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CGT small business concessions and exotic share classes

Exotic share classes, such as redeemable preference shares and dividend only (dividend access [DA]), shares are a longstanding concern for a private company seeking to access the small business CGT concessions (the Concessions) in Division 152 of the Income Tax Assessment Act (ITAA) 1997. Exotic share classes can derail qualification as a significant individual and thence as a CGT concession stakeholder for all shareholders of the company. The consequences are that a private company, otherwise eligible for the Concessions:

will not be eligible in some cases; and
in more or all cases, where the company is eligible and can apply the Concessions, shareholders of the Company with an insufficient small business participation percentage (SBPP) won’t be able to individually participate in the Concessions along with the company.

Why does this happen?

It’s due to the structure of section 152-70 of the ITAA 1997 which, in the case of a company, determines SBPP based on the “the smaller or smallest”:

… percentage that the entity has because of holding the legal and equitable interests in shares in the company:
(a) the percentage of the voting power in the company; or
(b) the percentage of any dividend that the company may pay; or
(c) the percentage of any distribution of capital that the company may make;
or, if they are different, the smaller or smallest.

Illustration

So a DA share may entitle a shareholder to dividends but not to voting rights or distributions of capital. Dividends of a company with DA shares can be declared on shares in the DA class only so other shareholders of the company, entitled to:

voting rights and distributions of capital e.g. ordinary shareholders; but
not to dividends as they are diverted to the DA share class;

leaves all shareholders with a zero SBPP. The SBPP is driven by the smallest of (a), (b) and (c) above and, in the case of the example ordinary shareholders, it is (b) that is zero. Zero is less than the 20% SBPP needed for a shareholder to be a significant individual: section 152-55.

What to do with dormant DA shares?

But what if a company on the verge of making a capital gain to which the Concessions can apply:

has a DA shareholder who could receive dividends declared to the DA class; but
desists from paying dividends on the DA class and all dividends are instead payable to ordinary shareholders?

Broadly this was what happened in Commissioner of Taxation v Devuba Pty Ltd [2015] FCAFC 168. I have no first-hand knowledge of the background to the case but I imagine Devuba’s experienced tax lawyer, Gregory Ganz, was aware of and advised on section 152-70 in the years in the lead up to the profitable sale of shares in another company, Primacy Underwriting Agency Pty Ltd, for $4,381,645 by Devuba Pty. Ltd. on 19 May 2010.

The DA share dilemma

I can see he and Devuba faced a dilemma. If, by 19 May 2010:

the DA shareholder still held the DA share then section 152-70 could apply to reduce the ordinary shareholders’ SBPPs to zero because Devuba “may pay” dividends on the DA class, This is the view that the Commissioner of Taxation was to take and contest in the case;
Devuba had redeemed or cancelled the DA share so that dividends would no longer be paid on DA shares there would have been a CGT event, probably CGT event C2, on which the DA shareholder would be taxed with the value of the capital proceeds, based on the market value substitution rule, being attended by valuation uncertainty; or
Devuba altered the rights of the DA shareholder so that dividends would no longer be paid on DA shares then CGT impacts and comparable valuation uncertainty would have arisen under the value shifting rules in Part 3-95 of the ITAA 1997 which had commenced to operate from 2002.

In the event Devuba went to the share sale on 19 May 2010 with the DA shareholder still holding the DA share. However, on 1 September 2008, the directors had passed a resolution in the accordance with Article 83 of the Memorandum and Articles of Association of Devuba that dividends were not to be paid on the DA share class until the directors passed a resolution to do so. Effectively this was a somewhat soft touch moratorium on DA class dividends probably insufficient or thought insufficient to trigger an alteration in rights which would have attracted value shifting CGT consequences.

“May pay”

Devuba figured dividends Devuba “may pay” on the DA class became zero as a matter of fact and likelihood because of this resolution. On the other hand the Commissioner took the view that Devuba could nonetheless legally pay dividends to the DA shareholder and so the ordinary shareholders had a SBPP of zero due to (b).

