (as it meets the requirements in subsection 275-5(1) and (2) of Division 275 of Part 3-25 in item 1 of this Schedule).

3.18 A member of a trust for the purposes of the 50 member test includes an entity (that is, not a trust) that holds an interest in the trust indirectly through a chain of trusts. When determining the number of members the following rules apply:

•

An individual that is a member of the trust, any of his or her relatives that are members of the trust, and any entity that is a member of the trust in the capacity of a nominee of the individual or his or her relatives are treated as a single member.

•

A member of the trust that is not an individual and its nominees are treated as a single member.

[Schedule 3, item 4, subparagraph 275-5(4)(a)(i) and paragraphs 275-5(4)(b) and (c) of Division 275 of Part 3-25]

3.19 The following entities are not treated as members of a trust when applying the 50 member test:

•

an interposed trust.

•

an object of the trust.

•

an individual (other than an individual who became a member of the trust because a financial product or financial service was provided to, or acquired by, the individual as a wholesale client under section 761A of the Corporations Act).

[Schedule 3, item 4, subparagraph 275-5(4)(a)(ii) and paragraph 275-5(4)(d) of Division 275 of Part 3-25]

Example 3.3

Hyde Trust is an Australian resident trust that is managed by a financial services licensee whose licence covers the provision of financial services to wholesale clients. Hyde Trust is owned by two wholesale trusts (Maree Trust and Tyler Trust) and an individual, Larry, a wholesale client.

Sally and her brother, Tom, are unitholders, along with 25 other non-related individuals in Maree Trust. ABC Pty Ltd and 25 non-related individuals are beneficiaries of Tyler Trust.

For the purposes of the 50 member test:

•

Sally, Tom and the 25 other non-related individuals of Maree Trust represent 26 members of Hyde Trust (Sally and Tom are counted as one member because they are related).

•

ABC Pty Ltd and the 25 non-related individuals of Tyler Trust will be counted as 26 members of the Hyde Trust.

•

Maree Trust and Tyler Trust would not be counted as members.

As such, under this look through rule, Hyde Trust has 53 members and it will be treated the same as a MIT.

Unregistered Retail trusts

3.20 A trust will be treated in the same way as a MIT if:

•

it would be a MIT in relation to the income year if the licensing requirement in item 2 in the table in subsection 12-400(1) in Schedule 1 to the TAA 1953 is disregarded; and

•

the trust is a MIS and would be required under the Corporations Act to be operated by a financial services licensee, but for the fact that it is not required to be so registered as it is a Crown entity or because any instrument issued by the Australian Securities and Investments Commission has effect in relation to the entity and the operation of the scheme.

[Schedule 3, item 4, subsection 275-10(1) of Division 275 of Part 3-25]

3.21 This extension will allow MISs operated by certain Government-owned entities that are not required or able to register, to be eligible to make the choice for capital account treatment.

Other requirements

3.22 Certain requirements that are required to be met at a particular time (in order for a trust to be treated in the same way as a MIT for the purposes of this measure) must be met at either the time the trustee of the MIT makes the first fund payment in relation to the income year or, in cases where a trustee does not make the first fund payment, at both the start and the end of the income year. [Schedule 3, item 4, subsections 275-5(6), 275-10(2) and 275-15(2) and section 275-20 of Division 275 of Part 3-25]

3.23 A trust will not be treated the same as a MIT in relation to an income year, if it is a closely held trust at any time during the income year. Broadly, this will be the case where 20 or fewer individuals, directly or indirectly:

•

hold or have the right to acquire interests representing 75 per cent or more of the value of the interest in the trust;

•

have the control of, or the ability to control, 75 per cent or more of the rights attaching to membership interests in the trust; or

•

have the right to receive 75 per cent or more of any distribution of income that the trustee may make.

[Schedule 3, item 4, section 275-25 of Division 275 of Part 3-25]

Example 3.4

Cleary Trust is an Australian resident trust (but not a registered MIS) that is managed by a financial services licensee whose licence covers the provision of financial services to wholesale clients. Cleary Trust is not a MIT under Subdivision 12-H. JJJ Trust (a wholesale trust with 50 members) and 10 individuals that hold different levels of membership in the trust are beneficiaries of Cleary Trust.

