House of Representatives

Tax Laws Amendment (2012 Measures No. 2) Bill 2012

Pay As You Go Withholding Non-compliance Tax Bill 2012

Pay As You Go Withholding Non-compliance Tax Act 2012

Income Tax (Managed Investment Trust Withholding Tax) Amendment Bill 2012

Explanatory Memorandum

(Circulated by the authority of the Deputy Prime Minister and Treasurer, the Hon Wayne Swan MP)

Chapter 2 Amendments to the TOFA consolidation interaction and transitional provisions

Outline of chapter

2.1 Schedule 2 to this Bill amends section 715-375 of the Income Tax Assessment Act 1997 (ITAA 1997) to ensure that, for consolidated groups applying Division 230 of the ITAA 1997 in relation to their financial arrangements, the head company is deemed to have received an amount for assuming an accounting liability that is, or is part of, a financial arrangement as part of a joining/consolidation event. This amount is deemed to be the accounting liability's accounting value at the joining time.

2.2 This Schedule also amends the transitional provisions in the Tax Laws Amendment (Taxation of Financial Arrangements) Act 2009 (TOFA Act) to ensure that:

·
section 715-375 and subsection 701-55(5A) of the ITAA 1997 (TOFA consolidation interaction provisions) apply to a joining/consolidation event that occurred prior to the consolidated group starting to apply the TOFA provisions in relation to its financial arrangements (pre-TOFA joining) if the head company has made a transitional election to apply the TOFA provisions to its existing financial arrangements;
·
the method for working out transitional balancing adjustments that uses tax deferred amounts from the head company's financial reports cannot be used to transition existing financial arrangements, acquired/assumed as part of a pre-TOFA joining, into the TOFA regime; and
·
for assets acquired as part of a pre-TOFA joining and if the head company has made a transitional election, the difference between the tax cost setting amount and the starting value for TOFA purposes is spread over four years from the head company's first income year in which it applies the TOFA provisions in relation to its financial arrangements (first TOFA year).

2.3 All references to legislative provisions in this chapter are references to the ITAA 1997 unless otherwise stated.

2.4 In this chapter, an asset refers to an asset that is, or is part of, a financial arrangement, and a liability refers to a liability that is, or is part of, a financial arrangement.

Context of amendments

2.5 The TOFA Act commenced on 26 March 2009. It inserted Division 230, related consequential provisions (including the TOFA consolidation interaction provisions, sections 701-55(5A) and 715-375) and the TOFA transitional provisions into income tax law (the TOFA provisions). The TOFA provisions represent a major legislative reform to the tax law applying to a complex area of commerce.

2.6 The TOFA provisions define what a Division 230 financial arrangement is and provide various tax timing methods to account for the gains and losses from holding and ceasing to hold the financial arrangement for income tax purposes.

2.7 The TOFA provisions generally apply to financial arrangements that a TOFA taxpayer starts to have during income years commencing on or after 1 July 2010, unless the taxpayer has elected to have the TOFA provisions apply for income years commencing on or after 1 July 2009. A TOFA taxpayer is a taxpayer that applies the TOFA provisions in relation to its financial arrangements.

2.8 Shortly after their introduction, the Government announced that technical amendments and further integrity measures may be necessary to ensure the law operates as intended (see the then Assistant Treasurer's Media Releases No. 103 of 4 December 2008 and No. 22 of 26 March 2009). Several tranches of amendments to the TOFA provisions were announced and/or made following the Government's monitoring of the implementation of the reform, including the then Assistant Treasurers' Media Releases No. 043 of 4 September 2009, No. 005 of 12 January 2010, No. 145 of 29 June 2010 and No. 019 of 29 November 2010. All applied with retrospective effect from the commencement of the TOFA provisions.

2.9 The TOFA consolidation interaction provisions are intended to ensure appropriate interaction between the TOFA regime and the consolidation regime. The provisions specify, for TOFA purposes, the tax treatment of financial arrangements that are part of a joining/consolidation event where the head company is a TOFA taxpayer.

2.10 The TOFA transitional provisions allow a TOFA taxpayer to elect to apply the TOFA provisions to its existing financial arrangements (that is, those that it started to have before the taxpayer's first TOFA year). These provisions are designed to reduce TOFA taxpayers' compliance costs by allowing the taxpayer to apply one set of tax provisions to all of their financial arrangements.

2.11 If such an election is made, the taxpayer is required to make transitional balancing adjustments for their existing financial arrangements. There are two methods of working out the TOFA transitional balancing adjustments for existing financial arrangements - a primary and alternative method.

2.12 The primary method, found in subitem 104(13) of Schedule 1 to the TOFA Act, involves comparing, for an existing financial arrangement, the amounts that have already been subject to tax, with the amounts that would have been subject to tax had the taxpayer applied the TOFA provisions from the time the TOFA taxpayer started to have the financial arrangement.

2.13 The alternative method, found in subitems 104(14) and (15) of Schedule 1 to the TOFA Act, uses the balances of the deferred tax asset and deferred tax liability accounts in the head company's financial reports. These balances usually approximate the outcome worked out under the primary method.

2.14 If the transitional balancing adjustment is positive, a quarter of this amount will be included in the taxpayer's assessable income for the first income year that Division 230 applies and each of the next three income years. Conversely, if the transitional balancing adjustment is negative, a quarter of this amount may be allowed as a deduction for the first income year that Division 230 applies and each of the next three income years.

