F i s c a l
w a t c h
Welcome to the latest edition of Piper Alderman’s Fiscal Watch,
providing accessible and informative summaries on tax related
matters.
December 2012
Non-portfolio dividend – Trust as the head
company of consolidated group
Under the tax consolidation provisions,
a trust (as distinct from the trustee)
which is a corporate unit trust or a public
trading trust can be a head company of a
consolidated group. Where such a trust
makes the election to be a head company
of a consolidated group its taxable income
is worked out under the tax law as if it
were a company.
There are also provisions in the tax laws
that treat non-portfolio dividends as
not assessable income and not exempt
income if they are paid to an Australian
resident company that does not receive
the dividend in the capacity as trustee
and the company paying the dividend is
not a Part X Australian resident. A nonportfolio dividend is a dividend paid by a
company in which the recipient company
has a voting power of at least 10%.
This means such a dividend will not be
subject to income tax in the hands of the
Australian resident company.
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In a recent case the Commissioner
attempted to argue that although a
trust which was a head company of a
consolidated group had its taxable income
worked out under the tax laws as if it were
a company, nevertheless a non-portfolio
dividend received from a foreign company
was not received by the trust as a company
but in its capacity as a trustee. Thus in the
Commissioner’s view, in relation to the
taxation of income, for one purpose the
trust was a company and therefore derived
the non-portfolio dividend for its own
benefit and so was assessable upon the
dividend income but for another purpose,
the trust did not receive the non-portfolio
dividend for its own benefit but rather as
trustee. The two positions are illogical.
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The Full Court of the Federal Court
agreed saying such a view was “both
without foundation and non sequitur”.
The Full Court said that it was precisely
because the trust was a company for
income tax purposes, that the trust
derived the non-portfolio dividend for its
own benefit, and therefore but for the
concession, would have been assessable
upon, that dividend income. It therefore
necessarily followed that the non-portfolio
dividend concession applied
to that dividend so that it
was both not assessable
income and not
exempt income.
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Off market share buy-back – Purchase price
dividend or capital?
Broadly speaking, where a company
makes an off-market share buy-back,
for income tax purposes, the difference
between the purchase price and the part
(if any) of the purchase price which is
debited against amounts standing to the
credit of the company’s share capital
account is taken to be a dividend paid by
the company to the shareholder on the
day the buy-back occurs out of profits
derived by the company. This dividend
will be subject to franking credit rules. The
balance of the purchase price is taken not
to be a dividend. To the extent that the
purchase price is not a dividend it is taken
into account in calculating any capital gain
or loss arising from the share buy-back.
The High Court recently had to consider
what constitutes a company’s share
capital account for the purposes of these
taxation rules.
It should be noted that the provisions
of the income tax laws have changed
since the factual circumstances involved
occurred. The off market share buy-back
occurred in the context of two members
of a corporate group and therefore
under the current laws relating to tax
consolidation there would have been
no taxation event if the two companies
were part of a tax consolidated group.
Also dividends paid to a company are no
longer fully rebatable as they were at the
relevant time of this case.
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Nevertheless even though the definition of
“share capital account” has moved from the
1936 Act to the 1997 Act, the case is still
relevant as to what this expression means
in the context of an off market share buyback in factual circumstances not involving
an off market share buy-back within a tax
consolidated group.
In this case a subsidiary company bought
back shares held by its holding company.
At the time dividends paid to a company
were fully rebatable and therefore not
taxable. The parent company claimed that
the purchase price was a dividend and
therefore was fully rebatable meaning that
the purchase price was not subject to any
income tax.
In an effort to avoid the purchase price being
received on capital account and therefore
any gain being taxable under the CGT
provisions, rather than debiting the purchase
price from its “Shareholders’ Equity
Account”, a new account was created in the
books of the subsidiary labelled “Share BuyBack Reserve Account” and the purchase
price was debited against that account.
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A “share capital account” is defined as “an
account that a company keeps of its share
capital” or “any other account (whether or
not called a share capital account)” that
satisfies two conditions one relating to
the date on which it was created and
the other being that “the first amount
credited to the account was an amount of
share capital”. However, there is also a
provision that if a company has more than
one account that satisfies either of these
descriptions then it is taken to be a single
account.
The taxpayer argued that the “share
capital account” of its subsidiary was
the “Shareholders’ Equity Account”
because the “Share Buy-Back Reserve
Account” did not fall within either of
these alternative definitions. The taxpayer
further argued that the provision deeming
more than one account to be a single
account did no more than treat each of
those accounts as a single account thereby
facilitating transfers between them. The
taxpayer had been successful before the
Full Court of the Federal Court.
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However, the High Court took a
substance over form approach. It held
that the financial position of the subsidiary
in relation to its share capital as at the end
of the relevant income year could only
be understood by subtracting the debit
balance recorded in its “Share Buy-Back
Reserve Account” for the purchase price
of the buy-back from the credit balance
in its “Shareholders Equity Account”. This
was evidenced by the fact that the audited
financial statements for the company
showed a reduction on the contributed
capital of the company. Therefore the
Court held that the “Share Buy-Back
Reserve Account” was “an account that
a company keeps of its share capital”.
The fact that there were two separate
accounts was irrelevant because of the
provision that where there is more than
one account which met the description of
a “share capital account”, they were to be
treated as a single account.
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Therefore both of the “Share Buy-Back
Reserve Account” and the “Shareholders’
Equity Account” comprised the “share
capital account” out of which the purchase
price had been debited and therefore the
capital gain made by the taxpayer on the
disposal of its shares in its subsidiary in the
buy-back was subject to taxation under the
CGT rules.
In substance what had occurred was that the
purchase price had been paid for out of the
contributed capital. Therefore the result was
the correct outcome. The purchase price
should have been treated as received on
capital account and any gain or loss subject
to income tax under the CGT rules rather
than being a dividend which at the time was
fully rebatable.
Therefore the tax effect of the off
market share buy-back rules cannot be
circumvented by creating and debiting
new accounts in the books of a company
however described. If the purchase
price is paid out of contributed capital
then the account to which the purchase
price is debited most likely will meet the
description of “share capital account” in
the Tax Acts.
For further information on any of
the issues in Fiscal Watch, contact:
Alan Jessup
Partner
+61 2 9253 9911
ajessup@piperalderman.com.au
Aaron Chan
Senior Associate
+61 2 9253 9988
achan@piperalderman.com.au
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December 2012
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Important Disclaimer: The material contained in this publication is comment of a general nature only and is not and nor is it intended to be advice on any specific professional matter. In that the effectiveness
or accuracy of any professional advice depends upon the particular circumstances of each case, neither the firm nor any individual author accepts any responsibility whatsoever for any acts or omissions
resulting from reliance upon the content of any articles. Before acting on the basis of any material contained in this publication, we recommend that you consult your professional adviser. PB004 12/12