House of Representatives

Taxation Laws Amendment Bill (No. 7) 2003

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)

Chapter 9 - Foreign hybrids

Outline of chapter

9.1 Schedule 10 to this bill contains amendments to change the taxation treatment of investments in foreign limited partnerships and other foreign hybrids such as US LLCs. The amendments also deal with issues that arise where an entity becomes a foreign hybrid and where it ceases to be one. This chapter explains these amendments, concluding with a discussion of when the new rules apply and of some modifications to the law for past years.

Context of amendments

9.2 The entities affected by the amendments are collectively referred to as foreign hybrids (e.g. UK and US limited partnerships and limited liability partnerships, US LLCs and other companies to be listed in regulations). Typically, a foreign hybrid is effectively treated for foreign tax purposes as a partnership (i.e. the partner or member is subject to tax) but it is taxed as a company under Australia's current taxation laws.

9.3 The current corporate tax treatment for foreign hybrids means that taxpayers with interests in them may be subject to the CFC rules or FIF rules. The CFC rules, and to a lesser extent the FIF rules, do not effectively cater for foreign hybrids because those rules are based on a company model and, in particular, assume that the company and not the member is taxed by other countries.

9.4 The CFC rules broadly include requirements that the CFC be subject to foreign tax (as one of many rules for assigning residency) and pay the foreign tax (in calculating attributable income). The FIF rules include the latter requirement. However, these requirements are unable to be met in the case of a foreign hybrid as it is the partner (or member) that is subject to the foreign tax.

9.5 The application of these rules has led to the attribution of a wider range of income than is intended (because the active income test cannot be used and through attribution of comparably taxed income), the risk of double taxation (through failure to provide relief) and significant compliance costs (e.g. including increased uncertainty).

9.6 In the Minister for Revenue and Assistant Treasurer's Press Release C26/03 of 8 April 2003, the Government announced the change to the taxation treatment of certain foreign hybrids. They will be treated as partnerships (instead of as companies) for the purposes of Australia's income tax laws. Because of this change in treatment for many existing entities, rules are required to deal with that transition, especially to avoid it becoming a taxable event and to transfer asset values from the entity to the new partners. Other amendments will be made to deal with the income years prior to the start date for partnership treatment to help clarify the application of the law in those years.

9.7 These amendments will provide certainty and remove unintended consequences for taxpayers that result from the current taxation treatment of investments in foreign hybrids under the CFC regime, and to a lesser extent the FIF regime.

9.8 With the change to partnership treatment, limited partners in a limited partnership or the members of a US LLC would be able to claim deductions for tax losses to which they were not exposed economically because of their limited liability. For this reason, rules are introduced to limit foreign hybrid related losses which can be used by a limited partner to offset against any other assessable income from sources outside of the foreign hybrid. Similar loss limitation rules were introduced for venture capital limited partnerships. Other jurisdictions, including Canada, New Zealand, the UK and the USA, also have rules to limit the pass through of losses to partners with limited liability.

9.9 The modifications to the tax law for certain past income years are intended to deal with the significant long-standing uncertainty that has existed around the application of the CFC rules (and to a lesser extent the FIF rules) for taxpayers with interests in foreign hybrids. This is particularly so in relation to the residence of the foreign hybrid, which is a central issue in the application of the CFC rules.

9.10 Another significant problem with the current law concerns the inability of attributable taxpayers to claim deductions or credits for the foreign tax paid on the amount which is attributed to them.

9.11 A more comprehensive solution to deal with the problem will generally operate from the 2003-2004 income year. This solution will align with commercial practices and better aligns the Australian tax treatment with that of the foreign jurisdiction.

Summary of new law

9.12 For a limited partnership that, under Division 5A of Part III of the ITAA 1936 (Division 5A), is a corporate limited partnership and following the amendments in this bill, satisfies the definition of a foreign hybrid limited partnership, the corporate tax treatment overlay of Division 5A will be removed for the purposes of the income tax law. These limited partnerships will therefore be treated as partnerships and subject to Division 5 of Part III of the ITAA 1936 (Division 5).

9.13 Similarly, US LLCs that satisfy the definition of foreign hybrid company and certain companies declared by the regulations to be foreign hybrid companies will be given partnership treatment for the purposes of the income tax law.

9.14 Where the taxpayer's interest in the foreign limited partnership or US LLC would be a FIF interest rather than an interest in a CFC, the taxpayer will have the right to choose whether partnership treatment is to apply to it. The default treatment will be that the interest is still an interest in a FIF.

9.15 One particular outcome from partnership treatment is in the application of the CGT provisions. Under these provisions, the partner has a proportional interest in the assets of the partnership and may have a residual CGT asset because of its interest in the partnership. On application of the new rules, a partner/member must assign a reasonable approximation of a share of the cost for an asset to its interest in each of the foreign hybrid's assets.

9.16 An important feature of the new partnership treatment of foreign hybrids is the inclusion of loss limitation rules. These rules place a limitation on certain losses that may be used by limited partners to offset income from sources other than the foreign hybrid, unlike for ordinary partnerships. Losses subject to the rules will be partnership losses and any net capital loss attributable to the foreign hybrid. The limit will be based on the limited partner's contributions to the foreign hybrid. Where the losses exceed that limit the excess will not be taken into account in calculating taxable income. The limit is adjusted annually for additional contributions or withdrawals and for previous losses taken into account.

9.17 Special rules are inserted to deal with the application of various provisions of the ITAA 1936 and the ITAA 1997, that deal with assessable income or deductions arising from holding assets, when an entity becomes or ceases to be a foreign hybrid. These provisions include those dealing with capital allowances and capital gains and losses. The special rules establish tax values for the partners' interests in the foreign hybrid's assets on it becoming a partnership, and for the foreign hybrid's interest in the assets when it ceases to be a partnership.

9.18 The amendments will apply from the start of the 2003-2004 income year, with taxpayers given an option of an earlier application from the start of the 2002-2003 income year. They will also apply in calculating the attributable income of CFCs for statutory accounting periods commencing on or after 1 July 2003 or their substitutes. Attributable taxpayers will also be able to apply the new treatment from the preceding statutory accounting period by choice.

9.19 Other changes will modify the application of Parts X (about CFCs) and XI (about FIFs) of the ITAA 1936 in relation to foreign hybrids for some past income years by:

adding an additional rule to assign the residence of a CFC that is a foreign hybrid to its country of formation; and
treating the foreign tax paid by a partner of a foreign hybrid as being paid by the foreign hybrid.

9.20 The modified application of these rules will apply for any years for which an assessment may still be amended. Generally, this is within 4 years after the date of an assessment.

9.21 Taxpayers that have returned income on the basis that their foreign hybrid CFCs are not residents of any particular country will have the option of amending prior-year returns, but will not be required to do so.

Comparison of key features of new law and current law

New law Current law
Taxes a foreign hybrid limited partnership as a partnership. Taxes limited partnerships as companies.
Taxes a foreign hybrid company as a partnership. Taxes foreign companies as companies.
No equivalent. Taxes distributions as dividends.
The availability of losses (including net capital losses) in relation to foreign hybrids for limited partners will be limited to their loss exposure amount. No equivalent for partnerships (other than venture capital limited partnerships). However, because the foreign hybrids are treated as companies, the partners cannot claim deductions for the foreign hybrid's losses.
Unused losses may be carried-forward and deducted when the partner's contributions to the foreign hybrid have been increased. No equivalent for partnerships (other than venture capital limited partnerships).
A partner of a foreign hybrid limited partnership has an interest in each asset of the partnership. A partner in a corporate limited partnership has a legal interest in each asset of the partnership, but this is ignored for tax purposes. Instead a partner's interest is treated as a share for tax purposes.
A member of a US LLC that is a foreign hybrid company will be treated as having an interest in each asset of the company. A member of a US LLC holds a share for tax purposes.
When a partner enters a foreign hybrid in a listed country, there will not generally be taxable gain. The entry of a partner gives rise to capital gains or losses for the existing partners.
There is no disposal of any assets where an entity becomes or ceases to be a foreign hybrid. No equivalent.
When an entity becomes a foreign hybrid, the partners/members of a foreign hybrid must assign an amount to their interest in each asset of the foreign hybrid. No equivalent.
When an entity ceases to be a foreign hybrid, the entity must assign an amount to its interest in certain assets it continues to hold. No equivalent.
For the purposes of applying Part X of the ITAA 1936 to a foreign hybrid in past years, it will be a resident of the country under whose laws it was formed. For the purposes of Part X of the ITAA 1936 a foreign hybrid is a resident of no particular unlisted country.
A deduction for foreign tax paid by the partners/members of the foreign hybrid CFC on amounts included in notional assessable income of the CFC to be allowed for past years. A deduction for foreign tax is denied because the foreign tax is not paid by the foreign hybrid CFC. Instead, the partner/member of the foreign hybrid pays the foreign tax.

Detailed explanation of new law

What is a foreign hybrid?

9.22 Foreign hybrid is the term to be used to describe a foreign hybrid limited partnership or a foreign hybrid company, both of which are also defined terms. This definition is relevant for both the purposes of the amendments to treat the foreign hybrid as a partnership (see paragraphs 9.23 to 9.119), and the amendments for past income years (see paragraphs 9.120 to 9.136). [Schedule 10, item 15, section 830-5]

What is a foreign hybrid limited partnership?

