Public advice and guidance compendium

Class Ruling CR 2002/81 Income tax: capital gains: demerger roll-over relief for shareholders: demerger of WMC Ltd, one of the earliest cases where demerger relief was granted, mimics Example 3 of the draft Determination (demerger to prepare the head entity for sale). But Example 3 concludes that there will be a failure of the nothing else and proportionality conditions, denying demerger relief.

Permissive class rulings were also issued in Class Ruling CR 2008/74 Income tax: demerger of Buru Energy Ltd by ARC Energy Ltd and merger of ARC Energy Ltd with Australian Worldwide Exploration Ltd and Class Ruling CR 2013/23 Income tax: demerger of Talon Petroleum Limited by Texon Petroleum Limited. A more restrictive approach began in 2018 as evidenced by Class Ruling CR 2018/7 Income tax: Eneabba Gas Limited - return of capital by way of in specie distribution, Class Ruling CR 2018/31 Income tax: sale of Westfield Group stapled securities to Unibail-Rodamco SE - capital gains consequences and the 2018 proposed AMA Group transaction.

It is entirely appropriate for taxpayers to have regard to ATO public documents in a self-assessment system with no requirement to obtain ATO approval for a demerger.

Extrapolating from a selection of class rulings to identify a broader ATO view is problematic. For instance, it is noted that particular information is often withheld or may not be published with certain class rulings.

Various other class rulings have been published (Class Ruling CR 2010/4 Income tax: demerger of Lion Selection Group Ltd by Lion Selection Ltd and Class Ruling CR 2010/55 Income tax: demerger of Macquarie Atlas Roads Limited by Intoll Trust (II)) that are consistent with the draft Determination.

The ATO has, however, had consideration to the concerns raised in comments in deciding on an approach to compliance. As noted in the final Determination, the Commissioner will not be devoting resources to a specific compliance project targeting claims for demerger roll-over relief for relevant transactions entered into before the date of the draft Determination.

Past transactions may still be looked at in the context of the ATO's usual compliance action (for example, as part of a tax performance program assurance review or because the taxpayer is already subject to compliance action). However, in such cases, when determining what action to take, the Commissioner will have regard to the reasons why a taxpayer concluded the transaction was eligible for demerger roll-over relief, including gleanings that may have been obtained from past class rulings. This may also be relevant to the remission of any possible interest and penalties.

Where the taxpayer requests a private ruling or an amendment to an assessment or where a taxpayer objects to an assessment or where the Commissioner makes submissions in litigation, the Commissioner will act consistently with the views in the final Determination.

Paragraph 41 of the draft Determination states 'When the final Determination is issued, it is proposed to apply both before and after its date of issue.' (emphasis added).

The view in the draft Determination should only apply prospectively from its date of release (20 March 2019).

Given class rulings issued by the ATO since 2002 contributed to taxpayers' perception that multi-step transactions are acceptable, Law Administration Practice Statement PS LA 2011/27 Determining whether the ATO's views of the law should be applied prospectively only obliges the ATO to only apply the draft Determination to future transactions.

In the alternative, the Commissioner could state in the final Determination that compliance resources will not be devoted to demergers undertaken before the date of the Determination (for example, as was done in Practical Compliance Guideline PCG 2018/9 Central management and control test of residency: identifying where a company's central management and control is located on the CMC residency test following Taxation Ruling TR 2018/5 Income tax: central management and control test of residency, or Taxation Determination TD 2017/24 Income tax: where an amount included in a beneficiary's assessable income under subsection 99B(1) of the Income Tax Assessment Act 1936 (ITAA 1936) had its origins in a capital gain from non-taxable Australian property of a foreign trust, can the beneficiary offset capital losses or a carry-forward net capital loss ('capital loss offset') or access the CGT discount in relation to the amount?).

We would not agree with a contention that the ATO has generally adopted a more permissive view of demerger relief prior to the issue of the draft Determination - as outlined in Issue 1 of this Compendium. We would also note that the views in this Determination have been previously communicated to advisors and taxpayers in the context of particular transactions, although it is acknowledged that these views have not been universally known or understood.

Following consideration of concerns raised in submissions and the above matters, we have decided to adopt the compliance approach discussed in Issue 1 of this Compendium.

Paragraph 76 of PS LA 2005/21 (considering paragraph 45B(8)(i) of the Income Tax Assessment Act 1936 (ITAA 1936), which only applies to a 'demerger' as defined in subsection 125-70(1)) of the Income Tax Assessment Act 1997^[1] states (emphasis added):

... A prearranged disposal of the head entity or demerged entity shares could have as its only substantial object increased business performance. There may be circumstances where the business performance of one or both of the head entity or demerged entity is enhanced by merging one of those entities with another like business structure. Such a merger could for example involve the disposal of the head entity or demerged entity under a scrip for scrip transaction . Alternatively, it may be that the efficiency of a business is enhanced by the introduction of a new group of owners, such as under a management buy-out.