The Federal Court and the Full Federal Court agreed with Devuba. It was found that Devuba was unable to pay dividends immediately before 19 May 2010 to the DA shareholder with the moratorium in place. The courts found that the moratorium was valid and effective under the Memorandum and Articles of Association such that dividends that Devuba “may pay” on the DA class were zero. It followed that the percentage of dividends Devuba “may pay” to ordinary shareholders gave the ordinary shareholders sufficient SBPP to meet the relevant SBPP thresholds for the Concessions relevant in the case.

Exotic share class problem with the Concessions persists

This case shows the concern mentioned at the outset persists: Issued DA shares can still drive SBPP to zero and deprive ordinary shareholders of a company of the Concessions even where dividends are not paid to the DA class. Only with nuanced planning, an understanding of the constitution of a company and its interaction with the terms of the relevant exotic share class can help overcome a SBPP problem caused by an exotic share class with SBPP and the Concessions.

Even further income tax trouble

And income tax problems with exotic share classes like DA shares don’t end there. DA shares used for tax minimisation are considered aggressive tax planning and are the subject of the Commissioner’s:

Taxpayer Alert TA 2012/4 Accessing private company profits through a dividend access share arrangement attempting to circumvent taxation laws

which contains a lengthy list of bases on which the Commissioner can and will tax distributions on DA shares including treatment of DA share class distributions as dividend stripping under Part IVA of the ITAA 1936. Exotic share class can also have unexpected consequences under the debt equity rules in Division 974 of the ITAA 1997.

Reflection

Although the outcome in Devuba was technical and based on its particular facts, it marks a divergent, realistic and perhaps reassuring approach to the enquiry into dividends a company may pay. That stands in comparison to the unrealistic and dogmatic approach taken particularly by Revenue NSW and under the Duties Act (NSW) 1997 (DA NSW) to the questions of:

whether a trustee or trustees may become beneficiaries of a trust for the purposes of obtaining concessional duty on a change of trustee of a trust under sub-section 54(3) of the DA NSW; and
whether foreign person or persons may become a beneficiaries of a trust for the purposes of foreign person stamp duty and land tax surcharges under section 104J of the DA NSW;

obliging substantial, sometimes legally unachievable and largely unnecessary trust deed amendments before it can be accepted that such persons will never take a percentage of a trust as a beneficiary of the trust oblivious to perceivable facts, likelihoods and evidence that such a beneficiary would ever take.

A dentist might be better than the cheapest guy with a drill

Proprietary company setups are not all the same. The $512 ASIC registration fee doesn’t get you a constitution for your company. Company constitutions vary and are on a quality spectrum and quality can count just like with any product.

Is a company constitution worth having?

A company set up without a constitution gets a one size fits call called the replaceable rules which gives a bare bones way for the company, and those involved in it, to operate. One size fits all can lead to a unintended outcomes. For instance an often unforeseen, easy to trip, requirement is to notify other directors of a conflict of interest between a director and the company. A properly tailored company constitution can modify conflict of interest rules away from the one size fits all to suit a company where only mum and dad are directors. Failure to do this can get weaponised like, say, when directors get divorced. And don’t think that this is the only reason why the replaceable rules may be a poor fit for your company.

Getting a capital structure of a company right

I do work sorting out situations made worse because companies are not understood by those setting them up. A company’s ideal capital structure is a big issue when a company is acting in its own right and not a trustee. Unless you understand the impact of s112-20 of the ITAA 1997 on the issue of shares in the company you’re a big chance to pay more capital gains tax that you might have when you sell or exit out of a company that has grown.

Company capital structure fails can lead to unnecessary loss of small business CGT concessions for small business which can amount to a big economic cost where a company ends up being a good business.

Getting “my” money out of a company

Shareholders try to get “their” money out of a company following a poorly executed lawyer free setup is another world of grief which can ironically bring in the lawyers, the ATO and expensive insolvency specialists.