2.15 Post-enactment consultation with industry and the Australian Taxation Office (ATO) on the TOFA provisions revealed several technical deficiencies with the current wording of the TOFA consolidation interaction provisions and how they interact with the TOFA transitional provisions.

2.16 On 25 November 2011, the then Assistant Treasurer, announced in Attachment B to Media Release No. 159 of 2011, changes to the TOFA consolidation interaction provisions and the TOFA transitional provisions to address the deficiencies identified.

Summary of new law

Amendments to TOFA consolidation interaction provisions

2.17 For liabilities that are to be subject to the fair value, reliance on financial reports or retranslation tax timing method, the amendments clarify that the head company of a consolidated group is deemed to have received an amount for assuming the liability at the joining time. The deemed amount is the liability's accounting value at the joining time.

2.18 For liabilities that are to be subject to a tax timing method other than the fair value, financial reports or retranslation method, the amendments deem the head company of a consolidated group to have received an amount for assuming the liability at the joining time. The deemed amount is the liability's accounting value at the joining time applying the joining entity's accounting principles.

Amendments to TOFA transitional provisions

2.19 The amendments to the TOFA transitional provisions ensure that the TOFA consolidation interaction provisions apply when transitioning existing financial arrangements acquired or assumed by the head company of a consolidated group as part of a pre-TOFA joining, where the head company has made a TOFA transitional election.

2.20 In particular, subject to the carve outs and adjustments as outlined below, the amendments:

·
clarify that the TOFA transitional balancing adjustments and TOFA balancing adjustments take into account the operation of the TOFA consolidation interaction provisions;
·
ensure that the head company of a consolidated group can only use the primary method in working out the transitional balancing adjustments for financial arrangements that the head company acquired as part of a pre-TOFA joining; and
·
ensure that, for assets acquired as part of a pre-TOFA joining where the head company has made the transitional election and applies the fair value, reliance on financial reports or retranslation tax timing method, the difference between the tax cost setting amount and the head company's starting value for TOFA purposes is generally spread over four years from the head company's first TOFA year.

Carve outs and adjustments regarding pre-TOFA joining

2.21 Assets and liabilities of a chosen transitional entity (within the meaning of Division 701 of the Income Tax (Transitional Provisions) Act 1997 ) that are acquired as part of a pre-TOFA joining are excluded from the application of the amendments to the TOFA transitional provisions.

2.22 For transitional purposes, the amount that the head company is deemed to have received for assuming liabilities that are part of a pre-TOFA tax consolidation of a wholly owned group (pre-TOFA formation) is the joining entity's tax carrying value for the liability just before the joining time (that is, the value which would result in no assessable income or allowable deduction if the joining entity were to cease to have the liability at that time).

Commencement and application

2.23 The amendments commence on 26 March 2009 (that is, the commencement of the TOFA provisions). The TOFA consolidation interaction amendments apply from a taxpayer's first TOFA year. The amendments to the TOFA transitional provisions apply from their commencement.

2.24 Regarding a pre-TOFA joining, assets that are subject to certain prior private ruling or written advice that the Commissioner of Taxation (Commissioner) has issued, and liabilities that are the same kind of financial arrangement as those assets, are carved out from the application of the amendments under certain circumstances.

Comparison of key features of new law and current law

New law Current law
The head company of a consolidated group is deemed to have received an amount for the assumption of the joining entity's liabilities at the joining time. The head company of a consolidated group is treated as starting to have the joining entity's liabilities at the joining time.
For liabilities that are subject to a tax timing method other than the fair value, reliance on financial reports or retranslation tax timing method, the head company is deemed to have received an amount equal to the amount of the liability as determined in accordance with the joining entity's accounting principles for tax cost setting or comparable standards for accounting made under a foreign law at the joining time. For liabilities that are subject to a tax timing method other than the fair value, reliance on financial reports or retranslation tax timing method, the entry history rule applies to determine the value of liabilities that the head company is treated as starting to have at the joining time.
The TOFA transitional balancing adjustments and balancing adjustments are generally worked out as if the TOFA consolidation interaction provisions had applied to financial arrangements that the head company assumes as part of a pre-TOFA joining. It is unclear whether the TOFA consolidation interaction provisions apply to financial arrangements that the head company assumes as part of a pre-TOFA joining and makes a TOFA transitional election to bring into the TOFA regime.
The head company that has made a transitional election to bring their existing financial arrangements into the TOFA regime, can generally only use the primary method when working out their TOFA transitional balancing adjustments for financial arrangements it assumed as part of a pre-TOFA joining. In certain circumstances, the head company that has made a TOFA transitional election to bring their existing financial arrangements into the TOFA regime and the reliance on financial report tax timing election, must use the alternative method to work out its TOFA transitional balancing adjustments for financial arrangements it assumed as part of a pre-TOFA joining.
For assets acquired as part of a pre-TOFA joining where the head company has made the transitional election and applies the fair value, reliance on financial reports or retranslation tax timing method, the difference between the tax cost setting amount and the head company's starting value for TOFA purposes is generally spread over four years from the head company's first TOFA year. It is unclear whether section 701-61 applies to assets acquired as part of a pre-TOFA joining where the head company has made the transitional election.

