Written by Senior Tax Counsel Judith Taylor
As many of our readers will be aware, the long-awaited Exposure Draft containing the tax treatment of the proposed new corporate collective investment vehicle (CCIV) was released for consultation on 20 December 2017 (Exposure Draft). The CCIV is one of two main proposed solutions (the other is a limited partnership collective investment vehicle (LPCIV)) to the problem identified in the 2009 Johnson Report and the 2015 Board of Taxation's report on tax arrangements applying to collective investment vehicles: that offshore investors are dissuaded from investing in Australian funds because they do not understand unit trusts, and if they had access to a broader range of collective investment vehicles, Australian fund managers would be better able to compete with offshore fund managers.
Those of you who have read some of the various articles that Unravelled has published on the topic of the proposed CCIV regime will be aware that Allens has been a strong proponent of a completely separate legislative regime for CCIVs because of the significant differences in the legal structures of a CCIV and a unit trust. We were hoping that Treasury would adopt a 'blank piece of paper' approach in designing a workable system, rather than trying to squeeze the new entities into an existing regime, so that, among other things, the inevitable anomalies that arise from the interactions between, and overlaps with, other tax provisions could be recognised and addressed with relative ease.
Well, that has not happened. The attribution managed investment trust (AMIT) tax provisions have been used as the architecture for the tax treatment of CCIVs, with both regimes being tightly meshed together. However, one advantage arising from the meshing of the AMIT and CCIV tax provisions is that it starkly demonstrates where the two regimes diverge.
Investors and fund managers alike are supposed to be indifferent as to whether they will choose a CCIV or an AMIT investment structure. In other words, the two entities are supposed to be 'structurally neutral', with the CCIV simply being a more internationally recognisable investment product. If the Exposure Draft were to be enacted in its current form, stakeholders will definitely not be indifferent as to which type of entity is used.
The Exposure Draft contains a new concept of an 'Attribution investment vehicle' (AIV) which is either an AMIT or an 'ACCIV' (broadly, a CCIV that has fulfilled the relevant widely held ownership and 'no trading business' tests ). 'AMIT' has become' AIV', 'withholding MITs' have become 'withholding AIVs', 'trustee' has become 'operator' and 'AMMA statement' has become 'AIVMA statement' and so on. The attribution mechanics for ACCIVs are identical to those currently used by AMITs.
One area that appears to require some further thought is the treatment of sub-funds and different classes of shares in an ACCIV. By using the AMIT framework, the resultant treatment of classes of shares in ACCIVs is somewhat confusing.
To recap, the CCIV regime envisages one 'umbrella' ACCIV with numerous insolvency remote sub-funds that do not have separate legal personalities. A member of an ACCIV will hold one or more shares that are 'referable to a particular sub-fund', not shares in a sub-fund.
Notwithstanding that an ACCIV sub-fund does not have a separate legal personality, the Explanatory Memorandum states that the legislation equates a sub-fund with an AMIT and uses that as the justification for requiring that each sub-fund meet the eligibility rules that apply to an AMIT (see further below on this topic). Consequently, asset transfers between sub-funds will be taxable transactions. This also means that sub-funds themselves can have different classes of shares that are referrable to the sub-fund.
The draft legislation permits an election to be made such that classes of homogenous shares in an ACCIV can be treated as separate ACCIVs for tax purposes. We suspect that, in the context of CCIVs, this is meant to be limited to a class of homogenous shares that is referrable to a single sub-fund and not classes within a single sub-fund, although the legislation does not say that. This also means that a single CCIV sub-fund with different investor classes could not be treated as a separate ACCIV, which would seem to be an odd outcome. This is an example of CCIVs trying to wear an ill-fitting AMIT suit.
In our experience, from an administrative and management perspective, fund managers quite like the concept of the CCIV 'umbrella' structure consisting of one CCIV with numerous, insolvency remote sub-funds. However, the appeal of this structure is significantly diminished by the tax regime set out in the Exposure Draft, under which the tax attributes of each sub-fund of a CCIV will have the potential to affect the tax treatment of all of the sub-funds.
Under the Exposure Draft, if one sub-fund fails the widely-held requirements and closely-held restrictions or does not pass the 'no trading business' test, the umbrella CCIV will not qualify as an ACCIV. Similarly, if each sub-fund does not pass the requirement for a substantial portion of investment management activities to be carried on in Australia, the CCIV will not qualify as a 'withholding AIV'. Yet, transfers of assets between the sub-funds will be taxable transactions. These approaches are inherently contradictory.
Investors considering investing into a sub-fund will not want to be exposed to the tax risks associated with other sub-funds of a CCIV. With the benefits of insolvency remoteness effectively being defeated by these tax risks, fund managers are unlikely to embrace the ACCIV regime.
If an AMIT ceases to be an AMIT because, say, its ownership pattern has changed, assuming its constitution is drafted such that it includes 'present entitlement' clauses (as most are), the AMIT is likely to continue to be treated as a flow-through unit trust, albeit without the benefits of the AMIT regime such as the 'unders and overs' concession. If an AMIT ceases to be an AMIT because it has breached the 'no trading business' test, the unit trust will be taxed like a company, with the ability to frank distributions.
Under the Exposure Draft, if an ACCIV ceases to be an ACCIV for either of these reasons, it will be taxed like a company and will not be able to frank its distributions, including distributions to non-residents which will be subject to dividend withholding tax. This resultant effective double taxation is a deliberate policy decision. The Explanatory Memorandum states that it is 'intended to be a disincentive for funds registering as a CCIV, without ever having the intention of electing into the ACCIV tax regime'. However, it is difficult to understand in what circumstances a fund manager would want to register a fund as a CCIV and not elect into the ACCIV regime.
The Explanatory Memorandum also states that a CCIV must deregister from being a CCIV if it does not elect into the regime or fails the eligibility criteria to be an ACCIV (although this is not in the draft legislation yet).
Surely there are more simple legislative ways to discourage this perceived potential wrong-doing than using the tax legislation? Again, investors and fund managers will not want to use an investment vehicle where a change in circumstances could have such catastrophic repercussions for investors.
Possibly not as commercially significant as the issues discussed above, an obvious difference in the tax treatment of AMITs and ACCIVs is that AMITs can claim the CGT discount for direct investments in capital assets (such as, for example, investments in buildings), whereas ACCIVs will not be entitled to claim the CGT discount for direct investments, but will be able to 'flow through' to investors CGT discounts made by entities in which they have invested (eg where an ACCIV has invested in a unit trust that is entitled to a CGT discount). Again, the Explanatory Memorandum makes it clear that this is a deliberate policy decision. This different tax treatment alone is enough to ensure that some investors and fund managers will not be indifferent as to whether an investment is made through an AMIT or an ACCIV.
We are hoping that the above issues are simply a case of things getting lost in translation and that the final CCIV tax regime will be fair and reasonable when compared to the AMIT regime. It would be a great shame for so much intellectual power and effort over the years to have been put into developing an entity that has a great name, but is very rarely used.