Cleary Trust would meet the 50 member test, however, the 10 individual beneficiaries hold interests totalling 80 per cent of the value of the interest in the trust.

Therefore, Cleary Trust would not be treated as a MIT as it is a closely held trust.

Temporary circumstances

3.24 If, apart from a particular circumstance, a trust would be treated the same as as a MIT, the trust may still be treated the same as a MIT if, the circumstance is temporary and arose outside the control of the trustee of the trust, and it is fair and reasonable to the treat the trust the same as a MIT, having regard to a number of factors. These factors include: the nature of the circumstance, the actions (if any) taken by the trustee of the trust to address or remove the circumstance, the speed with which such actions were taken, and the tax impact of such a decision. [Schedule 3, item 4, section 275-30 of Division 275 of Part 3-25]

Example 3.5

AAA Trust is a wholesale trust and is treated as a MIT for the purposes of this measure by reason of satisfying the 50 member requirement (directly or indirectly) and hence the extended definition of MIT contained in Division 275.

Five members redeem their units in the AAA Trust, so that the trust no longer meets the 50 member requirement. The trustee, however, is actively marketing units to attract new unitholders.

Depending on the facts and circumstances, AAA Trust may still be an eligible MIT if this circumstance is temporary and arose outside the control of the trustee of the trust, and it is fair and reasonable to treat the AAA Trust as an eligible MIT, having regard to certain factors.

The fact that the trust is actively seeking new unitholders would be evidence which demonstrates that action is being taken to address the temporary circumstance.

3.25 Subsections 102L(15) and 102T(16) provide that the meaning of trust estate and trustee in certain contexts does not include a trust estate that is a corporate unit trust or a trustee of a corporate unit trust, nor a public trading trust or a trustee of a public trading trust. Therefore corporate unit trusts and public trading trusts may not meet the requirement to be an Australian resident trust and subsequently not be treated the same as a MIT for the purposes of this measure. To avoid doubt, section 275-9B clarifies that subsections 102L(15) and 102T(16) in Part III of the ITAA 1936 do not apply for the purposes of Division 275 (the Division inserted via this measure). [Schedule 3, item 4, section 275-35 of Division 275 of Part 3-25]

Example 3.6

XYZ Trust is a MIT that is a trading trust within the meaning of Division 6C of the ITAA 1936. Despite being a public trading trust, XYZ Trust is eligible to make the choice to have capital account treatment apply, however the deemed capital account treatment will not apply while XYZ Trust is a trading trust.

Choice

3.26 If an eligible MIT makes a choice in the approved form for the this measure to apply, then the CGT provisions will be the primary code for taxing gains or losses made by a MIT on eligible assets if certain requirements are satisfied. [Schedule 3, item 4, subsections 275-100(1) and 275-115(1) of Division 275 of Part 3-25]

Eligible assets - gains and losses

3.27 The gain or loss must result from the disposal, cessation of ownership or other realisation of one of the following types of assets:

•

shares, shares in a foreign hybrid company and non-share equity interests in a company;

•

units in a unit trust;

•

land (including an interest in land); and

•

a right or option to acquire or dispose of one of the assets listed directly above.

[Schedule 3, item 4, subsection 275-105(1) of Division 275 of Part 3-25]

3.28 An asset will not, however, be covered if it is a financial arrangement to which Division 230 of the ITAA 1997 applies or is a debt interest. [Schedule 3, item 4, subsection 275-105(2) of Division 275 of Part 3-25]

Example 3.7

Wilson Trust was created in the 2009-10 income year. The trust is an eligible MIT for the purposes of the capital account choice. The trust made an irrevocable choice in the 2009-10 income year to apply deemed capital account treatment. (The choice is in force for the 2009-10 income year and later income years.)

The trust invests primarily in units and shares. The trust also invests in land for rent used as a shopping centre. Disposals of these assets will be assessed under the CGT provisions.

In addition to these investments, the trust holds investments in the Australian Securities Exchange SPI 200(r)1 Futures (a derivative product). These investments are not eligible investments and will not attract deemed capital treatment. These assets would be subject to Division 230.