Detailed explanation of new law

Amendments to TOFA consolidation interaction provisions

Clarification that the liability is one to which the head company would apply the TOFA provisions just after joining

2.25 Schedule 2 of the Bill amends paragraph 715-375(1)(c) so that, in order for subsection 715-375(2) to apply, the liability assumed by the head company at the joining time must be, or be part of, a Division 230 financial arrangement of the head company at the joining time - the joining entity's TOFA status being irrelevant. [Schedule 2, item 2, paragraph 715-375(1)(c )]

2.26 By disregarding the single entity rule under subsection 701-1(1) of the ITAA 1997, item 1 of Schedule 2 to this Bill clarifies that the determination of whether there is a liability must be done from the joining entity's perspective at the joining time. [Schedule 2, item 1, paragraph 715-375(1)(b )]

2.27 Currently, subsection 715-375(1) sets out the pre-conditions for subsection 715-375(2) to apply. Paragraphs 715-375(1)(a) and (b) make clear that the subject of section 715-375 is the accounting liability of the joining entity at the joining time (which in this context means immediately before the joining time).

2.28 Paragraph 715-375(1)(c) requires a joining entity's accounting liability to be a 'Division 230 financial arrangement' (or be a part of one). Subsection 995-1(1) defines a Division 230 financial arrangement to be a financial arrangement to which Division 230 applies in relation to the taxpayer's gains and losses from the arrangement.

2.29 Where the joining entity is not a TOFA entity (that is, an entity not applying Division 230 to its financial arrangement liabilities) immediately before the joining time, paragraph 715-375(1)(c) is not satisfied if applied from the joining entity's perspective. Consequently, subsection 715-375(2) would not apply to deem the head company as having assumed the liabilities at the joining time. This is unintended.

2.30 The amendments clarify that, while paragraphs 715-375(1)(a) and (b) apply from the joining entity's perspective, paragraph 715-375(1)(c) operates from the head company's perspective.

2.31 The current paragraph 715-375(1)(c) also pose a circularity issue with respect of the application of sections 715-375(2) to (4) to a pre-TOFA joining. This issue is addressed in the amendments to the TOFA transitional provisions (see paragraph 2.67).

Deeming the head company to have received a payment for starting to have a liability at the joining time

2.32 Schedule 2 of the Bill repeals subsections 715-375(2), (3) and (4), replacing them with a new subsection 715-375(2). This new subsection deems the head company to have received a payment for starting to have the joining entity's liabilities at the joining time. [Schedule 2, item 3, subsection 715-375(2 )]

Liabilities subject to the fair value, reliance on financial reports or retranslation tax timing method - the amount of the deemed payment received

2.33 For liabilities subject to the fair value, reliance on financial reports or retranslation tax timing method, the deemed payment received equals the amount of the liability assumed by the head company as determined under the current subsections 715-375(3) and (4), that is, the 'Division 230 starting value' as defined in subsection 995-1(1) [Schedule 2, item 3, paragraph 715-375(2)(b )]. This value is the amount of the liability according to the relevant accounting standard referred to under each of the tax timing methods respectively, that apply in relation to the arrangement.

2.34 For liabilities subject to the fair value, reliance on financial reports or retranslation tax timing method, the amendments ensure that the law operates to achieve the original policy intent as outlined in paragraph 12.44 of the explanatory memorandum to the Tax Laws Amendment (Taxation Of Financial Arrangements) Bill 2009 (TOFA explanatory memorandum) that became the TOFA Act:


'for liabilities that are or form part of financial arrangements that are subject to the fair value, foreign exchange retranslation, or reliance on financial reports method, the head company applies Division 230 as if the liability were assumed at the time of joining for an amount equal to the liability's Division 230 starting value.'

2.35 If the head company is not deemed to have received a payment equal to the liability's Division 230 starting value at the joining time, and treats the amount of the liability as being its Division 230 starting value at the joining time for the purposes of applying any of the TOFA tax timing methods and Subdivision 230-G balancing adjustments, the head company would be able to obtain tax outcomes for gains or losses that accrued during the period prior to the joining time, in which the joining entity held the accounting liability.

2.36 Such an approach is inconsistent with the TOFA overarching objective to allocate the gains and losses from a financial arrangement to 'the period to which the gains or losses relate' so as to more closely align with commercial norms.

Example 2.1 : Derivative liability assumed by the head company as part of a consolidation event and to which the fair value, reliance on financial reports or retranslation tax timing method applies On 1 July 2011, a joining entity enters into a cash-settlable forward transaction for $0. The term of the forward is three years.On 1 July 2012, the joining entity becomes a subsidiary member of a consolidated group, which is a TOFA taxpayer (having entered the TOFA regime on 1 July 2010) and who has made a fair value tax timing election.At the time of joining, the forward has a fair value of -$120. Because the forward is fair valued through profit/loss for accounting purposes, -$120 is also the amount for tax purposes under the fair value tax timing method.On 1 July 2014, the forward matures with a fair value of -$100, and is settled with a payment of $100.As subsection 715-375(1) is satisfied, the amended paragraph 715-375(2)(b) applies to treat the head company of the consolidated group as starting to have the forward at the joining time for receiving a payment equal to $120, the forward's Division 230 starting value at the joining time.On disposal the head company brings to account no gain or loss for tax purposes, as the $20 gain (being the difference between the deemed receipt of $120 and actual payment of $100 to settle the forward) has already been required to be brought to account under the fair value tax timing method (being the change in fair value of the forward from the time the head company assumes the forward from the joining entity until the swap matures).Without the amendments to subsection 715-375(2), the head company would be treated as starting to have an accounting liability at joining time, valued at -$120 (its Division 230 starting value at the joining time) for the purposes of Division 230.At disposal, without the amendments, the head company would be able to deduct $120 loss, as the head company paid $100 to settle the forward (which would not be offset by the deemed receipt) and brought to account $20 gain under the fair value tax timing method.

