In Example 1 of the draft Determination, if a separate asset is not recognised (being a right under the contractual arrangement) then it is likely that the shares in B Co will have little or limited value at the time of entry. The vendor may have no or limited rights over the shares in B Co as they are subject to the rights of the purchaser. If the shares in B Co have no or limited value, then upon allocation of X Co's ACA, other assets may have greater ACA inappropriately allocated - on the basis that ACA is allocated to reset cost base assets proportionately based on market value.

Recognition of a separate asset would also mitigate the potential double tax issues in an exit-sell case.

Where such an asset is recognised as an asset of the joining entity in an entry-sell case, the group's ACA for that entity will be allocated to the asset according to its market value relative to that of other reset cost base assets.

The market value of an asset is a question of fact. However, the Tax Office does not consider the market value of the shares in B Co to be impeded in the circumstances described. The task of establishing the market value of an asset for consolidation purposes is to be approached according to the typical definition adopted by business valuers:

The price that would be negotiated in an open and unrestricted market between a knowledgeable, willing but not anxious buyer and a knowledgeable, willing but not anxious seller acting at arm's length.

Further guidance on determining the market value of an asset for tax cost setting purposes is available in Part C4-1 of the Consolidation Reference Manual.

The tax cost calculated for each reset cost base asset will be distorted in these cases because the head company will only receive the consideration agreed under the contract. For example, if the CGT asset's market value had increased between the contract time and the joining time, more ACA would be allocated to the CGT asset, away from other reset cost base assets.

A solution to this would be to allow the head company to adopt the market value of the asset at the time of entry into the contract as its market value for tax cost setting purposes.

In an entry-sell case, this will mean ACA is allocated more appropriately across the joining entity's assets.

However, accounting standards may not permit the recognition of a liability for cost setting purposes in circumstances where the value of the CGT asset that is the subject of the contract has increased in value as at the joining or leaving time. These situations will need to be considered on a case by case basis.

The Tax Office does not consider that the suggested solution is available under the law.

Assuming accounting principles recognise the timing of the asset's sale at the change of beneficial ownership:

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The entity selling the CGT asset is likely to recognise a current tax liability to reflect that a capital gain will arise at the contract time. In an exit-sell case, this liability might be reflected as an inter-company liability under a tax funding agreement (and a 'clear-exit' payment extinguishing the liability might be made prior to exit under a tax sharing agreement).

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The entity selling the asset would book a deferred tax asset to reflect that the current tax liability is a temporary difference that will reverse when the sale is recognised for accounting purposes.

To further assist taxpayers, worked examples setting out the income tax consequences for straddle contacts will be included in the Consolidation Reference Manual.