Publications / Taxation
WHO SHOULD READ THIS
- Accountants & Tax Advisers.
THINGS YOU NEED TO KNOW
- The rights attaching to dividend access shares can vary significantly from case to case. Care needs to be taken when considering their legal effect within the context of the small business CGT concessions.
WHAT YOU NEED TO DO
- Understand the potential implications and seek specific advice from a tax law expert if there is any uncertainty.
The Federal Court has dismissed the Commissioner of Taxation’s appeal in FCT v Devuba  FCAFC 168 and confirmed that a dividend access share did not grant the holder an entitlement to the payment of a dividend immediately prior to the CGT event.
This finding confirms the earlier AAT decision that the relevant company was eligible to apply the small business CGT concessions (Concessions) given that the CGT Concession Stakeholders together had a ‘small business participation percentage’ (SBPP) of at least a 90% immediately prior to the CGT event.
On 19 May 2010 Devuba Pty Ltd (Devuba) sold shares in a company and incurred a capital gain of $4,376,896.
Devuba subsequently applied the small business CGT concessions and reduced the capital gain to nil.
At the time of the CGT event, Mrs van der Vegt held a ‘dividend access share’ (DAS) in Devuba.
The DAS was issued in 2007 by way of resolution (2007 Resolution). Holders had a right to dividends, but no rights to vote at meetings or share in any surplus on winding up. There was also a right:
“to receive in respect of any such shares, such dividends, capital or other distributions (if any)…as in respect of each class the Directors may from time to time determine to pay.”
In 2008, a further resolution was passed by the directors of Devuba (2008 Resolution) which provided, amongst other things, that the holders of the DAS have no right to the payment of a dividend until such time as the directors of the company resolve that the holder was entitled to a dividend.
Original AAT decision
Before the AAT, the Commissioner argued that as Devuba could have paid a dividend to the holder of the DAS to the exclusion of all and any other classes of shares (including ordinary shareholders) the CGT Concession Stakeholder’s SBPP was 0% immediately before the CGT event.
This argument arises from the technical operation of section 152-70(1) of the Income Tax Assessment Act 1997 (Cth) (ITAA1997) which provides that an entity’s direct SBPP is the smaller of:
a) the percentage of the voting power in the company;
b) the percentage of any dividend that the company may pay (emphasis added); or
c) percentage of any distribution of capital that the company may make
The parties agreed that if the DAS was ignored, both Mr and Mrs van der Vegt were CGT Concession Stakeholders. The critical issue, therefore, was the effect of the words “the percentage of any dividend the company may pay” when considered within the context of the DAS.
In the Commissioner’s view, the percentage of “any dividend that the company may pay” in s152-70(1)(b) ITAA1997 included the DAS.
Devuba argued that no dividend was payable under the DAS immediately before 19 May 2010 because the terms of the DAS required the directors to first determine that they were entitled to a dividend.
The AAT found that the words “may pay” in s152-70(1)(b) ITAA 1997 didn’t mean “may pay at any time in the future under any circumstances”, but rather the provision required testing whether a hypothetical dividend could be paid by the company immediately prior to the CGT event.
Despite questioning the validity of the 2008 Resolution, the Tribunal held that given the terms of the DAS issue, the only dividends that could be paid immediately prior to 19 May 2010 were to the ordinary shareholders.
Devuba was successful.
On appeal in the Federal Court, both parties agreed that the proper construction of Devuba’s Memorandum and Articles of Association (MAA) was critical, particularly as to whether they permitted declarations of dividends to Mrs van der Vegt immediately before 19 May 2010.
The Court carefully considered the MAA, the specific terms of DAS issue and the overall context and found that the 2008 Resolution had expressly limited Devuba’s ability to pay a dividend to holders of the DAS until such time as the directors resolved that they had the holder’s had a right to payment of a dividend. More specifically, Devuba’s ability to declare a dividend to Mrs van der Vegt was dependent upon a prior determination by the directors.
Given that no determination had been made immediately prior to 19 May 2010, the company could not declare a dividend under the DAS, and the appeal was dismissed.
What does is it mean for me
The risks associated with dividend access shares in the context of the small business CGT concessions have been well reported and forewarned.
Whilst the decision in FCT v Devuba is a positive outcome for the taxpayer, practitioners should not regard it as a general proposition that dividend access shares are insignificant in the context of the Concessions.
It is important to understand that the characteristics of a ‘dividend access share’ can differ greatly from case to case, and they are by no means a generic share class. Accordingly, assumptions should not be made about the holder’s rights in any context and professional advice should be sought where necessary.
It is likely that the ATO will maintain their interpretation of the provisions and continue to deny small business CGT concession claims where the facts support their view.
Focus covers legal and technical issues in a general way. It is not designed to express opinions on specific cases. Focus is intended for information purposes only and should not be regarded as legal advice. Further advice should be obtained before taking action on any issue dealt with in this publication.