Liabilities subject to the accruals/realisation tax timing methods or tax hedging method - the amount of the deemed payment received

2.37 The amended subsection 715-375(2) sets the amount of the deemed payment received for the liability and the amount of the liability in the hands of the head company to be the accounting value of the liability applying the joining entity's accounting principles. [Schedule 2, item 3, paragraph 715-375(2)(a )]

2.38 For liabilities subject to the accruals/realisation tax timing methods or tax hedging method, the current subsection 715-375(2) does not specify the amount of the liability in the hands of the head company at the joining time.

2.39 Paragraph 12.43 of the TOFA explanatory memorandum states that the consolidation entry history rule applies to these liabilities. In practice, this means that the head company assumes the liability for its original value (taking into account any repayments of the principal prior to the joining time).

2.40 Setting the amount of the liability in the hands of the head company at the joining time as its original value (applying the entry history rule) does not recognise the fact that, like assets, the value of the liability can change for reasons other than repayments of the principal, for example, foreign currency denominated loans.

2.41 To take into account the changes in the value of these liabilities, the amendments set the amount of the liability in the hands of the head company as the accounting value of the liability.

2.42 However, unlike the fair value, reliance on financial reports or retranslation tax timing method, there are no specific accounting standards that apply to determine the tax treatment of financial arrangements that are subject to the accruals/realisation tax timing methods.

2.43 Moreover, there is a possibility that the accounting principles applied to the liability by the joining entity immediately before the joining time are not the same accounting principles that the head company applies to its liabilities. This could result in there being two different accounting values for the liability at the joining time. Using the head company's accounting principles may result in the difference not being subject to taxation.

2.44 To address these issues, paragraph 715-375(2)(a) sets the amount of the liability subject to the accruals/realisation tax timing methods or the tax hedging method in the hands of the head company at the joining time to be the amount of the liability, as determined in accordance with the joining entity's accounting principles for tax cost setting or comparable standards for accounting made under a foreign law. [Schedule 2, item 3, paragraph 715-375(2)(a )]

Example 2.2 : Foreign currency denominated loan assumed by the head company as part of a consolidation event and to which the accruals/realisation tax timing methods applies On 1 July 2011, a joining entity enters into a foreign currency denominated liability under which:

·
it receives US$100 on 1 July 2011,
·
must pay AU$10 interest on 1 July 2012, 1 July 2013 and 1 July 2014; and
·
must repay US$100 on 1 July 2014.

As at 1 July 2011, AU$1 buys US$1. As a result, the AUD value of the US$100 received is $100.On 1 July 2012, just after the interest payable on 1 July 2012 is paid, the joining entity becomes a subsidiary member of a consolidated group, which is a TOFA taxpayer (having entered the TOFA regime on 1 July 2010). The head company makes no TOFA tax timing method election, and as a result applies the accruals/realisation tax timing methods to its financial arrangements (including the liability).At the time of joining, the joining entity's accounting principles for tax cost setting determine the amount of the liability as -$120. This is because, at the time of joining, AU$1 buys US$0.8333.On 1 July 2014, US$100 is repaid. The AUD value of this payment, at the time of payment, is $120.As subsection 715-375(1) is satisfied, the new paragraph 715-375(2)(a) applies to treat the head company of the consolidated group as starting to have the accounting liability at the joining time for receiving a payment equal to $120. This is the amount of the liability determined in accordance with the joining entity's accounting principles for tax cost setting at the joining time.The amount of the liability in the hands of the head company at the joining time (that is, -$120) is used to work out the gain or loss and the spreading of that gain or loss on an on-going basis.On 1 July 2014, the liability comes to an end. For the purposes of working out the Subdivision 230-G balancing adjustment for the liability, the head company is deemed to have received $120 for assuming the liability under step 1(a) of the method statement.

Deeming the head company to have had an obligation to provide for an asset, or a right to receive for a liability, the deemed payment

2.45 Where section 701-55(5A) and the new section 715-375(2) deems the head company as having provided or received a payment for starting to have an asset or liability at the joining time respectively, for the purposes of applying section 230-60, the amendments deem the head company to have had an obligation to provide or right to receive that payment. [Schedule 2, item 4, section 715-378]

2.46 This is to ensure that, for Division 230 purposes, the payment is taken into account in working out the gain or loss from the asset or liability that the head company assumes as part of a joining/consolidation event.

2.47 Section 230-60 deems a right to receive or an obligation to provide a financial benefit in relation to a financial arrangement to be a right or obligation under the financial arrangement, if the financial benefit plays an integral role in determining whether there is a gain or loss from the arrangement or the amount of such gain or loss.

2.48 In circumstances where the application of section 230-60 is required to take into account the deemed payment in working out the gain or loss from the asset or liability, the head company would need to have had an obligation to provide or a right to receive that deemed payment 'under the financial arrangement' as opposed to 'for the financial arrangement'.

Amendments to TOFA transitional provisions

2.49 Item 5 of Schedule 2 to the Bill amends the TOFA transitional provisions so that:

·
the TOFA consolidation interaction provisions apply to joining entities other than chosen transitional entities when applying the TOFA transitional balancing or other TOFA provisions in relation to assets and liabilities that are part of a pre-TOFA joining;
·
the head company cannot use the alternative method to work out the TOFA transitional balancing adjustments for these assets and liabilities;
·
for assets that are part of a pre-TOFA joining being transitioned into the TOFA regime, the difference between the asset's tax cost setting amount and its Division 230 starting value is to be spread over four years from the head company's first TOFA year; and
·
for liabilities that are part of a pre-TOFA formation, the amount of the deemed payment is an amount which would result in there being no tax consequences for the joining entity if it were to cease to have the liability just before the joining time (tax carrying value).

