Company bonds
Usually company bonds are disposed of by the company paying back the money it borrowed. This is often referred to as 'redeeming' the bond. No tax consequences for you arise when you lend a company money and that same amount of money lent is later paid back. You need only include the interest that is paid to you during the duration of the loan as interest income at item 10 of your 2002-03 tax return.
When you purchase a company bond from someone else, the price you paid for the bond is the cost to you of the bond. This cost to you may be different from the amount of money the company originally borrowed and will have to pay when it redeems the bond.
When a company redeems a bond by paying back the money it borrowed and you make a profit because the amount you paid for the bond is less than the amount the company paid you to redeem the bond, that profit should be included in your Australian tax return as other income at item 22 on your 2002-03 tax return (supplementary section). (See the example on this page.) That profit is not treated as a capital gain.
When a company redeems a bond by paying back the money it borrowed and you make a loss because you paid more for the bond than the amount the company paid you when the company redeemed the bond, in most instances you can claim a deduction equal to the amount of the loss on your Australian tax return as an other deduction at item D15 on your 2002-03 tax return (supplementary section). It is not usually treated as a capital loss.
If you sell a company bond to someone else before the company pays you the money that it borrowed and you make a profit, that profit should be included in your 2002-03 tax return (supplementary section) as other income at item 22. That profit is not treated as a capital gain.
If you sell a company bond to someone else before the company has paid you the money it borrowed and you make a loss, in most instances you can claim a deduction equal to that loss on your 2002-03 tax return (supplementary section) as an other deduction at item 15. It is not usually treated as a capital loss.
An exception to your entitlement to claim a loss as a deduction, is made for a disposal or redemption of a bond that takes place:
- outside the ordinary course of trading on a securities market, and
- at the time of disposal or redemption, there is an apprehension or belief that the issuer of the bond will fail to pay all of the amounts that it owes to investors.
In the above circumstances, you are not permitted to deduct the loss you made to the extent that it is a capital loss or the loss is of a capital nature.
Example
Company X borrows $1,000,000 from investors by issuing 10,000 bonds for $100 each. These bonds pay interest at 8% per annum until the bonds mature in five years time and Company X pays back the money it borrowed.
Terry buys 100 Company X bonds for $98.75 each on the market and holds the bonds until they mature. On maturity, Company X pays Terry $100 each to redeem the bonds.
Terry has made a profit in the year in which the bonds were redeemed by Company X. The profit is equal to the proceeds paid Terry on redemption less the money Terry paid to purchase the bonds or $125 calculated as follows:
100 Bonds × $100.00 each |
= |
$10,000 redemption proceeds paid to Terry |
100 Bonds × $98.75 each |
= |
$9,875 cost to Terry |
$10,000 − $9,875 |
= |
$125 profit |
The difference of $125 should be added to Terry's 2002-03 tax return (supplementary section) as other income at item 22.
End of exampleConvertible notes that were issued by the company before 15 May 2002
Some company bonds give you the choice, at some point during the duration of the loan, of receiving a share or shares in the borrowing company or another company instead of being paid back the money lent to the company. These bonds are referred to here as 'convertible notes'.
When a convertible note that was issued by a company before 15 May 2002, is exchanged for a company share or shares, and there is a profit because the shares are worth more-at the time of the exchange-than the amount you paid for the convertible note, this profit should be included in your 2002-03 tax return (supplementary section) as other income at item 22. This amount is income to you whether or not you sell the shares. It is not treated as a capital gain.
When a convertible note that was issued by a company before 15 May 2002, is exchanged for a company share or shares, and a loss is made because the company share or shares are worth less-at the time of the exchange-than the amount that you paid for the convertible note, in most instances you may claim a deduction equal to that loss in your 2002-03 tax return (supplementary section) as an other deduction at item D15. It is not usually treated as a capital loss.
An exception to your entitlement to claim a loss as a deduction, is made for a disposal or redemption of a convertible note that takes place:
- outside the ordinary course of trading on a securities market, and
- at the time of disposal or redemption, there is an apprehension or belief that the issuer of the convertible note will fail to pay all of the amounts that it owes to investors.
In the above circumstances, you are not permitted to deduct the loss you made to the extent that it is a capital loss or the loss is of a capital nature.
A sale or disposal of the shares that you acquired through the convertible note will be treated in the same way as the sale or disposal of any other share you may own. If you ordinarily treat shares as an investment and show the gains and losses as capital gains and losses, then you should do the same when you sell the shares you acquired through your previous investment in a convertible note.
Special rules govern the cost base of shares acquired in exchange for a convertible note and your entitlement to the capital gains tax discount in respect of those shares. For information on these rules see the Guide to capital gains tax.
Convertible notes that were issued by a company after 14 May 2002
On 14 May 2002, the Minister for Revenue and Assistant Treasurer proposed changes to the tax treatment for convertible notes that were issued by a company after 14 May 2002. It is proposed that the profit and loss that is brought about when the convertible note is exchanged for a company share or shares, should not be taxed until the share or shares are sold. It is also proposed that, for ordinary investors, those profits and losses be treated as capital gains and losses. As of the date of publication of this booklet, this proposal is not yet tax law. For more information phone the Personal Tax Infoline on 13 28 61.