The CGT treatment of pre-CGT shares and company assets keeps causing confusion, so here is a handy overview.
Pre-CGT Shares and Company Assets
Pre-CGT shares and company assets will not stay pre-CGT forever. At some stage they change to post-CGT. When depends on the CGT event.
In this episode Geoff Stein of Brown Wright Stein Lawyers will give you a handy overview.
Here is what we learned but please listen in as Geoff explains all this much better than we ever could.
To listen while you drive, walk or work, just access the episode through a free podcast app on your mobile phone.
Pre-CGT Shares and Company Assets
To show you how and when pre-CGT shares and company assets change to post-CGT, let’s go through four different scenarios.
Let’s use the example of companies A, B, C and D. All were established before 20 September 1985 by separate individual shareholders. All four companies hold one company asset each, a building, each purchased in August 1985 for $100k from share capital.
So on 20 September 1985 the shares and company assets in all four companies are pre-CGT. But now, after 20 September 1985 the following happens:
Company A – Change in Majority Shareholding
Upon a change in majority shareholding, the shares and company assets (building) all lose pre-CGT status, all now post-CGT.
The shares become a post-CGT asset in the hands of the new shareholder with market value as cost base.
All company assets become post-CGT assets with market value as their cost base as well.
Example Company A
Let’s say the new shareholder pays $5m for the shares and the company sells the building for $6m a year later.
Original shareholder: Makes a $4.9m capital gain ($5m less $100k cost base) which is CGT-free.
Company: Revalues the asset to $5m against capital profits reserve ($4.9m). When selling the building for $6m, the company makes a $1m taxable capital gain ($6m less $5m cost base), no 50% CGT discount.
New shareholder: Nothing happens until they withdraw the $6m.
The first $1m comes out as a fully franked dividend. The $100k share capital comes out as a capital distribution upon liquidation of the company or through a share capital reduction, reducing the shares’ cost base from $5m to $4.9m.
The $4.9m comes out in one of two ways: as an unfranked dividend or as a capital distribution upon liquidation of the company. As an unfranked dividend it gets taxed at the new shareholder’s marginal tax rate. As a capital distribution it goes against the remaining share cost base of $4.9m without any CGT.
Company B – Capital Improvements
Capital improvements to a pre-CGT asset are treated as post-CGT per Subdivision 108-D. Everything else (shares + original building) remains pre-CGT. Upon sale, a portion of the purchase price is allocated to the post-CGT capital improvement, giving rise to a taxable CGT. Look out for depreciation. The rest is booked against capital profits reserve.
Company C – 75% of Net Value
When a pre-CGT company’s net value consists of more than 75% of post-CGT asset, then the shares’ CGT status is apportioned between pre- and post-CGT accordingly.
Example Company C
The first building is worth $5m. The original shareholder buys another building worth $15m. So 75% of the company’s net value is now post-CGT. Shares are pro-rata pre and post-CGT upon purchase (25% pre-CGT, 75% post-CGT). The first building remains pre-CGT. The new building is post-CGT.
Company D – Death of Original Shareholder
Upon death of the original shareholder the shares change to post-CGT with market value at time of death as cost base.
The company assets remain pre-CGT as the new shareholder slips into the shoes of the original shareholder as per s149-30 (3) ITAA97, so doesn’t trigger a change in majority shareholding.
So for company assets the new shareholder slips into the shoes of the original shareholder. But not for the shares themselves.
Example Company D
When we go through this example, three things happen: 1 – The death of the shareholder, 2 – The sale of the building and then 3 – The payout of the proceeds from the sale of the building.
1 – Death of the Original Shareholder
Let’s say that at the time the original shareholder dies the building (original cost $100k) is worth $5m.
New Shareholder: Since the shares were pre-CGT, the new shareholder receives the shares with the market value at time of death as cost base*, so $5m. And the shares are now post-CGT.
*If the shares had been post-CGT before death, the new shareholder would have received the original shareholder’s cost base.
Company: No CGT Event, no change to cost base or CGT status. The company assets stay pre-CGT.
2 – Sale of Building
The company sells the building for $6m.
New Shareholder: No CGT event
Company: CGT event A1 – the capital gain is $5.9m ($6m less $100k cost base). However, no taxable capital gain since the building is pre-CGT. So the company books the $5.9m capital gain against capital profits reserve.
3 – Withdraw of Money
The company pays the $6m to the new shareholder.
New shareholder:
The $100k share capital comes out as a capital distribution upon liquidation of the company or through a share capital reduction, reducing the shares’ cost base from $5m to $4.9m.
The $4.9m comes out in one of two ways: as an unfranked dividend or as a capital distribution upon liquidation of the company. As an unfranked dividend it gets taxed at the new shareholder’s marginal tax rate. As a capital distribution it goes against the remaining share cost base of $4.9m without any CGT.
The remaining $1m ($6m less the $5m cost base) comes out as an unfranked dividend – no CGT event – taxed at the marginal tax rate.
Discretionary Trust
The same would have applied if the shares had been held by a unit or discretionary trust as long as the beneficiaries haven’t changed since 1985 as per IT 2340 and ID 2003/778. But would not apply to a testamentary trust.
So these are the four most common scenarios in which pre-CGT shares and company assets change to post-CGT at some stage. But this is just a rough overview. Please listen in as Geoff explains this much better than we ever could.
Please also listen to ep 253 Pre-CGT company assets after death.
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Pre-CGT Company Assets After Death
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