[Schedule 2, item 5, subitem 104B]

Conditions for the application of TOFA transitional amendments

2.50 Subitem 104B(1) provides the conditions for the application of the amendments to the TOFA transitional provisions. [Schedule 2, item 5, subitem 104B(1 )]

2.51 The amendments only apply to assets and liabilities that the head company acquires/assumes from the joining entity at the joining time as a result of the single entity rule [Schedule 2, item 5, paragraphs 104B(1)(a) and (b )]. The single entity rule states that following consolidation, members of a consolidated group are treated as a single entity for income tax purposes. Subsidiary entities lose their individual income tax identities and upon entry into a consolidated group are treated as part of the head company.

2.52 These assets and liabilities must be, or must be part of, a financial arrangement at the start of the head company's first applicable income year. [Schedule 2, item 5, paragraph 104B(1)(c )]

2.53 Item 102 of Schedule 1 to the TOFA Act defines first applicable income year. It is the first income year for which the TOFA provisions apply to the taxpayer.

2.54 Subsection 995-1(1) defines a 'financial arrangement' as having the meaning given by sections 230-45 to 230-50. That is, the asset or liability is, or is part of, a financial arrangement that satisfies either section 230-45 or 230-50.

2.55 The head company's first TOFA year must start after the joining time and the head company must have the asset or liability for the whole period from the joining time to the start of the head company's first TOFA year, whether or not because of the single entity rule. [Schedule 2, item 5, paragraphs 104B(1)(d) and (e )]

2.56 'Joining time' is identified in the new paragraph 104B(1)(a) as the time the joining entity becomes a subsidiary member of the consolidated group or MEC group.

2.57 The intention of the inclusion of the words 'whether or not because of ... the single entity rule...' is to ensure that item 104B applies where the head company acquires/assumes financial arrangements from the joining entity at the joining time pursuant to a joining/consolidation event, and later the joining entity legally transfers those financial arrangements to the head company.

2.58 The head company must elect to have subitem 104(2) apply to itself. [Schedule 2, item 5, paragraph 104B(1)(f )]

2.59 The joining entity must not be a chosen transitional entity within the meaning of Division 701 of the Income Tax (Transitional Provisions) Act 1997 . [Schedule 2, item 5, paragraph 104B(1)(g )]

2.60 Prior to the end of 2005, head companies could choose to make a joining entity, a chosen transitional entity. Generally, the effect of such a choice meant that the tax cost setting amount of the assets of such entities was not worked out at the joining time. To be consistent with this choice, the assets (or liabilities) of these entities are carved out from the application of these amendments.

Assets that are part of a pre-TOFA joining

2.61 Paragraph 104B(2)(a) ensures that the TOFA consolidation interaction provisions apply for the purposes of working out the TOFA transitional adjustments and applying the TOFA provisions generally in relation to assets that are part of a pre-TOFA joining. [Schedule 2, item 5, subitem 104B(2)(a )]

2.62 Subsection 701-55(5A) provides that, for TOFA purposes, the head company is deemed to have acquired the asset for its Division 230 starting value (where the asset is subject to a fair value, reliance on financial reports or retranslation tax timing election), or its tax cost setting amount (where the asset is subject to the accruals/realisation tax timing methods or tax hedging method) at the joining time.

2.63 However, it is unclear whether subsection 701-55(5A) can apply to assets that are part of a pre-TOFA joining for the purposes of working the TOFA transitional balancing adjustment for the asset and applying the TOFA provisions to the asset after transitioning the asset into the TOFA regime. This is because the pre-condition for the subsection to apply is 'if Division 230 is to apply in relation to the asset' at the joining time.

2.64 The assumed application of subsection 701-55(5A) to a pre-TOFA joining has the following implications:

·
for the purposes of working out the TOFA transitional balancing adjustment for the asset:

-
the head company is deemed to start to have the asset at the joining time, which is prior to the head company entering into the TOFA regime (that is, for steps 1 to 4 of subitem 104(13) of the TOFA Act); and
-
the amount subsection 701-55(5A) deems the head company to have provided for acquiring the asset sets the amount of the asset in the hands of the head company at the joining time which is then taken into account in working out what would be the tax outcome if the TOFA provisions had applied to the asset from the time the head company starts to have the asset (that is, steps 1 and 2 of subitem 104(13) of the TOFA Act. Steps 3 and 4 of subitem 104(13) of the TOFA Act are not intended to be affected); and

·
the head company's deemed payment for the asset at the joining time is taken into account in working out the gain or loss from the asset under the TOFA provisions including the Subdivision 230-G balancing adjustment that is made when the asset ceases to be held by the head company (for example, upon maturity or disposal).

