The Treasury Laws Amendment (2017 Enterprises Incentives No. 1) Bill 2017 finally passed both houses of Parliament earlier this year (in February 2019), having first been introduced as draft legislation in March 2017.
The Bill introduced a new ‘similar business test’ which can be applied when working out whether an entity’s previous tax losses can be utilised in a particular income year, which operates in conjunction with the existing ‘same business test’.
Under the previous loss rules, an entity could carry forward tax losses and deduct them from assessable income in future income years if the entity satisfied either:
- The ‘continuity of ownership’ test; or
- The ‘same business test’.
In brief, the ‘continuity of ownership’ test requires at least 50% of the voting, dividend and capital rights to be held by the same person (or people) between the period in which the loss was incurred and the period in which the entity wishes to utilise the loss.
In other words, a change in the control of the entity in that time would result in the test being failed. The issue of different share classes carrying different voting, dividend or capital rights could also be problematic.
The ‘same business test’ requires an analysis as to whether the business carried on by the entity in the current income year is substantially the same as the business which was being carried on at the time the loss was incurred.
Importantly, the ‘same business test’ contained two negative limbs which could apply to mean an entity automatically failed the test, namely if the entity:
- Derived assessable income from a business that it did not carry on before loss was incurred; or
- Derived income from a transaction off a kind which it had not previously entered into.
These two negative limbs meant that, the ‘same business test’ could frequently be failed (and therefore access to carry-forward tax losses disallowed) even where the business remained substantially the same.
The two tests above have historically been problematic for technology start-ups in particular, given their tendency to both have changes to their capital structure over time as new capital is raised and for the focus of the business to evolve as new technology opportunities or target markets are identified.
The new rules alleviate some of these issues by introducing a third alternative ‘similar business test’.
In essence, the ‘similar business test’ eliminates the two negative limbs that are considered in the ‘same business test’ and mean carry-forward losses may still be available even where an entity commences a new business or transaction, provided those activities or transactions have evolved from the former business or transaction.
The ATO has issued Law Companion Ruling LCR 2019/1, which gives some guidance on the new rules.
LCR 2019/1 gives several examples of situations where the ‘similar business test’ would be satisfied, such as a company which operates a commercial business-to-business bicycle courier company which leverages its bicycle design and software technology to expand and launch an additional food delivery business.
Importantly, the LCR emphases that the ‘similar business test’ will only be satisfied where there is continuity between the old and business or transaction and that the new business must have evolved or grown organically from the old business.
Overall, the changes are a positive and should make it easier for a number of business to retain access to their historic tax losses.
For further information, please contact Patrick Ellwood on 0400 503 111 or patrick@cloverlaw.com.au.
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