Example 3.8

Bell Trust was created in the 2009-10 income year. The trust is an eligible MIT for the purposes of the capital account choice. The trust makes an irrevocable choice to have capital account treatment in the 2009-10 income year, which is in force for the 2009-10 income year and later income years.

The trust holds redeemable preference shares in Kennedy Limited, a listed company. The redeemable preference shares satisfy the debt test under Division 974 of the ITAA 1997 and are characterised as a debt interest. Therefore, these shares constitute a non-equity share holding in Kennedy Limited. Gains or losses from disposal of this debt interest will not be deemed to be treated on capital account.

The MIT must not be a corporate unit trust or a trading trust

3.29 The MIT must not be a trading trust (within the meaning of Division 6C of the ITAA 1936) or a corporate unit trust (within the meaning of Division 6B of the ITAA 1936) in relation to the income year in which it owned the CGT asset and the relevant CGT event happens.

3.30 The MIT may still meet this requirement if:

•

the circumstance that led to it being a trading trust is temporary and arose outside the control of the trustee of the trust;

•

the trustee is not liable to pay income tax under section 102S of the ITAA 1936 on the net income of the trust; and

•

it is fair and reasonable that the eligible MIT meet this requirement, having regard to a number of factors. These factors include: the nature of the circumstance, the actions (if any) taken by the trustee of the trust to address or remove the circumstance, the speed with which such actions were taken, and the tax impact of such a decision .

[Schedule 3, item 4, subsections 275-110(1) and (2) of Division 275 of Part 3-25]

Choices must be in force

3.31 A choice for capital account treatment must be in force for the income year in which the CGT event happens. [Schedule 3, item 4, subsection 275-100(1) of Division 275 of Part 3-25]

3.32 For trusts that become MITs in the 2009-10 or later income years, the choice must be made on or before the day it is required to lodge its income tax return for the income year in which it became a MIT or a later day allowed by the Commissioner for the MIT, whichever occurs later. For all other MITs the choice must be made on or before the latest of the following dates:

•

the last day in the three-month period from the commencement of this Schedule;

•

the last day of the 2009-10 income year; or

•

if the Commissioner allows a later day for the MIT - then on a later day.

[Schedule 3, item 4, subsection 275-115(3) of Division 275 of Part 3-25]

3.33 The choice must be made in the approved form. [Schedule 3, item 4, subsection 275-115(2) of Division 275 of Part 3-25]

3.34 For trusts that become MITs in the 2009-10 income year or later income year, the choice is in force for the income year in which the trust became a MIT and later income years. For all other MITs the choice is in force for the 2008-09 income year and later income years. [Schedule 3, item 4, subsection 275-115(5) of Division 275 of Part 3-25]

Example 3.9

Page Trust is an eligible MIT for the purposes of the capital account choice and has existed for many years. On the last day of the 2009-10 income year (assuming that is the latest date on which it can make the choice), Page Trust makes an irrevocable choice to have capital account treatment.

Despite the fact that the actual choice was made in the 2009-10 income year, capital account treatment will be in force for the 2008-09 income year and later income years.

In this case, if Page Trust had disposed of shares in the 2008-09 income year it would treat the disposal on capital account.

Consequences of making a choice

3.35 A choice once made cannot be revoked. [Schedule 3, item 4, subsection 275-115(4) of Division 275 of Part 3-25]

3.36 The effect of making a choice is that certain ordinary and statutory income and deduction provisions in the income tax law will no longer apply in respect of gains or losses from any eligible assets of the MIT. [Schedule 3, item 4, section 275-100 of Division 275 of Part 3-25]

3.37 However, those income and deduction provisions may apply in certain situations, including where:

•

a capital gain or capital loss from the event is disregarded because of certain provisions;

•

the asset is land that is trading stock or was acquired before 20 September 1985 and is part of a profit-making undertaking or plan; or

•

the asset is a unit or share (acquired in an income year in which the choice to apply the CGT provisions was not in force) and is treated by the MIT as trading stock in its financial report and tax return in the income year preceding the income year in which the disposal occurs and in the most recent income year ending before the start of the income year in which the choice first came into force.