Example 2.3 : Derivative asset that the head company acquires as part of a pre-TOFA joining and transitions into the TOFA regime On 1 July 2008, a joining entity enters into a cash-settlable forward transaction for $0. The term of the forward is four years.On 1 July 2009, the joining entity becomes a subsidiary member of a consolidated group. At the time of joining, the forward has a fair value of $120. As the forward is fair valued through profit/loss for accounting purposes, $120 is also the amount of the asset for tax purposes applying the fair value tax timing method.The head company continues to hold the forward until it enters into the TOFA regime on 1 July 2010, which is the start of the head company's first TOFA year. At that time, the fair value of the asset is $100.On 1 July 2010, the head company makes an irrevocable election under item 104(2) of the TOFA Act to apply the TOFA provisions in relation to all of the financial arrangements it had on 1 July 2010. It also makes a valid fair value tax timing election under Subdivision 230-C.As such, the asset satisfies the conditions under the subitem 104B(1). Paragraph 104B(2)(a) applies in relation to the asset. The assumed application of subsection 701-55(5A) to the asset has the following consequences:

·
for the purposes of applying subitem 104(13) of the TOFA Act in working out the transitional balancing adjustment for the asset, the head company is treated as if it acquired the asset at the joining time for a payment equal to the asset's Division 230 starting value at the joining time; and
·
for the purposes of applying Division 230, for example, in working out the Subdivision 230-G balancing adjustment for the forward when it matures on 1 July 2012, the head company is deemed to have paid an amount equal to the forward's Division 230 starting value at the joining time.

Transitional balancing adjustment Applying this assumption, the result of the transitional balancing adjustment would be as follows:Step 1: $0 (This is because the subitem 104(13) method statement is calculated on the assumption that subsection 701-55(5A) applied in relation to the asset at the joining time that resulted in the head company starting to have the asset. As such, the increase in fair value of the forward that occurred between 1 July 2008 and 1 July 2009 is ignored for the purposes of step 1).Step 2: $20 (The decrease in the fair value from the joining time would have been a loss that would have been made from the forward, had Subdivision 230-C applied in relation to the forward after the joining time).Step 3: $0 (No amounts have been assessed since the joining time).Step 4: $0 (No amounts have been deducted since the joining time).Step 5: $0Step 6: $20Step 7: $20 loss allowed as a deduction, and spread in accordance with subitem 104(17). Subdivision 230-G balancing adjustment Applying the method statement in section 230-445 when the forward matures on 1 July 2012:Step 1(a): $0 (on the assumption the forward matures on 1 July 2012 with fair value of $0).Step 1(b): $110 (This includes the transitional balancing adjustment amount included so far allowed as a deduction and the decline in fair value from 1 July 2010 to 1 July 2012 which has already been deducted over those two years under the fair value method).Step 1(c): $0Step 1(d): $10 (The transitional balancing adjustment amount yet to be allowed as a deduction). Step 1 result: $120 Step 2(a): $120 (The deemed amount for acquisition in accordance with the assumed application of paragraph 701-55(5A)(b) by paragraph 104B(2)(a)).Step 2(b): $0Steps (c) to (e): $0 Step 2 result: $120 Step 3: Subdivision 230-G balancing adjustment of $0 upon maturity.As such, from the head company's perspective, the forward has an overall loss of $120 over its term, of which a $20 loss was brought to account as the TOFA transitional adjustment; and a $100 loss was brought to account under the fair value tax timing method.

Liabilities that are part of a pre-TOFA joining

2.65 Paragraph 104B(2)(b) ensures that the TOFA consolidation interaction provisions apply for the purposes of working out the TOFA transitional adjustments and applying the TOFA provisions in relation to liabilities that are part of a pre-TOFA joining. [Schedule 2, item 5, paragraph 104B(2)(b )]

2.66 As explained above, the new subsection 715-375(2) determines, for TOFA purposes, the time that the head company starts to have the liability and the amount that the head company is deemed to have received for assuming the liability.

2.67 However, the new subsection 715-375(2) only applies, if the pre-conditions in subsection 715-375(1) are first satisfied. One of these preconditions is that the liability is, or is part of, a Division 230 financial arrangement of the head company at the joining time (because of the single entity rule).

2.68 In the case of a pre-TOFA joining, it is unclear whether the liability is, or is not part of, a Division 230 financial arrangement of the head company at the joining time as the head company has yet to enter the TOFA regime. Thus, it is unclear whether subsection 715-375(2) applies to transition a liability that the head company assumed as part of a pre-TOFA joining into the TOFA regime.

2.69 The assumed application of section 715-375 to a pre-TOFA joining has the following implications:

·
for the purposes of working out the transitional balancing adjustment for a liability:

-
the head company is deemed to start to have the liability at the joining time, which is prior to the head company entering into the TOFA regime (that is, steps 1 to 4 of subitem 104(13) of the TOFA Act); and
-
the head company is deemed by section 715-375 to have received an amount for assuming the liability - this amount is then taken into account in working out what would be the tax outcome if the TOFA provisions had applied to the liability from the time the head company starts to have the liability (that is, steps 1 and 2 of subitem 104(13) of the TOFA Act. Steps 3 and 4 of subitem 104(13) of the TOFA Act are intended to be affected); and

·
the head company's deemed receipt of a payment for the liability at the joining time is taken into account in working out the gain or loss from the liability under the TOFA provisions, including the Subdivision 230-G balancing adjustment when the liability ceases to be held by the head company (for example, upon maturity or disposal).

