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Section 3 - When is a CFC deemed to pay a dividend?

Last updated 4 December 2006

It is possible that a resident taxpayer with an interest in an unlisted country CFC may try to minimise Australian tax by arranging for the CFC to distribute benefits in a form other than dividends to its shareholders or their associates.

There are rules to prevent this form of tax avoidance in section 47A. These rules deem certain transfers and payments made by an unlisted country CFC to be dividends. These dividends are then taxed in the normal way.

For section 47A to apply, a CFC must provide a benefit to:

  • a resident who is a shareholder or an associate of a shareholder of the CFC, or
  • another CFC or CFT, directly or through other entities, where the first entity that received the dividend is a shareholder or an associate of a shareholder of the CFC.

When should you deem a dividend to have been paid by a CFC?

Types of benefits that are covered under section 47A

The following seven types of benefits provided by a CFC could be treated as dividends:

  • the waiver by the CFC of a debt owed by another entity
  • the grant by the CFC of a non-arm's length loan to another entity
  • the grant by the CFC of a loan - whether at arm's length or not - to another entity to facilitate, directly or indirectly, the payment by that entity of a dividend that would be either:
    • non-assessable non-exempt income or
    • an exempting receipt of an unlisted country company
     
  • the transfer by the CFC to another entity of property or services for no consideration, or for inadequate consideration
  • a payment made by the CFC for allotment of:
    • shares in a company
    • rights or options to acquire shares
    • units in a unit trust, or
    • rights or options to acquire units - see below
     
  • a payment made by the CFC in respect of calls on shares in another company - see below
  • the grant by the CFC of a loan - whether at arm's length or not - to another entity to facilitate a transaction of the type referred to in any of the above points.

Treat the fifth and sixth types of payments as dividends only if:

  • a shareholder of the CFC - or shareholder's associate - holds any direct interest, or later acquires any direct interest, in any of the shares of the company in which the CFC acquired shares or in the unit trust in which the units were acquired or
  • the company - or unit trust - uses the proceeds of the issue to facilitate a transaction providing any of the above types of benefits.

Entities providing and receiving the benefit

For a benefit to be treated as a deemed dividend, the benefit must be provided by the CFC to a shareholder or an associate of a shareholder.

The benefit must be provided by either:

  • an unlisted country CFC, or
  • another entity under an arrangement with the CFC, where the CFC has transferred property or services in consideration for the benefit to:
    • the other entity, or
    • any other entity.
     

These transfers of property or services are referred to as arrangement transfers.

The time the benefits are deemed to have been provided

The following table sets out some of the types of benefits provided by a CFC that are subject to section 47A, the time at which they are taken to be provided and the amount of the benefit.

Type of benefit

Time

Amount

Waiver of a debt

time the debt was waived

amount of the debt

non-arm's length loan

time the loan was made

amount of the loan

Transfer of property for no consideration

time the property was transferred

market value at time of transfer

Transfer of property or services for consideration less than market value

time the property or services were transferred

difference between the market value of the property or services and consideration paid

Payment or transfer of property for the allotment of shares or units

time the payment or transfer was made

amount paid or market value of the property transferred

Benefit provided by another entity under an arrangement with the CFC - if there is one 'arrangement transfer'

time the CFC made the arrangement transfer

amount of the arrangement transfer or market value of arrangement transfer

Benefit provided by another entity under an arrangement with the CFC - if there are several arrangement transfers

time the agreement to make the arrangement transfers was entered into

total amount of the arrangement transfers or the total market value of the arrangement transfers

Working out the amount of the deemed dividend

The amount of a benefit that can be treated as a dividend paid by a CFC cannot be more than the CFC's profits at the time the benefit was provided.

In this context, profits does not mean distributable profits. 'Profits' in this situation means 'commercial profits' of either an income or capital nature that the company has at the time the benefit is provided. Work out these profits at the time the company provided the benefit.

If the CFC provided a benefit by transferring property or services at less than their market value, work out the CFC's profits at the time the benefit was provided as if the property or services were transferred for their full market value.

