Company bonds
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 on your tax return (supplementary section) at item 24 Other income. See Example 13. 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 tax return (supplementary section) at item D15 Other deductions. It is not usually treated as a capital loss.
If you sell a company bond to someone else before the company repays the money that it borrowed and you make a profit, that profit should be included on your tax return (supplementary section) at item 24 Other income. That profit is not treated as a capital gain.
If you sell a company bond to someone else before the company repays the money it borrowed and you make a loss, in most instances you can claim a deduction equal to that loss on your tax return (supplementary section) at item D15 Other deductions. It is not usually treated as a capital loss.
You are not entitled to claim a deduction for a loss you made on the disposal or redemption of a bond that is a traditional security to the extent that the loss is a capital loss or is of a capital nature if:
- in the case of a bond that is a marketable security
- you did not acquire the bond in the ordinary course of trading on a securities market and, at the time you acquired it, you could not acquire an identical security in the ordinary course of trading on a securities market, and
- you disposed of the bond outside the ordinary course of trading on a securities market
- at the time of disposal or redemption, there was an apprehension or belief that the issuer of the bond would fail to pay all of the amounts that it owed to investors.
Capital losses may be able to be applied against capital gains this income year or in a future income year in calculating your net capital gain included in assessable income.
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 made a profit in the year in which the bonds were redeemed by Company X. The profit, $125, is equal to the proceeds paid to Terry on redemption less the money Terry paid to purchase the bonds, 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
Terry includes the $125 on his tax return (supplementary section) at item 24 Other income.
End of exampleConvertible notes issued by a company before 10 May 1989
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’.
There may be CGT consequences for investors when a convertible note that was issued by the company before 10 May 1989 is exchanged for shares. For more information, see Guide to capital gains tax 2018.
Convertible notes issued by a company after 10 May 1989 and before 15 May 2002
When a convertible note that was issued by a company after 10 May 1989 and 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 on your tax return (supplementary section) at item 24 Other income. 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 have a lower value (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 on your tax return (supplementary section) at item D15 Other deductions. 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 these 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 capital 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 CGT discount in respect of those shares. For information on these rules, see Guide to capital gains tax 2018.
Convertible notes issued by a company after 14 May 2002
When a convertible note that was issued by the company after 14 May 2002 is exchanged for a company share or shares and:
- there is a profit because the shares are worth more at the exchange date than the cost of the convertible note, or
- there is a loss because the shares are worth less at the exchange date than the cost of the convertible note
as long as the criteria below are met, that profit or loss is not recognised for tax purposes until the shares into which the notes were converted are disposed of.
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 Guide to capital gains tax 2018.
To be eligible for this treatment the convertible note must meet all of the following criteria:
- The convertible note must have been issued after 7.30pm (by legal time in the Australian Capital Territory) on 14 May 2002. The date the convertible note was acquired by the investor is not relevant, only the date the convertible note was issued by the company.
- Before its conversion, the convertible note was a traditional security. That is, a debt security not issued at a substantial discount to face value, and without deferred income features such as indexation of invested capital.
- After conversion, the shares into which the note converts are ordinary shares of a company. The shares do not have to be shares in the company that issued the convertible note. The note can be exchanged for shares in an unrelated company, but they must be ordinary shares of a company.
If the convertible notes do not meet all of the above criteria, they will be treated in the same way as convertible notes that were issued by a company after 10 May 1989 and before 15 May 2002.
Sale or disposal of company bonds and convertible notes that are denominated in a foreign currency
Gains and losses made on disposal of foreign currency denominated notes and bonds must be translated into Australian dollars for your Australian tax return. Both the acquisition cost of the bond or note and the disposal proceeds should be translated into Australian dollars, and a comparison be made between the two amounts to work out the gain or loss for tax purposes.
An example of such a calculation is provided in Taxation Determination TD 2006/30 – Income tax: foreign exchange: when calculating the amount of any gain or loss on disposal or redemption of a traditional security denominated in a foreign currency, should the amounts relevant to the calculation be translated (converted) into Australian dollars when each of the relevant events takes place?
For more information on whether the new rules will apply to you and on the exchange rates that should be used in translating foreign currency amounts, see: