1 Will the unit split (and thus issue) of additional Class A Units by the Fund prior to the reclassification of Class A Units to existing Ordinary Class Units (the Reclassification) trigger a CGT event under Division 104 of the Income Tax Assessment Act 1997 (ITAA 1997) for Class A Unitholders?
No. Question 2 Will the Reclassification result in any capital gain or loss for the Unitholders of the Fund pursuant to CGT event A1 under section 104-10 of the ITAA 1997? Answer No. Question 3 Will the Reclassification result in any capital gain or loss for the Unitholders of the Fund pursuant to CGT event C2 under section 104-25 of the ITAA 1997? Answer No. Question 4 Will the Reclassification result in any capital gain or loss for the Unitholders of the Fund pursuant to CGT event H2 under section 104-155 of the ITAA 1997? Answer No. This ruling applies for the following period: Year ending 30 June 20XX
The Fund The Fund is an Australian unlisted public unit trust. The Fund is not registered and, to date, is not required to be registered as an Australian managed investment scheme pursuant to section 601ED of the Corporations Act 2001 . ABC Pty Ltd holds an Australian Financial Services License and is the trustee and manager of the Fund. The Fund's objective includes seeking to create investment returns over the medium to long term with investor capital preservation a priority. The investment strategy includes investing in a portfolio of equity securities issued by entities listed on the Australian Securities Exchange. The investments are executed by way of an acquisition of shares on or off market, participation in a placement or other share issue, or by purchasing a debt instrument issued by the relevant entity that is convertible into equity. Units in the Fund are issued only to investors that qualify as wholesale clients, as set out in section 761G of the Corporations Act 2001 .
For Australian tax purposes, the Fund is a managed investment trust (MIT), and has made the irrevocable election to operate as an attribution managed investment trust (AMIT) under Division 276 of the ITAA 1997. The Fund has not made an AMIT class election under section 276-20 of the ITAA 1997 since electing into the AMIT regime. The Fund made the choice in relation to the irrevocable MIT capital account election pursuant to section 275-115 of the ITAA 1997 in its first income year of operation. The Fund has two Classes of Units on issue, being Ordinary Class Units and Class A Units. Units in these Classes are the interests held by the Fund's investors (also referred to as the Unitholders). The Ordinary Class was established at inception of the Fund. In May 20XX, ABC Pty Ltd created and issued the Class A Units. The Fund implements a zero ongoing management fee structure with the only ongoing fee being a performance fee payable if performance thresholds (referred to as a High-Water Mark) are met.
A High-Water Mark is the highest peak in value, net of fees, that the Units in the Fund (or a Class within the Fund) have reached at a point at which the performance fee is calculated. The High-Water Mark ensures that ABC Pty Ltd only receives a performance fee for real outperformance by ensuring that any previous decline in the Fund's value is recouped before any further performance fee is paid. The High-Water Mark does not reset on the Reset Date. When the Class A Units were first issued, a new High-Water Mark was established in respect of those Units, separate to the High-Water Mark carried by the Ordinary Class to date. Apart from this difference, all the terms, obligations, restrictions, rights and entitlements to the income and capital of the Fund attaching to each Class of Units have been, and continue to be, identical. The original intention behind the issue of the new Class A Units in May 20XX was to establish a new High-Water Mark separate from the Ordinary Class.
On establishment of the new Class A Units, ABC Pty Ltd intended that, at the time the value of those Units reached the original High-Water Mark set by the Ordinary Class Units, the Class A Units would be reclassified as Ordinary Units such that this would simplify and improve the administrative efficiency of the Fund. As the value of the Class A Units has now reached that of the Ordinary Class Units, ABC Pty Ltd intends to reclassify the Class A Units to Ordinary Class Units, and to operate a single Class of Units. There are no terms in the Information Memoranda or the Trust Deed relating to either the Ordinary or Class A Units which prevent ABC Pty Ltd from splitting or reclassifying Units. Unit split Prior to the Reclassification, the Fund intends to split the existing Class A Units, such that additional Class A Units will be issued to Class A Unitholders for no consideration. This unit split, resulting in the issue of additional Class A Units, will not: • change the total capital in the Fund; • result in the cancellation or redemption of the existing Class A Units; • give rise to the disposal of any Class A Units; or
• change the proportion of equity owned by each Unitholder in the Fund's capital account. The Reclassification The Reclassification will be carried out as permitted by the Fund's Trust Deed. At the time of the Reclassification, the price of a single Class A Unit will equal that of a single Ordinary Class Unit. The Reclassification process will broadly include the following steps to be taken by the Fund's administrator, DFG Pty Ltd: a. DFG Pty Ltd will record the Reclassification in its registry system as a "switch" from A Class to Ordinary Class. b. In order to give effect to the switch, DFG Pty Ltd will process a 'sell' trade and then a corresponding 'buy' trade instantaneously for the same amount. This process is not a legal transaction but required in order to give effect to the Reclassification in DFG Pty Ltd's system. c. All internal records will retain the original investment date of when Class A Unitholders were issued with their Units, including the original issue price to appropriately track tax cost base information. d. The unit register will be updated such that only a single Class of Units (the Ordinary Class) will remain on issue.