[Schedule 3, item 4, subsections 275-100(3) and (4) of Division 275 of Part 3-25]

Example 3.10

TJC Trust is an eligible MIT for the purposes of the capital account choice. TJC Trust makes an irrevocable choice to have capital account treatment, which is in force for the 2008-09 income year and later income years.

In the 2009-10 income year, TJC Trust decides to dispose of units in a unit trust, which it had been treating as trading stock (in its financial report and tax return for the 2007-08 and 2008-09 income years). The units were acquired in 2007.

Despite the fact that TJC Trust has made the capital account choice, which would ordinarily mean that the disposal of the units would be treated on capital account, given the situation, an exception would apply to treat the disposal of the units on revenue account as the units were acquired before the choice was in force and they have previously been treated by the MIT on revenue account as trading stock.

Example 3.11

Swain Trust is an eligible MIT for the purposes of the capital account choice. Swain Trust makes an irrevocable choice to have capital account treatment, which is in force for the 2008-09 income year and later income years.

In the 2010-11 income year, Swain Trust decides to dispose of units in a unit trust, which it did not treat as trading stock in its financial report and tax return for the 2007-08 income year, but treated as trading stock in the 2009-10 income year. The units were acquired in 2007.

As Swain Trust did not treat the units as trading stock in the year before it made the choice for capital account treatment, the units would be treated on capital account. Given the situation, the exception does not apply.

3.38 If an eligible MIT (which is not a trading trust) acquires a CGT asset that is trading stock and incurs an outgoing in connection with the acquisition, and the choice to apply the CGT provisions is in force, then certain income and deduction provisions in the income tax law will no longer apply in relation to the asset and the acquisition. As such, the asset will not be treated as trading stock and the acquisition of the asset will not be treated on revenue account. [Schedule 3, item 4, subsections 275-100(5) and (6) of Division 275 of Part 3-25]

Consequences of not making a choice

3.39 In situations where a MIT (which is not a trading trust) is eligible to make a choice for capital account treatment and it has not done so, then any gain or loss from the disposal of, ceasing to own, or other realisation of an eligible asset will be treated on revenue account, to the extent that it has not already been so treated. [Schedule 3, item 4, paragraphs 275-120(1)(a) , ( c) and (d) and subsection 275-120(2) of Division 275 of Part 3-25]

3.40 However, this deemed revenue treatment does not apply to eligible land, an interest in land, or an option to acquire or dispose of such an asset. The characterisation of any gain or loss will depend on general law principles. [Schedule 3, item 4, paragraph 275-120(1)(b) of Division 275 of Part 3-25]

Example 3.12

Rutherford Trust is an eligible MIT for the purposes of the capital account choice and has existed for many years. The trust does not make an irrevocable choice to treat its investments in shares, units and land on capital account.

The trust invests primarily in shares and units. The trust also invests in land for rent which is used as a shopping centre. For the 2007-08 income year, consistent with general tax law principles, the trust treats its investments in units, shares and land on capital account.

As the trust has not made a capital account choice, the disposal of units and shares after commencement of this Schedule will be treated on revenue account. However, any disposal of its investment in land may still be on capital account if this result follows from an application of general tax law principles.

Example 3.13

Bennett Trust is an eligible MIT for the purposes of the capital account choice and has existed for many years. The trust does not make an irrevocable choice to treat its investments in shares, units and land on capital account. In income years prior to the 2008-09 income year the trust trades in shares and units and holds these assets on revenue account consistent with general tax law principles.

As the trust has not made a capital account choice, disposal of units and shares after commencement of this Schedule will continue to be on revenue account. As the trust is already treating its investments in units and shares on revenue account, the deemed revenue account rule will not alter the treatment of these assets. The land would not be deemed to be on revenue account and would be subject to general tax law principles.

