The following article originally appeared on the WTS Australia website in March 2016.
Roll-over relief was previously available for transfers of a CGT asset, or all the assets of a business, from a sole trader or partnership, to a wholly-owned company. The small business restructure roll-over supplements these existing roll-overs by also allowing small business owners to defer gains or losses that they would otherwise make from transfers of business assets from one entity to another as part of a genuine restructure.
It is intended that the roll-over will facilitate flexibility for owners of small business entities by allowing them to restructure their businesses via a change of legal structure. This is in recognition of the fact that the most appropriate structure for a small business may change over time and that restructuring may lead to benefits, both for the small business itself and for the economy as a whole.
The roll-over will apply to transfers of CGT assets, depreciating assets, trading stock or revenue assets on or after 1 July 2016.
Availability of the roll-over
The roll-over is available if an asset is transferred to one or more entities and;
- The transaction is, or is part of, a genuine restructure of an ongoing business; and
- Each party to the transfer is a small business entity (SBE) or alternatively an affiliate of, connected to, or a partner in, an SBE; and
- The transaction does not have the effect of materially changing the ultimate economic ownership of the asset; and
- The asset is a CGT asset and is, at the time of the transfer, an active asset of the relevant SBE; and
- The transferor and transferee(s) are Australian residents; and
- The transferor and transferee(s) choose to apply the roll-over.
Genuine restructure – safe harbour
The requirement that the transaction be part of a ‘genuine’ restructure is intended to deny the roll-over to artificial or inappropriately tax-driven schemes. Whether a restructure is ‘genuine’ is a question of fact, to be determined having regard to all of the facts and circumstances surrounding the restructure.
To provide certainty, a small business will be taken to satisfy the requirement of a genuine restructure where, for three years following the roll-over;
- There is no change in the ultimate economic ownership of any of the significant assets of the business (other than trading stock) that were transferred under the transaction;
- Those significant assets continue to be active assets; and
- There is no significant or material use of those significant assets for private purposes.
If a business does not meet the requirements of the safe harbour, it can still access the roll-over by satisfying the general principle that the transaction is, or is part of a genuine restructure.
Small business entity
An entity is a small business entity if it meets the requirements under Subdivision 328-C ITAA 1997. Broadly, this requires the entity to carry on a business and have a turnover, when combined with affiliates and connected entities, of less than $2m. Previously the bill also required the taxpayer to satisfy the maximum net asset value test. This requirement has been removed.
Ultimate economic ownership and discretionary trusts
Ultimate economic owners are individuals who, directly or indirectly, beneficially own an asset. Where a non-fixed (e.g. discretionary) trust is involved in the transfer, the requirement will be satisfied where the trust has made a family trust election (FTE) and, the ultimate economic owners of the asset, just before and just after the transfer, are members the trust’s family group. Before making an FTE consideration should be given to the fact that it effectively limits the beneficiaries eligible to receive distributions to those within the family group.
The meaning of active asset is given in Subdivision 152-A ITAA 1997. Broadly, an asset is active if it is used, or held ready for use, in the course of carrying on a business or if it is an intangible asset inherently connected with a business. Loans to shareholders of a company are not active assets and therefore the roll-over cannot be used to circumvent the operation of Division 7A.
Consequences of the roll-over
Consequences for the transferor
The small business restructure roll-over is intended to be tax-neutral with no direct income tax consequences to the transferor. For example, the transfer of an asset by a company to a shareholder will not trigger a capital gains tax liability nor an assessable dividend under section 44 or Division 7A ITAA 1936.
Consequences for the transferee
Broadly, the transferee is taken to have acquired each asset for an amount equal to the transferor’s roll-over cost just before the transfer. This is the transferor’s cost such that the transfer would result in no gain or loss for the transferor.
CGT assets are deemed to have been acquired for an amount equal to the cost base of the asset. Pre-CGT assets will retain their pre-CGT status in the hands of the transferee. However, the time period for eligibility for the CGT discount will recommence from the time of the transfer. For the purposes of determining eligibility for the small business 15-year exemption, the transferee will be taken as having acquired the asset when the transferor acquired it.
The transferee of trading stock will inherit the transferor’s cost and other attributes just before the transfer. Therefore, the asset’s roll-over cost will be an amount equal to the cost of the item for the transferor, 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.
The roll-over cost of revenue assets is the amount that would result in the transferor not making a profit or loss on the transfer.
Where deprecating assets are transferred the transferee can deduct the decline in value of the depreciating asset using the same method and effective life (or remaining effective life) as the transferor was using.
New membership interests issued as consideration for the transfer
Where membership interests (e.g. shares or units) are issued in consideration for the transfer of a roll-over asset or assets, the cost base of those new membership interests is worked out as follows:
|The sum of the roll-over costs, less any liabilities that the transferee undertakes to discharge in respect of those assets||
The number or membership interests
Membership interests affected by transfers
Where an asset transfer is made at other than market value, decreases and increases in the market value of any interests that are held in the transferor and transferee can result. An integrity concern can arise where the transfer of value from an entity could result in the creation of tax losses on later disposal of the membership interests. A ‘loss denial’ rule is intended to address these concerns. This rule states that a capital loss on any direct or indirect membership interest in the transferor or transferee that is made subsequent to the roll-over will be disregarded, except to the extent that the taxpayer can demonstrate that the loss is reasonably attributed to something other than the roll-over transaction.
The small business restructure roll-over is a generous addition to Australia’s income tax laws. It presents opportunities for small business owners to tax-effectively restructure their affairs.
However, taxpayers should bear in mind the limitations of the roll-over. Specifically, the roll-over;
- Will not affect a tax liability arising under another Commonwealth tax (for example fringe benefits tax or goods and services tax) or a liability for stamp duty under State legislation
- Does not prevent the general anti-avoidance provisions of Part IVA from applying
- Does not extend to exempt entities or a complying superannuation entity.
- Does not extend non-active assets such as investment assets or Division 7A loans.
Small business owners should contact us to discuss the costs and benefits of a restructure in light of these new amendments.