The Government has announced a package of improvements to the income tax law affecting consolidated groups and multiple entry consolidated groups (MEC groups). The improvements will ensure the law operates effectively and will reduce compliance costs for consolidated groups and MEC groups.
Under the consolidation regime, which was introduced from 1 July 2002, wholly-owned groups are taxed as a single entity. Over time, taxpayers and the Australian Taxation Office have identified certain aspects of the consolidation regime that are producing inequitable outcomes or imposing excessive compliance costs.
The package clarifies the application of the income tax law for consolidated groups and MEC groups in two ways.
First, it modifies the consolidation tax cost setting rules, which set the costs of a joining entity’s assets for income tax purposes, to ensure that they operate effectively.
Second, it clarifies interactions between the consolidation provisions and other parts of the income tax law, including interactions with the capital gains tax regime and the uniform capital allowances system.
Further details of the measures are attached.
Some of the changes apply from the commencement of the consolidation regime because they clarify the operation of the law and ensure that it operates effectively. Other changes apply prospectively.
The Government will consult with stakeholders on the development of legislation to implement the package.
CANBERRA
8 May 2007
MODIFICATIONS TO THE TAX COST SETTING RULES
Use of accounting principles
The tax cost setting rules will be modified to clarify that, where an element of the allocable cost amount is worked out using accounting standards or concepts, the entity must use the accounting principles and authoritative pronouncements it used to prepare its financial statements. If financial statements were not prepared, the entity must prepare a notional statement using accounting principles and authoritative pronouncements that are consistent with those used by the accounting group.
These changes will apply from 1 July 2002.
Valuation of liabilities
The treatment of liabilities under the tax cost setting rules will be modified to:
- clarify that, if liabilities are reduced by future income tax deductions, the amount of the reduction can not be added back under another provision;
- clarify that the liabilities included in the allocable cost amount when an entity leaves a consolidated group or MEC group are the liabilities held by the leaving entity just before the leaving time; and
- ensure that liabilities owed to a leaving entity by other members of the group that are added to the allocable cost amount are limited to accounting liabilities.
These changes will apply from 1 July 2002.
In addition, from 1 July 2005, the amount that is added to the allocable cost amount in relation to certain disregarded capital gains tax (CGT) events when determining liabilities on exit will be nil. This will ensure that these amounts will appropriately be recognised under the blackhole expenditure provisions.
Liabilities of general insurance companies
The value of liabilities used under the tax cost setting rules by general insurance companies that join or leave a consolidated group or MEC group will be modified to:
- reduce the value of liabilities for unearned premiums by the accounting liability for deferred acquisition costs and deferred reinsurance premiums; and
- reduce the value of liabilities for outstanding claims by the accounting liability for recoveries receivable.
In addition, the tax cost setting amount of deferred acquisition costs, deferred reinsurance premiums and recoveries receivable of the joining or leaving entity will be nil.
These changes will apply from 1 July 2002.
Treatment of inherited deductions
The tax cost settings rules will be modified to ensure that inherited deductions relating to expenditure on certain assets acquired on, or constructed before, 13 May 1997 will not decrease the allocable cost amount of a joining entity or increase the allocable cost amount of a leaving entity.
In addition, a change will be made to clarify that inherited deductions include any deduction of the joining entity that the head company becomes entitled to under the single entity rule and/or under the entry history rule.
These changes will apply from 1 July 2002.
Phasing out over-depreciation deductions
The over-depreciation adjustment to the allocable cost amount will be modified so that a joining entity will need to look only at the five years of dividend history immediately prior to the joining time to determine whether the adjustment should apply. This change will apply to entities that join a consolidated group or MEC group after 8 May 2007.
The effect of this change is to phase out the over-depreciation adjustment so it will cease to apply from 1 July 2009.
This change will reduce compliance costs as joining entities will no longer need to trace all pre-joining time distributions to determine whether the distribution was paid out to a shareholder that is not a company which qualified for the inter-corporate dividend rebate.
UNITS HELD IN CASH MANAGEMENT TRUSTS
Units held by a joining entity in a cash management trust that have a market value equal to their face value will be treated as retained cost base assets, with effect from 1 July 2002. The tax cost setting amount will be the face value of the units just before the joining time.
This change will avoid unnecessary compliance costs as units in cash management trusts currently have their cost base reset on entry and daily cash withdrawals trigger capital gains and losses.
DOUBTFUL DEBTS
A capital gain arises under CGT event L3 if, broadly, an entity joins a consolidated group or MEC group and the sum of the tax cost setting amounts for its retained cost base assets exceeds its allocable cost amount. A modification will be made so that any capital gain arising under CGT event L3 will be reduced by the difference between the market value and the face value of doubtful debts held at the joining time, but not beyond nil. The tax cost setting amount of the head company’s outstanding doubtful debts will be reduced by an equivalent amount.