Consequences of a change in status

3.41 If a trust that was an eligible MIT in a previous income year fails to meet eligibility requirements in a subsequent year, the deemed capital account rules will no longer apply to disposals of covered assets in any year in which the eligibility requirements are not met. These disposals will be subject to the ordinary rules, which may include the trading stock rules in Division 70 of the ITAA 1997. If the trust meets the eligibility requirements once again, the initial choice for capital account treatment will remain in force as the choice is irrevocable. [Schedule 3, item 4, subsection 275-115(4) and section 275-5 of Division 275 of Part 3-25]

Example 3.14

Stella Trust is an eligible MIT for the purposes of the capital account choice. Stella Trust makes an irrevocable choice to have capital account treatment, which is in force for the 2008-09 income year and later income years.

In the 2010-11 income year, Stella Trust fails to meet the requirements to be a MIT and as such the deemed capital treatment rule does not apply in that year. Stella Trust decides to dispose of units in a unit trust. As the capital account choice no longer applies the disposal of the units will be subject to the ordinary and statutory income rules including the trading stock rules in Division 70.

3.42 If the asset is land which is not covered by the trading stock rule in Division 70 of the ITAA 1997 and therefore is eligible to be included in the choice for CGT treatment and a choice has not been made, then the ordinary and other statutory income provisions will apply.

Taxation of carried interests

3.43 Distributions of amounts to a carried interest holder and proceeds from CGT events of a carried interest held in an entity that is an eligible MIT or was an eligible MIT in a prior income year will be included in the assessable income of the holder, to the extent that amounts are not already included in their assessable income, other than under the CGT provisions, and is not a return of contributed capital on the carried interest. [Schedule 3, item 4, section 275-200 of Division 275 of Part 3-25]

3.44 The amounts to be included in assessable income, by virtue of distributions of amounts to a carried interest holder and proceeds from CGT events of a carried interest held in a MIT, are taken for the purposes of the income tax laws to have a source in Australia. [Schedule 3, item 4, subsection 275-200(4) of Division 275 of Part 3-25]

3.45 A loss on CGT events of the carried interest is deductible. Losses on the carried interest may be deductible under the ordinary deduction provisions.

3.46 For the purposes of this Schedule, carried interest relates to a CGT asset held in an income year in relation to an entity that is an eligible MIT (or was an eligible MIT in relation to a previous income year) acquired because of services to be provided to the entity by the holder of the CGT asset or an associate, as a manager of the entity, an employee of a manager or an associate of such a manager or employee. A carried interest holder is entitled to distributions contingent on the profits of the entity. [Schedule 3, item 4, section 275-200 of Division 275 of Part 3-25]

3.47 The carried interest rule that applies in respect of an interest acquired in an eligible MIT continues to apply after an entity ceases to be an eligible MIT. [Schedule 3, item 4, paragraph 275-200(1)(c) of Division 275 of Part 3-25]

3.48 The carried interest amount is not subject to Subdivision 115-C if the amount of the distribution is attributable in whole or in part to a capital gain of the MIT. However, to the extent that a carried interest unit comprises a component of contributed capital on the carried interest, then that portion of the distribution will receive normal CGT treatment. [Schedule 3, item 4, subsection 275-200(7) of Division 275 of Part 3-25]

Example 3.15

As a result of the manager services Tony provides to the ABC private equity trust (which is a MIT), Tony is rewarded with free units in the MIT, the number being based on the performance of the fund's investments.

Tony has a carried interest in ABC Trust.

Tony receives a distribution of $1,000 on his carried interest. He will be required to treat the $1,000 distribution on revenue account.

Example 3.16

The ABC Trust (which is a MIT) contracts with Anna to provide investment manager services to the trust. In 2010, Anna is issued with free units in ABC Trust. Anna has a carried interest in ABC Trust.

In 2013, ABC Trust no longer meets the definition of MIT or the extended concept of MIT.

In 2015, Anna disposes of her units and as such she will be required to treat the disposal on revenue account, even though ABC Trust is no longer an eligible MIT.

Example 3.17

Hayden holds carried interest units in Hayden Trust.

Hayden disposes of the units and makes a profit of $120 on the sale (after taking into account the return of the contributed capital). The $120 profit is included in Hayden's assessable income. The disposal of the units also gives rise to a capital gain of $120 under the CGT provisions.

However, the capital gain is reduced (but not below zero) by the amount of the profit otherwise assessable, including under Division 275 in accordance with section 118-20 of Subdivision 118-A of the ITAA 1997. This results in Hayden's capital gain being reduced to zero.

