13. Tax treatment of companies offering bonus share plans to conserve cash
The professions raise an issue which is significant:
- for Australian companies which are seeking to conserve cash at a time of global financial crisis, and
- in raising issues about consistency of Tax Office interpretive approach, with previous rulings, and also the extent to which Tax Office interpretations are 'business friendly'.
At this time of global financial crisis, various companies are exploring mechanisms whereby, in lieu of cash dividends some other recognition can be provided to their shareholders, in a way which meets two requirements:
- providing the shareholders with some perceived rewards, while not seeing cash being dispersed by the company, and
- not giving the shareholder an incentive or requirement to sell their shares.
The options to make non-cash transactions, which are at least perceived by the market as being dividend-like, include:
- dividend reinvestment plans where, very broadly, a dividend is declared and the dividend funds are automatically reinvested in additional shares in the company, and
- bonus share plans, under which a shareholder contractually elects to give up their right to a dividend, and receives a bonus shares. The bonus shares essentially achieve no additional cost base, and thus do not reduce the amount of taxable income ultimately flowing to the shareholder when the shareholder sells their shares.
Section 6BA of ITAA 1936 'Taxation treatment of certain shares' prescribes at section 6BA(5) that where a shareholder has a choice of whether to receive a cash dividend or a bonus share issue, then the receipt of a bonus share issue is treated as being a dividend.
The Tax Office has held the view to date that a bonus share plan, properly constituted, does not provide the shareholder with the choice, and thus section 6BA(5) does not apply, and thus the shareholder can treat the bonus share plan as giving rise to a delusional spreading of cost base, without an amount being assessable as a dividend.
This previous Tax Office position is documented in a Tax Office PBR (Authorisation number 64594) which is quite unambiguous and set out in an analysis of over 1500 words in length, in the discussion of Issue 4 in that PBR:
Where a shareholder of the company elects to receive bonus securities:
the Explanatory Memorandum to the Taxation Laws Amendment (Company Law Review) Bill 1998 makes it clear that where a shareholder has a choice of whether to be paid a dividend or to be issued shares, and the shareholder chooses to be issued with shares the instruments issued are taken to be a dividend….
Where a shareholder of a company elects to receive bonus securities the shareholder never has a right to receive a $X dividend. In such cases when the time for actual payment of the dividend arrives, the shareholder simply has a right to a $Y dividend. The shareholder can never be said to have foregone a $X dividend because the shareholder cannot choose to forego something to which they are not entitled to…….
This approach is further reinforced by the Explanatory Memorandum to Section 6BA of the ITAA 1936…
This PBR, available on the Register, is an extremely detailed analysis of numerous issues, of over 14,000 words, which is over 30 pages long when printed.
PBR 64594 does not represent a rushed or incomplete or preliminary or ill-considered analysis, and the high quality of its analysis suggests that it has received the highest level of input by senior officers of the Tax Office. The analysis of this issue proceeds over numerous pages.
Current apparent change of Tax Office view
We understand that various companies some, anxious to adopt a bonus share plans in order to protect their cash resources at this time of global financial crisis, have approached the Tax Office to seek a PBR or class rulings about the adoption of bonus share plans in 2008 or 2009.
The professions understand that the relevant Tax Office officers appear to now have a different view to that expressed in PBR 64594. The professions understand that the difference of view has not been formally explained, and that Tax Office officers seem to be unaffected by consideration of the fact that public companies are seeking to explore these bonus share plans as a means of cash conservation at a time of financial crisis.
In Draft Tax Determination TD 2008/D17 'Income Tax: In accounting for a dividend reinvestment plan, can a company taint its share capital account for purposes of Division 197 of the ITAA 1997', the draft view of the relevant officers expressed in paragraphs 24 to 25 is that the legal analysis and differentiation between bonus shares and DRPs is not relevant for purposes of section 6BA of ITAA 1936.
There is no detailed analysis, and certainly no attempt to differentiate the very high quality analysis demonstrated by the Tax Office in PBR 64594.