9.23 Limited partnerships are already dealt with in the income tax law and are defined in the ITAA 1936 as partnerships where the liability of at least one of the partners is limited. Generally, a limited partnership will be a foreign hybrid limited partnership only if it satisfies 5 conditions. [Schedule 10, item 15, subsection 830-10(1)]

9.24 Firstly, the limited partnership must be formed in a foreign country. What this means is discussed in the explanation of the amendments that give residency for the CFC rules to the place where the entity was formed for some past income years (see paragraphs 9.120 and 9.121). If formed in Australia (and governed by partnership law in Australia), the limited partnership would generally be a resident corporate limited partnership and will not be a foreign hybrid limited partnership. [Schedule 10, item 15, paragraph 830-10(1)(a)]

9.25 Secondly, the limited partnership must be treated, for the purposes of the tax law of the foreign jurisdiction in which it was formed, as a partnership (i.e. foreign tax must be imposed on the partners). It is the fact that the limited partnership is treated on a flow-through basis in the foreign jurisdiction (i.e. as a partnership) which causes the mismatch problems for the application of the CFC and FIF provisions. It is only these limited partnerships that are to be afforded foreign hybrid limited partnership treatment. Therefore, where a limited partnership elects for entity treatment in the foreign jurisdiction, it will not meet this condition and will not be a foreign hybrid. It will continue to be treated as a corporate limited partnership and would in all likelihood be a resident of that country for tax purposes and there would be none of the CFC/FIF problems. [Schedule 10, item 15, paragraph 830-10(1)(b)]

9.26 Thirdly, at no time during the year of income is the limited partnership, for the purposes of the tax law of any foreign country, treated as a resident of that country. This condition ensures that if there is another foreign country (apart from the country of formation) which taxes the limited partnership as a resident entity, it will not qualify as a foreign hybrid. Again where this condition is not met there is no problem for the CFC or FIF rules. [Schedule 10, item 15, paragraph 830-10(1)(c)]

9.27 Fourthly, the limited partnership must not be an Australian resident at any time. Therefore, the limited partnership cannot carry on business in Australia during an income year and qualify as a foreign hybrid limited partnership for that year. [Schedule 10, item 15, paragraph 830-10(1)(d)]

9.28 Finally, the limited partnership must be a CFC with at least one attributable taxpayer having an attribution percentage greater than nil. Generally, this means that there must be at least one Australian taxpayer who has a direct or indirect interest of at least 10% in the limited partnership. Whether the limited partnership is a CFC is tested at the end of its statutory accounting period (as defined in the CFC provisions) that ends in the same year of income for the attributable taxpayer. The effect of this provision is that, as a general rule, only those limited partnerships from which income could be attributed currently under the CFC regime will, subject to meeting the other tests, be foreign hybrids. [Schedule 10, item 15, paragraph 830-10(1)(e)]

What is a foreign hybrid company?

9.29 US LLCs are broadly similar to limited partnerships in terms of tax treatment in the USA and have members with limited liability in the company. US LLCs are clearly companies under Australian tax law, are generally not Australian residents and so would be FIFs or even CFCs. However, because of their ability to elect for partnership treatment for tax purposes in the USA the same problems arise in applying the CFC and FIF provisions to them.

9.30 As a general rule, there are 4 conditions to be met for a US LLC to be a foreign hybrid company. Three of those conditions are identical to requirements for a limited partnership to be a foreign hybrid limited partnership. These are that the US LLC must not be treated as a resident of any foreign country nor can it be an Australian resident and it must qualify as a CFC with an attributable taxpayer having an attribution percentage greater than nil. The requirement to have a non-zero attribution percentage means that those cases where a US LLC (or a limited partnership) is a CFC only because of the interests held by foreign resident associates of an attributable taxpayer will not be foreign hybrids. [Schedule 10, item 15, paragraphs 830-15(1)(b) to (d)]

9.31 The other condition is that the US LLC is treated as a partnership or as a disregarded entity for US income tax purposes. [Schedule 10, item 15, paragraph 830-15(1)(a) and subsection 830-15(2)]

9.32 It is possible that in the future certain other foreign companies that are treated as partnerships by the income tax laws of foreign countries in which they are formed will be prescribed by regulation to be foreign hybrid companies. The requirements to be satisfied to be a foreign hybrid company will not relate to an income year before the one in which the regulations are made. [Schedule 10, item 15, subsections 830-15(3) and (4)]

Election to treat an interest in other limited partnerships or in other companies as an interest in a foreign hybrid

9.33 Although these amendments also deal with entities that are currently dealt with only under the FIF regime, they do not treat such an entity as a foreign hybrid in its own right, but rather treat the interest in the entity as an interest in a foreign hybrid. This is consistent with the policy intent only to change the treatment of taxpayers with FIF interests where they elect for foreign hybrid treatment on a case by case basis. [Schedule 10, item 5, section 485AA of the ITAA 1936]

9.34 For the taxpayer to make the election not to treat its interest in the entity as an interest in a FIF, the limited partnership or company must satisfy several of the conditions discussed in paragraphs 9.24 to 9.31. The entity must not be an Australian resident, it must be treated as a partnership under the tax laws of its country of formation and not as a resident entity by any foreign country. [Schedule 10, item 5, subsections 485AA(1) and (2) of the ITAA 1936]

9.35 Where a taxpayer chooses to make this election, the election should be made before lodgement of the taxpayer's return for the income year (subject to any extensions allowed by the Commissioner) so that no income is attributed from the FIF under Part XI of the ITAA 1936. The election is irrevocable and applies to that income year and all future income years during which the taxpayer has the FIF interest. [Schedule 10, item 5, subsections 485AA(3), (4) and (7) of the ITAA 1936]

9.36 The effect of the election is not to attribute any income from the FIF to the taxpayer for that and future income years [Schedule 10, item 5, subsection 485AA(5) of the ITAA 1936]. Because of this election, the interest in the limited partnership or company becomes an interest in a foreign hybrid for the taxpayer [Schedule 10, item 15, subsections 830-10(2) and 830-15(5)]. However, the election in relation to a particular interest by a taxpayer does not have any effect, including for the purposes of Part XI of the ITAA 1936, in relation to any other interest of this or any other taxpayer in a FIF [Schedule 10, item 5, subsection 485AA(6) of the ITAA 1936].

What is the new tax treatment for a foreign hybrid?

9.37 A foreign hybrid limited partnership will no longer be treated as a company because of Division 5A. The partnership will be dealt with under Division 5 of Part III of the ITAA 1936 with the important modification that deductions for losses of the partnership will be subject to limitation (see paragraphs 9.51 to 9.79). Because it is no longer treated as a company, neither the CFC provisions nor the FIF provisions (for those who so elect) will apply to it, distributions will not be significant for tax purposes and the CGT provisions will apply only to the partners and not to the partnership. [Schedule 10, item 3, subsections 94D(4) and (5) of the ITAA 1936]

9.38 New Subdivision 830-B provides partnership treatment for foreign hybrid companies with the same consequences as for foreign hybrid limited partnerships. [Schedule 10, item 15, Subdivision 830-B]

Partnership tax modifications for foreign hybrid companies

9.39 Broadly, companies to which these provisions apply - foreign hybrid companies - are treated as partnerships for the purposes of the income tax law. They are not treated as companies. Most provisions of the income tax law do not need changes to deal with foreign hybrid companies; the existing provisions generally apply without modification. However, in some areas changes are needed.

9.40 If a company is a foreign hybrid company in relation to a year of income, the income tax law has effect subject to the changes set out in the provisions of the new Subdivision 830-B. The actual parts of the law which are affected are referred to as the foreign hybrid tax provisions and are listed in a definition of that term. It is useful to note that these foreign hybrid tax provisions do not include the new Subdivisions defining foreign hybrids or modifying the law for foreign hybrid companies or for limited partnerships. Where those provisions apply to partnerships they will apply to foreign hybrids. Conversely, a reference in those provisions to a company no longer includes a reference to a foreign hybrid company. In particular, the CFC, and possibly for some taxpayers the FIF provisions, won't apply nor will any provisions dealing with dividends (e.g. sections 23AI and 23AJ of the ITAA 1936). [Schedule 10, item 15, section 830-20 and item 26, definition of 'foreign hybrid tax provisions' in subsection 995-1(1)]

A partner includes a shareholder in the foreign hybrid company

9.41 A reference in the income tax law to a partner in a partnership includes a reference to a shareholder in a foreign hybrid company. Based on the broad meaning of 'share' in the ITAA 1997, shareholder includes a member of a US LLC. Apart from a company listed in the regulations, a US LLC is the only type of company that can qualify as a foreign hybrid company. A US LLC is owned by its members and may not in fact issue shares. However, the members are equivalent to stockholders of a corporation. Such an interest-holder will fall within the definition of a 'shareholder' and be treated as partners in a partnership. [Schedule 10, item 15, section 830-25]

9.42 All shareholders, resident in Australia or not, in a foreign hybrid company will be treated as partners. While these amendments for companies are directed primarily at Australian resident members of a US LLC, in the case where the US LLC is a foreign hybrid company because of subsection 830-15(1), any non-resident members will also become partners for Australian tax purposes. This may result in direct Australian taxation of these members (dependent on any relevant taxation treaty), but they will still be taxed only on any Australian source income derived by the company (to the extent that the company itself would have previously been subject to Australian taxation). However, partnership treatment will not be something new to the members, in general terms, because that is how they are currently taxed in the USA.