A reckoning on death

Lots of problems don’t show up until a shareholder dies. This is often when the problem comes to my desk. It is sad when a family is tied in knots because their company establishment going way back was stuffed up. Any company setup, whichever way, might seem the same through times of smooth sailing. Why bother with the pesky paperwork at all? Wait, too, until the shareholders divorce, a fight amongst shareholders ensues or there is trading or tax trouble with the company: a sudden turn of interest, then, in the company’s capital, structure and records.

The “professional services” industry – escape for profit

Most of the non-legal providers on the internet are suss. They are derived from the offshore tax haven shell company “professional services” industry or use their business model. ICIJ media gives you an idea of their ethics https://cutt.ly/oUO7bvW and how they help their customers deal with local rules and commitments (not). Their model is to hide and escape from them.

Company constitutions, trust and SMSF deeds and partnership agreements are legal documents, and these providers are there to help you escape from having to get them from a lawyer charging a fee who is ethically obliged to professionally prepare them and whose work is covered by a professional indemnity/negligence insurance to protect you. And what about these rights? What a solicitor must tell you https://go.ly/P0jLU Worth having?

Their model is often something like this: we are not lawyers, so we give you escape from lawyers with this service. But we offer documents which are (based on) documents authored by a lawyer.

Reality check on unqualified legal practice

However you take this double-think pitch on the merits of avoiding lawyers, a reality is that the model is illegal: see the Federal Court case of Australian Competition & Consumer Commission v. Murray [2002] FCA 1252 https://jade.io/article/106192 to appreciate how documents supplied this way is from an unqualified legal practice source.

Ah! lawyers

There is a misconception that lawyers in this space are not worth the fees. I, for one, reckon my operation is lean and mean. And there are others like me. Sure my company and trust setup services cost a little more because my setups involve me thinking about and taking responsibility for what I am asked to do, and guiding clients on their setup choices based on what I know about them and thirty-five years’ experience of the ever changing traps – and that can’t be done by AI, yet.

What you get

So I can’t “compete” with a non-thinking service which gives you a company, trust of SMSF setup from a sausage cutter: documents all done and delivered instantaneously, with your credit card charged just as fast. But you get my drift: this blindingly impressive service just may be just too fast, hassle-free and brain-free. Look at the fine print (hello accountants) about who takes responsibility for loss if anything, including data inputs for which the inputter is made fully responsible, turn out not quite right.

So I agree. It could be better to go to a dentist than the cheapest guy with a drill.

This post is actually from a post I made to another blog. I think it’s worth another post on this blog even though it’s a more unruly and uncompromising than my usual posts here!

Tax risks of low or zero interest loans to private companies

Low or zero interest loans (LOZILs) to companies by their shareholders are generally not a tax problem in themselves.

Total Holdings

The well-regarded 1979 Full Federal Court decision in F.C. of T. v. Total Holdings (Australia) Pty. Ltd. [1979] FCA 53 allowed a tax deduction to a holding company for its interest costs of borrowing despite the holding company on-lending the borrowing to its operating subsidiary at zero interest.

The deduction for the whole of interest paid on the borrowing was allowed to the holding company as it could show its purpose in using the money borrowed was to improve the profitability of the subsidiary. That improvement meant an increased likelihood of the holding company deriving assessable dividend or interest income from the subsidiary company.

No Division 7A deemed dividend

When a LOZIL is by a private company to another private company who may either be:

a shareholder of the lender; or
associated with a shareholder of the lender;

the question of whether the LOZIL could be treated as a deemed dividend under Division 7A of Part III of the Income Tax Assessment Act (ITAA) 1936 arises. A LOZIL would not be immune from deemed dividend treatment under section 109M in Division 7A as it would be:

neither a loan in the ordinary course of the business of the lender;
nor on the usual terms on which the lender makes loans to other parties at arm’s length.

