Worked example of calculations for an ADI outward investing entity

The five steps an ADI outward investing entity takes to calculate if they have met the thin capitalisation rules are:

• Step 1: Calculate the adjusted average equity capital
• Step 2: Calculate the safe harbour capital amount
• Step 3: Calculate the worldwide capital amount
• Step 4: Calculate the arm's length capital amount
• Step 5: Calculate the debt deductions disallowed.

This worked example goes through each of these steps.

See also:

• Thin capitalisation

Worked example

Bank Oz is an Australian ADI that carries on an international banking business through Australian entities, foreign permanent establishments and through foreign entities it controls.

Bank Oz has total assets (adjusted for risk) of $570 million, of which $100 million is attributable to its overseas permanent establishments. Bank Oz has debt capital of $530 million (all interest-bearing), $80 million of which is attributable to its overseas permanent establishments.

Bank Oz has equity capital of $35 million. Its total prudential capital deductions are $10 million, of which $6 million is goodwill (a tier 1 prudential capital deduction) and $4 million is an equity investment in a funds management subsidiary that is not consolidated for capital adequacy purposes. Both assets relate to its Australian operations. It has controlled foreign entity equity of $10 million and equity attributable to its foreign branches of $4 million. Its controlled foreign entities have, between them, retained earnings of $4 million and risk-weighted assets of $50 million.

All figures stated are average values.

Bank Oz's debt deductions are $30 million.

Step 1: Calculate Bank Oz's adjusted average equity capital

Worksheet 1: Bank Oz's step 1

Bank Oz's adjusted average equity capital is $21 million. This is now compared to Bank Oz's minimum capital amount, which is the least of its:

• safe harbour capital amount
• worldwide capital amount
• arm's length capital amount.

Bank Oz can calculate these amounts in any order it chooses and does not necessarily have to calculate all three amounts.

Step 2: Calculate Bank Oz's safe harbour capital amount

Worksheet 2: Bank Oz's step 2

Bank Oz's safe harbour capital amount is $33 million and its adjusted average equity capital is $21 million. As its adjusted average equity capital is less than its safe harbour capital amount, Bank Oz can choose to calculate the worldwide capital amount or the arm's length capital amount, though neither amount may be less than the safe harbour capital amount.

Step 3: Calculate Bank Oz's worldwide capital amount

Worksheet 3: Bank Oz's step 3

Bank Oz's worldwide capital amount is $34,306,440. This is more than its safe harbour capital amount. Bank Oz can calculate an alternative amount under the arm's length capital test. Bank Oz could also choose to not calculate an arm's length capital amount (as this may also be more than the safe harbour capital amount) and calculate what debt deductions are disallowed on the basis that the safe harbour capital amount is its minimum capital amount.

Step 4: Calculate Bank Oz's arm's length capital amount

For the purposes of this exercise, assume Bank Oz chooses not to calculate an arm's length capital amount.

See also:

• Thin capitalisation

Step 5: Calculate Bank Oz's debt deductions disallowed

Bank Oz's minimum capital amount is $33 million, the safe harbour capital amount, being the least of the safe harbour and worldwide capital amounts. As Bank Oz's adjusted average equity capital ($21 million) is less than its minimum capital amount, a proportion of its debt deductions will be disallowed.

Worksheet 5: Bank Oz's step 5

Bank Oz cannot deduct $800,000 of its debt deductions.