Income tax: Namoi Capital Stock - conversion of Namoi Cotton Co-operative to a company registered under the Corporations Act 2001 by way of variation

This Ruling sets out the Commissioner's opinion on the way in which the relevant provision(s) identified below apply to the defined class of entities, who take part in the scheme to which this Ruling relates.

The relevant provisions dealt with in this Ruling are: • subsection 6(1) of the Income Tax Assessment Act 1936 (ITAA 1936) • subsection 44(1) of the ITAA 1936 • section 45A of the ITAA 1936 • section 45B of the ITAA 1936 • section 45C of the ITAA 1936 • Division 104 of the Income Tax Assessment Act 1997 (ITAA 1997) • Division 109 of the ITAA 1997 • Division 725 of the ITAA 1997 • Division 727 of the ITAA 1997 • section 108-5 of the ITAA 1997 • section 116-20 of the ITAA 1997 • subsection 995-1(1) of the ITAA 1997. All legislative references in this Ruling are to the ITAA 1997 unless otherwise indicated.

The class of entities to which this Ruling applies are holders of co-operative capital units (CCUs) in Namoi Cotton Co-operative Ltd (Namoi) who: • are listed on the CCU register of Namoi as and from May 1998, being all current CCU holders as at the date of conversion (which includes those who held their CCUs pursuant to the Namoi Cotton Employee Incentive Share Plan) • participate in the transaction as described in paragraphs 8 to 29 of this Ruling • are residents of Australia within the meaning of that expression in subsection 6(1) of the ITAA 1936 during the period they hold their CCUs • do not hold their CCUs as revenue assets as defined in section 977-50, nor as trading stock as defined in subsection 995-1(1) (that is, they hold their CCUs on capital account), and • are not subject to the taxation of financial arrangements provisions in Division 230 of the ITAA 1997 in relation to gains and losses on their Namoi CCUs. ( Note: Division 230 will generally not apply to individuals, unless they have made an election for the Division to apply to them.)

The Commissioner makes this Ruling based on the precise scheme identified in this Ruling.

The class of entities defined in this Ruling may rely on its contents provided the scheme actually carried out is carried out in accordance with the scheme described in paragraphs 8 to 29 of this Ruling.

If the scheme actually carried out is materially different from the scheme that is described in this Ruling, then: • this Ruling has no binding effect on the Commissioner because the scheme entered into is not the scheme on which the Commissioner has ruled, and • this Ruling may be withdrawn or modified.

This Ruling applies from 10 October 2017 to 30 June 2019. The Ruling continues to apply after 30 June 2019 to all entities within the specified class who entered into the specified scheme during the term of the Ruling. However, this Ruling will not apply to taxpayers to the extent that it conflicts with the terms of a settlement of a dispute agreed to before the date of issue of this Ruling (see paragraphs 75 and 76 of Taxation Ruling TR 2006/10).

The following description of the scheme is based on information provided by the applicant. The following documents, or relevant parts of them form part of and are to be read with the description: • application for Class Ruling from DLA Piper Australia on behalf of Namoi Cotton Co-operative Ltd dated 14 June 2017 • Constitution of Namoi Limited (Draft) dated 15 August 2017 • Rules of Namoi Cotton Co-operative Limited • Namoi Cotton Restructure Booklet received 17 August 2017 • Grower Share Scheme of Arrangement received 17 August 2017 • Namoi Capital Stock Scheme of Arrangement received 17 August 2017, and • other correspondence and e-mails from the applicant in relation to the application for the Ruling.

Namoi is a co-operative registered under the Co-operatives (Adoption of National Law) Act 2012 (NSW) (the Co-operatives Act). Namoi is governed by the Rules of Namoi Cotton Co-operative Limited (Namoi Rules).

Namoi is comprised of its members (Members), most of whom are cotton farmers who actively supply cotton to Namoi.

In accordance with the Namoi Rules, a person may only be admitted as a Member of Namoi if the person is an 'Active Member' of the co-operative. Each Active Member must hold at least 800 Grower Shares, produce cotton from a minimum of 40 hectares of land and conduct a minimum of 20% of the Member's total cotton business with the co-operative. Active Members are entitled to 1 vote per Member.

