The debt interests on issue by an entity.
The term 'debt deduction' is defined in section 820-40. Broadly, a debt deduction is the costs incurred in connection with a debt interest that are otherwise deductible in Australia, subject to the thin capitalisation rules. The most common type of debt deduction is interest paid on a business loan.
Specifically, a debt deduction is a cost incurred by an entity in relation to a debt interest issued by the entity, to the extent to which both of the following apply:
- The cost is
- interest, an amount in the nature of interest or any other amount this is calculated by reference to the time value of money
- the difference between the financial benefits received or to be received by the entity under the scheme giving rise to the debt interest, and the financial benefits provided or to be provided under that scheme, excluding foreign exchange losses, or
- any amount directly incurred in obtaining or maintaining the financial benefits received or to be received by the entity under the scheme giving rise to the debt interest.
- The entity can, apart from the thin capitalisation rules, deduct the cost from its assessable income for that year.
In this context, a financial benefit means anything of economic value and includes property and services. A benefit is still a financial benefit, even if the transaction that confers it on the entity also imposes an obligation to the entity. Certain expenses are excluded from being debt deductions under the law, including rental expenses on certain leases.
Regulations can be made to further specify what both a debt deduction and financial benefit is.
Debt deduction threshold test
The debt deduction threshold test is a test used to work out whether an entity, together with its associates, has to apply the thin capitalisation rules. To apply the debt deduction threshold test, the entity must work out whether it has $250,000 or less of debt deductions for an income year. If so, the thin capitalisation rules do not apply.
Where an entity, together with its associates has $250,000 or less of debt deductions for an income year, it does not have to apply the thin capitalisation rules.
A debt interest is an interest that is classified as a debt interest according to the rules in subdivision 974-B. Broadly, a debt interest is on issue while an effectively non-contingent obligation of the entity to provide a financial benefit remains unfulfilled.
Debt interest and the assets threshold test
Broadly, if the following five elements are present, the interest is a debt:
- There is a scheme.
- The scheme is a financing arrangement.
- A financial benefit is received by the issuing entity.
- The issuing entity has an effectively non-contingent obligation to provide a future financial benefit.
- It is substantially more likely than not that the value of the financial benefit to be provided with be at least equal to or exceed the financial benefit received.
Examples of debt interests include a bill or exchange or a promissory note. Generally, interest-free debt will not count as part of an entity's debt.
This is a ratio expressing the proportion of debt and equity an entity uses to finance its assets.
Explains debt capital, debt deduction, debt deduction threshold test, debt interests, debt interest and the assets threshold test and debt-to-equity ratio.