However section 109K excludes loans to standalone private companies that are not trustees of trusts from deemed dividend treatment under Division 7A:

A private company is not taken under section 109C or 109D to pay a dividend because of a payment or loan the private company makes to another company.
Note: This does not apply to a payment or loan to a company in its capacity as trustee. (See section 109ZE.)
Section 109K of the ITAA 1936

The protrusive LOZIL

Despite the above low or zero interest marks a LOZIL as uncommercial and potentially attracts greater scrutiny of:

the reason for the LOZIL; and
the transactions of a taxpayer to which the LOZIL relates;

by the Commissioner of Taxation.

From a company lender’s or a company borrower’s perspectives it is generally preferable that interest is charged and paid to as close to a commercial rate as possible if the Commissioner’s (See my blog “Only a loan? Impugnable loans, proving them for tax and shams” https://wp.me/p6T4vg-8a), non-loan party shareholder’s and creditor’s (interested parties) scrutiny of the loan is not to be attracted.

If, after that, a LOZIL to a company is still thought worthwhile to make then the company should carefully record the purpose of the loan to reduce opportunity for interested parties to allege the LOZIL was made for nefarious or unacceptable purposes to benefit the recipient.

LOZILs as de facto shareholder capital funding

LOZILs are commonly used by shareholders as de facto capital to fund private companies. A LOZIL has the disadvantage that it is not counted in the cost base of the shareholder’s shares for capital gains tax purposes. A LOZIL can complicate the position for shareholders either:

looking to sell their shares; or
to project a clean balance sheet of the company when the company is looking for more funding.

A tidying up of ad hoc and lazy LOZIL arrangements is frequently a feature of private company funding and restructuring deals.

Loans at will

These LOZILs are typically at will, that is with no set terms either for the payment of interest on the loan or the repayment of principal. They arise often in the void where a private company receiving shareholder funding has omitted to perform a routine share capital issue to the shareholders in exchange for the funding.

When might a LOZIL be a tax problem?

It is not possible to be definitive about when a LOZIL may be a tax problem without understanding the wider context, especially tax avoidance or illegal contexts, of why a LOZIL is being made. Usually LOZILs attract greater scrutiny from the ATO because of their uncommercial character, as stated. A LOZIL often needs to be put in place with some care so what the LOZIL is intended to achieve is above board.

Here are some specific situations where a LOZIL to a company will give rise to tax problems (definitely not an exhaustive list! – this is a list I may add to):

a LOZIL by an employer or associate of the employer to a company that is an associate of an employee subject to fringe benefits tax;
a LOZIL to a company as trustee of a trust by an outsider to the trust where the LOZIL is productive of scheme assessable income which cannot be applied to reduce trust losses: Division 270 of Schedule 2F to the ITAA 1936; and
where there may be cross-border transfer pricing see Draft Practical Compliance Guideline PCG 2017/4DC2.

The odd way disputes over PAYG deducted from salary are resolved

A recent Federal Court case Price v. Commissioner of Taxation [2019] FCA 543 demonstrates the divergent way a taxpayer must go about contesting a dispute with the Commissioner of Taxation over pay as you go (PAYG) tax withholding amounts taken from salary or wages received by the taxpayer.

Right to object about PAYG credits not available

Although the credit for PAYG withholding amounts is notified on a notice of assessment of income tax the PAYG credit is not one of the matters that can be disputed by objection, or more specifically, an objection under Part IVC of the Taxation Administration Act (C’th) 1953 (“TAA”) as discussed on this blog in: Is an objection needed to amend a tax assessment? https://wp.me/p6T4vg-k.

To formally dispute a PAYG credit, especially where the salary and wages from which the withholding is made are not disputed, court action may need to be taken instead. The proceeding that can be taken by a taxpayer is further limited as the Commissioner’s refusal to allow PAYG credits cannot be challenged under the Administrative Decisions (Judicial Review) Act (C’th) 1977: Perdikaris v Deputy Commissioner of Taxation [2008] FCAFC 186. So in Price, the taxpayer (Robert) sought a declaration from the Federal Court of his entitlement to credit for PAYG withheld by his employers under section 39B of the Judiciary Act (C’th) 1903.