Individual interest of a partner in the net income

9.43 The shareholder's right to a distribution of profits from the foreign hybrid company will determine its individual interest in the net income or loss of the partnership. In calculating that share the shareholder needs to determine the amount it would reasonably expect to receive from the company if the profits of the company for the year of income were distributed. That amount would be converted to a percentage of the total distribution. The shareholder would need to take into account the rights of the members of the company to distributions under the constitution of the foreign hybrid company (such as the operating agreement of an LLC). In the usual case, the shareholder would use its percentage entitlement to a distribution made by the company. [Schedule 10, item 15, section 830-30]

Example 9.1 A and B (Australian resident companies) are each members of a US LLC. Under the operating agreement of the US LLC, A has a preferential interest in the first $10,000 of the profits of the US LLC, and both A and B have a right to 50% of any further profits.In the 2003-2004 income year US LLC has a profit of $50,000, after US tax. If all the profits for that year were distributed at year end, A would receive $30,000 ($10,000 and 50% of the remaining $40,000), and B would receive $20,000 under the operating agreement. Applying section 830-30, A's individual interest in the net income of the US LLC would be 60% (calculated as the $30,000 share of the $50,000 total distributable profits), and B's would be 40%.In the 2004-2005 income year A sells its interest to C. The operating agreement of the US LLC is amended so that B and C receive 50% each of the profits. If the US LLC has a profit of only $10,000, each of B's and C's individual interest in the net income would be 50% (as per the operating agreement).

Control and disposal of share in partnership income

9.44 Section 94 of the ITAA 1936 imposes a penal rate of tax on any uncontrolled partnership income, for example on the share of net partnership income over which the partner entitled to it does not have any real and effective control or disposal of that share.

9.45 In determining whether or not a shareholder of a foreign hybrid company has real and effective control or disposal over its share of the foreign hybrid's profits, regard should be given to any rights the shareholder has under the constitution, the operating agreement or any other rules of the foreign hybrid company. [Schedule 10, item 15, section 830-40]

Extended meaning of when income or profits will be subject to tax in a listed country

9.46 Any capital gain/loss from a CGT event happening in relation to a foreign hybrid or one of its CGT assets will be made by the partners individually (section 106-5). Each admission of a partner/member to a foreign hybrid may result in a CGT event for each existing partner/member, in relation to their respective interests in each asset of the foreign hybrid. The same may occur when an existing partner/member increases its proportional interest in the foreign hybrid.

9.47 Where either event is by means other than the acquisition of some or all of another partner's/member's interest, there may be no equivalent taxing point in the foreign jurisdiction and foreign tax may not be imposed on anyone at that time. However, where the foreign jurisdiction imposes tax once a partnership asset is actually disposed of, there is the potential for double taxation in respect of any unrealised capital gains in the assets of the foreign hybrid at the time the new partner was admitted or the partnership interest was increased.

9.48 Alternatively, where these events are coupled with an actual disposal by another existing partner/member of some or all of its interest in the foreign hybrid, there still is potential for double taxation. This may occur because the foreign country treats this as the disposal of some or all of the member's interest in the foreign hybrid, rather than as a disposal of the underlying assets of the foreign hybrid. Double taxation may arise because the 2 countries are taxing different events.

9.49 Subsections 830-75(1) and (2) deal with the first case, where a comparable-tax country would have taxed a capital gain made if the foreign hybrid had disposed of its assets. In this case, the capital gain will be treated for the purposes of section 23AH and Part X of the ITAA 1936 as having been subject to tax in a listed country when the deemed disposal took place. Subject to the other conditions in section 23AH being met, any capital gain made by an Australian company member of the foreign hybrid will be exempt from Australian tax at that time. Any capital loss will be ignored in the same circumstances. Similarly, under the CFC provisions the capital gain/loss will not be included in calculating the attributable income of an interposed CFC. If no listed country would have taxed the hypothetical foreign hybrid gain, the gain will remain taxable in Australia. [Schedule 10, item 15, subsections 830-75(1) and (2)]

9.50 Where there is an actual disposal of some or all of an existing partner's/member's interest in the foreign hybrid resulting in a capital gain, and the gain is subject to tax in a listed country, the capital gain under Australian law will be treated as being subject to tax in the listed country at that time. This again may result in the gain being exempt, or a loss ignored, under section 23AH or not taken into account under the CFC provisions. Where the gain is not taxed by any listed country, it would remain taxable in Australia. [Schedule 10, item 15, subsections 830-75(3) and (4)]

Loss limitation rules

9.51 As mentioned in paragraph 9.37, the amendments contain rules limiting the tax losses that may be claimed by a limited partner in a foreign hybrid, reflecting that the partner is not economically exposed to greater losses. Important elements of the loss limitation rules are that:

they apply only to limited partners;
they apply to both revenue losses of the foreign hybrid and the limited partner's net capital losses in relation to the foreign hybrid; and
they use the limited partner's at-risk, net contributions to the foreign hybrid as a benchmark to test whether the above losses may be utilised by the partner.

9.52 This limitation applies to each separate foreign hybrid in which the taxpayer or a CFC is a limited partner.

The rules only apply to a limited partner

9.53 The loss limitation rules only apply to limited partners of a foreign hybrid. This is consistent with the policy principle of limiting deductions for losses to amounts to which a partner is exposed. There is no need to apply the rules to general partners in limited partnerships as their liability is unlimited. All shareholders/members of a hybrid company that have limited liability become limited partners in a partnership and so these rules apply to them. These limited partners may be Australian taxpayers, foreign residents or CFCs. [Schedule 10, item 15, subsection 830-45(1)]

To which losses do the new rules apply?

9.54 The loss limitation rules apply in an income year to the following foreign hybrid losses:

any revenue losses of the foreign hybrid for that income year (this is the partner's share of a partnership loss for the year calculated under section 90 of the ITAA 1936 before the application of these rules; note that foreign losses do not form part of a partnership loss because of section 79D of the ITAA 1936);
any net capital loss of the limited partner for that income year that relates to the foreign hybrid. A foreign hybrid net capital loss arises where:

-
the partner's capital losses exceed its capital gains arising from CGT events happening during the income year in relation to the foreign hybrid or assets held by the foreign hybrid [Schedule 10, item 15, section 830-55]; and

any of the limited partner's unapplied revenue losses of the foreign hybrid, or unapplied foreign hybrid net capital loss, from a prior income year (these are referred to in the legislation as outstanding foreign hybrid revenue loss amounts and outstanding foreign hybrid net capital loss amounts) [Schedule 10, item 15, sections 830-65 and 830-70].

9.55 The new rule applies equally to foreign hybrid revenue losses and foreign hybrid net capital losses for integrity and neutrality reasons. There is no need to apply them to foreign losses of the foreign hybrid because these losses are not deducted in calculating the net income or partnership loss and cannot be deducted by a partner.

What is the limited partner's liability to loss?

9.56 Under the new rules, a limited partner's liability to loss from investment in a foreign hybrid is referred to as the partner's loss exposure amount. The limited partner's loss exposure amount is calculated in accordance with the method statement in subsection 830-60(1). The ability of a limited partner to utilise losses from investments in relation to the foreign hybrid in an income year (or carried over from a prior income year) is dependent on this liability for loss amount.

9.57 The limited partner's liability for loss is calculated by deducting the following from the amount or market value of contributions made by the partner to the foreign hybrid, or amounts held for the credit of the partner by the foreign hybrid, and which have not been repaid:

all limited recourse debts owed by the partner, to the extent that the borrowings were used by the partner to make contributions and the debts are secured by the partner's interest in the foreign hybrid;
the total of all deductions allowed to the partner for partnership losses allowed in previous years; and
the total of all net foreign hybrid capital losses allowed in previous years.

[Schedule 10, item 15, subsection 830-60(1)]

What are a limited partner's contributions to the foreign hybrid?

9.58 Contributions made by the limited partners are their capital contributions, which are reflected in the various partners' capital accounts of the foreign hybrid. Contributions may be made in a variety of different forms. Typical capital contributions include cash, goods, or marketable assets like land and buildings.

9.59 Other amounts considered to contribute to a limited partner's liability to loss in the foreign hybrid are:

the partner's share of undrawn profits in the foreign hybrid; and
subordinated debt contributed by the partner which is not a debt interest issued by the foreign hybrid and which, in the event of liquidation, ranks after claims by all other creditors (both secured and unsecured).

[Schedule 10, item 15, step 1 in subsection 830-60(1)]

9.60 All contributions must be made to and have been held in the foreign hybrid for at least 180 days at the end of the income year in which the partnership loss or foreign hybrid net capital loss is made. To ensure that genuine, long-term contributions are not caught by a strict 180-day rule, contributions that remain in the foreign hybrid for 180 days or more will satisfy the requirement. [Schedule 10, item 15, step 1(b) in subsection 830-60(1)]

What contributions do shareholders purchasing their interest in a foreign hybrid company make?

9.61 A shareholder acquiring shares in a foreign hybrid company from another shareholder is not ordinarily considered to be making a contribution to the foreign hybrid company. The new rules will treat such an acquisition by a shareholder in the foreign company to be a contribution by a partner to the foreign hybrid. [Schedule 10, item 15, subsection 830-60(2)]

9.62 Contributions by shareholders of a foreign hybrid company may be reflected differently in the foreign hybrid's accounts: they may appear as paid-up capital or shareholders' funds. Using only the shareholder's interest in the paid-up capital amount to determine the amount at risk may place them at a disadvantage. For example, the consideration given by the shareholder for shares in the foreign hybrid company may have a different cost per share than paid-up capital. In effect the shareholder may have acquired something other than paid-up share capital, including an interest in retained earnings.