Revised public guidance on section 45B of the ITAA 1936 is being considered, which may involve an update to PS LA 2005/21. This perception of inconsistency will be considered in any update to the Practice Statement.

Including subsequent sales or capital raisings does not reflect the ordinary meaning of 'restructuring'.

We have made changes to the draft Determination to ensure a better focus on identifying what transactions form part of the restructuring.

Four cases (two from the High Court, one each from the Federal Court and a State Supreme Court) emphasise the need for a liberal approach.

The Explanation section of the final Determination sets out in some detail the reasons why, having regard to the text and context, that the interpretation in the final Determination is preferred.

Paragraph 4 suggests that the 'restructuring' may have a narrower scope than other parts of the draft Determination. It fails to provide a clear practical delineation of what is in and out, to help practitioners.

A 'restructuring' should be limited to transactions involving the interest owners, not other entities in associated transactions.

A reader is left with the impression that the ATO will form a view about a transaction (based on some underlying policy view held by the ATO which the draft Determination does not explain) and will then justify the conclusion by including steps under paragraph 2 of the draft Determination or excluding steps under paragraph 4.

There is no explanation why the transactions are abusive or inimical to the objects of the regime. One outcome of the draft Determination is that transactions that would ultimately trigger capital gains tax (CGT) consequences (and tax being paid) will no longer be undertaken.

Why would the ATO want to prevent a corporate group being divided so that parts can be sold? Some tax will be collected from the subsequent sale and the demerger sale facility. If the first step is not a 'demerger', the transaction will likely not proceed and no tax will be collected.

Paragraph 6 of the final Determination articulates this concern, as well as various parts of the Explanation (for example, paragraphs 46, 49, 56, 64).

Rights issues, capital raising and sale facilities (and other associated transactions under which the interest owners do not acquire something else under a planned transaction) are regularly implemented in conjunction with a demerger for genuine business reasons. There is no mischief in such transactions, yet the draft Determination would cause them to be denied demerger relief.

The draft Determination is a significant change in administrative practice. Any change should instead be dealt with by legislative amendment.

The Commissioner should apply Part IVA of the ITAA 1936 in appropriate circumstances, rather than creating difficulties for genuine demerger transactions without any mischief.

As discussed under Issues 1 and 3 of this Compendium, the position in the final Determination accords with the existing ATO approach.

The Ralph report did not make demerger relief conditional on a requirement that no other events (such as a capital raising or share sale) occur in conjunction with the demerger.

Chapter 19 of the Ralph report is labelled 'Capital Market Incentives' - its entire focus was directed at solving the problem that 'the current CGT arrangements are an impediment to corporate acquisition activity in Australia.'

The Ralph report emphasised that an important condition for provided CGT relief for a reorganisation involving a demerger was 'leaving members in the same economic position as they were immediately before the reorganisation'. In those circumstances where there is no change other than the triggering of a CGT liability, and therefore the CGT could be an impediment to implementing the reorganisation. The quoted reference to corporate acquisition activity is directed to scrip for scrip roll-over relief which was recommended in the same Chapter of the Ralph report.

If there is a 'demerger', the cost base apportionment rules in sections 125-85 and 125-90 apply automatically, even if a taxpayer does not choose roll-over or there is no CGT event.

If there is no 'demerger' because of the view in the draft Determination, taxpayers will be able to set the cost base of any shares received under a separation as they think best, regardless of the basic principle in section 125-80 that the first element of the cost base of the two shares should be no higher than the cost base of the original share.

There is nothing in section 6BA of the ITAA 1936, the direct value shift rules or the indirect value shift rules that would achieve the same outcome as under section 125-80.

However, the cost base of shares received under such a separation (which in legal form is usually an in specie distribution of capital or a dividend or some combination of each) is an ordinary corporate transaction and is subject to the cost base rules in Divisions 110 and 112.

The word 'restructuring' is largely devoid of meaning. It was chosen because it was amorphous and meant nothing. As long as the transaction results in 80% of the ownership being shifted (whether by transfer, cancellation or issue of shares), a transaction will be a 'demerger'.

The two words are synonyms - every demerger involves a restructuring, and every restructuring amounts to a demerger.

The draft Determination reads into 'restructuring' very ambitious meanings so that it serves as the means of prohibiting particular transactions.

As such the word is deliberately undefined for tax purposes so that it takes its ordinary meaning having regard to the context and purpose of Division 125. We do not consider, however, that it is devoid of meaning.

It is used 3 times in the early paragraphs of subsection 125-70(1): first there must be 'a restructuring of the demerger group', and then 'under the restructuring' two conditions are applied. Principles of statutory interpretation suggest that we should strive to give meaning to every word in a statute (Project Blue Sky Inc v Australian Broadcasting Authority [1998] HCA 28).