House of Representatives

Explanatory Memorandum

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

Chapter 5 - Capital gains tax event K6 and demergers

Outline of chapter

5.1 Schedule 5 to this bill amends the Income Tax Assessment Act 1997 (the ITAA 1997) to ensure that capital gains tax (CGT) event K6 is not inadvertently triggered by the disposal of new interests in demerged entities.

Context of amendments

5.2 Division 125 of the ITAA 1997 provides CGT relief for the demerger of corporate groups. Under a demerger, members of the head entity of a corporate group (a 'demerger group') acquire new direct ownership interests in one or more subsidiary members of the group (the 'demerged entities').

5.3 The CGT relief for demergers ensures that the pre-CGT status of membership interests is preserved. That is, the pre-CGT status of any original membership interests in the head entity carries over to new membership interests in the demerged entity.

5.4 CGT event K6 can give rise to a capital gain where a pre-CGT interest shields post-CGT assets owned by an entity. However, CGT event K6 does not apply to entities that have been continuously listed on a stock exchange for at least five years.

5.5 Membership interests in a demerged entity are usually listed on a stock exchange only after the demerger. Those membership interests do not qualify for the exclusion from CGT event K6 until the demerged entity has been listed on a stock exchange for at least five years. That is, even when the original membership interests in the head entity have been continuously listed on a stock exchange for at least five years, CGT event K6 may apply. As a result, the pre-CGT status of membership interests in the demerged entity is not preserved.

Summary of new law

5.6 The exclusion from CGT event K6 will apply to membership interests in a demerged entity where the combined period that the head entity and the demerged entity have been listed on a stock exchange is five years or more.

Comparison of key features of new law and current law

Detailed explanation of new law

5.7 CGT event K6 can give rise to a capital gain where a pre-CGT interest shields post-CGT property owned by an entity. However, CGT event K6 does not apply to entities that have been continuously listed on a stock exchange for at least five years.

5.8 This exclusion from CGT event K6 will apply to membership interests in a demerged entity where the combined period that the head entity and the demerged entity have been listed on a stock exchange is at least five years.

5.9 The modifications to the exclusion will apply to a demerged entity that is a company or a unit trust where:

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the demerged entity has not been continuously listed for quotation on a stock exchange for at least five years [Schedule 5, item 1, paragraphs 104-230(9A)(b) and 104-230(9B)(b)] ;

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the existing exclusion will apply if the demerged entity has been continuously listed for quotation on a stock exchange for at least five years; and

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five years have not elapsed since the demerger [Schedule 5, item 1, paragraphs 104-230(9A)(c) and 104-230(9B)(c)].

5.10 If these conditions are satisfied, the demerged entity is deemed, for the purpose of subsection 104-230(9), to have been listed for quotation on a stock exchange at all times that membership interests in the head entity of the demerger group were so listed. [Schedule 5, item 1, subsections 104-230(9A) and 104-230(9B)]

5.11 The amendments ensure that the exception from CGT event K6 will apply to membership interests in a demerged entity if, prior to the demerger, the head entity has been continuously listed for quotation on a stock exchange for at least five years.

5.12 If the head entity has been continuously listed for quotation on a stock exchange for less than five years, the exception from CGT event K6 does not apply to membership interests in the head entity at the time of the demerger. In these circumstances the demerged entity must be listed for quotation on a stock exchange for the remainder of the five years before the exception applies.

Application and transitional provisions

5.13 The amendments apply to shares or units acquired under a demerger on or after 1 July 2002. This is consistent with the application date of the demerger provisions in Division 125 of the ITAA 1997. [Schedule 5, item 2]