The change will ensure that capital gains do not arise when an entity joins a consolidated group or MEC group solely because the joining entity has doubtful debts at the joining time.
This change will apply to entities that join a consolidated group or MEC group after 8 May 2007.
OPERATION OF THE CGT RULES WHEN AN ENTITY JOINS OR LEAVES A CONSOLIDATED GROUP OR MEC GROUP
The CGT rules will be modified so that, when an entity enters into a contract to sell a CGT asset and that contract settles after the entity joins or leaves a consolidated group or MEC group, a capital gain or loss is made at the time of settlement. This change will not apply to intra-group transactions.
Similar changes will be made to CGT events that arise on the realisation or creation of a CGT asset under a contract that straddles the time an entity joins or leaves a consolidated group or MEC group.
The changes will clarify the asset an entity brings into, or takes out of, a consolidated group or MEC group to give effect to the operation of the CGT rules where the entity is a party to a contract that straddles the time it joins or leaves the group.
The CGT rules will continue to have their normal operation for the entity acquiring the CGT asset under the contract.
These changes will apply to CGT events that happen under contracts entered into after 8 May 2007.
REMOVAL OF CGT EVENT L7
To reduce compliance costs, CGT event L7, which arises when a liability is discharged for an amount that is different to the amount used for tax cost setting purposes, will be repealed. In addition, the tax cost setting rules that apply when an entity leaves a consolidated group or MEC group will be modified to remove the adjustment to liabilities owed by the leaving entity for unrealised gains and losses.
These changes will apply from 8 May 2007.
EXTENSION OF THE SINGLE ENTITY RULE AND ENTRY HISTORY RULE FOR CERTAIN CGT INTEGRITY PROVISIONS AFFECTING THIRD PARTIES
The consolidation single entity and entry history rules will be extended for non-group members for the purposes of applying the CGT discount rules and CGT event K6 (which arises on the disposal of pre-CGT interests in an entity that predominantly owns post-CGT assets). This change will apply to CGT events that happen after 8 May 2007.
This change will ensure that the compliance cost benefits from treating a consolidated group or MEC group as a single taxpayer are maintained, as intra-group transactions will not need to be reconstructed to comply with certain CGT integrity rules.
BLACKHOLE EXPENDITURE OF MEC GROUPS
The CGT provisions relating to blackhole expenditure that apply to consolidated groups will also apply to MEC groups. This measure will apply to CGT events that happen on or after 1 July 2005.
This will ensure that business blackhole expenses of MEC groups are appropriately recognised.
CHANGES TO DEPRECIATION RATES
The head company of a consolidated group or MEC group will be taken to acquire the assets of a joining entity at the time those assets were acquired by the joining entity (rather than at the joining time) for the purpose of qualifying for changes in depreciation rates, with effect from 8 May 2007. This will ensure that, for example, the head company is not able to apply the 200 per cent diminishing value uplift to assets of a joining entity that were acquired by the joining entity prior to 10 May 2006.
OPERATION OF THE LOSS MULTIPLICATION RULES FOR WIDELY HELD ENTITIES
The inter-entity loss multiplication rules will be modified so that a widely held entity is not required to make adjustments unless:
- a controlling stakeholder in a loss company has a direct or indirect equity or debt interest in the entity;
- the loss company’s losses are reflected in that interest; and
- the reflected losses are recognised for Australian tax purposes.
This will ensure that losses of widely held companies are not denied or significant compliance costs imposed in establishing that the loss has not been duplicated elsewhere. This measure will apply in relation to alteration times happening from 1 July 2002.
Although this measure will primarily impact on consolidated groups and MEC groups, it will also apply to other widely-held entities.
TRUSTS JOINING OR LEAVING A CONSOLIDATED GROUP OR MEC GROUP PART WAY THROUGH AN INCOME YEAR
The consolidation and trust provisions will be modified to interact appropriately where a trust is a member of a consolidated group or MEC group for part of the income year, with effect from the commencement of the 2007-08 income year. The amendments will ensure that the beneficiaries of a trust that joins or leaves a group part way through the trust’s income year will be taxed on an appropriate share of the income of the trust.
APPLICATION OF THE TRANSITIONAL PROVISIONS TO COMPANIES WITH SUBSTITUTED ACCOUNTING PERIODS
A transitional concession will apply to allow a joining entity to increase its allocable cost amount by the undistributed, untaxed profits that accrued to the group when the head company:
- has a substituted accounting period;
- consolidated between 1 July 2003 and 30 June 2004; and
- consolidated on a day that was on or before the first day of the income year of the head company, starting after 30 June 2003.
This change will apply from 1 July 2002.