Restrictions on prior year amendments

3.49 In respect of income years prior to the 2008-09 income year, the Commissioner cannot amend assessments (of the trustee, beneficiary or an entity that holds interests in the eligible MIT indirectly through a chain of trusts) where an eligible MIT has made a choice for capital account treatment that applies in the 2008-09 income year, and:

•

a previous assessment was made on the basis that a CGT event happened in relation to a CGT asset (owned by the eligible MIT) and a gain or loss was realised for income tax purposes;

•

the assessment was made on the basis that a gain or loss should be reflected in the net income, a tax loss, or net capital loss of the eligible MIT and that the CGT asset was (or was not) a revenue asset; and

•

the disposal (CGT event) would have been treated on capital account if the measure had applied in the prior income years.

[Schedule 3, item 8, section 275-10 of Division 275 of Part 3-25 of the Income Tax (Transitional Provisions) Act 1997]

3.50 However, the Commissioner is able to amend prior year assessments where the taxpayer gives written consent, such as where the taxpayer requests a relevant amendment. [Schedule 3, item 8, subsection 275-10(4) of Division 275 of Part 3-25 of the Income Tax (Transitional Provisions) Act 1997]

Example 3.18

Cleary Unit Trust is an eligible MIT that makes the irrevocable capital account choice.

In the previous income year to the year in which the capital account treatment was in force, Cleary Trust made a gain on the disposal of shares. The disposal was treated as giving rise to a capital gain which was then distributed to the beneficiaries of the trust. Each beneficiary accounted for the distribution received as a capital receipt. If the capital account choice had applied when Cleary Trust had disposed of the shares, the disposal would have been deemed to be on capital account.

In this situation, the Commissioner cannot amend the previous assessment relating to the treatment of the gain on disposal of the shares, on the basis that the disposal of shares should have been treated on as a revenue account. However, Cleary Trust may give the Commissioner written consent to amend the assessment to treat the gain on the disposal of the shares on revenue account.

Application and transitional provisions

3.51 These amendments broadly apply in relation to eligible CGT events that happen on or after the start of the 2008-09 income year. [Schedule 3, subitem 10(1)]

3.52 The amendment which provides for modifications when the acquisition of trading stock is treated on capital account when a choice is in force, applies in relation to the acquisition of assets on or after the start of the 2008-09 income year. [Schedule 3, subitem 10(2)]

3.53 The amendments which deem certain assets to be on revenue account when a choice is not made, apply to disposals of assets, cessations of ownership of assets and other realisations of assets which take place on or after Royal Assent. [Schedule 3, subitem 10(3)]

3.54 The amendments concerning 'carried interests' in MITs apply in relation to entitlements to distributions that arise on or after Royal Assent, or CGT events that happen on or after Royal Assent. [Schedule 3, subitem 10(4)]

Consequential amendments

3.55 An amendment is made to insert section 45-286 in Schedule 1 to the TAA 1953 to include in a taxpayer's 'instalment income' for a period trust income or trust capital of an eligible MIT that the MIT distributes to, or applies for the benefit of, the taxpayer during that period. The trust income or trust capital is only included in the taxpayer's instalment income in cases where the income or capital is not already included in a taxpayer's instalment income and the eligible MIT is an Australian resident trust and meets the requirements of section 275-110 of the ITAA 1997. [Schedule 3, item 9, section 45-286 in Schedule 1 to the TAA 1953]

3.56 These amendments apply in relation to distributions or applications of benefits that are made on or after the Royal Assent. [Schedule 3, subitem 10(5)]

3.57 An additional amendment is made to amend the definition of 'instalment income' in subsection 995-1(1) to account for the amendment described in paragraph 3.56, which includes certain amounts in a taxpayer's instalment income. [Schedule 3, item 7, definition of 'instalment income' in subsection 995-1(1)]

3.58 Amendments are made to section 840-805 to exclude any fund payment part that is a carried interest distribution under this measure from MIT withholding tax obligations and liabilities. [Schedule 3, items 5 and 6, subsection 840-805(7)]