Example 2.4 : Derivative liability that the head company assumes as part of a pre-TOFA joining and transitions into the TOFA regime On 1 July 2008, a joining entity enters into a cash-settlable forward transaction for $0. The term of the forward is four years.On 1 July 2009, the joining entity becomes a subsidiary member of an existing consolidated group. At the time of joining, the forward has a fair value of -$120. As the forward is fair valued through profit/loss for accounting purposes, -$120 is also the amount of the liability for tax purposes, applying the fair value tax timing method.The head company continues to hold the forward until it enters into the TOFA regime on 1 July 2010, which is the start of the head company's first TOFA year. At that time, the fair value of the liability is -$100.On 1 July 2010, the head company makes an irrevocable election under subitem 104(2) of the TOFA Act to apply the TOFA provisions in relation to all of the financial arrangements it had on 1 July 2010. It also makes a valid fair value tax timing election under Subdivision 230-C.As such, the liability satisfies the preconditions under the new subitem 104B(1). Paragraph 104B(2)(b) applies in relation to the liability. The assumed application of section 715-375 to the liability has the following consequences:

·
for the purposes of applying subitem 104(13) of the TOFA Act to work out the transitional balancing adjustment for the liability, the head company is treated as starting to have the liability at the joining time for receiving a payment equal to the liability's Division 230 starting value at joining time (which, in this case, is -$120); and
·
for the purposes of applying section 230-445 to work out the Subdivision 230-G balancing adjustment for the liability when it matures on 1 July 2012, the head company is deemed to have received a payment equal to the forward's Division 230 starting value at the joining time.

Transitional balancing adjustment Applying this assumption, the result of the transitional balancing adjustment would be as follows:Step 1: $20 (The increase in fair value from the joining time would have been a gain that would have been made from the forward).Step 2: $0 (As the subitem 104(13) method statement is to be calculated on the assumption that section 715-375 applied to deem the head company starting to have the liability at the joining time, the increase in fair value of the forward that occurred between 1 July 2008 and 1 July 2009 is ignored for the purposes of step 2).Step 3: $0 (No amounts have been assessed since the joining time).Step 4: $0 (No amounts have been deducted since the joining time).Step 5: $20Step 6: $0Step 7: $20 gain included in assessable income, and spread in accordance with subitem 104(17). Subdivision 230-G balancing adjustment Applying the method statement in section 230-445 on 1 July 2012, when the forward matures:Step 1(a): $120 (The deemed assumption in accordance with the assumed application of section 715-375 by paragraph 104B(2)(b)).Step 1(b): $0Step 1(c): $0Step 1(d): $0 Step 1 result: $120 Step 2: $0 (on the assumption that the forward matures on 1 July 2012 with a fair value of $0).Step 2(b): $110 (The increase in fair value from 1 July 2010 to 1 July 2012, which has already been included as assessable income over those two years under the fair value method and the transitional balancing adjustment amount included so far in assessable income).Step 2(c): $0Step 2(d): $10 (The transitional balancing adjustment amount yet to be included in assessable income). Step 2 result: $120 Step 3: Subdivision 230-G balancing adjustment of $0 upon maturity.As such, from the head company's perspective, the forward has an overall gain of $120 over its term, of which a $20 gain was and is to be brought to account as the TOFA transitional adjustment; and a $100 gain was brought to account under the fair value tax timing method. Example 2.5 : Foreign currency denominated loan that the head company assumes as part of a pre-TOFA joining and transitions into the TOFA regime On 1 July 2008, the joining entity enters into a US dollar denominated loan arrangement and received the equivalent of AU$100. The term of the loan is 4 years.On 1 July 2009, the joining entity becomes a subsidiary member of a consolidated group as a result of an acquisition of all its membership interests.At the time of joining, the loan has a value of AU$90. The change in the value of the loan from AU$100 to AU$90 is not required to be brought to account for tax purposes.The head company continues to have the loan until it enters the TOFA regime on 1 July 2010, which is the start of the head company's first TOFA year. At that time, the value of the loan is AU$80. There are no further changes to the value of the loan until settlement.On 1 July 2010, the head company makes an election under subitem 104(2) of the TOFA Act to apply the TOFA provisions in relation to all of the financial arrangements it had on 1 July 2010. It also makes a valid foreign exchange retranslation tax timing election under Subdivision 230-D.As such, the liability satisfies the pre-conditions under the new subitem 104B(1). Paragraph 104B(2)(b) applies in relation to the liability. The assumed application of section 715-375 to the liability has the following consequences:

·
for the purposes of applying subitem 104(13) of the TOFA Act to work out the transitional balancing adjustment for the liability, the head company is treated as starting to have the liability at the joining time for receiving a payment equal to the liability's Division 230 starting value at the joining time (which, in this case, is AU$90); and
·
for the purposes of applying section 230-445 to work out the Subdivision 230-G balancing adjustment for the liability when it matures on 1 July 2012, the head company is deemed to have received a payment equal to the liability's Division 230 starting value at the joining time (that is, AU$90).

Transitional balancing adjustment Applying this assumption, the result of the transitional balancing adjustment would be as follows:Step 1: $10 (This is because the subitem 104(13) method statement is to be calculated on the assumption that paragraph 104B(2)(b) applied in relation to the liability at the joining time which resulted in the head company starting to have the liability at that time. As such, the change in AU$ value of the loan that occurred between 1 July 2008 and 1 July 2009 is ignored for the purposes of step 1).Step 2: $0 (There would be no loss made from the loan had Subdivision 230-D applied in relation to the loan after the joining time).Step 3: $0 (No amounts have been assessed since the joining time).Step 4: $0 (No amounts have been deducted since the joining time).Step 5: $10Step 6: $0Step 7: $10 gain is included in assessable income, and spread in accordance with subitem 104(17). Subdivision 230-G balancing adjustment Applying the method statement in section 230-445 when the loan is paid out on 1 July 2012:Step 1(a): $90 (The deemed assumption in accordance with the assumed application of section 715-375 by paragraph 104B(2)(b)).Step 1(b): $0Step 1(c): $0Step 1(d): $0 Step 1 result: $90 Step 2(a): $80 (on the assumption that the loan is settled in full on 1 July 2012).Step 2(b): $5 (The transitional balancing adjustment amount included so far in assessable income).Step 2(c): $0Step 2(d): $5 (The transitional balancing adjustment amount yet to be included as assessable income). Step 2 result: $90 Step 3: Subdivision 230-G balancing adjustment of $0 (when the liability is settled).As such, from the head company's perspective, the loan has an overall gain of $10 over its term, of which a $10 gain was brought to account as the TOFA transitional adjustment; and no amount was brought to account under the Subdivision 230-G balancing adjustment.

