Bran-gelina’s business got “restructured” proper.
Well, people change their minds all their time, right? Of course, we do. It’s the human thing to do. Wives leave after 14 years. Even Brad and Angelina have “restructured”.
So, too, a company may opt to undergo a “restructuring” process for various reasons, including:
Raising capital.
Preparing for the sale of all or a portion of its business.
Facilitating its transition to a publicly traded entity.
Safeguarding its assets.
However, restructuring can potentially lead to issues related to capital gains tax (“CGT”). Fortunately, the Tax Act includes several specific exemptions from CGT. That’s known as rollover relief, in cases involving corporate restructuring.
Rollover relief
Rollover relief can take various forms, some of which are commonly encountered and relatively straightforward, while others are less familiar and more intricate. One well-known example of rollover relief occurs when an individual transfers an asset to a company. It’s essential to keep this type of rollover relief in mind because individuals often start businesses in their own names or as part of a partnership, and as their business expands, they may wish to transfer it to a different legal entity, such as a company or trust. However, such a transfer could trigger a substantial capital gain if not for the rollover relief provisions.
Individuals, partnerships, or trusts have the option to transfer assets, including a business, to a company and benefit from rollover relief. However, it’s important to note that rollover relief is not available when assets or a business are transferred from an individual to a trust.
These rollover provisions are significant to consider because individuals engaged in business operations may contemplate transferring their business to a company for reasons such as obtaining limited liability or admitting a business partner. Instead of continuing as a partnership of individuals, they may choose to operate through a company. Before bringing in the partner, the individual has the opportunity to rollover the business into a company without incurring any capital gains tax (CGT) implications. Subsequently, they can either sell shares to the incoming partner or have the company issue shares to the incoming partner, depending on factors like the need for additional working capital in the business and the taxpayer’s desire to trigger a capital gain.
There are various forms of rollover relief available for existing companies, which can be particularly beneficial for small and medium-sized enterprises (SMEs).
A business-restructuring “power” tip
One such option is “interposing a head company.” Because CGT is rather nefarious. For cases where a company is actively operating a business and has accumulated substantial assets, or when the company owns multiple businesses. There may be a desire to segregate the assets from the business operations. This separation can serve asset protection purposes. Alternatively, business owners might have plans to expand their operations and acquire additional businesses. In this scenario, they may opt to establish separate companies for each business entity, with a common holding company overseeing them. This approach aims to streamline the group of companies for tax purposes and can offer tax benefits.
In such situations, the rollover relief provided under Division 124-G of the Tax Act becomes a valuable tool. This division allows for the insertion of a new company, known as the head company, between the shareholders and the existing company. Once the head company is interposed, the two companies can consolidate for tax purposes, enabling assets to be transferred from the subsidiary to the head company without triggering any capital gains tax (CGT) consequences. The ultimate outcome is that assets are consolidated within one company, while the business remains in the subsidiary. This arrangement provides an essential layer of asset protection, especially if the business encounters financial difficulties. Importantly, even though shareholders exchange their shares in the current company for shares in the head company, no CGT is triggered in this process.
A similar strategy can be employed when a single company operates two or more businesses, and there is a desire to separate these businesses into distinct companies.
Unit trusts fall under this instead
Moreover, a comparable rollover can be executed when assets are held within a unit trust. Unitholders can exchange their units in the unit trust for shares in a company, resulting in the company taking ownership of the unit trust. This approach can offer flexibility and tax advantages in certain circumstances.
When individuals or entities are operating through a unit trust but decide to shift to a company structure, there are several methods available for restructuring into a company.
One commonly preferred restructuring method is to utilize rollover relief provided under Division 124-N. Under this rollover relief, all the assets held by the unit trust are transferred to a company. Importantly, the unitholders in the unit trust receive shares in the company in the same proportions as they own units in the trust. Once the rollover is successfully completed, the unit trust is then wound up. Essentially, this process results in the replacement of the unit trust with a company, and the significant advantage is that it occurs without triggering any capital gains tax (CGT) consequences for either the unit holders or the unit trust itself. This strategy can be an attractive option for those looking to transition from a unit trust to a company structure.
Have you heard of scrip rollovers?
Scrip for scrip rollover is often associated with public company takeovers, but it’s essential to note that this rollover relief is available not only for public companies but also for private companies. It can be particularly valuable when the owners of two businesses wish to merge, facilitating a smooth transition without incurring capital gains tax (CGT) liabilities.
Another valuable form of relief is demerger relief, which offers protection from CGT when a company group (or trust group) undergoes a restructuring process that results in the subsidiary entity no longer being wholly owned by the head entity. For instance, if individuals A and B initially own all the shares in Company 1, and Company 1, in turn, wholly owns Company 2, a demerger can be initiated. Following the demerger, A and B will own all the shares in both Company 1 and Company 2. Consequently, Company 2 will no longer be considered a subsidiary of Company 1. When properly executed, this demerger process qualifies for CGT relief.
It’s worth mentioning that demerger relief rules can also apply to the demerger of a trust group, especially when a unit trust holds units in another unit trust. However, it’s important to exercise caution when considering a demerger, as there are specific rules and potential pitfalls that could negate the tax relief. Nevertheless, the demerger relief rules present an opportunity to restructure a company or trust group without adverse tax consequences, making them a valuable option in certain scenarios.
What to take away from this?
In summary, taxpayers frequently seek to alter their business structures, and while restructuring can potentially trigger capital gains tax (CGT) and other tax-related issues, there are avenues to mitigate or avoid these problems if the restructuring is conducted correctly. Additionally, relief from stamp duty may be available in some cases. (Talk to your accountant about Land tax considerations too, if dealing with property)
It’s crucial to exercise caution during the restructuring process because the Tax Act includes various anti-avoidance provisions that need to be navigated carefully to ensure compliance with tax regulations and avoid unintended consequences. Proper planning and adherence to the relevant tax rules and relief provisions are essential when considering a business structure change. So is contacting your accountant (or us). Just reading this blog post won’t do anything. Whilst trying to apply what you learned here will most certainly land you in hot waters.
Don’t want to land in piping hot boiling water over CGT.