Price v. Commissioner of Taxation

In paragraphs 6 to 8 of the Federal Court decision in Price, Thawley J. outlined the legislative basis of the PAYG withholding regime including in the context of the predecessor PAYE (pay as you earn) regime which operated until 2000. In paragraph 2 Thawley J. confirmed that the taxpayer’s proceeding under section 39B of the Judiciary Act, rather than under Part IVC of the TAA, was correctly instigated.

Why the taxpayer risked heavy costs in the Federal Court

Action in the Federal Court is expensive, and an unsuccessful litigant in the court is generally liable for the legal costs of the successful litigant. Those legal costs are significantly more than the costs of lodging an objection or appealing against an objection decision with which the objector is dissatisfied in the Administrative Appeals Tribunal (AAT) which are costs risked in Part IVC of the TAA disputes. The AAT does not award legal costs.

It follows that considerable PAYG credits need to be in dispute before action against the Commissioner in the Federal Court is worth the risk of legal costs at stake.

In Price, Robert was employed as a truck driver by four entities controlled by his brother Jim from the 2001 to the 2016 income years. Robert claimed PAYG credits for the entire period so considerable PAYG credit entitlements were at stake. Robert hadn’t lodged tax returns returning his salary and wages income until 26 September 2016 when all sixteen income tax returns were lodged together. Robert sought all sixteen years’ worth of tax credits then.

The employer and not the Commissioner is tested

One would think that the Commissioner could easily ascertain PAYG credit from amounts remitted by an employer for a recipient of salary and wages. If amounts withheld from salary and wages haven’t been remitted to the Australian Taxation Office (ATO) then that would seemingly be conclusive or near conclusive.

But the point of remittance of PAYG credits to the ATO is not the point at which the TAA operates to confer a PAYG credit entitlement to a taxpayer. Sub-section 18-15(1) of Schedule 1 of the TAA allows PAYG credit to a taxpayer where there has been withholding by the party with the withholding obligation, viz. the employer in the case of an employer who pays salary and wages, of the amount withheld. Sub-section 18-15(1) necessitates an enquiry into whether or not the amounts claimed for PAYG credit were “withheld” by the employer whether or not the amounts “withheld” were ever remitted to the Commissioner. In the Federal Court, in its original (non-appellate) jurisdiction, whether amounts have been withheld is a matter of fact to be established to the court on the balance of probabilities.

In another Federal Court decision cited with approval in Price, David Cassaniti v Commissioner of Taxation [2010] FCA 641 at paragraphs 163 to 165 Edmonds J. thus focussed on the actions of the employer. Edmonds J. explained and contrasted the evidential value of an employer’s apparent withholding to a (its own) bank account which, on the one hand, “clearly demonstrates” a withholding and an employer’s apparent withholding by book entry, which may be insufficient to demonstrate withholding by the employer depending on the surrounding circumstances, on the other. It was also relevant in David Cassaniti, as it was in Price, that the employer had been a company enabling Edmonds J to accept the books of account of the company as first instance evidence of what the books of account contained in accordance with section 1305 of the Corporations Act 2001.

Employers were wound up companies

In the Cassaniti line of cases, which also included the Full Federal Court decision in Commissioner of Taxation v Cassaniti [2018] FCAFC 212, relevant company records of the employers were thus sufficient to establish to the Federal Court that amounts had been withheld by the party with the withholding obligation. As in Price, in which the Cassanitis were also involved, the relevant employer companies had been wound up but nevertheless, by virtue of section 1305 of the Corporations Act 2001, the financial records of these companies in the (earlier) Cassaniti cases were sufficient evidence to show that the companies had made the relevant withholdings despite no record of remittance to the ATO. Robert’s case in Price relied on PAYG payment summaries produced from accounting records of the employer companies being accepted as financial records of the companies.

