Treasury has taken another step in the protracted project to create a new tax-transparent vehicle for holding passive investments with the release of an Exposure Draft (‘ED’) of the tax rules for the Corporate Collective Investment Vehicle (‘CCIV’). The project to develop the CCIV, to operate alongside Managed Investment Trusts, was started because of a view that some non-resident investors were discouraged from investing in Australia because they were unfamiliar with unit trusts, the preferred structure in Australia.
The background to the project is set out an earlier Riposte. Treasury has been releasing draft legislation of both tax and regulatory provisions in tranches since 2017 though, it is fair to say, most of the attention so far has been on establishing the regulatory framework. The ED just released by Treasury is the second version of the tax rules, and it will likely add at least another 100 pages to the tax legislation.
The key elements of the tax framework in the most recent ED do not differ significantly from those in the first draft (released for public comment in December 2017) and the attempt to ensure that the tax treatment of investors in CCIVs aligns with the treatment of investors in Attribution Managed Investment Trusts (‘AMITs’) remains a dominant feature of the ED.
The ED has a number of requirements which are directed at the registered company which is the CCIV: a CCIV is a class of company registered under the Corporations Act that satisfies certain regulatory requirements. Since the company must be registered under the Corporations Act, it will be an Australian resident for tax purposes.
But the legislation also works around the paradigm that each ‘sub-fund’ of a CCIV is to be treated as a separate entity for tax purposes, so that a single CCIV can serve as the umbrella for many different investors and investments. As a consequence, a number of requirements are made to apply at the level of the sub-fund: the sub-fund must be widely-held and not closely held, the sub-fund must not carry on a trading business, and so on. Sometimes this approach flies in the face of legal niceties – investors actually hold shares in the CCIV, but their tax liability is determined as if they invested into a sub-fund; a tax consequence can be triggered for a sub-fund from shifting an asset from one sub-fund to another even though the CCIV has not sold to an outsider. A lot of the ED is dedicated to bringing about this kind of re-construction of legal reality.
Where the CCIV and the sub-fund satisfy the tax requirements, investors are taxed under rules that mirror the attribution model used for AMITs:
- the CCIV attributes amounts of assessable income, exempt income, non assessable non exempt income and tax offsets to investors of each sub-fund on a fair and reasonable basis;
- members are taxed as if they had derived the attributed amounts directly (including deemed capital account treatment). So, distributions from these companies are not dividends for tax purposes (unless the amounts were received by the CCIV as dividends),
- an unders-and-overs mechanism is available for minor discrepancies between the amounts actually attributed and the amount on which tax should have been paid,
- non-resident investors in CCIVs will be liable to withholding tax under a regime which will be common to both CCIVs and Withholding MITs,
- where a sub-fund breaches an eligibility requirement, the fund is liable to pay income tax at the corporate tax rate,
- investors will increase the cost bases of their shares in the CCIV for amounts which are attributed but not distributed (and decrease their cost bases if the amount distributed exceeds the amount attributed).
But the Achilles heel of these provisions – a problem we alluded to from the very beginning – remains unchanged in this Draft. A sub-fund that does not satisfy the eligibility requirements for attribution will be subject to tax at the top corporate tax rate, and because a CCIV is not a franking entity, and distributions by a CCIV are not frankable, that entity level tax is not creditable to local investors. The ED has changed the handling of non-compliant funds in one respect: a CGT roll-over is now provided to allow a non-compliant sub-fund to restructure into a new company that is not a CCIV, but the process looks cumbersome and incomplete: it allows the sub-fund’s assets to be shifted into a new company without triggering gain or loss for the fund or the investors, but the new company does not acquire a franking account with the prior tax credited to it. And there are undoubtedly other problems lurking in the 100+ pages of legislation. As we said before, there must be some doubt whether the CCIV is going to prove an attractive investment vehicle when it eventually starts.
A further issue we alluded to has not been fixed in the ED. In the first draft, Treasury took the opportunity to propose new provisions, applicable to both AMITs and CCIVs, which would lower the threshold at which penalties would be triggered. Under current law, the trustee of an AMIT is liable to an administrative penalty if the AMIT has an ‘under’ or an ‘over’, provided the discrepancy resulted from intentional disregard of the law or from recklessness. The first version of the legislation proposed reducing that threshold so that a penalty would be triggered if the discrepancy resulted from failure to take reasonable care. Despite industry submissions, Treasury has decided to persevere with this proposal in the ED. This means, for example, that unlike any other taxpayer an AMIT or CCIV that negligently over-states its taxable income will be liable for a penalty.
The Exposure Draft is open for submissions until 28 February 2019.