9.63 Therefore, initial contributions by a shareholder acquiring their interest in the foreign hybrid company from another shareholder will be the payment or other consideration for those shares for as long as they hold them. [Schedule 10, item 15, subsection 830-60(2)]

9.64 When calculating their liability to loss these particular limited partners need to make adjustments to their initial contributions for:

any amounts repaid to them which represent a return of capital by the foreign hybrid during the time they hold the share [Schedule 10, item 15, paragraph 830-60(2)(f)];
movements in the balance of retained earnings (e.g. the partner pays $100 for shares in a foreign hybrid company with a paid-up capital amount of $80. Assume that the partner's interest in retained earnings at that time is $15. If in 3 years the partner's interest in the foreign hybrid's retained earnings has risen to $100 (assume all other factors are unchanged), the step 1 total for that income year would be $185 ($100 + ($100 - $15))); and
additional contributions or further acquisition of shares in the foreign hybrid company.

9.65 These contributions will also be subject to the 180-day rule. [Schedule 10, item 15, step 1(b) in subsection 830-60(1)]

A partner's financing arrangements, which reduce its liability to loss from investment in the foreign hybrid, are deducted from contributions.

9.66 Certain financing arrangements may effectively reduce or transfer a limited partner's liability for loss from investment in the foreign hybrid to another party. [Schedule 10, item 15, step 2(a) in subsection 830-60(1)]

Example 9.2: Calculating the limited partner's loss exposure amount A partner borrows $80,000 to finance its contribution of $100,000 in the foreign hybrid. The lender secures the loan against the partner's interest in the foreign hybrid valued at $70,000 (and probably some other assets of the partner). Under terms of the loan agreement the limited partner is only exposed to a loss of $10,000 if the loan were to be in default and the market value of the partner's interest in the foreign hybrid falls below $70,000. Thus the limited partner has effectively reduced its liability from $80,000 to $10,000. Of the $100,000 contributed to the foreign hybrid, $70,000 of it is at risk for the lender to the partner.The partner's loss exposure amount worked out under the method statement is:

Partner's contribution $100,000
Contributions repaid ($0)
Less: limited recourse debts to the extent secured by partner's interest in foreign hybrid ($70,000)
Deductions allowed for previous revenue losses ($0)
Previous foreign hybrid net capital losses allowed ($0)
Partner's loss exposure amount $30,000

Diagram 9.1: How the loss limitation rules apply

diagrammatic representation of how the loss limitation rules apply

diagrammatic representation of how the loss limitation rules apply

Testing the deductibility or otherwise of partnership losses or a foreign hybrid net capital loss.

9.67 A limited partner's share of a foreign hybrid's losses or a foreign hybrid net capital loss that may be used in calculating the partner's taxable income may not exceed the partner's loss exposure amount. The limited partner's share of these losses will either exceed the amount or not. [Schedule 10, item 15, section 830-45]

What happens where current year losses do not exceed the loss limit?

9.68 There will be no reduction of the limited partner's current year losses where the loss exposure amount is not exceeded (assuming the limited partner does not have any outstanding loss amounts from previous years). In such a case, section 830-45 does not apply.

What happens where the loss limit is exceeded?

Example 9.3 Following on from Example 9.2, in the 2003-2004 income year the partner's share of the foreign hybrid revenue loss is $40,000. The partner also has a foreign hybrid net capital loss for the year of $10,000. Therefore the limited partner has exceeded the loss exposure amount by $20,000.

9.69 Under the new rules, if the partner's losses exceed the loss exposure amount (as in Example 9.3), subsection 830-45(2) reduces the allowable losses so that in total they equal the partner's loss exposure amount. Where the limited partner has both a revenue loss and a foreign hybrid net capital loss for the year, the partner must choose how much of the reduction is applied to which loss. [Schedule 10, item 15, subsection 830-45(2)]

9.70 To the extent that the reduction is applied to a revenue loss, the deduction allowed under subsection 92(2) of the ITAA 1936 is reduced [Schedule 10, item 1, subsection 92(2) of the ITAA 1936]. Where subsection 830-45(2) requires the limited partner to reduce a foreign hybrid net capital loss the reduction will impact on the partner's net capital gain or loss amount for the income year (i.e. including any other capital gains and losses made by the partner). When calculating either a net capital gain or loss for the year, the limited partner must use the reduced foreign hybrid net capital loss amount in place of the actual capital gains and/or losses taken into account when calculating the foreign hybrid net capital loss amount in section 830-55 [Schedule 10, item 15, subsection 830-45(3)].

9.71 Using Example 9.3, if the limited partner chose to reduce only the revenue loss the partner would be able to use the following losses:

allowable deduction under subsection 92(2) of the ITAA 1936 for the revenue loss is reduced from $40,000 to $20,000; and
the full $10,000 foreign hybrid net capital loss is available to reduce capital gains of the partner.

9.72 Alternatively, the limited partner may choose to claim the whole allowable $30,000 as a revenue loss and not use any of the foreign hybrid net capital loss amount. In that case, when calculating the partner's overall net capital gain or loss for the year, the partner would include nothing on account of its investment in this foreign hybrid.

Are the 'undeducted' losses carried-forward?

9.73 Limited partners may carry forward the amount a loss has been reduced by in accordance with subsection 830-45(2):

if the loss reduced was a revenue loss it is carried-forward by the partner under section 830-65; and
if the loss reduced was a foreign hybrid net capital loss it is carried-forward by the partner under section 830-70.

The carried-forward amounts are referred to as outstanding loss amounts and may be available to the limited partner in later years.

How do outstanding losses become available again to the limited partner?

9.74 Any losses (including net capital loss) in relation to the foreign hybrid are carried-forward by the limited partner from prior years (because they have been reduced under these rules). They are then tested against the partner's loss exposure amount in a later income year to determine if they can be utilised in that income year. The limited partner's loss exposure amount may have increased through additional contributions or undrawn profits that have remained or are intended to remain in the foreign hybrid for 180 days or more. [Schedule 10, item 15, section 830-50]

Example 9.4 Following on from the Example 9.3, in the 2004-2005 income year the limited partner has the following losses:

an 'outstanding foreign hybrid revenue loss amount' of $20,000; and
a share of the foreign hybrid revenue loss of $5,000 for that year.

During that year the limited partner made a further contribution of $40,000 financed from the partner's own funds. This contribution has been held in the foreign hybrid for greater than the required 180 days by the end of the income year. There has been no change in the amount of debt or the value of the security provided. To determine which losses are available the partner must again calculate its loss exposure amount under the method statement:
Partner's contribution $140,000
Contributions repaid ($0)
Less: limited recourse debts secured by partner's interest in foreign hybrid ($70,000)
Deductions allowed for previous revenue losses ($20,000)
Previous foreign hybrid net capital losses allowed ($10,000)
Partner's loss exposure amount $40,000
Less: current year revenue loss ($5,000)
Available loss exposure amount $35,000
Outstanding section 830-65 revenue loss amount $20,000
As the limited partner's revenue loss for the year ($5,000) does not exceed the partner's loss exposure amount and the partner has an outstanding revenue loss amount, section 830-50 applies and the partner's available loss exposure amount is $35,000. The outstanding losses are then tested against the partner's available loss exposure amount to determine their availability.The partner will be able to deduct the outstanding revenue loss amount as it does not exceed the available loss exposure amount (see subsection 830-50(2)). The limited partner will therefore be able to claim a deduction for $25,000 ($5,000 under subsection 92(2) of the ITAA 1936 and $20,000 under paragraph 830-50(2)(a)) in the 2004-2005 income year.

9.75 Division 36 of the ITAA 1936 provides for the deduction of tax losses incurred in previous years of income. The losses represented by the partner's outstanding foreign hybrid revenue loss amount will not be able to form part of a partner's tax loss that would be deductible under Division 36. These losses are deductible only where the conditions in section 830-50 are met. [Schedule 10, item 15, subsection 830-65(3)]

How are outstanding foreign hybrid net capital losses made available?

9.76 As mentioned above, carried-forward losses (including net capital losses) in relation to the foreign hybrid may be available in future years. Where the total outstanding losses, including any foreign hybrid net capital loss amounts, are less than the limited partner's available loss exposure amount the outstanding foreign hybrid net capital loss amount may be used by the partner.

9.77 In this situation, the limited partner makes a new capital loss under CGT event K12 equal to the outstanding foreign hybrid capital loss amount. The new CGT event K12 allows the limited partner to use this capital loss in calculating its net capital gain or loss for the income year. [Schedule 10, item 12, section 104-270 and item 15, paragraph 830-50(2)(b)]

What happens where outstanding losses exceed the partner's available loss exposure amount?

9.78 If the partner's available loss exposure amount is exceeded, the sum of the partner's deductions for outstanding revenue losses and the capital loss under section 104-270 must be reduced so that they equal the available loss exposure amount [Schedule 10, item 15, subsection 830-50(3)]. This is a similar reduction process to that carried out under subsection 830-45(2). The limited partner must choose which losses are to be used and to which particular outstanding amount they relate [Schedule 10, item 15, subsection 830-50(4)].

Example 9.5 A foreign hybrid limited partner has an available loss exposure amount of $10,000 and the following outstanding losses:

an outstanding foreign hybrid revenue loss of $8,000; and
an outstanding foreign hybrid net capital loss of $7,000.

The sum of the deduction for outstanding revenue losses and the section 104-270 capital loss must equal the available loss exposure amount of $10,000. The partner also must choose which of these losses to reduce and to which outstanding amount they relate. For example, the partner may choose the following combination:

deduct $5,000 of the outstanding foreign hybrid revenue loss amount; and
have a $5,000 section 104-270 capital loss.