Robert was unsuccessful. The tax returns and PAYG payment summaries were produced from MYOB in September 2016 after the employers were wound up so the court refused to accept the PAYG payment summaries as financial records of the wound up companies. Thus the PAYG payment summaries were not first instance evidence of the PAYG withholdings asserted in them. In paragraph 87 Thawley J. listed findings showing that withholdings were not made for Robert:

the absence of any records from the ATO to that effect or supporting inferences of withholding;
the absence of any contemporaneous record of any person or entity who paid Robert evidencing withholding;
the fact that every year or thereabouts Robert asked for but was not provided any PAYG payment summary;
the fact that no superannuation was paid by any of the employer companies for Robert;
the fact that Allyma Transport Services did prepare PAYG payment summaries for other employees; and
the fact that the bank records suggest a number of different entities paid the weekly amounts into Robert’s account (including NT TPT Pty Ltd, PMG Transport, CJN Transport) and that at least one of those entities (PMG Transport) probably treated the payments to Robert on the basis that he (or a partnership of which he was a partner) was a subcontractor rather than an employee.

The unremitted PAYG no man’s land

Cases such as the Cassaniti cases and Price are relatively rare. In that context we can observe that it is precarious to be in the position of an employer, or of a director of an employer, obligated to withhold PAYG amounts from employees’ salary and wages where those amounts have not been remitted to the ATO. The employer and, in the case of a company, its directors personally where director penalty notices issue to the directors and trigger personal liability under Division 269 of Schedule 1 of the TAA, are liable to the Commissioner for these amounts. Further failure to remit PAYG withholding on salary and wages is a strict liability offence under Division 16 of Schedule 1 of the TAA.

The pursuit of unremitted salary and wage PAYG withholdings from the Commissioner can potentially be a fraud against the revenue where employers and their directors have overtly arranged their affairs so that they are not exposed to the above liabilities and prosecution for failure to remit. Confinement of salary and wage earner remedy to proceedings under section 39B of the Judiciary Act does operate as a bulwark against that type of fraud.

It is to be hoped that reporting of and liability for PAYG withholding on salary and wages can be reformed and streamlined so that employees can better monitor withholding for them in real time and opportunities for “phoenix” PAYG credit frauds on the revenue can be reduced.

Be wary of constitutional fails by your private company

Administering a private company requires sound business skill and judgment. Since the Commonwealth has substantially taken legislative responsibility for companies and securities from the states, regulatory reform has been introduced so that numerous compliance obligations have been streamlined in a practical way.

It is not always understood that the reforms were only to the regulatory framework of companies. They do not necessarily extend to the differing regimes in place for each company. Conduct of a private company still very much remains the responsibility of the directors of the company who are required to observe the constitution of the company (COTC). A number of the regulatory reforms have no affect on the regime that applies to a company unless the company takes the necessary action to enliven them.

From 1998 – the “replaceable rules”

Reform to the framework in the Company Law Review Act 1998 (CLRA 1998) introduced “replaceable rules” that apply to a proprietary (private) company other than a company with a sole director/shareholder. Unlike “Table A” in the former states’ Companies Acts, which could be adopted as articles of association optionally by a private company, the “replaceable rules” take effect by default. In other words a company, which does not adopt a custom divergent COTC, is taken to adopt and can rely on the “replaceable rules” in the Corporations Act 2001. Nevertheless a majority of private companies, including companies established prior to 1998, have adopted a COTC which overrides the replaceable rules and their impact. So the reforms reflected in the “replaceable rules” don’t apply to those companies.

This post highlights some of the difficulties this causes to private companies that we notice in practice.

Directors meetings

When private companies take significant actions resolutions need to be passed by the directors. As a standard, resolutions of directors need to be passed or agreed to at a directors meeting. It is a common alternative practice for directors of a company to complete a “circulated” resolution of directors signed by all directors of the company without formally holding a directors meeting. For most private companies that is fine as their COTC permits this procedure as an alternative to the company holding a directors meeting. The alternative procedure is authorised both in:

model “Table A” type COTCs which pre-date the reforms; and
section 248A of the Corporations Act 2001 where section 248A applies to the company as a replaceable rule.

