The Board of Taxation (BoT) recently released a consultation paper as part of its review of the capital gains tax (CGT) restructure rollover rules. The consultation paper sets out the BoT’s first-stage proposal for rationalising and replacing seven current CGT rollovers that deal with common business restructure transactions, including mergers (i.e. takeovers) and demergers with a single principles-based general restructure rollover. The proposed new restructure rollover is designed to be simple, comprehensive and aligned with commercial practices while preserving the important integrity function of CGT. Importantly, it should be noted that the proposed model business restructure rollover has not been endorsed by the Federal Government. It has been written for the sole purpose of enhancing Stakeholders understanding of the preliminary model to facilitate consultation before sending a recommendation to the Federal Government.
Review of current rollover rules
The taxation law currently allows certain CGT events to occur without crystallising liabilities to tax in circumstances where it is considered appropriate for the CGT liability to be deferred until a later time (i.e. the CGT liability is ‘rolled over’). However, in consultations with stakeholders, the BoT found these rollovers were relatively unstructured, transaction-based, prescriptive in application and over time the rollover provisions catering for these circumstances have multiplied to the point where navigating the law is difficult.
In the first instance, the proposed general business restructure rollover would replace the following existing CGT rollovers:
- Subdivision 122‐A - Disposal or Creation of assets by an individual or trustee to a wholly-owned company
- Subdivision 122‐B - Disposal or Creation of assets by partners to a wholly-owned company
- Subdivision 124‐N – Disposal of assets by a trust to a company
- Subdivision 126‐B – asset transfers between companies in the same wholly-owned group
- Division 125 – Demerger relief
- Division 615 – Rollovers for business restructures
- Subdivision 124‐M – Scrip for scrip rollover
The key objectives of the consultation paper are:
- To present a framework of principles for CGT rollovers; and
- To present a general rollover for business restructuring, intended to replace the existing transaction-based restructure rollovers with a single, principles-based rollover.
Principles for general restructure rollovers
As part of the design process, the BoT has developed six key policy principles that would underpin the general restructure rollover for business reorganisations:
1. CGT should generally apply to tax the gain in assets when they are disposed of;
2. Rollover should be available to relieve inefficient asset “lock-in” caused by the CGT cost of replacing business assets where there is continuity of economic ownership;
3. Any decision to provide rollover relief should be empirically tested;
4. Rollover should not facilitate the transfer of assets to a tax-advantaged entity;
5. Rollover should defer, not eliminate, a tax liability;
6. Asset transfers between consolidatable groups that have not consolidated should not receive rollover relief, as per current rules (BDO recommends this policy be revisited, see BDO comments below).
Design of general business restructure rollover
The BoT defined three principles for the design of a new general business restructure rollover:
- Taxpayers should have the freedom to choose how they restructure their businesses based on commercial reasons.
- The general rollover should have the same effect as the original rollovers it replaces.
- The general rollover should function as a single coherent rollover and not multiple distinct rollovers located in a single division of the tax law.
General business restructure rollover - Core steps
The preliminary model for general restructure rollovers consists of three core steps:
Step 1: Identify the ‘restructure’
The first step requires identifying the transactions or steps that comprise the relevant ‘business restructure’.
Under the model, businesses would be allowed the flexibility to select which CGT events occurring under the ‘restructure’ to receive roll‐over relief. Essentially, businesses would be able to exclude particular CGT events (and transactions) from the ‘restructure’ in determining which CGT events qualify for general roll‐over relief. For example, it may be possible to exclude specific transactions that may crystallise a capital loss and/or those transactions that would not qualify for rollover relief i.e. where a CGT event would cause the eligible restructure to fail the eligibility requirements. These events (and transactions) may be treated for the purposes of the rollover as not being part of the restructure. This means that the CGT event would not be taken into account in assessing any rollover conditions.
To provide businesses with a greater level of certainty around which CGT events may form part of the eligible restructure, the BoT is considering limiting CGT events occurring under the restructure to those occurring within 12 months from the first CGT event eligible for the general rollover.
The 12-month rule would start at the time the first CGT event that qualifies for general rollover relief under the restructure scheme, is triggered. If adopted, the rule could also allow for exceptions for restructures that extend beyond 12 months where there are regulatory requirements, legal disputes or other similar extenuating circumstances which prevent the restructure occurring within 12 months.
Step 2: Eligibility rules
The general restructure rollover incorporates and replaces two categories of rollovers:
- The underlying assets-for-scrip (i.e. where rollovers apply when business assets are transferred to a company and the underlying ownership of the assets are maintained); and
- Scrip-for-scrip (i.e. where rollovers apply when scrip is exchanged for scrip resulting in the new legal owner(s) holding at least 80% of an entity).
The maintenance of ownership is a core eligibility condition. This means general rollover relief would be provided when the underlying ownership of original assets before the eligible restructure matches the underlying ownership of assets just after the eligible restructure. Where ownership is maintained at these two ‘test points’ the maintenance of ownership requirements would be satisfied. However, in working out whether the underlying ownership is maintained, certain types of ownership interests may be disregarded e.g. interests under employee share schemes among others.
To ensure the rollover only defers and does not eliminate a CGT liability, it is also proposed to exclude eligibility where the final recipient (i.e. the owner just after the restructure) is a tax-exempt entity or foreign resident unless the foreign resident’s replacement asset is ‘taxable Australian property’ immediately after the restructure.