9.79 The limited partner may carry forward any remaining outstanding foreign hybrid revenue losses and outstanding foreign hybrid net capital losses. [Schedule 10, item 15, subsections 830-65(2) and 830-70(2)]

Special rules when an entity becomes or ceases to be a foreign hybrid

9.80 The new Subdivision 830-D provides special rules to:

ensure that the change of tax status of a 'share' in a foreign hybrid to an interest in each of the assets of the foreign hybrid (or vice-versa) on an entity becoming (or ceasing to be) a foreign hybrid will not be a CGT event or any other disposal. The effect of this is that there will not be a taxing point at these times for the partner or the entity;
deny the use of any tax losses by a foreign hybrid which were incurred in a year before it became a foreign hybrid;
end a CFC's statutory accounting period for the purposes of determining the attributable income of the CFC in respect of a taxpayer's year of income preceding the year an entity becomes a foreign hybrid;
determine the timing of the acquisition of the member's interest in each of the assets of an entity when it becomes a foreign hybrid company, and for certain assets held by the entity on ceasing to be a foreign hybrid company;
ensure the partner in the entity assigns a reasonable approximation of a share of the foreign hybrid's tax cost to its interest in each of the assets of the entity when an entity becomes a foreign hybrid; and
ensure that the entity assigns a reasonable approximation of the partners' tax costs to the foreign hybrid's assets when an entity ceases to be a foreign hybrid. [Schedule 10, item 15, Subdivision 830-D]

Each of these rules is discussed in turn. Attention is focused on the case of an entity becoming a foreign hybrid (as at the commencement of this legislation). The considerations are similar when an entity ceases to be a foreign hybrid and is treated as a company.

The change of tax status of a share

9.81 On becoming a foreign hybrid, the importance of the new partnership treatment for a partner in a foreign hybrid is that the partner will hold an interest in each of the assets of the partnership, and not a share in a company. On an entity ceasing to be a foreign hybrid, for tax purposes the partner/member will hold a share in the entity, where previously this was treated as an interest in each of the assets of the entity.

9.82 The shift in tax treatment from a share to an interest in each underlying asset of the foreign hybrid (and vice-versa) would not appear to result, under current law, in a deemed disposal of an asset.

9.83 However, to avoid any doubt, where an entity becomes or ceases to be a foreign hybrid, no CGT event happens to any CGT asset, and no disposal or other event happens to any other asset. This avoids any possibility that tax could be imposed on any unrealised capital gains or profits on the application of the new rules. It also ensures that any unrealised losses are not crystallised. [Schedule 10, item 15, section 830-110]

Tax losses cannot be transferred to a foreign hybrid

9.84 If an entity incurred a tax loss before it became a foreign hybrid, the tax loss is not deductible to the foreign hybrid in calculating its net income or partnership loss. [Schedule 10, item 15, subsection 830-115(1)]

9.85 However, if it ceases to be a foreign hybrid any tax loss that occurred before it became a foreign hybrid will still be eligible to qualify for deduction as a tax loss under Division 36 of the ITAA 1997, subject to the usual loss recoupment rules. [Schedule 10, item 15, subsection 830-115(2)]

Ending a CFC's statutory accounting period before it becomes a foreign hybrid

9.86 The last statutory accounting period for which an entity is a CFC before it becomes a foreign hybrid will be taken to end at the end of the attributable taxpayer's income year preceding the income year in which the CFC becomes a foreign hybrid. [Schedule 10, item 15, section 830-120]

9.87 This will address the potential problem where there could be periods of time where neither the CFC rules nor the partnership treatment subject appropriate amounts to Australian tax, or where there could be double counting. This problem could arise because a CFC's statutory accounting period and the attributable taxpayer's year of income are not the same period.

Timing of acquisition of assets, and interests in the assets, of a foreign hybrid company

On becoming a foreign hybrid

9.88 On the application of the new rules to a member of a foreign hybrid company, the asset held by the member will no longer be treated as a share in a company, but will be treated as a fractional interest in each asset of the foreign hybrid company. [Schedule 10, item 15, section 830-35]

9.89 A provision dealing with the timing of the acquisition has been inserted to complement this provision. The member will be treated as having acquired an interest in an asset of the company as a partner at the later of:

the time the asset was acquired by the company; or
the time the member acquired its interest or became a member in the company.

[Schedule 10, item 15, subsection 830-125(1)]

9.90 The effect of this is that the pre-CGT status of any asset acquired by the company will not be affected by the change in tax treatment of the company. In addition, this acquisition time will be relevant in applying the CGT discount rules (within Subdivision 115-A of Part 3-1) which rely, in part, on the acquisition of an asset being 12 months prior to any CGT event.

9.91 The limited application of this rule to only a foreign hybrid company differs from the remaining rules in the new Subdivision 830-D which apply more broadly to all foreign hybrids (including limited partnerships).

9.92 A similar rule is not required for partners in a foreign hybrid limited partnership because on becoming a foreign hybrid, there is no change in the ownership attributes of the assets of the partnership. There is simply a removal of the existing corporate treatment of Division 5A of Part III of the ITAA 1936. The acquisition time of the assets for such partners would be the time they acquired their legal interest in the partnership asset even when the asset was acquired by the limited partnership while it was treated as a company.

On ceasing to be a foreign hybrid

9.93 Any asset that is actually held by the company when it ceases to be a foreign hybrid company will be treated as being held by the company, rather than the members being treated as collectively owning the asset.

9.94 Therefore, a timing rule provides that, for an asset that is acquired while the company was a foreign hybrid, and is still held by the company when it ceases to be a foreign hybrid, the company is treated as acquiring the asset from the time the partners acquired their interests in the asset. [Schedule 10, item 15, subsection 830-125(2)]

9.95 If the company acquired an asset before it became a foreign hybrid, no such rule is needed and the asset will retain its original acquisition date.

9.96 The effect on the pre-CGT status of any asset and on the operation of the CGT discount rules is similar to when a company becomes a foreign hybrid. Again, there is no corresponding rule for entities that cease to be foreign hybrid limited partnerships, for the same reason.

Assigning a cost to the interest in each asset of an entity that becomes a foreign hybrid

Why is it necessary to assign a cost?

9.97 Various provisions of the ITAA 1936 and the ITAA 1997 dealing with assets (referred to as asset-based income tax regimes in the legislation) require a taxpayer to calculate income, deductions and gains in relation to such assets using some value of the asset as the basis for determination. Different regimes use different concepts in determining this value. As an example, the provisions dealing with capital allowances use 'adjustable value', provisions dealing with trading stock use 'value' and the CGT provisions use 'cost base' or 'reduced cost base'. When an entity becomes a foreign hybrid, it is necessary to make sure that those rules work appropriately for the partnership. [Schedule 10, item 15, section 830-105]

9.98 The value that is being reset is referred to in the legislation as the 'tax cost' and these take their meanings from the respective provisions. The tax cost that is set will be used by the partner or the partnership in applying the relevant provisions of the ITAA 1936 and the ITAA 1997 in relation to the asset. [Schedule 10, item 15, section 830-100]

9.99 On a limited partnership becoming a foreign hybrid, there is no change in the legal ownership of the assets of the partnership. The partner may have details of the date(s) and cost(s) of the acquisition of the partner's interest in the assets of the partnership. However, if actual acquisition costs were used on application of the new rules, the cost of acquisition of the partner's interest in the assets would have to be adjusted to take into account any income tax deductions that have been claimed or any non-assessable recoupment of expenditure that has been received by either the partner or the partnership in relation to the assets.

9.100 Instead of requiring each partner to make these calculations, under the new law each partner must assign a reasonable approximation of a share of the foreign hybrid limited partnership's cost for each asset to the partner's interest in each of the assets. This rule will also cater for circumstances where partners do not have access to the necessary information that would be required for a reconstruction of the partnership accounts. The same rules will also apply to the members in a foreign hybrid company which will be treated as having proportional interests in each of the assets of the foreign hybrid. [Schedule 10, item 15, sections 830-80 and 830-90 and subsections 830-95(1) and (2)]

9.101 The tax cost setting rule is not required in relation to an entity beginning its existence as a foreign hybrid. In such a case there is no history of that entity for tax purposes. It simply begins operation as a partnership for tax purposes and the normal rules apply for determining particular tax costs for a partner in the partnership.

What method is used to assign a reasonable approximation of the tax cost?

9.102 The tax cost of a partner's interest in an asset of an entity that becomes a foreign hybrid is set at what the legislation refers to as the partner's tax cost setting amount. [Schedule 10, item 15, section 830-90]

9.103 Broadly, the effect of the method used to assign a reasonable approximation of the tax cost of an asset is to distribute, across the partners, the entity's tax cost for each asset that it holds when it becomes a foreign hybrid. The important steps in applying the method to determine the partner's tax cost setting amount for each asset are:

Step   1:
Determine what would have been the entity's tax cost if, hypothetically, it were not a foreign hybrid at the start of the year it becomes a foreign hybrid. The relevant tax cost depends on which set of provisions is being applied.
Step   2:
Multiply the result from step 1 by the partner's percentage interest in the asset of the partnership.
Step   3:
Adjust the result from step 2 for any premium paid or discount received in respect of the acquisition by the partner of any shares (in the company) or interests in the assets (of the limited partnership).

[Schedule 10, item 15, subsection 830-95(1)]

Step 1: What would have been the entity's tax cost?

9.104 The logical amount to use as a starting point in distributing a cost to the partners is the amount that would have been the entity's tax cost at the time if it did not change its status to a foreign hybrid. This is purely a hypothetical calculation, therefore, the legislation refers to it as the tax cost of an asset of the entity at the start of the foreign hybrid year. [Schedule 10, item 15, subsection 830-95(1) and section 830-100]

Step 2: Determining the partner's interest in the asset

9.105 The result in step 1 is then multiplied by the partner's interest in the assets of the partnership. The effect of this is to distribute the entity's tax cost for an asset across the partners according to their respective proportional interests in the asset. [Schedule 10, item 15, subsection 830-95(1)]

9.106 The partner's interest in the asset is the individual interest in the asset of the partnership (in the case of a foreign hybrid limited partnership), and is the percentage provided in the new subsection 830-35(2) (in the case of a foreign hybrid company). For foreign hybrid companies, this percentage is to be the percentage of the capital of the foreign hybrid company that the shareholder/partner would be reasonably expected to receive on a winding-up of the company at the end of the income year.