As the High-Water Mark for Class A Units has reached the High-Water Mark for the Ordinary Class Units, at the time of the Reclassification there will be no difference between the rights, entitlements, terms, obligations and restrictions attached to the Units being held by Class A Unitholders and Ordinary Class Unitholders, and the Reclassification will not result in a change in the rights, entitlements, terms, obligations and restrictions attached to the Units being held by Class A Unitholders and Ordinary Class Unitholders. Furthermore, the Reclassification will not result in any change in: • the price of the Units being held by Class A Unitholders; • the legal and beneficial ownership of Units being held by the Class A Unitholders; • the proportionate unitholding of Class A Unitholders as a proportion to the whole of the Fund, or the proportion of equity owned by each Unitholder in the Fund's capital account; or • the total cost base of the Units held by each Class A Unitholder. No consideration, compensation or new property will be provided to the Class A Unitholders in respect of the Reclassification.
Class A Units will not be cancelled or redeemed during the Reclassification process. The Unitholders of the Fund will not incur any incidental costs in relation to the Reclassification.
Income Tax Assessment Act 1997 Division 104 Income Tax Assessment Act 1997 section 104-10 Income Tax Assessment Act 1997 subsection 104-10(1) Income Tax Assessment Act 1997 subsection 104-10(2) Income Tax Assessment Act 1997 section 104-25 Income Tax Assessment Act 1997 subsection 104-25(1) Income Tax Assessment Act 1997 section 104-155 Income Tax Assessment Act 1997 subsection 104-155(1) Income Tax Assessment Act 1997 subsection 104-155(3) Income Tax Assessment Act 1997 section 108-5 Income Tax Assessment Act 1997 subsection 108-5(2) Income Tax Assessment Act 1997 Division 110 Income Tax Assessment Act 1997 Division 112 Income Tax Assessment Act 1997 section 112-25 Income Tax Assessment Act 1997 subsection 112-25(2) Income Tax Assessment Act 1997 subsection 116-20(2) Income Tax Assessment
All subsequent legislative references are to the ITAA 1997 unless otherwise indicated. Question 1 Summary The split of the existing Class A Units will not trigger a CGT event under Division 104 for Class A Unitholders. Detailed reasoning Section 112-25 sets out the rules when an asset is split, changed or merged. Where a CGT asset (the original asset) is split into two or more assets (the new assets) and the same entity is the beneficial owner of the original asset and each new asset, the splitting is not a CGT event (subsection 112-25(2)). Taxation Determination TD 2000/10 [1] (TD 2000/10) considers the CGT consequences for a shareholder upon conversion by a company of its shares into a larger or smaller number of shares. At paragraph 1, it provides: If a company converts its shares into a larger or smaller number of shares ('the converted shares') in accordance with section 254H of the Corporations Law ('C Law') in that: (a) the original shares are not cancelled or redeemed in terms of the C Law; (b) there is no change in the total amount allocated to the share capital account of the company; and
(c) the proportion of equity owned by each shareholder in the share capital account is maintained; no CGT event happens to the shareholder's original shares for capital gains purposes. While there is a change in the form of the original shares, there is no change in their beneficial ownership... The principles outlined in TD 2000/10 are equally applicable to the conversion by a unit trust of its units into a larger or smaller number of units. In the case of the Fund, there will not be a disposal of any Units when the additional Units are issued to Class A Unitholders at the time of the split. The existing Class A Units will not be cancelled or redeemed; there will not be a change to the proportion of equity owned by each Class A Unitholder in the Fund's capital account; and there will be no change to the total capital value in the Fund. As there will be no disposal of the Class A Units and the Class A Unitholders will be the beneficial owners of both the original Class A Units and the new Class A Units, no CGT event under Division 104 will happen to the Class A Unitholders' original Class A Units in respect of the unit split. Question 2 Summary
The Reclassification will not result in any capital gain or loss for the Unitholders pursuant to CGT event A1 under section 104-10. Detailed reasoning Subsection 104-10(1) provides that CGT event A1 happens if you dispose of a CGT asset. Subsection 104-10(2) provides that: You dispose of a CGT asset if a change of ownership occurs from you to another entity, whether because of some act or event or by operation of law. However, a change of ownership does not occur if you stop being the legal owner of the asset but continue to be its beneficial owner. A CGT asset is defined in section 108-5 and includes any kind of property. Note 1 to subsection 108-5(2) gives examples of CGT assets, and specifically includes units in a unit trust. In the context of the Reclassification, the relevant CGT assets are the Class A Unitholders' Class A Units in the Fund, rather than any interest a Unitholder has in the underlying property of the Fund (see Taxation Determination TD 2000/32 [2] ).