The shares of Namoi are all of one class called Grower Shares. They have a nominal value of $0.01, and were issued for a fixed amount of $2.70. The Grower Shares do not provide an entitlement to dividends.

On a winding up of Namoi, the holders of Grower Shares are entitled to a capital distribution up to $2.70 per share, but are not entitled to participate in any further distribution of surplus assets.

Namoi has on issue 165,600 unquoted Grower Shares, held by 207 Members (Grower Members).

No single Member (together with its associates) can hold more than 20% of the total Grower Shares in Namoi. Prior to the Transaction, no single Member holds greater than 1% of the total Grower Shares in Namoi.

In addition to its Grower Shares, Namoi has on issue 109,843,279 Namoi Capital Stock (also known as Co-operative Capital Units, or CCUs) which are held by 1,532 holders (CCU Holders). As at 1 March 2017, 141,000 CCUs were issued to employees pursuant to the Namoi Cotton Employee Incentive Share Plan.

No single entity (together with its associates) can hold more than 20% of the total CCUs in Namoi. Prior to the Transaction, no single CCU Holder holds greater than 15% of the total CCUs in Namoi. As at 12 June 2017, 106 CCU Holders were non-residents for Australian tax purposes. All non-residents other than one (which holds 13%), hold less than 10% of the interests in the CCUs in Namoi.

Pursuant to section 345 of the Co-operatives Act, the CCUs are interests issued by Namoi conferring an interest in the capital (but not the share capital) of Namoi. Subsection 345(2) of the Co-operatives Act specifically provides that a CCU is personal property.

The CCUs are all of one class, with a nominal value of $0.01 each. The CCU Holders are entitled to all of the dividends payable by Namoi.

On a winding up of Namoi, the CCU Holders are entitled to all of the surplus assets and profits of Namoi after the fixed claims of the Members are satisfied.

The CCUs are able to be freely transferred via the Australian Securities Exchange (ASX).

The CCU Holders have the right to nominate a minimum of 2 (and a maximum of 3) Directors to the Board of Namoi, subject to the size and composition of the Board. The CCU Holders have the right to attend the Members' general meetings but do not have the right to vote at the general meetings.

None of the Members or CCU Holders, individually or together with associates in fact control Namoi at any time.

The Board of Directors of Namoi propose to convert Namoi from a co-operative registered under the Co-operatives Act to a public company registered under the Corporations Act 2001 (the Corporations Act) which will have a single class of ordinary shares (Transaction). The ordinary shares will be subsequently listed on the ASX.

The reasons for the Transaction include: • the alignment of ownership between the Members and CCU Holders • to ensure a clear ownership structure, and • providing Namoi with greater access to capital.

The Transaction involves the following steps: Step 1: The rights attaching to the CCUs will be varied (with the approval of Members and CCU Holders) to enable the CCUs to be converted, at each CCU Holder's election, into ordinary shares after Namoi has converted from a co-operative to a company registered under the Corporations Act. The timing of the election for the conversion will be on or before the Effective Date for the scheme. Step 2(a): At the Effective Time, Namoi converting from a co-operative registered under the Co-operatives Act to a public company registered under the Corporations Act limited by shares. Step 2(b): At the Effective Time, the rights attaching to the Grower Shares will be varied such that the Grower Shares will become ordinary shares of Namoi on a 1:1 basis. Step 2(c): At the Effective Time, CCUs will be varied and be redesignated as (and bear the title of) Residual Capital Stock (RCS). The RCS will constitute an interest in the capital (but not the share capital) of Namoi Limited and will have the following characteristics: • the RCS will not be transferable • the RCS will not be listed on the ASX • each RCS will have no right to be paid distributions or dividends • each RCS will have no voting rights or rights to attend or participate in general meetings of Namoi Limited, except on a variation of rights of the RCS, and • each holder of RCS will have a right to repayment of $0.01 on a winding up with the RCS ranked on an equal basis with the ordinary shares. Step 3(a): Immediately after the Effective Time, the ordinary shares will be reconstituted to a different number of ordinary shares via a share split on an 800:158,504 basis (that is, 1:198.13). Step 3(b): Immediately after the Effective Time, for the CCU Holders who elect for the conversion, each RCS held will be converted to ordinary shares on a 1-for-1 basis by way of variation. It is intended that all remaining RCS will be redeemed within 12 months after the record date of the Transaction.