Step 3: Adjusting for the premium paid or discount received

9.107 The purpose of the adjustment in step 3 is to account for any premium paid or discount received in relation to the acquisition of the partner's interest in the entity that becomes a foreign hybrid. If a premium has been paid, an amount is added to the result from step 2 for each asset. Conversely, if a discount was received, an amount is deducted from that result for each asset, but not so as to give a negative result (which would not make any sense). [Schedule 10, item 15, subsection 830-95(1)]

9.108 There are 2 important elements involved in determining any adjustment required by step 3. The first is to calculate if the partner paid a premium or received a discount in relation to the partner's interest in the foreign hybrid. The second is to apportion this premium or discount across the assets which the foreign hybrid holds at the start of the year it became a foreign hybrid. [Schedule 10, item 15, subsection 830-95(2)]

9.109 This method of apportionment avoids the need for any market valuations for the foreign hybrid's assets to be obtained. It also does not require each partner to reconstruct the entity's accounts as if it were always a partnership in order to account for any premium(s) and/or discount(s) on acquisition of any interest(s) in the entity before it becomes a foreign hybrid.

9.110 Although this method does not give the same result as if the entity were always treated as a partnership, it provides a reasonable approximation of the cost of the partner's interest in each asset and avoids the higher compliance costs that would otherwise be encountered.

9.111 The premium paid (or discount received) is the excess (or deficit) of:

the total amount paid by the partner for its interests in the foreign hybrid that the partner holds at the start of the year in which the entity becomes a foreign hybrid; over
the amount that the partner would receive on a hypothetical distribution of capital (but not unrealised or undistributed profits or gains) on a winding-up or dissolution of the foreign hybrid immediately before it became a foreign hybrid.

[Schedule 10, item 15, subsection 830-95(2)]

9.112 Any premium (or discount) is then apportioned across all of the foreign hybrid's assets on hand at the commencement of the year in which it became a foreign hybrid. This is simply done by multiplying the overall premium paid or discount received by the fraction that each asset's tax cost is of the sum of the tax costs for all of the assets on hand at that time. [Schedule 10, item 15, step 4 in subsection 830-95(2)]

Example 9.6 In year 1, A and B each contribute $100,000 to set up a limited partnership (LP). The LP acquires land to the value of $200,000 (while it is treated as a corporate limited partnership). The LP's cost base of the land is $200,000. In year 3, the market value of the land is $250,000. A acquires a further 20% interest in the LP from B by paying $50,000 to B. The relative interests in the partnership are therefore 70% for A and 30% for B.In year 4 the LP becomes a foreign hybrid. Both A and B must set the cost base of their respective interests in the land (the cost base being the relevant tax cost for the land which is a CGT asset of the LP). The LP's tax cost at the start of year 4 would have been $200,000 if it had not changed its status to a foreign hybrid.A's cost base for the interest in the land is set at $150,000. This is calculated as $140,000 (70% of $200,000) plus $10,000 (being the premium paid in respect of the additional interest acquired from B). A's premium is calculated as $150,000 (the total amounts paid for its interest in the LP it holds at the start of year 4) less $140,000 (the amount that A would receive if the capital of the entity were distributed to it on dissolution of the partnership). This last amount is calculated as 70% of the total capital initially contributed to LP, being $200,000. As the land is the only asset of the foreign hybrid, 100% of the premium is apportioned to the land.B's cost base for its interest in the land is set at $60,000. This is calculated as $60,000 (30% of $200,000) with no adjustment for any premium or discount. B has not paid a premium or received a discount because the amount B paid for the remaining 30% interest in the LP is $60,000 which equals the amount B would receive if the capital of the entity were distributed to it on dissolution of the partnership.The total of the cost base of each of A and B in respect of their interests in the land is $210,000. If the land was then disposed of at its market value of $250,000 there would be a total capital gain of $40,000 realised by A and B. B has previously realised a capital gain of $10,000 on the earlier disposal of its interest in the LP, resulting in a total gain of $50,000.

Assigning a cost to each asset held by an entity when it ceases to be a foreign hybrid

9.113 Whenever an entity ceases to be a foreign hybrid the ownership of the foreign hybrid's assets changes for tax purposes. However, this will not constitute a taxable event. [Schedule 10, item 15, section 830-110]

9.114 For similar reasons to those set out in paragraphs 9.97 to 9.100, the entity itself, on ceasing to be a foreign hybrid, will have to reset the value of any assets it holds (i.e. reset the tax costs) so that the various sets of provisions dealing with assets can be applied. [Schedule 10, item 15, sections 830-85 and 830-90 and subsection 830-95(3)]

9.115 Broadly, the method used to assign a reasonable approximation of the tax cost of an asset is to attribute the sum of the partners' tax costs for each asset to the entity at the beginning of the income year in which it ceased to be a foreign hybrid. This is simply the sum of the partners' tax costs under the various asset regimes at that time (assuming the entity did not cease to be a foreign hybrid). [Schedule 10, item 15, subsection 830-95(3)]

Application and transitional provisions

Standard application of the foreign hybrid rules

9.116 The new foreign hybrid rules will commence from the start of the partner's 2003-2004 income year. [Schedule 10, items 6 and 38, subsection 830-1(1) of the IT(TP) Act 1997]

9.117 Where the partner in the foreign hybrid is a CFC the new rules will apply from the statutory accounting period of the CFC starting on 1 July 2003. For CFCs which have elected to adopt a different start date for that statutory accounting period, the date of commencement will be that alternative start date. These statutory accounting periods will end in the 2003-2004 income year of an attributable taxpayer. [Schedule 10, item 38, subsection 830-1(2) of the IT(TP) Act 1997]

Election for early application of the foreign hybrid rules

9.118 Taxpayers have an option to apply the foreign hybrid rules in the 2002-2003 income year [Schedule 10, item 38, subsection 830-5(1) of the IT(TP) Act 1997]. While this would involve backdating of the legislation, it is expected that it would only be taken up where it would be to the benefit of the taxpayer. Where a taxpayer is a partner in a foreign hybrid for the 2003-2004 income year by reason only of a foreign company meeting requirements specified in the regulations for a company to be a foreign hybrid, the taxpayer may also choose to treat the foreign company as a foreign hybrid for the 2002-2003 income year [Schedule 10, item 38, subsection 830-5(2) of the IT(TP) Act 1997]. An irrevocable election to have the partnership treatment apply from the 2002-2003 income year must be made by the time the taxpayer's tax return for 2003-2004 is lodged [Schedule 10, item 38, subsections 830-5(3) and (4) of the IT(TP) Act 1997].

9.119 In a similar way, an attributable taxpayer in a CFC which is a partner in a foreign hybrid may elect to apply partnership treatment to the foreign hybrid, from the statutory accounting period preceding that in which it would otherwise first apply, in calculating the CFC's attributable income. As in the preceding paragraph, this election also applies to foreign hybrids that are such only because they meet requirements in regulations. [Schedule 10, item 38, section 830-10 of the IT(TP) Act 1997]

What are the modifications to the application of the ITAA 1936 for past income years?

For CFC purposes where will a foreign hybrid CFC be resident?

9.120 The new law modifies the application of the CFC residence provisions to CFCs that would now be foreign hybrids. According to existing law, the foreign hybrid CFC's residence is unclear and the CFC would be considered to be a resident of no particular unlisted country (including after applying the extended meaning of resident in section 331 of the ITAA 1936). In these cases, the modified application will assign a residence for the foreign hybrid CFC to the particular country under whose laws it was formed, created, registered, incorporated on registration or otherwise constituted. [Schedule 10, item 38, subsection 830-20(2) of the IT(TP) Act 1997]

9.121 For example, a foreign hybrid CFC currently considered to be a resident of no particular unlisted country:

being a limited partnership formed and registered under the Limited Partnership Act 1907 (UK) will now be a resident of the UK, a broad exemption listed country;
being a limited liability partnership incorporated on registration under the Limited Liability Partnership Act 2000 (UK) will also be a resident of the UK; or
being a US LLC formed under the Limited Liability Company Act (Delaware, USA) will now be a resident of the USA, a broad exemption listed country.

9.122 As a consequence, Australian taxpayers will generally benefit through:

certainty in the application of the CFC rules to foreign hybrids for these past years; and
for those taxpayers who are yet to lodge returns for some past income years, possibly less attributable income and reduced compliance costs through:
access to the active income test exemption; and
other less onerous compliance requirements, where the foreign hybrid CFCs as a result of the modified rules are residents of broad exemption listed countries (e.g. under paragraph 400(aa) of the ITAA 1936 the modified application of the transfer pricing rules may not apply to the CFC).

Will a deduction be allowed for foreign tax paid by a partner of a foreign hybrid CFC in calculating the attributable income of that CFC?

9.123 Under section 393 of the ITAA 1936, a notional allowable deduction is available for foreign or Australian tax paid by a CFC. In the case of foreign hybrid CFCs the deduction is generally denied because the foreign tax is not paid by the foreign hybrid CFC. Instead, the partner/member of the foreign hybrid pays the foreign tax.