However there is a minority of companies with old or inadequately drafted COTCs where the “circulated” resolution of directors capability is not available to the company either under the COTC, or under the replaceable rule in section 248A where the provisions in the COTC replace the replaceable rules including section 248A.

Invalid directors’ resolutions

Thus directors of private companies may be completing “circulated” directors’ resolutions on the mistaken assumption that their COTC, or the replaceable rule in section 248A, authorises the resolution without the holding of a directors meeting. The impugning of all of the resolutions of the directors of a company done in this way could have far reaching consequences for the company particularly if the activity of the company comes under the close scrutiny of government or lawyers. For instance, say a company in this predicament is a trustee of family discretionary trust: It is open for the Commissioner of Taxation to treat a resolution to distribute income to beneficiaries done in a way unauthorised by the COTC as invalid and not made in time to prevent the income being assessed for income tax to the trustee of the trust at the highest marginal rate under s99A of the Income Tax Assessment Act 1936.

If a COTC displaces the replaceable rules it is prudent to identify the capability in the COTC that permits the directors to use a circulated resolution instead of holding a directors meeting and to cite the reference to the capability in the circulated resolution. Look for wording in your COTC similar to section 248A. It is often the last article under the DIRECTORS PROCEEDINGS part of a COTC.

A COTC without the circulated resolution capability frequently has other shortcomings such as no capability for a director to attend a directors’ meeting by telephone or online over the internet. This is another case where inadequacy of the COTC can lead to invalidity of attempted directors resolutions done with this capability assumed by the directors.

Directors resolutions can also fail due to other procedural misunderstandings such as:

failure to give notice of a directors’ meeting to all directors;
a meeting may have a quorum requirement under a COTC which is not met; and
a proceeding by a single director is not a meeting.

Single director companies

The CLRA 1998 also changed the regulatory framework to allow for single director companies. Prior to the CLRA 1998 the minimum number of individual shareholders of a private company was two and so many memorandums and articles of association of private companies then in place, which became their COTCs from 1998, entrenched the two individual director minimum to comply with the pre-CLRA 1998 law. These COTCs required alteration to remove the minimum of two individual director stipulations and to allow the company to have a single director. This is a more obvious case of where a pre-CLRA 1998 COTC, in particular, needs alteration should the private company seek to have only one director.

Common seals

The obligation of a company to use a common seal to execute documents was also removed from the regulatory framework by the CLRA 1998. Still a private company which was established before 1998, or any private company that has otherwise adopted a common seal, may need to act to dispense with its obligation to use the common seal.

Ordinarily this action would be:

The COTC is altered to:
- provide that the company need not have a common seal; and
- support the execution of documents by the company without a common seal.
The directors resolve to dispense with the common seal.

Execution of deeds and other documents, including, for example, an election by a company as trustee to become a regulated superannuation fund, can be invalidated if the private company must use a common seal that remains adopted by the company but executes the deed or documents without that common seal.

Special purpose superannuation companies – reduced ASIC annual fee

The reforms allowed for a company that has been set up to act solely as the trustee of a regulated superannuation fund, or for other designated special purposes, to apply a substantially reduced ASIC annual fee of $40 rather than $226.50. Entitlement to the reduced fee for a company that has been set up to act solely as the trustee of a regulated superannuation fund turns on the limit on the purposes for which the company can act being effectively included in the COTC.

It’s a fail for the directors to complete the declaration to claim the reduced fee without understanding whether the provisions of the COTC support the entitlement to a reduced fee.

Summary

Directors of a private company are expected to understand and to take responsibility for what is in the COTC.

Although the company regulatory framework has been reformed:

to more readily allow circulated directors’ resolutions as an alternative to holding directors’ meetings;
to allow private companies to have a single director;
to make common seals optional; and
to extend a reduced ASIC annual fee to dedicated superannuation trustee companies;

among other reforms, the COTC of the company and the standing resolutions of the directors are a regime which constrains how the reforms may apply to a private company. Directors of companies should check COTCs and their records to ensure that they support the company using capabilities supported by the reforms.