The Federal Court recently had to consider the interaction between the consolidated group provisions and the operation of Part IVA.
Under the consolidated group rules, where a subsidiary member joins a consolidated group the cost to the head company of the acquisition of the subsidiary is pushed down to become the tax cost setting amount of any asset owned by the subsidiary. Therefore when the subsidiary subsequently disposes of that asset, the subsidiary member is not taxed on the difference between the proceeds and the cost of the assets (i.e. it is not taxed on the profit actually made) but rather the head company is taxed on the economic profit made by the head company i.e. the difference between the proceeds and the tax cost setting amount of the asset owned by the subsidiary rather than the profit in fact made by the subsidiary.
In this case, a subsidiary in a consolidated group sold an asset namely shares in another company. Because of the operation of the tax cost setting rules that apply to a consolidated group, the head company only had to include in its assessable income the difference between the proceeds of sale of the shares held by its subsidiary and the tax cost of that asset. This latter amount was considerably less than if the subsidiary was not a member of a consolidated group and had sold the shares.
The Commissioner sought to apply Part IVA to cause either the head company or the subsidiary to include in its assessable income the profit actually made by the subsidiary rather than the economic profit made by the head company under the consolidated group rules.
Firstly the Court said that the Commissioner cannot apply Part IVA to issue an assessment including an amount in the assessable income of a subsidiary member of a consolidated group because a Part IVA determination only operates on the calculation of a taxpayer’s assessable income on a particular hypothesis and does not and cannot authorise the exclusion of a company from a consolidated group in fact so as to constitute it an entity liable to tax, nor can it authorise the Commissioner to disregard the consolidated group provisions and therefore assess the subsidiary member in disregard of those provisions. Therefore the Part IVA determination issued to the subsidiary was not valid.
Secondly the Court said that any assessment issued to a taxpayer based on a determination by the Commissioner under Part IVA to include an amount in the assessable income of a taxpayer must be factually consistent with the hypothesis upon which that determination is predicated whether or not the taxpayer is one and the same as the first taxpayer or a different taxpayer. In this case the Part IVA determination was based on the hypothesis that the subsidiary was not a member of a consolidated group when it sold the shares. Therefore the issue of an assessment to the head entity on the basis of this hypothesis was not possible because it was inconsistent with that hypothesis.
Thirdly the Court found that even if the Commissioner could have relied upon the amended assessment to give effect to his Part IVA determination contrary to the Court’s above conclusion on that point and if, as the Court found, the subsidiary company did obtain a tax benefit in connection with the scheme identified by the Commissioner, nevertheless the Court concluded that having regard to the eight matters applicable to a Part IVA determination, none of the parties who entered into or carried out that part or those parts of the scheme that each in fact entered into or carried out did so for the dominant purpose of enabling the subsidiary to obtain a tax benefit.