Draft Guidelines for Enterprise Tax Plan
The ATO has issued draft Practical Compliance Guideline PCG 2018/D5 (Draft Guideline) to provide clarity for corporate tax entities regarding the compliance and administrative approaches to determining the appropriate corporate tax rate or rate for dividend imputation purposes, applying to the last three financial years.
In issuing the Draft Guideline, the Commissioner has acknowledged that uncertainty may have arisen as a result of changes to corporate tax legislation in recent years, in particular, due to the changes to eligibility criteria for the reduced corporate tax rate. Some of this uncertainty stems from the announcement of changes to the definition of a ‘base rate entity’, which are yet to be passed by Parliament.
In relation to the ATO’s proposed compliance approach, the Draft Guideline states that, broadly, under the self-assessment regime taxpayers are expected to obtain appropriate advice to ensure they are fulfilling their obligations under the tax laws. However, given the uncertainty around the ‘carrying on a business test’ prior to the release of Draft Taxation Ruling TR 2017/D7 last year, the Commissioner will adopt a facilitative approach with respect to compliance in relation to this test.
Accordingly, the Commissioner will not specifically deploy compliance resources to conduct reviews of whether corporate tax entities have applied the correct rate of tax or have franked dividends at the correct rate in the 2015-16 and 2016-17 income years, unless the Commissioner becomes aware that a taxpayer’s self-assessment was plainly unreasonable or part of a tax avoidance scheme.
With respect to the administrative approach in relation to incorrect franking, the Draft Guideline sets out that corporate taxpayers may have issued incorrect distribution statements for frankable distributions in the 2016-17 and 2017-18 financial years due to amendments to the income tax legislation following the making of a distribution.
Ordinarily, a corporate taxpayer would need to apply to the Commissioner to amend and reissue a distribution statement where a mistake has been made as to the amount of the franking credits attached to the distribution. In light of the confusion discussed above, corporate taxpayers are permitted to inform their members of the correct franking credit to which they are entitled under the revised corporate tax rate in writing without reissuing the distribution statement.
Where corporate taxpayers comply with this administrative approach and adjust their franking account accordingly, the Commissioner will not impose penalties on the corporate tax entity for issuing incorrect distribution statements. Alternatively, corporate taxpayers may apply to the Commissioner for permission to amend the distribution statement under section 202-85 of the Income Tax Assessment Act 1997.
Benchmark interest rate for Division 7A deemed dividends
On 25 July 2018, the ATO released Taxation Determination TD 2018/14 (Determination), which outlines the Commissioner’s view with respect to the benchmark interest rate for the purposes of Division 7A of Part III of the Income Tax Assessment Act 1936 (ITAA 1936), as well as how this interest rate is applied under the ITAA 1936.
The Determination provides that the relevant interest rate applicable for the purposes of sections 109N and 109E of the ITAA 1936 is 5.20% per annum. The benchmark interest rate applies for the year of income that commenced on 1 July 2018.
The benchmark interest rate of 5.20% as set out by the Determination is relevant to private company loans made or deemed to have been made, after 3 December 1997 and before 1 July 2018, and to trustee loans made after 11 December 2002 and before 1 July 2018.
It is used to determine if a loan made in the 2017-18 income year is taken to be a dividend (paragraph 109N(1)(b) and as applicable, subsection 109D(1) or section 109XB of the ITAA 1936) and calculate the amount of the minimum yearly repayment for the 2018-19 income year on an amalgamated loan taken to have been made prior to 1 July 2018 (subsection 109E(5) of the ITAA 1936).
Double trouble: Draft determinations issued on debt deductions and valuation of debt capital
On 31 August 2018, the ATO released two related draft Taxation Determinations, TD 2018/D5 and TD 2018/D4, which provide the Commissioner’s preliminary view with respect to debt deductions and the valuation of debt capital for the purposes of the thin capitalisation provisions in Division 820 of the Income Tax Assessment Act 1997 (ITAA 1997).
Broadly, the objective of the thin capitalisation provisions in Division 820 is to ensure a multinational entity does not allocate an excessive amount of debt in relation to its equity to its Australian operations. TD 2018/D5 deals with what type of costs are considered to be debt deductions, while TD 2018/D4 sets out how an entity must value its ‘debt capital’ for the purposes of Division 820 of the ITAA 1997.
TD 2018/D5: what costs are considered debt deductions?
Under the thin capitalisation provisions, where an entity is not an authorised deposit-taking institution (ADI), subject to certain exceptions, all or part of each debt deduction (generally being interest and other costs of borrowing) of the entity for an income year is disallowed when the entity’s adjusted debt average exceeds its maximum allowable debt.
TD 2018/D5 outlines that the following costs, without limitation, are examples of costs that would fall within the scope of subparagraph 820-40(1)(a)(ii) of the ITAA 1997 and would be considered debt deductions:
- tax advisory costs incurred in relation to the debt capital, which relate to activities including, but not limited to, agreement drafting and valuation of the debt capital
- establishment fees
- fees for restructuring a transaction
- stamp duties
- regulatory filing fees (for example Australian Securities and Investments Commission lodgement fees)
- legal costs of preparing documentation associated with the debt capital and
- costs to maintain the right to draw down funds.
Additionally, the Commissioner considers that all deductible costs of raising finance through debt capital that is incurred directly in relation to the debt capital and all deductible costs directly incurred in maintaining the financial benefit received in association with the debt capital are debt deductions within the scope of the ITAA 1997.
If an entity’s debt capital gives rise to debt deductions in an income year, and that entity is not an ADI, then the entity may need to include the average value of the debt capital for that year in its adjusted average debt in accordance with the method statements for calculating adjusted average debt.
TD 2018/D4: Valuation of debt capital
The concept of ‘debt capital’ is used, among other things, in Division 820 of the ITAA 1997 to work out the ‘adjusted average debt’ of an entity that is not an ADI.
TD 2018/D4 sets out the following:
- the language of Division 820 of the ITAA 1997 makes it clear that ‘debt capital’ is a category of liabilities
- in calculating the value of its liabilities, entities are required to comply with the relevant accounting standards (see paragraph 820-680(1)(b) of the ITAA 1997)
- entities must therefore value their debt capital in its entirety in accordance with the relevant accounting standards, irrespective of whether the particular debt capital is classified more particularly under the accounting standards themselves as a financial liability, equity instrument or compound financial instrument.
If the Commissioner considers that an entity has undervalued its liabilities, he may substitute a value that he considers appropriate under Subdivision 820-G of the ITAA 1997.
This article was written with the assistance of Dan Poole, Law Graduate.