Assuming full conversion of the CCUs into ordinary shares, 23% of the total ordinary shares under the Transaction will be allocated to Members and the remaining 77% of the shares in Namoi Limited will be held by the CCU Holders.

Immediately after the Transaction, none of the ordinary shareholders, individually or together with associates will have more than a 20% shareholding in or control Namoi Ltd at any time.

The Effective Date is 10 October 2017.

CGT event H2 will happen to the CCU Holders pursuant to subsection 104-155(1) when the rights attached to the CCUs are varied and converted to ordinary shares in Namoi Limited. No CCU Holder will make a capital gain as a result of CGT event H2 happening as they will not receive capital proceeds. They will, however, make a capital loss to the extent of any incidental costs incurred in respect of the conversion by way of variation.

The acquisition time of the ordinary shares will be the acquisition time of the original CCU interests for CGT purposes.

The cost base or reduced cost base of each ordinary share will be the cost base or reduced cost base of each CCU or (CCU which is redesignated to an RCS).

Neither Division 725 nor Division 727 will apply as a result of the Transaction.

The ordinary shares resulting from the Transaction will not result in an assessable dividend, as defined in subsection 6(1) of the ITAA 1936.

Sections 45A and 45B of the ITAA 1936 will not apply to the Transaction. The Commissioner will not, therefore, make a determination that section 45C of the ITAA 1936 applies to deem the variation of CCUs (or CCUs which are redesignated to RCS) into ordinary shares to be an unfranked dividend.

CGT event C2 happens if the ownership of an intangible CGT asset ends by the asset being, amongst other things, redeemed or cancelled (subsection 104-25(1)). The time of the event is when a contract is entered into which results in the asset ending or, if there is no contract, when the asset ends (subsection 104-25(2)).

Each CCU is comprised of a bundle of rights which are not separate pieces of property capable of being divided out and held separately. Accordingly, for CGT purposes, the rights attached to each CCU do not constitute individual assets as defined in section 108-5, but rather combine to make up the ultimate asset, being the CCU (refer to Taxation Ruling TR 94/30 Income tax: capital gains tax implications of varying rights attaching to shares).

Based on the facts and circumstances, the Commissioner is of the view that the Transaction will only involve a variation of rights attaching to the CCUs. For example, CCU holders are and will be entitled to payments (or dividends) both prior to and after the Transaction from the same continuing body corporate. Therefore, the conversion of the CCU interests by way of variation to ordinary shares to take place at the election of the CCU Holders will not constitute a redemption or cancellation of the CCU interests for the purposes of CGT event C2. Accordingly, paragraph 104-25(1)(a) will not be satisfied, a result consistent with Taxation Ruling TR 94/30.

CGT event H2 happens if an act, transaction or event occurs in relation to a CGT asset and the act, transaction or event does not result in an adjustment being made to the asset's cost base or reduced cost base (section 104-155). The conversion by way of variation is an act, transaction or event in relation to the CCU interests. Therefore, the preconditions for CGT event H2 will be satisfied in respect of the CCU interests under the Transaction. A capital gain is made if the capital proceeds from the event are more than the incidental costs incurred in relation to it; a capital loss is made if the capital proceeds are less than the incidental costs (subsection 104-155(3)).

Capital proceeds are the money or other consideration received, or entitled to be received, because of the act, transaction or event (subsection 116-20(2)).

CCU Holders will not receive or be entitled to receive any capital proceeds in respect of the conversion by way of variation. Therefore, the CCU Holders will not make a capital gain as they will not receive any capital proceeds. However, they will make a capital loss to the extent of any incidental costs incurred in respect of the conversion by way of variation.

Division 109 sets out the time when a taxpayer acquires a CGT asset. Subsection 109-5(1) provides that in general you acquire a CGT asset when you become its owner. In this case, the ordinary shares will be taken to have been acquired at the time when the CCU interests were acquired by the holder.

The cost base or reduced cost base of the ordinary share will be the cost base or reduced cost base of the CCU or (CCU which is redesignated to an RCS).

There can be capital gains tax and income tax consequences where there is a direct value shift as defined in section 725-145 or an indirect value shift as defined in section 727-150. However, there are only consequences where threshold control tests are satisfied.