9.124 As no section 393 deduction is allowed, a foreign tax credit will not be available, in accordance with section 160AFCA of the ITAA 1936, for any foreign tax paid on the attributable income of the CFC, where the attributable taxpayer is a company.

9.125 The application of section 393 is modified to allow a deduction for foreign tax paid by a partner/member of the foreign hybrid CFC on amounts included in notional assessable income of the CFC, after it has been grossed up. Note that this grossing-up of the foreign tax paid by the partner/member is different from that undertaken because of subsection 6AC(3) of the ITAA 1936. [Schedule 10, item 38, subsections 830-20(3) and (4) of the IT(TP) Act 1997]

9.126 Furthermore, once the relevant amount of foreign tax paid by the partners/members becomes an allowable deduction, a foreign tax credit will be available on attribution to some attributable taxpayers, under section 160AFCA of the ITAA 1936, thereby avoiding double taxation.

How is this foreign hybrid deduction grossed up?

9.127 The gross-up factor depends on who the partner is that pays the foreign tax:

if it is the attributable taxpayer, it will be grossed up by the attributable taxpayer's direct attribution interest (defined in section 356 of the ITAA 1936) in the foreign hybrid; and
if the partner is another CFC of the attributable taxpayer, it will be grossed up by the CFC's direct attribution interest in the foreign hybrid.

[Schedule 10, item 38, subsections 830-20(3) and (4) of the IT(TP) Act 1997]

Why is this foreign hybrid deduction being grossed up?

9.128 The grossing-up of the foreign tax payment by the relevant direct attribution interest is necessary as the attributable taxpayer will not usually know the amounts of tax paid by other partners in a foreign hybrid. The full amount of foreign tax paid on the notional assessable income of the CFC by all persons needs to be deducted from the total of the CFC's notional assessable income. It also avoids the potential incidence of double taxation for attributable Australian taxpayers as demonstrated in Example 9.7.

Example 9.7 Facts:

Ausco is an attributable taxpayer in relation to both CFC 1 and Foreign hybrid CFC.
Tax-exempt is a 50% partner in Foreign hybrid CFC (and unrelated to Ausco).
Foreign hybrid CFC's profit for the year is $100 (CFC 1's share of the profit is $50) all of which is notional assessable income.
CFC 1 as a partner pays $15 ($50 ? 30%) foreign tax (assuming that the foreign hybrid's taxable profit for foreign tax purposes is also $100) in respect of its share of foreign hybrid's profits. Assume a deduction of $15 will be allowed when calculating Ausco's attributable income.
Tax-exempt pays no foreign tax.

Ausco's Australian tax payable calculation in relation to Foreign hybrid CFC using these assumptions is as follows:
Attributable foreign income (section 456 of the ITAA 1936): (100 - 15) * 50% $42.50
Gross-up for foreign tax credit (subsection 6AC(3) of the ITAA 1936) $7.50
Amount included in assessable income $50.00
Australian tax liability ($50 ? 30%) $15.00
Less allowable foreign tax credit offsets (section 160AFCA of the ITAA 1936) ($7.50)
Australian tax payable $7.50
Therefore Ausco will have paid an effective tax rate of 45% ($22.50 ? $50) on its share of Foreign hybrid CFC's profits, instead of the 30% it should have paid (30% foreign tax fully credited against Australian tax).

9.129 Using the facts from Example 9.7 and allowing the deduction for foreign tax to be grossed up using CFC 1's direct attribution interest of 50%, the following calculation shows that Ausco would pay total tax at the appropriate rate.

Attributable foreign income (section 456 of the ITAA 1936): (100 - 15 * 50%) * 50% $35.00
Gross-up for foreign tax credit (subsection 6AC(3) of the ITAA 1936) $15.00
Assessable income $50.00
Australian tax liability ($50 * 30%) $15.00
Less allowable foreign tax credit offsets (section 160AFCA of the ITAA 1936) ($15.00)
Australian tax payable $0

Will a deduction be allowed for foreign tax paid by a partner of a foreign hybrid FIF?

9.130 This bill makes a similar modification (see paragraphs 9.123 to 9.128) to the application of section 573 of the ITAA 1936 within the FIF rules. This modification allows a deduction for foreign tax paid by the partners/members of the foreign hybrid FIF where the calculation method is used to calculate notional FIF income. [Schedule 10, item 38, subsection 830-20(5) of the IT(TP) Act 1997]

Who do the modifications apply to?

9.131 The modifications discussed in paragraphs 9.120 to 9.130 apply in relation to taxpayers who either:

are attributable taxpayers in a foreign hybrid CFC with a statutory accounting period that ended in a relevant past income year (see paragraph 9.132); or
have a foreign hybrid FIF interest at the end of a relevant past income year.

[Schedule 10, item 38, paragraph 830-15(1)(b) of the IT(TP) Act 1997]

To what past income years do the modifications apply?

9.132 The modifications to Part X and Part XI of the ITAA 1936 will have application to the income years prior to the commencement of the application of Division 830 of the ITAA 1997 in either the 2003-2004 income year or the 2002-2003 income year (see paragraphs 9.116 to 9.119) [Schedule 10, item 38, subsection 830-15(1) of the IT(TP) Act 1997]. They will apply for the purpose of amending an assessment for any of those past years or for making an original assessment for any of them before 1 July 2004 [Schedule 10, item 38, paragraphs 830-15(2)(a) to (c) of the IT(TP) Act 1997]. However, the application of these modifications to these past years is subject to the normal time limits for amendments of assessments [Clause 4].

9.133 Those taxpayers who have not lodged a return for a past income year by 30 June 2004 will be treated as if the assessment for the past income year was made on 1 July 2004 [Schedule 10, item 38, paragraphs 830-15(2)(d) and (e) of the IT(TP) Act 1997]. The application of these modifications to these past years is subject to the normal time limits for amendments to assessments [Clause 4].

Are taxpayers who have treated a foreign hybrid as being a resident of no particular unlisted country required to amend their assessments?

9.134 Taxpayers who have treated foreign hybrids which are CFCs as residents of no particular unlisted country for CFC purposes will have the option of amending prior-year returns prepared on that basis, but will not be required to do so. [Schedule 10, item 38, subsection 830-15(3) of the IT(TP) Act 1997]

9.135 Where the taxpayer chooses to amend such an assessment using the modified rules, the same treatment must be applied to all income years for which those rules apply and for which the returns were prepared in this way. For example, where a taxpayer who treated a foreign hybrid CFC as being resident of no particular unlisted country for the relevant statutory accounting period chooses to amend, so that the foreign hybrid CFC will be a resident of the country under whose laws it was formed, the taxpayer must amend its returns for all the relevant income years. [Schedule 10, item 38, paragraphs 830-15(3)(d) and (e) of the IT(TP) Act 1997]

9.136 An irrevocable election to amend past returns under this subsection must be made before the taxpayer's return for the 2003-2004 income year is lodged, subject to any further time allowed by the Commissioner. [Schedule 10, item 38, subsections 830-15(4) and (5) of the IT(TP) Act 1997]

Consequential amendments

9.137 There are a number of amendments to the CGT provisions consequential upon the creation of the new CGT event K12 for the capital loss arising when a partner is able to take account of a past-year net capital loss made in connection with a foreign hybrid. Two of them simply insert a reference to this event in tables in Part 3-1 [Schedule 10, item 11, section 104-5 and item 13, section 110-10]. To remove any doubt, amendments are also made to section 102-25 making it clear that CGT event K12 happens in addition to the individual CGT events that gave rise in the end to the past-year foreign hybrid net capital loss [Schedule 10, items 9 and 10, subsections 102-25(2) and (2B)]. Finally, there is an addition of an item to the table in section 112-97 (listing provisions which modify the cost base and/or the reduced cost base of assets) referring to the changes made in Subdivision 830-D when an entity becomes or ceases to be a foreign hybrid [Schedule 10, item 14, section 112-97].

9.138 Other consequential amendments are:

the inclusion of a reference to the loss limitation rule in the list of provisions dealing with deductions [Schedule 10, item 7, section 12-5];
the modification of the meaning of income tax law in Division 5A of Part III of the ITAA 1936 dealing with corporate limited partnerships, to exclude Division 830 of the ITAA 1997 [Schedule 10, item 2, section 94B of the ITAA 1936]; and
the addition of definitions of a number of new terms to the Dictionary in the ITAA 1997, which are either terms introduced by this bill or terms taken from the ITAA 1936 [Schedule 10, items 16 to 37, subsection 995-1(1)].

Regulation impact statement

Background

9.139 The current treatment of non-resident limited partnerships (and other non-resident 'foreign hybrids' such as US LLCs) under the CFC regime provides an inappropriate and unintended consequence for taxpayers.

9.140 Typically, foreign hybrids are taxed on a different basis in a foreign jurisdiction as compared to Australia. For example, a foreign hybrid may be treated for tax purposes as a partnership in the foreign jurisdiction but as a company in Australia.

9.141 As Australia considers a foreign hybrid to be a company, taxpayers with interests in them are subject to either the CFC rules or FIF rules, as the case may be.

9.142 However, significant uncertainty exists around the application of the CFC rules, and to a lesser extent the FIF rules, to taxpayers with interests in foreign hybrids as the rules are modelled on companies and they do not effectively cater for foreign hybrids. This is particularly so in relation to the residence of the foreign hybrid, which is a central issue to the application of the CFC rules.