The professions recognise that TD 2008/D17 is in a consultative phase, however this issue is much wider than the minimal analysis in TD 2008/D17 which is directed at other issues, so it is appropriate to resolve this issue expeditiously.
Issues for discussion at the NTLG
However at this time of global financial crisis, and given that this is a major issue for listed Australian companies are seeking to conserve cash, and that indeed various corporates have been unable to use bonus share plans because of the views being expressed by Tax Office officers, the professions would like to discuss the following issues:
- The profession assume that the views expressed in the very lengthy and thoughtfully analysed PBR 64594 in respect of the application of section 6BA to bonus share plans were confirmed with senior Tax Office officers at the time of issue of that PBR. The professions note that section 6BA(5) has been in largely the same form since 1979.
- Can the Commissioner outline the policy rationales why an analysis of the rules, which has been publicly available for some years, which is consistent with the interpretation of most professional advisors, and which has informed the analysis of Corporate Australia, is now considered to be inappropriate by various Tax Office officers involved in the area of corporate capital management?
- Can the Commissioner outline why this change of view, in relation to the treatment of shareholders, should be communicated in a draft tax determination dealing with companies’ share tainting accounts, rather than receiving specific analysis in its own right?
- From the viewpoint of governance and ensuring consistency of Tax Office interpretive approach, can the Commissioner advise whether the issue of draft tax determinations, which obliquely or clearly manifest a change of approach by the Tax Office in material areas such as this matter, involve any process for internal cross-checking with other senior Tax Office officers, to consider the commercial corporate and economic implications of such changes of opinion?
- Because this Tax Office interpretation affects corporate behaviour at this time of global financial crisis, and the uncertainty in this regard has (the professions understand) caused various Australian public companies to be unable to plan for bonus share plans in relation to their 2009 strategies, it is a significant issue. Given that the Commissioner has stated at various recent presentations that the Tax Office is interested in understanding the key problems which corporate Australia has arising from the global financial crisis, so that the Tax Office can help, can the Commissioner advise what is the process to be adopted for the Commissioner to help corporate Australia resolve this apparent divergence from previously communicated interpretations?
Further materials for reference purposes
For completeness, the professions note that section 6BA(6) provides that the rules in section 6BA(5) do not apply where a listed public company has a fact pattern of giving shareholders a choice whether to be paid a minimally franked dividend. However, that particular mechanism is not available for Australian public companies which might have no capacity to pay a minimally franked dividend, because they might have tax losses in relation to their Australian activities through the outcome of the commercial conditions currently in force, or because they have capital allowances or other tax benefits which exceed their taxable income, or the conditions in the current global financial crisis are causing their funding costs to escalate so that they do not have positive taxable income. As a result, the provisions in section 6BA(6) are of no benefit to various Australian companies. In any event those provisions are not relevant when, given the previous very clearly articulated and unambiguous view of the Tax Office, there is not an issue under section 6BA(5) in relation to bonus share plans.
Response
The Commissioner does not accept that there has been a change of view in respect of the application of subsection 6BA(5) to bonus share plans. The agenda item does not point to anything, other than PBR 64594 (PBR 64594), as reflecting the view of the Tax Office in this regard. As the bodies are aware, an edited version of a private ruling is not a precedential advice or guidance product to be used in the same way as a public ruling or an ATO ID.
Section 6BA supplements the definition of dividend in section 6 of the ITAA 1936. It provides rules for the taxation treatment of bonus shares depending on whether or not consideration has been provided for their issue. Subsection 6BA(5) recognises that where a shareholder is offered a choice between shares and a dividend the shareholder essentially provides consideration. The decision to take shares is, in substance, a decision to re-invest the dividend in shares. It thus deems the additional shares to be a dividend.
