House of Representatives

Explanatory Memorandum

(Circulated by the authority of the Treasurer, the Hon John Dawkins, M.P.)

Exemption for Interest in a Foreign General Insurance Company

Overview

General insurance is not an eligible activity for the purpose of the active business exemption (ABE).

However, an interest in shares in a publicly listed general insurance company may be exempted from FIF taxation through a specific exemption provided in Division 6.

Explanation

Division 6 will exempt an Australian resident from FIF taxation on shares in a foreign company which conducts general insurance business.

General insurance business

The phrase' general insurance business' has a wide meaning. It is defined by section 470 to mean any insurance business other than life insurance business as defined by section 4 of the Life Insurance Act 1945 .

Therefore, general insurance business does not include:

ife business,

ife insurance business under ordinary and industrial policies,

uperannuation business;

ontinuous disability insurance business; and

inking fund business.

Please see Chapter 6 for a general discussion of 'superannuation business' and 'sinking fund business'.

Approved stock exchange

The shares in a foreign company in which a taxpayer holds an interest must be of a class listed on any stock market of a stock exchange approved in Schedule 3. There are 113 approved stock exchanges spread throughout 48 countries.

Taxpayer's share - quoted on an approved stock exchange

Where a taxpayer holds shares in a foreign company that is quoted on the stock market of an approved stock exchange and other shares in the same company which are either:

ot quoted on the stock market of any stock exchange, or

uoted on a stock market of a non-approved stock exchange,

then, only that part of the interest in the foreign company comprising the taxpayer's shares that are quoted on the stock market of an approved stock exchange will be exempt from the FIF measures, provided the other requirements are satisfied. [Section 509]

Trading requirement

The shares of the foreign company must be 'widely held and actively traded on a regular basis' on a stock market of an approved stock exchange during the period in which the exemption applies to the relevant taxpayer. [Paragraph 509(b)(i)]

The term 'widely held' does not have the same meaning as the term 'widely distributed' used in section 327A of the Principal Act. It denotes a much wider spread of shareholding than the term 'widely distributed' which only requires that 20 per cent of the share holders must not hold more than 75 per cent of the share capital.

The requirement that the shares in the foreign company are 'widely held' by the public at large will ensure that the exemption does not apply to closely held or privately owned companies.

The term 'widely held' must also be read in connection with the requirement that the shares be 'actively traded on a regular basis'.

The phrase 'actively traded on a regular basis' is viewed in the context of the trading pattern and volume of the particular stock market. In times of recession the degree of trade required to satisfy this criteria will be considerably less than in a bullish market.

To satisfy this requirement it will be necessary that for the majority of the time in which the exemption operates in respect of a particular taxpayer there was an active market in the shares of the foreign company on any stock market of an approved stock exchange on which the shares in the foreign company was listed.

Authorised under the law of its country of residence to carry on general insurance business

The general insurance company must be 'authorised under the law of its place of residence to carry on' general insurance business. This requirement will ensure that the company meets regulatory requirements for general insurance businesses in its country of residence. [Subparagraph 509(b)(ii)]

Principally engaged in the active carrying on of general insurance business

The additional requirement imposed by subparagraph 509(b)(ii) that the general insurance company is principally engaged in the active carrying on of general insurance business during the period in which the exemption applies to the relevant taxpayer requires that:

he foreign company's main activity is general insurance business; and

he foreign company is not only nominally conducting general insurance business.

Test time

An Australian resident investor must look at the end of the notional accounting period of the foreign company that ends during the taxpayer's year of income to determine if the shares in the general insurance company are listed on an approved stock exchange.

The definition of a notional accounting period is set out in section 486. Generally, it is the year of income of the taxpayer unless the taxpayer elects for the accounting period of the company.

However, the following requirements must be satisfied throughout the period in which the taxpayer holds shares in the foreign company:

he foreign company must be principally engaged in the active carrying on of the general insurance business; and

he shares in the foreign company must be widely held and actively traded on a regular basis on a stock market of an approved stock exchange.