9.143 The view of the ATO on how foreign hybrids should be treated is in accordance with draft tax determination TD 2001/D14 (released December 2001). According to TD 2001/D14, certain foreign hybrids taxed as partnerships are residents of no country. This has resulted in inappropriate and unintended taxing consequences such as:

the denial of the active income test exemption causing the immediate attribution of a wider range of income than may be appropriate, and in some cases income that is comparably taxed offshore is being attributed;
the denial of deductions/credits for foreign tax paid on attributed income as the foreign hybrid does not pay the tax (tax is paid by the partner); and
increased compliance costs.

9.144 As a result, the correct practice has not been widely followed by industry.

Policy objective

9.145 The objective of these measures is to provide greater clarity of treatment of foreign hybrids (especially in relation to the CFC rules) and thereby greater certainty in compliance.

Implementation options

9.146 Two implementation options were considered which would avoid the unintended consequences described above.

Option 1

9.147 In broad terms, option 1 retains company treatment for foreign hybrids and assigns a CFC residence, for foreign hybrids, to the country under whose laws it is formed. However, option 1 also encompasses extensive amendments across the CFC and FIF rules and minor changes to the foreign tax credit rules.

9.148 The necessary amendments would enable taxpayers to comply with the law in a strict sense and give business certainty, while promoting a consistent method of compliance.

Option 2

9.149 Option 2 would treat foreign hybrids as partnerships for all purposes of the income tax law. Partners would be taxed under Division 5 of Part III of the ITAA 1936. Foreign hybrid would be defined to include limited partnerships, US LLCs and other similar entities that are taxed on a flow-through basis in their country of formation (which will be listed in regulations).

9.150 However, certain foreign hybrids would be excluded from this treatment where they:

are residents of Australia; or
in general, where they would otherwise be dealt with under the FIF regime and not the CFC regime.

9.151 The reason for the final exclusion is to deal with concerns that taxpayers with a relatively smaller holding in a foreign hybrid (otherwise known as retail investors) may not have access to sufficient information to comply if partnership treatment were imposed.

9.152 However, it is intended that taxpayers with FIF interests in these foreign hybrids would be able on a case by case basis to make an irrevocable election to have partnership treatment apply.

New loss limitation rule for option 2

9.153 It is an internationally accepted practice to limit the availability of losses of a foreign hybrid to its member where the liability of the member is limited. Option 2 would contain such a loss limitation rule. This would ensure that where a loss (revenue or capital) is made in relation to a foreign hybrid the deduction available to the limited partner/member in respect of that loss would not exceed the amount of the partner's/member's financial exposure to the loss. Similar loss limitation rules were legislated in the recent changes to the taxation of venture capital limited partnerships.

9.154 These rules would not apply to foreign losses as they do not flow to the partner(s). Rather, these losses are quarantined within the partnership.

Assessment of options

9.155 Both options would:

address business concerns avoiding the unintended consequences described above;
provide clear rules increasing certainty about the operation of the law;
meet the policy intent of the anti-deferral measures (CFC and FIF measures); and
promote a consistent method of compliance.

9.156 Both options would add complexity to the law. Option 1 requires substantial amendments to accommodate foreign hybrids, which are likely to be complex. Whereas, option 2 requires new rules to define to which foreign hybrids it applies and requires new loss limitation rules. However, it is likely that in practice the need to apply loss limitation rules would be minimal, as the foreign hybrid would generally not be carrying on a business in Australia and the rules would not apply to a hybrid's foreign losses as these are quarantined in the partnership.

Assessment of impacts

Impact group identification

9.157 We conservatively estimate that at most 100 taxpayers may be affected by the measure. Based on the profile of the submissions received to the ATO's draft tax determination TD 2001/D14, we expect these taxpayers to be large corporate taxpayers with sophisticated investment structures. It should be noted individuals with relatively smaller FIF holdings in a foreign hybrid (otherwise known as retail investors) would not be affected by the recommendation unless they make an irrevocable election to have partnership treatment.

9.158 There is no evidence to suggest that the measure will have a noticeable impact on small business.

Comparative advantages and disadvantages

9.159 Option 2 deals comprehensively with the structural deficiencies with the CFC regime as it applies to foreign hybrids. It provides a clear alignment of the Australian tax rules with those in operation in the foreign territory, which often accords with the way that many of these foreign hybrids are regarded for commercial purposes. Option 1 does not achieve this alignment and would involve many detailed amendments to make the CFC and FIF regimes work properly for foreign hybrids.

9.160 The CFC rules are regarded as being complex to understand and onerous to comply with. Where a taxpayer has a direct controlling interest in a CFC, option 2 provides an avenue to a less complex partnership treatment.

9.161 Current international practice suggests Australia is not compelled to extend treaty benefits to an Australian resident partner of a foreign hybrid. The denial of such benefits may lead to double taxation in certain circumstances. The problem is caused through the mismatched tax treatment between countries. Option 2 overcomes this problem in a systemic way not available under option 1.

9.162 Another advantage of option 2 is that it provides certainty in the operation of the law for Australian businesses who have several billion dollars worth of investments in the UK and the USA through foreign hybrids. Whilst the adoption of a partnership approach is a fundamental change in the treatment of these entities and their interest-holders, the tax treatment of partnerships is understood and operates effectively.

9.163 Although the new rules involve a familiar and well understood tax treatment, there will be one-off transitional issues. The issues are in relation to existing carry forward losses of the foreign hybrid, CGT and issues around gaps in the foreign hybrid's accounting period and the member's income year. Similar carry forward loss transitional rules will apply as those found in the recent venture capital limited partnership measure.

9.164 Some roll-over relief (i.e. deferral) will be required for any unrealised gains in assets from the acquisition by the foreign hybrid to the date of commencement of the new rules.

Analysis of costs

Option 1

Compliance costs

9.165 While business has had difficulty in quantifying the likely compliance costs it is believed that option 1 would increase compliance costs as it does not align Australian tax treatment with that of the foreign jurisdiction and how foreign hybrids are regarded for commercial purposes.

9.166 The likely costs of complying with option 1 for business include costs associated with:

system refinement;
amendment requests;
preparation of ruling requests or requests for other ATO advice on application of the measure; and
external advice on the application of option 1 to the taxpayer.

Administration costs

9.167 The ATO is unable to quantify the costs and benefits of this option on the administration as the data is not available. However, the ATO is of the view that option 1 is easier to administer than option 2.

9.168 The ATO does, however, say that the changes are likely to be minimal and do not present a barrier to proceeding.

Government revenue

9.169 The impact on forward estimates is minimal, as this option will not change the types of income intended to be subject to attribution.

Economic benefits

9.170 The economic benefits are nil. Option 1 re-establishes the status quo in the application of the CFC rules prior to the release of the draft tax determination.

Option 2

Risks associated with this option

9.171 A risk specific to option 2 arises in relation to the Government's decision to accept the Board of Taxation's recommendation 3 on the broad treatment of CFCs resident in broad exemption listed countries. In the case of direct investment in a foreign hybrid, these investors may be worse off than if this option did not proceed. However, providing an Australian equivalent relief in respect of foreign branch profits and foreign capital gains under section 23AH of the ITAA 1936 will minimise this risk. This risk was discussed within the consultative group and accepted in the light of the advantages of option 2.

Compliance costs

9.172 While business has had difficulty in quantifying the likely compliance cost savings available under option 2, it is believed to be between $2,000 and $15,000 per entity. Business has indicated the real benefit is from the alignment of the Australian tax treatment with that of the foreign jurisdiction and how foreign hybrids are regarded for commercial purposes.

9.173 Consultations have indicated that compliance costs will be reduced in certain areas, yet be increased in others. For example, moving out of the CFC regime will be a saving, yet complying with partnership treatment will be a cost. In addition, the CGT rules as they apply to partnerships will impose greater costs than current treatment under the CGT rules.

Administration costs

9.174 The ATO is unable to quantify the costs and benefits of this option on the administration as the data are not available. However, where option 2 improves the certainty of the law, there will be increased voluntary compliance (compared to the current compliance environment), better targeted audits on other tax law aspects and less disputes.

9.175 The ATO does, however, say that the changes are likely to be minimal and do not present a barrier to proceeding.

Government revenue

9.176 The impact on forward estimates is minimal because it does not alter the income that would have otherwise been attributed under the CFC rules.

Economic benefits

9.177 This option removes impediments in our international tax arrangements allowing Australians to invest in foreign hybrids with certainty. Presently, Australians are avoiding foreign hybrid structures, if at all possible, for their offshore investments because of tax uncertainty. This may have placed Australians at a competitive disadvantage as they have adopted an alternative, higher cost business structure than the industry norm and, in some cases, are unable to get double tax relief.

9.178 Alternatively, where Australians have had to invest through a foreign hybrid their returns on investment are lower than what they could be as they are incurring significant costs for tax advice.

9.179 Therefore, other things being equal, the measure will allow Australians investing offshore to maximise their returns thus benefiting the Australian economy.

Consultation

9.180 Regular consultation has occurred with taxpayers and their representatives since the Treasurer's approval in April 2002 to discuss, on a confidential basis, the development of a legislative remedy to address taxpayer concerns. Those consulted include, AMP Ltd, Westfield Ltd, Lend Lease Corp, KPMG, Deloitte Touche Tohmatsu Ltd, Ernst & Young (also representing the Institute of Chartered Accountants), PricewaterhouseCoopers, Corporate Tax Association and the Investments & Financial Services Association.

9.181 Resolution of issues raised in consultation continued during drafting of the measure.

9.182 The ATO has been consulted and has provided the Department of the Treasury with an administrative impact statement of the options.

Conclusion and recommended option

9.183 Option 2 is preferred for implementing this measure. In comparison with option 1, option 2 is a more comprehensive approach to dealing with the problem, it is business's preferred option, and aligns the Australian tax treatment with that in the foreign jurisdiction.


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