Under the Small Business Restructure Roll-over (Div 328-G), which was introduced to much fanfare last year, small business owners are allowed to change the legal structure of their businesses without incurring a capital gains tax liability to a trust, provided that the economic ownership of the business does not materially change. This is an important legal change as there is no other roll-over that allows you to change from any structure to a trust.
What requirements you need to satisfy
To qualify for the roll-over, the restructure must involve a small business (a business with a turnover of less than $2 million) or an entity that is connected or affiliated with a small business.
Further, the assets that are transferred as part of the restructure must be active assets that are:
- CGT assets;
- trading stock;
- revenue assets; or
- depreciating assets.
Additionally, the roll-over will only apply where a restructure does not “materially” change the “ultimate economic ownership” of the transferred assets, including each individual’s share of the economic ownership where there is more than one economic owner. The question of what is a material change in ultimate economic ownership is less than clear. For instance, is a 98% change in the economic ownership of assets material for the purposes of the roll-over or will it be considered material if only 80% of the ownership changes? Evidently, there is no clear-cut answer to this question.
Notably, this is the first CGT roll-over relief that has allowed restructures from companies to discretionary trusts. However, read in context, it appears to only deal with the transfer of business assets of an entity and not a transfer of shares or units. This view is consistent with the position of the Commissioner as set out in his Law Companion Guidelines (referred to below).
Restructure must be “genuine”
The most contentious part of the roll-over rules is the requirement that the transfer of assets form part of a “genuine restructure of an ongoing business”. This is an integrity measure that is likely to catch out many small business owners who are considering a restructure.
The question is, what actually constitutes a genuine restructure of an ongoing business? In contrast to s 83-175, which provides a definition of the term “genuine redundancy payment” and sets out conditions that need to be met under that definition, there is no attempt to explain what is meant by the term “genuine restructure” in the Act. Instead, the task of elucidating the term has been left to the Explanatory Memorandum (“EM”) that accompanied the Bill for the roll-over.
It is notable that according to the EM, the genuine restructure test was intended to be broad “to cover the wide range of fact situations to which the roll-over will apply”. The EM nonetheless attempts to narrow down the scope of the test by setting out circumstances that are deemed to satisfy the test and ones which do not.
The Commissioner has taken up and built upon the approach set out in the EM in the ATO Law Companion Guidelines (see LCG 2016/3 “Small Business Restructure Roll-over: genuine restructure of an ongoing business and related matters”).
According to the Guidelines, features that point to a transfer of assets forming part of a genuine restructure of an ongoing business include:
- It is a bona fide commercial arrangement undertaken to:
- facilitate growth, innovation and diversification;
- adapt to changed conditions; or
- reduce administrative burdens, compliance costs and/or cash flow impediments;
- There is continity of use of the transferred assets, of employment of key personnel, and of production, supplies, sales or services
- It results in a structure likely to have been adopted had the small business owners obtained appropriate professional advice when setting up the business.
According to the Commissioner, features which indicate that a restructure is not genuine include:
- Where the restructure is a preliminary step to facilitate the economic realisation of assets, or takes place in the course of a winding down to transfer wealth between generations;
- Where the restructure effects an extraction of wealth from the assets of the business (including accumulated profits) for personal investment, consumption or use outside of the business;
- Where artificial losses are created or there is a bringing forward of their recognition;
- The restructure effects a permanent non-recognition of gain or the creation of artificial timing advantages; or
- There are other tax outcomes that do not reflect economic reality.
Non-CGT tax implications
The EM and the Commissioner warn that small business owners still need to take into account consequences not affected by the roll-over, such as stamp duty or GST, when contemplating a restructure.
By Anthony Pointon, Robert Gordon and Jonathan B Slade, Pointon Partners