CCIV legislation passed - which train will lead us to the right destination?

18 February 2022

The passing of the Corporate Collective Investment Vehicle (CCIV) legislation represents a milestone development that began 13 years ago with the recommendations of the ‘Johnson Report’ in 2009. 

The priority, as those in the world of ‘start-ups’ are well-aware, has been to develop the CCIV to a ‘minimum viable product’ (MVP) rather than seek to perfect it. Practical market needs will determine both the necessity and priority of refinements. Implementation is being undertaken by the Australian Taxation Office (ATO) and a working group has already been created.

The legislation is a triumph of industry consultation and the desire of the Government and Treasury to commence, rather than complete, a major advance in policy execution.

So what’s next for CCIVs?

Getting to the right destination

Trying to mesh complex legal and tax concepts has been challenging, to achieve the same tax outcomes for a CCIV that arise for an Attribution Managed Investment Trust (AMIT).

This has involved resolving two compounding contradictions. First, the CCIV is a single legal form company that paradoxically comprises ‘single responsible entity’ sub-funds, each with segregated assets and liabilities. Second, the CCIV must ‘flow through’ franking credits, discount capital gains and foreign income tax offsets to investors fundamentally contravening our company tax rules which are based on legal form. 

Relevantly, there are a number of approaches in meeting this complexity: 

• Concepts: Tax classification strictly follows known and at times incompatible concepts (legal, ordinary v statutory tax concepts, accounting and regulatory frameworks). This can result in conundrums and uncertainty.
• Desired outcome: Use the CCIV process to perfect things that are presently workable but could be improved, specifically the AMIT tax regime. Going beyond and improving the AMIT regime can result in longer lists of issues that delay and, in some instances, paralyse progress. 
• Focus: Where practical issues arise and the law is at odds with the desired outcome, use deeming provisions to arrive at the desired outcome.

The power of deeming – making breakthroughs for CCIVs

Deeming the sub-fund to be a trust for legal and tax purposes has yielded a major breakthrough for the CCIV. However, some corporate elements remain, for example the requirement that a dividend represent a distribution of ‘profits’. This is at odds with the existing tax outcomes for a sub-fund should it fail, in any given income year, to qualify for AMIT treatment. Should the CCIV have an accounting loss but have taxable income, the trustee is taxed on that taxable income and flow through tax treatment is thereby denied. 

Trust tax rules are designed to mitigate two outcomes that (rather obviously) render a trust unworkable as a collective investment vehicle (CIV):

• the trustee being taxed on the taxable income; and
• unitholders being taxed twice on undistributed income.

These outcomes could be mitigated, and thereby propel the viability of the CCIV,  by providing for a minimum cash dividend entitlement where the dividend entitlement equates to the “Distributable Income” of the sub-fund. This in turn equates to the taxable income of the sub-fund being represented by cash. We can dispense with the company law requirements of a dividend and, in recognition that the sub-fund is a trust, deem a minimum dividend. This would mirror the framework of a unit trust where the trust deed will typically mandate a minimum annual distribution (sometimes called ‘distributable income’) such that the trustee is not taxed on the taxable net income of the trust. 

In other words, could a bit more deeming trigger the tipping point in the viability of the CCIV?

Deeming – looking back

On reflection, the taxation regime in the funds management industry has been based on deeming. The original complying superannuation provisions introduced in 1988, were based on deeming attributes of a trust to create a regime for taxing funds as entities, for example deeming certain capital inflows to be taxable contributions as well as a raft of statutory rules at odds with ordinary concepts. 

Similarly, the pooled superannuation trust (PST) created an equivalent non-insurance based ‘statutory fund’ like vehicle for complying superannuation funds to invest in. This was extended full circle, with the creation of the ‘virtual PST’  (as the ‘Complying Superannuation” class) under the rewritten life company tax rules. 

More recently, the deemed capital account election for managed investment trusts (MITs) was created to resolve an impasse where the tax law (revenue account) was at odds with Government policy, to place investors in MITs in the same position as if they had invested directly in the underlying assets of the MIT (capital account).

Indeed, for CIVs, certain foreign limited partnerships are deemed to be companies and can be further deemed to be a foreign hybrid limited partnership. Similar deeming has also been used in other markets. For example, the US mutual fund can be legally created as a trust, be classified as a company for regulatory purposes and effectively deemed a partnership under the Internal Revenue Code. 

Deeming – looking ahead

As new concepts and arrangements emerge it will be important for law makers to recognize that existing frameworks and legal concepts may not provide workable practical regimes.

We need only look to the emergence of Decentralised Autonomous Organisations (DAOs) to see that our existing legal concepts appear to struggle when we classify these arrangements. For an entity that does not conceptually require legal personality, as DAOs seek to interact in the traditional world, they may require a process called “wrapping” to gain legal capacity. To this end, written constitutions may assert more about what the DAO is not rather than what it is.

This can be complicated when we attempt to simplify by veneering complexity. For example, construing a DAO arrangement as a company or partnership - as a single reference point - may be flawed, especially in the case of decentralised finance (or ‘DeFi’ as it is known). For example, a prime broker relationship may comprise fiduciary, contractual and agency relationships and perhaps this multi-dimensional approach can better inform the understanding – and desired tax outcome - of a DeFi DAO?

For new arrangements involving the creation, transfer and value extraction of digital assets, we may need to deem a hybrid arrangement based on core concepts that presently do not exist in our legal framework. Thinking back, it would have been challenging when the company was created, to conceive a non-existent person having legal personality. But just as we wouldn’t solve today’s problems with yesterday’s tools, why approach tomorrow’s challenges with today’s tools?

The beginning of a brave new world?

Questions that arise for participants as leaders in the new digital asset world:

• How do we think expansively about the need for deeming? And when is partial deeming incomplete; exactly how far must it be done? 
• How to maintain a MVP approach to the CCIV? If the AMIT regime gets us there, it may be better to stick with it rather than seeking perfection in terms of tax neutrality, closing every loophole or further refining the AMIT rules.
• For all of us, let’s see the development of the CCIV as an opportunity to embrace a new expansive approach to getting to the desired destination. 

The real opportunity for Australia

We can easily create a long list of technicalities that arise for CCIVs. One need only consider the 13 year evolution of the TOFA rules as an example of what to avoid. It has taken 13 years to get the CCIV legislation passed. Let’s not spend another 13 years trying to perfect the rules seeking outcomes based on tortuous interpretations that can create uncertainty and thereby diminish the potential of the CCIV. 

Let’s find the simplest way to get to our destination. Perhaps our capacity to do this will provide a window into our capacity to execute on our broader desire, to be a regional financial centre, not just for CCIVs and fund passporting, but financial services in the new world.