On December 3 2025, the Full Federal Court of Australia dismissed the Commissioner of Taxation’s (the Commissioner’s) appeal in Commissioner of Taxation v Hicks, upholding the primary judge’s conclusion that Section 45B and Part IVA of the Income Tax Assessment Act 1936 (Cth) did not apply to a business restructure that involved a selective share capital reduction used to repay Division 7A loans. The Commissioner has lodged an application for special leave to appeal to the High Court against the Full Federal Court decision.
This case is yet another loss for the Commissioner on the application of Part IVA (amongst Mylan and Minerva, with its win in Merchant being appealed to the High Court).
Facts
Mr Ierna and Mr Hicks established the City Beach streetwear business, which has operated since 1985 through the City Beach Trust (CBT). The trustee of the CBT, Fewstone Pty Ltd (the Trustee), was at all times controlled by Mr Hicks and Mr Ierna. Prior to the 2016 restructure, Mr Ierna, the Ierna Family Trust (IFT), and the William Hicks Family Trust (WHFT) held units in the CBT. The Trustee exercised its discretion to distribute the net income of the CBT equally between the IFT and WHFT.
The trustees of each of the IFT and WHFT distributed the net income of each of those trusts to corporate beneficiaries. Up until 2011, this was Mastergrove Pty Ltd; from 2012, distributions were made to Ierna Beneficiary Pty Ltd and Hicks Beneficiary Pty Ltd (together, the Corporate Beneficiaries). Rather than fully distributing profits, these Corporate Beneficiaries made Division 7A‑compliant loans to Mr Ierna, Mr Hicks, and their respective property trusts. By June 2016, substantial loan balances remained outstanding. To service the Division 7A obligations, dividends were historically paid by the Corporate Beneficiaries.
In 2016, a restructure was implemented under which a new holding company, Methuselah Holdings Pty Ltd (Methuselah), was interposed between the CBT and its unitholders under a Division 615 rollover. Methuselah then undertook a selective capital reduction. In consideration for the cancellation of shares, Mr Ierna and the trustee of the WHFT each became entitled to A$26 million, half of which was loaned back to Methuselah. The resulting debts owed by Methuselah were assigned to the relevant Corporate Beneficiaries and applied in satisfaction of the outstanding Division 7A loans.
In substance, the Division 7A loans were cancelled through the capital reduction, which did not give rise to a tax liability because those shares were deemed to be pre-capital gains tax (CGT) assets.
Section 45B
In dismissing the Commissioner’s appeal, the court placed significant emphasis on the purpose of Section 45B, which is to ensure that capital distributions are treated as dividends if they are made in substitution for dividends.
The court accepted that the value of Methuselah’s share capital was attributable to the unrealised profits in the CBT for the purpose of Section 45B(8)(a) (concerning whether a distribution is attributable to profits). However, the court held that a capital distribution by Methuselah could not “in any sense” be taken to be in substitution for a dividend that would otherwise have been paid by the Trustee out of the profits of the CBT. The CBT's profits were not capable of being distributed as dividends to the relevant taxpayers; as a trust, it could only make trust distributions, which would not have been assessable as dividends to the taxpayers. Accordingly, the capital return could not be characterised as being made in substitution for a dividend. The court noted that the Commissioner must identify where the assessable dividend would otherwise come from – it is insufficient that there is an entity in a group with distributable profits and another makes a capital return; there must be capital returned in substitution for a dividend.
In holding that Section 45B did not apply, the court held that the evidence showed the dominant purpose of the scheme was to facilitate the repayment of the Division 7A loans, not to enable the taxpayers to obtain a tax benefit by avoiding dividend taxation.
Part IVA
The court concluded that the taxpayers did not obtain a tax benefit in connection with the scheme, with the result that Part IVA did not apply. This was on the basis that the taxpayers had successfully demonstrated that if the scheme had not been entered into or carried out, they would have transferred their units in the CBT to Methuselah for shares and a receivable, and the receivable would have been assigned to the Corporate Beneficiaries to discharge the Division 7A loans.
The court accepted that under this alternative postulate, no amount would have been required to have been included in the assessable income of Mr Ierna and Mr Hicks (given the pre-CGT status of their units in the CBT). On this basis, the taxpayers discharged their onus of showing that they did not obtain a tax benefit in connection with the scheme.
The Commissioner contended that the taxpayers’ alternative postulate was not reasonable because it had been rejected in 2014. In 2014, a proposal was presented that included the transfer of the CBT business or the CBT units to a new company in return for consideration, with that consideration then applied to discharge the Division 7A loans (the 2014 Proposal).
The evidence showed that Mr Ierna and Mr Hicks rejected the 2014 Proposal due to concerns about losing the pre-CGT status of their units and their view that the restructure was not urgent. The court held that the reasons for rejecting the 2014 Proposal did not render it an unreasonable alternative to the scheme.
Given the court’s conclusion that the taxpayers did not obtain a tax benefit in connection with the scheme, it did not need to consider the dominant purpose of the scheme. However, the court made several important observations, including that:
The fact a transaction is entered following the receipt of tax advice or that the advice refers to “no adverse tax consequences” does not of itself indicate a dominant purpose to secure a tax benefit;
The factors set out in Section 177D(2) are not a checklist but require an evaluative exercise; and
The bare fact that a taxpayer pays less tax, if one form of transaction rather than another is made, does not demonstrate that Part IVA applies.