Effect of deeming a benefit to be a dividend

A deemed dividend paid to a resident taxpayer is generally treated the same as other dividend payments. In this regard, a dividend from an unlisted country company paid to an Australian company is normally assessable unless the dividend was paid from exempting profits or previously attributable income.

Dividends deemed paid by a CFC to a CFC or CFT

If a non-portfolio dividend is deemed, under section 47A, to have been paid by an unlisted country CFC to:

  • a listed country CFC, or
  • a controlled foreign trust (CFT), or
  • a CFC or CFT through interposed partnerships or Australian trusts

and a resident taxpayer holds an attribution interest in the CFC deemed to have paid the dividend and in the other CFC or CFT, the taxpayer's attribution percentage of the deemed dividend will be included in its assessable income - see section 458. However, this attribution will not occur if the dividend is taxed in a listed country at its normal company tax rate.

Disclosure of deemed dividends

You will be denied access to certain credits and concessions in relation to a section 47A deemed dividend if you:

  • do not disclose the deemed dividend in your tax return
  • do not notify the Tax Office of the deemed dividend within one year of the end of the income year in which the dividend is deemed to have been paid.

The credits and concessions you lose are:

  • any credit for foreign taxes you have paid on the dividend
  • any possibility that a part of the deemed dividend will be treated as an exempting receipt
  • any possibility that a part of the deemed dividend may be treated as exempt from tax as a payment out of the income of a CFC already attributed to you.

The deemed dividend will also not give rise to an attribution credit.

Portfolio dividends

Not all deemed dividends paid by a CFC directly or through other entities to a CFC or CFT are non-portfolio dividends. These dividends may be attributed to a resident taxpayer under section 459. An example of how a portfolio dividend can arise under section 47A is where a dividend is deemed to have been paid to a lower tier company or a sister subsidiary. The following diagram illustrates two such dividends.

Ausco owns 100% of two foreign companies, CFC 1 and CFC 2. CFC 1 owns 100% of another foreign company, CFC 3. CFC 1 pays a dividend to its sister company CFC 2. It also pays a downstream dividend to CFC 3.

When are portfolio dividends taxable under section 459?

The following five conditions must be satisfied for a portfolio dividend to be included in the assessable income of a resident taxpayer under section 459:

  • the dividend must be deemed, under section 47A, to have been paid by an unlisted country CFC
  • the dividend must be paid to:
    • a listed country CFC, or
    • a CFT, or
    • an amount of that dividend must flow to a listed country CFC or to a CFT through interposed partnerships or Australian trusts
     
  • a resident taxpayer must be an attributable taxpayer for the CFC that pays the dividend and for the recipient CFC or CFT
  • section 458 must not apply to the dividend
  • the dividend must not be subject to tax in a listed country at its normal company tax rate.

Amount included in assessable income

The amount of a dividend paid to a CFC or CFT that is included in the assessable income of an attributable taxpayer depends on the taxpayer's attribution percentage in the CFC or CFT.

Do not adjust the dividend for any exempting profits part or any part paid from previously attributed income. No part of the dividend will be an exempting receipt, and no foreign tax credit is allowed.

Start of example

Example 15: Dividends included in assessable income

Ausco has an attribution percentage of 80% in unlisted country CFC1 and 80% in listed country CFC2. CFC1 is deemed, under section 47A, to have paid a dividend of $1,000 to CFC2 on 1 August 2003. Under section 459, Ausco has to include $800 in its assessable income.

End of example

Other deemed dividends - section 108

Under section 108 of the Act, the Tax Office may treat as a dividend:

  • an amount paid by a private company to a shareholder - or a shareholder's associate - by way of an advance or loan, or
  • an amount paid or credited on behalf of, or for the individual benefit of, a shareholder or a shareholder's associate.

To deem these payments to be dividends, the Tax Office must be of the opinion that the payments and credits represent a distribution of profits.

Section 108 will not apply to an amount paid or credited after 2 June 1990 by an unlisted country CFC if that amount is deemed, under section 47A, to be a dividend.

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