Senate

Taxation Laws Amendment Bill (No. 3) 2003

Revised Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)
Previous citation Taxation Laws Amendment Bill (No. 8) 2002

Chapter 3 - Franking of distributions by co-operatives

Outline of chapter

3.1 Schedule 3 to this bill contains amendments that will make it easier for co-operative companies to frank distributions to shareholders. A co-operative company will be able to choose to frank distributions to shareholders. Alternatively, a co-operative company may prefer to make unfranked distributions and remain entitled to the existing deduction for distributions of assessable income to shareholders. This measure will apply to distributions made on or after 1 July 2002.

Context of reform

3.2 Co-operative companies may frank distributions from sources other than assessable income of the income year in which the distribution is made. However, a co-operative company is allowed a deduction under paragraphs 120(1)(a) and (b) of the ITAA 1936 for distributions of assessable income for the current year, which are not frankable. This deduction can make it difficult for a co-operative company to frank distributions and so pass on to its shareholders the benefit of franking credits arising from tax paid by the co-operative.

3.3 This measure will give co-operative companies the same access to imputation credits as other companies while maintaining the deduction for unfranked distributions.

Summary of new law

3.4 This measure will enable a co-operative company to choose to frank distributions to shareholders for which a deduction would otherwise be available under paragraphs 120(1)(a) or (b) of the ITAA 1936. A deduction will be allowable for assessable income distributed as unfranked distributions. This approach means that, in general terms, for any distribution made in any income year by a co-operative company sourced from assessable income for that income year, either the distribution will be franked or the co-operative will be entitled to a deduction.

3.5 Also, a co-operative company will be able to treat a distribution paid within three months after the end of an income year as if it was paid during the income year for the purpose of determining whether a deduction is allowable under paragraphs 120(1)(a) or (b). This amendment recognises that generally a company cannot determine the final profit for the year until after the end of the year. It is consistent with the Commissioner's administrative practice.

Detailed explanation of new law

Amendments to the ITAA 1997

3.6 Part 3-6 of the ITAA 1997 will be amended so that the imputation rules will apply to co-operative companies in the same way as they do to other companies. Paragraph 202-45(a) will be removed, so that distributions made by a co-operative will no longer be unfrankable distributions. Further, all distributions made by a co-operative company that are covered by paragraphs 120(1)(a) or (b) of the ITAA 1936 will be treated as distributions for imputation purposes. [Schedule 3, items 2 and 3, subsection 218-5(2)]

3.7 A co-operative company will be obliged to give a distribution statement to its shareholders under section 202-75 only for franked distributions, that is distributions that are fully or partly franked. This means that no additional compliance burden will be placed on a co-operative company that does not choose to frank distributions. [Schedule 3, item 3, subsection 218-5(3)]

Amendments to the ITAA 1936

3.8 The deductions available under paragraphs 120(1)(a) and (b) will be confined to the amount of assessable income distributed to shareholders as unfranked distributions. [Schedule 3, item 1, subsection 120(4)]

Example 3.1: A co-operative company makes franked distributions A co-operative company fully franks all distributions of assessable income to shareholders in an income year. A deduction would not be allowable under paragraphs 120(1)(a) or (b) because no amount of assessable income was distributed as unfranked distributions.

Example 3.2: A co-operative company makes unfranked distributions A co-operative company makes only unfranked distributions to its shareholders in an income year. A deduction would be allowable to the extent that the distributions were made from assessable income of the income year. This is the deduction that would be allowable under the existing law.Note that the benchmark rule under the Simplified Imputation System rules, which apply to distributions made on or after 1 July 2002, allows a company to make an unfranked distribution even though it has sufficient franking credits to frank the distribution.

Example 3.3: A co-operative company makes partly franked distributions A co-operative company distributes $10 million to its shareholders in an income year. The distributions are 90% franked. The distributions are sourced from assessable income of the income year.A deduction of $1 million would be allowable because this is the amount of assessable income distributed as unfranked distributions.

3.9 A deduction will be allowable under paragraphs 120(1)(a) and (b) only for distributions from assessable income that are unfranked. Where a partly franked distribution is paid partly from assessable income of the income year and partly from another source, for example retained earnings or a pre-CGT gain, it will be necessary to identify that part of the distribution that is both unfranked and sourced from assessable income for the purpose of calculating the allowable deduction.

3.10 In determining the extent to which the unfranked part of a distribution is paid from assessable income of the income year, it is to be assumed that the imputation credit is attached first to that part of the distribution that is attributable to a source other than assessable income of the income year. This approach maximises the amount of the deduction available to a co-operative company where the co-operative does not fully frank all distributions made to shareholders in an income year. [Schedule 3, item 1, subsection 120(5)]

Example 3.4: A co-operative company makes a partly franked distribution not sourced wholly from assessable income A co-operative company distributes $10 million to shareholders in an income year. The distributions are 50% franked. The distributions are sourced partly ($8 million) from the disposal of pre-CGT assets, that is non-assessable income, and partly ($2 million) from profits from trading that were assessable income for the income year. The co-operative company's assessable income for the income year is $21 million.A deduction of $2 million would be allowable. This is the part of the distribution that is both unfranked and attributable to assessable income of the income year, assuming that the imputation credit is attached first to that part of the dividend paid from pre-CGT assets.

3.11 The benchmark rule requires that all frankable distributions paid in a certain period, called a franking period, be franked to the same extent. If a co-operative company breaches the benchmark rule, the penalties under the benchmark rule will apply in the same way as they do to other companies, that is a penal franking debit or overfranking tax would be imposed. However, there would be no adjustment to the amount of the deduction allowed to the co-operative company under subsection 120(1).

3.12 A deduction is allowable under paragraphs 120(1)(a) or (b) only in respect of assessable income for a year of income that is distributed in that year of income. New subsection 120(6) will permit a co-operative company to treat a distribution made within three months after the end of an income year as though it was paid during the income year for the purpose of the deduction. [Schedule 3, item 1, subsection 120(6))]

3.13 This rule will apply only in determining whether a deduction is allowable under section 120. The actual distribution date is used for the purpose of the imputation rules in Part 3-6 of the ITAA 1997.

Example 3.5: A co-operative company makes a distribution after the end of the income year A co-operative company with a standard income year (i.e. ending at 30 June) makes an unfranked distribution of $1 million to its shareholders on 15 August 2003. The distribution is sourced from assessable income for the income year ending at 30 June 2003.As the distribution was paid within 3 months after the end of the 2002-2003 income year, the co-operative may treat the distribution as though it was paid during the 2002-2003 income year. If the co-operative makes such an election, and made no other unfranked distributions of assessable income during that income year, a deduction of $1 million would be allowable for the 2002-2003 income year.

Consequential amendment

3.14 An amendment needs to be made to paragraph 202-45(b) of the ITAA 1936 because of the removal of paragraph 202-45(a). The amendment will preserve an existing legislative reference that currently exists in paragraph 202-45(b). [Schedule 3, Item 3A, paragraph 202-45(b)]

Application provisions

3.15 These amendments will apply to distributions made on or after 1 July 2002.


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