A number of additional integrity conditions could also be added to safeguard the integrity of the rollover. Further, where a CGT event qualifies for both the general business rollover and another specific CGT rollover, the BoT considers that as a broad rule, the specific CGT rollover should override the general rollover. This means relief would not be available under the general rollover where a specific rollover provision applies to a transaction or arrangement, but its conditions are not satisfied.
Step 3: Consequences of rollover
The proposed consequences of the general rollover are as follows:
1. Capital gains and losses – Where the eligibility conditions for rollover are satisfied, it is proposed that the gains and losses arising from every CGT event elected to form part of the eligible restructure would be disregarded.
2. Acquisition date – It is proposed that for the purposes of qualifying for the CGT discount, an asset acquired under the general business restructure rollover could be deemed to have been acquired when the original asset was acquired before the rollover.
3. Cost base – The current cost base rules which operate under the existing law (i.e. to ensure a rollover defers but not exempts a CGT liability) by way of a transfer of the cost from the original interest holder to the acquirer, would continue to operate in the Board’s proposed model.
Under the existing scrip-for-scrip rules where there are no significant stakeholders or common stakeholder or the arrangement is not a top-hatting restructure, the cost base of the equity interest acquired by the acquiring entity is the market value of the original interest it acquires under the rollover. However, under the proposed general restructure rollover, the BoT is considering preserving the cost base ‘push up’ rule, currently found in Division 615 and the restructure provision in section 124-784B of the scrip for scrip rollover as the uniform rule (i.e. a cost base constructed by reference to cost bases of the underlying trading assets of the target entity). It could be argued that this is not the appropriate outcome, as the acquiring entity would be issuing replacement interests to the original entity that would have the same or similar market value (see BDO comments below).
BDO prepared a submission to the BoT in which we generally agree with the benefits of a comprehensive, general business restructure rollover as articulated in the consultation paper including providing better clarity and certainty around business restructures, reducing complexity and providing consistency in applying rollover relief to commercial restructuring transactions. However, if the general restructure rollover is to be implemented, it is recommended careful consideration is required to determine which rollovers should be combined and replaced and where simplification of rollovers is actually needed. Particularly with respect to certain more complex cases where a general business restructure rollover may have significant implications for both public and private business restructures.
In the BDO Submission, we identified the following issues:
- The proposed general business restructure rollover only deals with ownership interests and business assets and does not apply to rollovers of non-business assets which are available under the current law. For example, the relevant provisions under Subdivision 122-A and 122-B allow rollovers of non-business assets such as where an individual, trust or a partnership transfers land and buildings, that are not used in a business, to a company. However, under the business restructure rollover, this transfer of land and buildings to a company would not be eligible for rollover relief.
- The general restructure rollover could be expanded to incorporate the functions of the small business CGT rollover under Subdivision 152-E of the ITAA 1997. The rationale behind this being that the way taxpayers have been using the small business rollover under Subdivision 152-E is achieving more than its intended purpose. The general restructure rollover would seek to correct this outcome.
- Consideration could also be given to whether the small business restructure rollovers in Subdivision 328-G could be incorporated into the general restructure rollover. Accordingly, we note the BoT has already proposed a post-implementation review of the small business restructure rollovers.
- In relation to integrity measures that are needed regarding the specific CGT events to be excluded from the ‘eligible restructure’, BDO considers that while these integrity issues could be dealt with under existing general anti-avoidance provisions, BDO recommends that it would be preferable to have specific integrity rules within the general restructure rollover provisions. The reliance on general anti-avoidance provisions can create too much uncertainty of the tax outcome of the transactions.
- BDO agrees with limiting the eligible restructure period for general business restructures to 12 months, including allowing “exceptions for a restructure to extend beyond 12 months where there are regulatory requirements, legal disputes or other similar extenuating circumstances which prevent the restructure occurring within 12 months”. BDO also recommends that any proposed legislation and accompanying Explanatory Memorandum introducing this rule should provide that the ATO be required to take a reasonable approach when dealing with requests for an extension of the 12 month rule.
- BDO recommends that any modifications to the business restructure rollover rules involving publicly listed groups, to further streamline the eligibility conditions, could also be extended to all situations where the relevant entities are ‘dealing at arm’s length’, not just listed groups.
- BDO believes that in a scrip-for scrip scenario, the adoption of a single ‘push-up’ cost base rule for the acquiring entity (i.e. that is based on the cost base of the underlying CGT assets of the target in place of the market value of the original interest it acquired under the rollover) could create a commercial disincentive for the acquiring entity to enter into the scrip-for-scrip arrangement. It is recommended that the push up of the acquiring entity’s cost base of the original interests only be required where the parties to the arrangement are not dealing at arm’s length. All other situations should receive a market value cost base.
BDO recommends the policy surrounding the restriction of rollover relief for arrangements involving consolidatable, but non-consolidated groups should be revised and allowed as part of the business restructure rollover. The current policy was brought in to encourage consolidatable groups to consolidate but there does not appear to be any continuing reason for not allowing rollovers for transfers of assets between member entities of such groups. The current policy disadvantages these groups substantially, compared to consolidate groups, as there may be many valid reasons why some wholly-owned corporate groups may choose not to consolidate.