CGT roll-over for small business restructures on the way
Thursday 28 January 2016
The Government has released exposure draft legislation that proposes to provide roll-over relief for small businesses that change their legal structure. The proposed measures were announced in the 2015–2016 Federal Budget, and will apply to the transfers of assets occurring on or after 1 July 2016.
The proposed measures will insert new Subdiv 328-G into the ITAA 1997 to provide an optional roll-over where a small business entity transfers a business asset to another small business entity without changing the ultimate economic ownership of the asset. The roll-over can also apply to affiliates or entities connected with the small business entity for assets they hold that are used by the small business entity.
The roll-over will apply to gains and losses arising from the transfer of CGT assets, depreciating assets, trading stock or revenue assets between entities as part of a small business restructure. Discretionary trusts may be able to access the roll-over if the assets continue to be held for the benefit of the same family group.
Note that the proposed new roll-over is in addition to roll-overs currently available where a sole trader or partner in a partnership transfers assets to, or creates assets in, a company in the course of a business restructure.
Eligibility for the roll-over
The two types of entities that may be eligible for the roll-over are:
- small business entities in the income year in which the transfer takes place that satisfy the $6 million maximum net asset value (MNAV) test in s 152-10 or the $2 million “small business entity” turnover test in Subdiv 328-C. In this case, the entity may access the roll-over for CGT assets that are assets of the business carried on by the entity; and
- an affiliate of, or connected with, a small business entity for the income year that satisfies the MNAV test at the time of the transfer. These entities may access the roll-over in relation to CGT assets that satisfy requirements relating to passively held assets that are used by the small business entity in their business.
Effect of the roll-over
Under the proposed measures, the tax cost/s of the transferred asset or assets is rolled over from the entity that transferred the asset or assets (the transferor) to the entity to which the asset or assets are transferred (the transferee). This will be achieved by providing that:
- the transferor is taken to have received an amount which would result in them making neither a gain or loss under the transfer; and
- the transferee is taken to have acquired each asset for the amount that equals the transferor’s tax cost for the asset just before the transfer.
However, different costs apply to an asset depending on the asset, as follows:
- for CGT assets, the relevant cost for income tax purposes is the cost base of the asset, while pre-CGT assets will retain their pre-CGT status in the hands of the transferee. In relation to discount capital gains, a transferee receiving an asset under the roll-over is treated as having acquired the CGT asset either when the entity that owned the CGT asset before the roll-over acquired it or, if the asset has been involved in an unbroken series of roll-overs, when the entity that owned it before the first roll-over in the series acquired it;
- for trading stock, the roll-over cost for income tax purposes is the cost of the item for the transferor at the time of the transfer or, if the transferor held the item as trading stock at the start of the income year, the value of the item for the transferor at that time. In addition, the transferee will inherit the same cost attributes of the asset as the transferor just before the transfer. This is to ensure that any deductions claimed by the transferor up to the date of the transfer are taken into account;
- for revenue assets – to the extent that an asset is being assessed as a revenue asset – the roll-over cost is the amount that would result in the transferor not making a profit or loss on the transfer and the transferee will inherit the same cost attributes as the transferor just before the transfer; and
- for depreciating assets, the roll-over relief will be available for depreciating assets under s 40-340 to prevent an amount being included in or deducted from the transferor’s assessable income because of a balancing adjustment event. Instead, the transferee can deduct the decline in value of the depreciating asset of the depreciating asset using the same method and effective life (or remaining effective life as relevant) as the transferor was using.
Requirements for roll-over
The roll-over will be available where:
- the transferor transfers a CGT asset or all of its business assets that are CGT assets, depreciating assets, trading stock and revenue assets;
- the transferor chooses to apply the roll-over;
- the transaction is a restructure that has the effect of changing the type of any or all of the entities and/or the number of entities through which all or part of the business is operated;
- no consideration is provided for the transfer (as the ultimate economic ownership of any entity to which assets are transferred under the roll-over will not change);
- the transferor, transferee and the ultimate owners of the assets transferred are Australian residents;
- the transfer does not have the effect of changing the ultimate economic ownership of the asset or assets transferred; and
- the transferee is not an exempt entity or a complying superannuation entity, or none of the transferees are exempt entities or complying superannuation entities.
The roll-over also applies where a small business transfers assets as part of a restructure which either:
- changes the type of any or all of the entities through which all or part of the business is operated; or
- changes the number of the entities through which all or part of the business is operated.
Note also that each of the transferor, the transferee and the ultimate economic owners of the assets must be a resident of Australia in terms of the relevant residency test that applies to them (eg in relation to companies or trusts).
In relation to the requirement that the transaction “must not change the ultimate economic ownership of the transferred asset or assets”, the ultimate economic owners of an asset are the individuals who, directly or indirectly, beneficially own an asset.
If there is more than one such individual, those individuals’ share of that ultimate economic ownership is unchanged, maintaining proportionate ownership in the asset. Where the transferor (or transferee) is an individual – such as a sole trader – the transferor (or transferee) will also be the ultimate economic owner of the asset transferred.
In the case of discretionary trusts, a transaction will be taken as not having the effect of changing the ultimate economic ownership of assets where:
- immediately before or after the transaction took effect, the asset was included in the property of a discretionary trust (a “non-fixed trust”) that was a family trust; and
- every individual who, just before or just after the transfer took effect, had ultimate economic ownership of the asset was a member of the family group of that family trust.
In this regard, the draft Explanatory Memorandum prefaces this rule by stating: “... discretionary trusts that have made a family trust election are administered for the benefit of a specified family group. For the purposes of the roll-over members of this group will be the ultimate economic owners of the business assets.”
Consequences for membership interests
Under the proposed roll-over, the cost base of membership interests in the transferor (eg shares in a company, units in a unit trust), if any, is reduced to the extent of any “transfer of value” from the transferor (but not below zero).
This ensures that an owner of membership interests in a transferor entity cannot realise an artificial loss on disposal of those interests, following the reduction of value of the entity from the assets transferred.
For these purposes, the transfer of value is worked out by multiplying the “asset value” by the “membership interest percentage” for each asset transferred. The asset value is the market value of the asset transferred at the time of the transfer. The membership interest percentage is the proportion of the owner’s membership interests in the transferor, expressed as a percentage of all of the membership interests in the transferor. This ensures that the cost base of each owner’s membership interests is reduced in proportion to their membership interests in the transferor.
But note that this rule has no operation where no membership interests in the transferor exist, including where the transferor is a sole trader.
Date of effect
The proposed amendments will apply to transfers of assets occurring on or after 1 July 2016.Back