Changing business structure used to trigger some unwanted tax liabilities, since the tax law often regarded a change in structure as effectively a change in ownership. From 1 July 2016, that has changed.
Small businesses will be able to change their legal structure of without incurring any income tax liability when active assets are transferred by one entity to another.
This rollover applies to active CGT assets.
What are active assets?
Active assets are essentially those used in carrying out a business, such as trading stock and depreciating assets used, or held ready for use, in the course of carrying on a business (such as buildings, plant and machinery).
Who is eligible for relief?
Small businesses will qualify for the new provisions if they have a likely estimated turnover of less than $2 million for the current year or if their turnover for the previous year was less than $2 million.
It isn’t yet clear whether the government’s new, more generous (but as yet unlegislated) $10 million turnover threshold for some small business reliefs will apply to this rollover relief.
Affiliates, connected entities and partnerships of qualifying small businesses will also be eligible for the rollover.
When is relief applicable?
The relief will apply where small business taxpayers transfer an active asset of their business to another small business entity as part of a genuine business restructure, as opposed to an artificial or inappropriately tax-driven scheme.
Determining whether a restructure is 'genuine' depends on all the facts surrounding the restructure.
To be eligible for the rollover, the 'ultimate economic ownership' of the asset must not change.
The ultimate economic owners of an asset are the individuals who, directly or indirectly (through a company or trust, for instance) own an asset.
Where there is more than one individual with ultimate economic ownership, there is an additional requirement that each individual’s share of the ultimate economic ownership be maintained.
In order to avoid direct tax consequences occurring over the transfer of assets under these rules, the acquirer of the assets will be treated as having acquired the asset for its rollover cost, irrespective of the amount paid for the asset.
The rollover cost is an amount that (if it had been received) would not result in the business making a gain or loss.
To illustrate this, if an asset originally cost $1,000 but at the date of restructure its market value was $2,000, the rollover cost would be $1,000.
The effect is to defer any gain on the restructure. That gain would only crystallise if the restructured business sold the asset.
How is eligibility determined and enforced?
To ensure the provisions won’t be exploited for purposes other than business restructures (particularly for the purposes of avoiding tax), small businesses will have to comply with integrity rules to make sure the business and its associated assets are part of a 'genuine restructure'.
Broadly, to meet the requirements of a genuine restructure, the purpose of the exercise must not be linked to the economic realisation of the assets – such as transferring business assets held by a company to an individual to claim a CGT discount when they are sold to a third party.
There is a presumption within the new rules that, provided there is no change in ownership of the assets within three years of the restructure, it is a genuine restructure.
How your accountant can help
As always with tax, the rules are complicated, and if your business is looking at making use of the new provisions, you’ll need to seek professional advice.
Overall, though, these changes will introduce welcome flexibility to enable businesses to grow and evolve in the right structure without troubling the tax man.
Mark Chapman is the director of tax communications at H&R Block, and a former senior director of the ATO.