The Reclassification will not give rise to CGT event A1 for the Class A Unitholders as there will be no change of ownership (legal or beneficial), and therefore no disposal in respect of their units. As such, the Class A Unitholders will not derive any capital gain or loss in respect of the Reclassification pursuant to section 104-10. Question 3 Summary The Reclassification will not result in any capital gain or loss for the Unitholders pursuant to CGT event C2 under section 104-25. Detailed reasoning Section 104-25 provides the circumstances in which CGT event C2 happens. CGT event C2 happens if your ownership of an intangible CGT asset ends because the asset expires or is redeemed, cancelled, released, discharged, satisfied, abandoned, surrendered or forfeited (subsection 104-25(1)). As explained in paragraphs 16 and 17 of Taxation Ruling 94/30 [3] : • the ordinary meaning of the term 'cancel' is to cross out, to make void, annul or to render invalid for re-use, and the cancellation of a share means that it ceases to exist (and is to be distinguished from the mere cancellation of a share certificate); and
• the relevant Macquarie Dictionary meaning of the term 'redeem' is 'to buy back or pay off'. The same CGT assets will remain on issue, and continue to be held by the same Unitholders, before and after the Reclassification. The Class A Units will therefore not be cancelled or redeemed in any way as part of the Reclassification, nor will the Class A Units end in any other way contemplated by subsection 104-25(1). As such, the Class A Unitholders will not derive any capital gain or loss in respect of the Reclassification pursuant to section 104-25. Question 4 Summary The Reclassification will not result in any capital gain or loss for the Unitholders pursuant to CGT event H2 under section 104-155. Detailed reasoning CGT event H2 under subsection 104-155(1) happens if: (a) an act, transaction or event occurs in relation to a CGT asset that you own; and (b) the act, transaction or event does not result in an adjustment being made to the asset's cost base or reduced cost base. The Reclassification will cause CGT event H2 to happen in respect of the Class A Units as:
• it will constitute an act, transaction or event in relation to a CGT asset (the Class A Units) owned by the Class A Unitholders; and • it will not result in an adjustment being made to the cost base or reduced cost base of the Class A Units (in accordance with Division 110 or 112). In relation to CGT event H2, subsection 104-155(3) states: You make a capital gain if the capital proceeds because of the CGT event are more than the incidental costs you incurred in relation to the event. You make a capital loss if those capital proceeds are less . For the purposes of CGT event H2, 'capital proceeds' is defined in the table in subsection 116-20(2) as: The money or other consideration you received, or are entitled to receive because of the act, transaction or event. At the time of the Reclassification, the unit price of the Class A Units will be the same as the unit price of Ordinary Class Units. In addition, all the rights, entitlements, terms, obligations, and restrictions attached to the reclassified Units will remain the same.
As no consideration, compensation, or new property will be provided to the Class A Unitholders in respect of the Reclassification, the Class A Unitholders will not derive a capital gain in respect of the Reclassification under subsection 104-155(3). Furthermore, as the Class A Unitholders will not incur any incidental costs in relation to the Reclassification, they will not derive a capital loss in respect of the Reclassification under subsection 104-155(3). > [1] Income tax: capital gains: what are the CGT consequences for a shareholder if a company converts its shares into a larger or smaller number of shares? [2] Income tax: capital gains: for capital gains purposes is the unit held by a unit holder in a unit trust the relevant CGT asset? [3] Income tax: capital gains tax implications of varying rights attaching to shares .