Whether subsection 6BA(5) applies to bonus share plans depends on the meaning of the words ‘if a shareholder has a choice whether to be paid a dividend or to be issued shares’. That same choice is referred to in subsection 6BA(6). Subsection 6BA(6) provides an exception to subsection 6BA(5) for bonus share plans offered by listed public companies in certain circumstances. There is nothing in the terms, context or policy of section 6BA to suggest that the word ‘choice’ is used differently between subsections 6BA(5) and (6). The fact that subsection 6BA(6) is expressed as an exception to subsection 6BA(5) supports the view that they are not mutually exclusive in operation. Further, section 45 of the ITAA 1936, which is capable of applying to bonus share plans, recognises that subsection 6BA(5) may also apply. Section 45 specifically provides that it only applies to the provision of shares if subsection 6BA(5) does not apply, again recognising an overlap in operation between subsection 6BA(5) and section 45.
There is also nothing in the Explanatory Memorandum to the Taxation Laws Amendment (Company Law Review) Act 1998 to suggest that, in terms of this policy, the choice exercised by a shareholder under a bonus share plan should carry different consequences to the choice exercised by a shareholder under a dividend re-investment plan. In both cases the practical substance of the transaction is that it is equivalent of receiving and re-investing the dividend. The fact of choice suggests that the shareholder has given up the dividend in return for a share.
The conclusion reached in PBR 64594 is considered correct, but some of its reasoning does not appropriately take account of the policy behind section 6BA or its context. The reason why subsection 6BA(5) does not apply to the ‘bonus securities’ in PBR 64594 is that consideration is not, in substance, provided by the shareholder for the bonus security. Most of the special dividend has not been re-invested in the ‘bonus securities’. Rather, the ‘bonus securities’ carry the right to the special dividend, just spread over a period of time. The function of the ‘bonus securities’ is to allow the special dividend, and the franking credits attaching to it, to be traded for value. The transaction in PBR 64594 does not involve a choice between a dividend and a security, but a choice to take that dividend over a longer period of time via the security. It should be noted that PBR 64594 also correctly holds that the small part of the special dividend that was given up by the shareholder to create the bonus security involved consideration and gave rise to a dividend.
It should be appreciated that the amendments to section 6BA in 1998 formed part of a wider suite of provisions dealing with the taxation consequences of changes to the Corporations Law. Where an Australian public company without franking credits offers a bonus share plan and (for some reason) subsection 6BA(5) does not apply, section 45 would apply. The act of offering shareholders a choice to participate in the bonus share plan constitutes a strategy of directing shares and minimally franked dividends between groups of shareholders, and thus is streaming. If section 45 applies the value of the shares is deemed to be an unfranked dividend.
Draft Taxation Determination TD 2008/D17 (now finalised as Taxation Determination TD 2009/4) does not communicate a change in the Commissioner’s view on the taxation treatment of bonus share plans. Rather, it communicates how the share capital tainting rules apply to dividend re-investment plans.
TD 2009/4 does not apply to bonus share plans. This is specifically stated at paragraphs 1 and 12. Paragraph 12 also states that bonus share plans are not considered to be dividend re-investment plans for the purposes of the Determination.
TD 2009/4 states at paragraph 24 that subsection 6BA(1) covers dividend re-investment plans. It also holds that dividend re-investment plans come within the terms of subsection 6BA(5), as they involve the making of the relevant choice.
The Tax Office will consider any requests from the bodies for a public ruling on specific interpretative issues relating to bonus share plans.
Meeting discussion
Members raised the issue where companies are trying to conserve cash due to the global financial crisis through bonus share plans and noted that adverse tax consequences could occur. There was some discussion regarding the payment of company dividends in the current economic climate and the application of section 6BA.
It was agreed that the agenda response provided clarification of the ATO view and that it makes it clear that the only avenue is to seek legislative change. The agenda response discusses the PBR and the outcome.
There was agreement to provide a form of practical guidance to assist with the correct tax treatment of bonus shares.
Action item
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NTLG0903/04
Practical guidance is to be provided by the Tax Office on the tax treatment of bonus shares.
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Sections within Agenda items
Last Modified: Friday, 3 July 2009
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