Issue
If a joining entity (being a widely held company or an eligible Division 166 company) is seeking to transfer a loss to the head company of an income tax consolidated group (including itself) under Subdivision 707-A of the Income Tax Assessment Act 1997 (ITAA 1997), and chooses under section 166-15 of the ITAA 1997 that Subdivision 165-A of the ITAA 1997 is to apply to it for the trial year without the modifications made by Subdivision 166-A of the ITAA 1997, does this choice prevent the head company from applying Subdivision 166-A of the ITAA 1997 in a subsequent income year when the head company seeks to utilise the transferred loss?
Decision
No. The choice under section 166-15 of the ITAA 1997 applies on a year by year basis. The joining entity's choice under section 166-15 of the ITAA 1997 that Subdivision 165-A of the ITAA 1997 is to apply to it for the trial year without the modifications made by Subdivision 166-A of the ITAA 1997 is only relevant for the purpose of determining whether the loss can be transferred to the head company of an income tax consolidated group. If the loss is transferred, the joining entity's choice has no effect in a subsequent income year on the ability of the head company to apply Subdivision 166-A of the ITAA 1997 when the head company seeks to utilise the transferred loss.
Facts
Loss Company made a tax loss for the income year ending on 30 June 2010.
The tax loss was not fully deducted in the income year ending on 30 June 2011.
Loss Company became a member of an income tax consolidated group on 1 July 2011 (the joining time). Head Co is the head company of the income tax consolidated group.
As part of the process of attempting to transfer the tax loss to Head Co under Subdivision 707-A of the ITAA 1997, Loss Company knows that it failed the continuity of ownership test (COT) in section 165-12 of the ITAA 1997 because Head Co acquired all of the shares in Loss Company from other entities on 1 July 2011. Therefore, Loss Company must apply the same business test (SBT) in section 165-13 of the ITAA 1997.
Loss Company was an eligible Division 166 company for an income year consisting of the trial year (1 July 2010 to 1 July 2011).
For the purpose of determining whether the loss can be transferred to Head Co at the joining time by satisfying the SBT in respect of the trial year, Loss Company wants to apply Subdivision 165-A of the ITAA 1997 without the modifications made by Subdivision 166-A of the ITAA 1997.
However, Loss Company is concerned that making such a choice under section 166-15 of the ITAA 1997 will prevent Head Co from applying Subdivision 166-A of the ITAA 1997 (which contains many concessions) when Head Co seeks to utilise the transferred loss in future income years by actually deducting it against assessable income.
Reasons for Decision
All legislative references are to the ITAA 1997.
Subdivision 707-A governs whether a loss can be transferred from a joining entity to the head company of a consolidated group (the joined group).
Section 707-120 effectively requires the joining entity (Loss Company) to satisfy the COT or the SBT for an income year consisting of the 'trial year'. The trial year for Loss Company is the period from 1 July 2010 to 1 July 2011.
As Loss Company made the loss for an income year starting after 30 June 1999, and section 165-13 is relevant to working out (under subsection 707-120(1)) whether the tax loss is transferred from Loss Company to Head Co, section 707-125 operates. It determines the same business test period and the test time, which are essential to applying the SBT in section 165-13.
Subsection 707-125(2) is the default provision containing the same business test period and test time for companies joining an income tax consolidated group.
However, if Subdivision 166-A would apply to the joining entity (Loss Company) for an income year consisting of the trial year, subsection 707-125(4) provides for a same business test period that is more complicated to determine than the same business test period prescribed by subsection 707-125(2).
A joining entity must be a widely held company or an eligible Division 166 company for the income year in which it seeks to deduct a tax loss in order to apply Subdivision 166-A. Loss Company was an eligible Division 166 company for an income year consisting of the trial year, which subsection 707-120(1) deems to be a loss deduction year.
Subsection 707-125(4) is worded in mandatory terms: 'If Subdivision 166-A would apply to the joining entity... work out whether the loss is transferred on the basis that...'
The Note to subsection 707-125(4) states that a widely held company or an eligible Division 166 company can choose that Subdivision 165-A (which encompasses the SBT) is to apply to it for the income year without the modifications made by Subdivision 166-A. This choice is available under section 166-15.
Section 166-15 (in Subdivision 166-A) states: 166-15(1) The company can choose that Subdivision 165-A is to apply to it for the income year without the modifications made by this Subdivision [166-A]. 166-15(2) The company must choose on or before the day it lodges its *income tax return for the income year, or before a later day if the Commissioner allows.
Widely held companies and eligible Division 166 companies have the benefit of applying Subdivision 166-A (which triggers the application of Subdivisions 166-D and 166-E). Companies only apply Subdivision 165-A when they seek to deduct a tax loss or (through Subdivision 165-CA) apply a net capital loss.
Testing for the transfer of a loss from the joining entity to the head company of the joined group under Subdivision 707-A involves a hypothetical utilisation of the loss in the trial year under the rules in Subdivision 165-A, with certain modifications and on the basis of certain assumptions.
For subsection 707-125(4) to be relevant to the transfer of a loss under the SBT, the requirement is that 'Subdivision 166-A would apply to the joining entity'.
The Note to subsection 707-125(4) states (emphasis added): Subdivision 166-A applies to widely held companies and eligible Division 166 companies unless they choose that Subdivision 165-A apply to them without the modifications made by Subdivision 166-A .
This Note strongly suggests that a joining entity should be able to opt out of Subdivision 166-A for loss transfer testing purposes under Subdivision 707-A. If a joining entity is a company to which Subdivision 166-A would not apply by virtue of having made a choice under section 166-15, subsection 707-125(4) would not be relevant to that joining entity. Subsection 707-125(2) would apply as the default provision.
Under section 166-15, companies can choose not to apply the modifications made by Subdivision 166-A on a year by year basis. In one income year where they are applying Subdivision 165-A to determine whether they can deduct some or all of a tax loss or apply some or all of a net capital loss, a company does not have to apply Subdivision 166-A. In a subsequent income year they can apply Subdivision 166-A, even in respect of deducting some of the same tax loss or applying some of the same net capital loss.
As testing for the transfer of a loss from the joining entity to the head company of the joined group under Subdivision 707-A involves a hypothetical utilisation of the loss by the joining entity in the trial year, the joining entity's choice under section 166-15 not to apply the modifications made by Subdivision 166-A is only relevant for the trial year. It does not affect any subsequent income year.
Once a loss is transferred to the head company of the joined group, section 707-140 provides that, for income years ending after the transfer, the head company is deemed to have made the loss for the income year in which the transfer occurs. This means that only the head company of the joined group is allowed to utilise the loss (unless the loss is transferred to another head company).
The joining entity's choice under section 166-15 not to apply the modifications made by Subdivision 166-A for loss transfer testing purposes under Subdivision 707-A is only relevant for the trial year. It does not affect any subsequent income year in respect of the utilisation of any part of the transferred loss.