The direct value shifting rules in Division 725 do not apply unless there is an entity that controls (for value shifting purposes) the target entity at some time during a scheme period (paragraph 725-50(b) and section 725-55).

The indirect value shifting rules in Division 727 do not apply unless the entities between which value is shifted (the losing entity and the gaining entity) satisfy an ultimate controller test or a common ownership nexus test (paragraph 727-100(c) and sections 727-105 and 727-110).

There will be no consequences under the Transaction for any direct value shift as there is no entity that controls (for value shifting purposes) Namoi or (when converted) Namoi Limited at any time from when the scheme is entered into until when it is carried out (paragraph 725-50(b) and section 725-55).

There will be no consequences for any indirect value shift as the ultimate controller test or common ownership nexus test is not satisfied (paragraph 727-100(c) and sections 727-105, and section 727-110).

Subsection 6(1) of the ITAA 1936 defines 'dividend' for the purposes of the income tax legislation to include: (a) any distribution made by a company to any of its shareholders, whether in money or other property, and (b) any amount credited by a company to any of its shareholders as shareholders.

The conversion of CCUs to ordinary shares by way of variation will not involve a distribution of money or property to the shareholders.

No amount will be credited to any of the shareholders in their capacity as shareholders.

As the conversion by way of variation will not involve either a distribution of money or property of the company to the shareholders or an amount being credited by the company to any of its shareholders as shareholders, it will not constitute a dividend.

Sections 45A and 45B of the ITAA 1936 are anti-avoidance provisions which, if either applies, allow the Commissioner to make a determination under section 45C of the ITAA 1936 that all or part of a capital benefit is treated as an unfranked dividend.

Section 45A of the ITAA 1936 applies in circumstances where capital benefits are streamed to certain shareholders who derive a greater benefit than other shareholders from the receipt of capital (the advantaged shareholders) and it is reasonable to assume that the other shareholders have received or will receive dividends (the disadvantaged shareholders).

The 'provision of a capital benefit' is defined in subsection 45A(3) of the ITAA 1936 to include something that is done in relation to a share that has the effect of increasing the value of a share held by the shareholder.

The circumstances of the conversion arrangement indicate there is no streaming of the provision of capital benefits to some and the payment of dividends to others. As subsection 45A(1) of the ITAA 1936 is not satisfied, section 45A of the ITAA 1936 will not apply.

As section 45A of the ITAA 1936 will not apply, the Commissioner will not make a determination under subsection 45A(2) of the ITAA 1936 that section 45C of the ITAA 1936 applies to deem the conversion of CCUs by way of variation into ordinary shares to be an unfranked dividend.

Section 45B of the ITAA 1936 applies where certain capital benefits are provided to shareholders in substitution for dividends. Specifically, the provision applies where: • there is a scheme under which a person is 'provided with a capital benefit' by a company (paragraph 45B(2)(a) of the ITAA 1936) • under the scheme a taxpayer, who may or may not be the person provided with the capital benefit, 'obtains a tax benefit' (paragraph 45B(2)(b) of the ITAA 1936), and • having regard to the relevant circumstances of the scheme, it would be concluded that the person, or one of the persons, entered into the scheme or carried out the scheme or any part of the scheme for a purpose, other than an incidental purpose, of enabling a taxpayer to 'obtain a tax benefit' (paragraph 45B(2)(c) of the ITAA 1936).

In this case, it is apparent that there is no requisite purpose, in the conversion of CCUs by way of variation to ordinary shares, of enabling the CCU Holders to obtain a tax benefit. Accordingly, the Commissioner will not make a determination under subsection 45B(3) that section 45C applies.

The following is a detailed contents list for this Ruling: Paragraph Summary - what this ruling is about 1 Relevant provision(s) 2 Class of entities 3 Qualifications 4 Date of effect 7 Scheme 8 Members of Namoi 10 Namoi Capital Stock 16 Transaction 24 Ruling 30 Capital gains tax: variation of CCU rights 30 Value shifting provisions 33 Assessable dividend 34 Anti-avoidance provisions 35 Appendix 1 - Explanation 36 Capital gains tax: variation of CCU rights 36 CGT event C2 36 CGT event H2 39 Value shifting consequences 44 Assessable dividend 49 Anti-avoidance provisions 53 Section 45A 53 Section 45B 58 Appendix 2 - Detailed contents list 60