Liabilities that are part of a pre-TOFA formation

2.70 For liabilities that are part of a pre-TOFA formation, the amount of payment that the head company is deemed to have received for starting to have the liability is not determined in accordance with section 715-375. The amount is deemed to be the amount of consideration that the joining entity would need to provide if it ceased holding the liability just before the pre-TOFA formation, without an amount being assessable income of, or deductible to, the joining entity. [Schedule 2, item 5, subitems 104B(8) and (9 )]

2.71 The deemed amount for starting to have liabilities that are part of a pre-TOFA formation is different, because formation does not involve the head company acquiring the shares of the joining entity at the joining time, unlike in the merger or takeover scenario. Under the consolidation regime, while the unrealised gain or loss on an asset that is part of a pre-TOFA formation is taken into account in working out the allocable cost amount (within the meaning of section 705-60) at the joining time, the unrealised gain or loss on a liability that is part of a pre-TOFA formation may not be recognised for tax purposes if the head company does not recognise this unrealised gain or loss for tax purposes.

2.72 To ensure that the head company recognises these unrealised gains or losses for tax purposes, subitem 104B(9) sets the amount that the head company is deemed to have received for starting to have the liability to be the joining entity's tax carrying value for the liability. This means that the unrealised gain or loss associated with the liability at the joining time is not attributed to the joining entity at the joining time but is instead transferred to the head company.

Example 2.6 : Derivative liability that the head company assumes as part of a pre-TOFA formation and transitions into the TOFA regime A joining entity is a wholly-owned subsidiary of another entity. The other entity is the holding company of a wholly owned group.On 1 July 2008, the joining entity enters into a cash-settlable swap transaction for $0. The term of the swap is four years.On 1 July 2009, the joining entity becomes a subsidiary member of a tax consolidated group as the result of the holding company electing to form the tax consolidated group. The rules in Subdivision 705-B had effect in relation to the joining entity becoming a subsidiary member of the group.At the time of joining, the swap liability has a fair value of -$100. The swap is fair valued through profit/loss for accounting purposes; and no amount is required to be brought to account for tax purposes prior to the joining time.The head company continues to hold the swap liability until it enters into the TOFA regime on 1 July 2010, which is the start of the head company's first TOFA year. At that time, the fair value of the liability is -$140. There are no further changes to the fair value of the swap until it is settled.On 1 July 2010, the head company makes an election under subitem 104(2) of the TOFA Act to apply the TOFA provisions in relation to all of the financial arrangements it had on 1 July 2010. It also makes a valid fair value tax timing election under Subdivision 230-C.The liability satisfies the conditions under subitem 104B(1). However, subitem 104B(8) applies in relation to the liability, as Subdivision 705-B had effect in relation to the joining entity becoming a subsidiary member of the group. As such, the assumed application of subitem 104B(9) to the liability means that for the purposes of applying subitem 104(13) of the TOFA Act and Division 230, the head company is treated as if it assumed the liability at the joining time for receiving a payment equal to the amount that the joining entity would need to provide if it were to cease holding the liability just before the joining time, without an amount being assessable or deductible.On this basis, the head company is treated as if it assumed the liability for $0. Transitional balancing adjustment Applying subitem 104B(9), the result of the transitional balancing adjustment is as follows:Step 1: $0 (There were no amounts that would be assessable had Subdivision 230-C applied in relation to the swap from the joining time).Step 2: $40 (This is because the subitem 104(13) method statement is to be calculated on the assumption that subitem 104B(9) applied in relation to the liability at the joining time which resulted in the head company starting to have the liability at that time. As such, the change in the fair value of the swap that occurred between 1 July 2008 and 1 July 2009 is ignored for the purposes of step 2).Step 3: $0 (No amounts have been assessed since the joining time).Step 4: $0 (No amounts have been deducted since the joining time).Step 5: $0Step 6: $40Step 7: $40 loss allowed as a deduction, and spread in accordance with subitem 104(17). Subdivision 230-G balancing adjustment Applying the method statement in section 230-445 when the swap liability is paid out on 1 July 2012 (as there was no further movement in the fair value from the start of the head company's first TOFA year):Step 1(a): $0 (Subitem 104B(9) operates such that the liability has been assumed for a payment equal to $0).Step 1(b): $20 (The transitional balancing adjustment amount included so far allowed as a deduction).Step 1(c): $0Step 1(d): $20 (The transitional balancing adjustment amount yet to be allowed as a deduction). Step 1 result: $40 Step 2(a): $140 (on the assumption that the swap liability is paid out in full on 1 July 2012).Step 2(b): $0Steps (c) to (e): $0 Step 2 result: $140 Step 3: Subdivision 230-G balancing adjustment of $100 loss (when the liability is paid out).As such, from the head company's perspective, the swap has an overall loss of $140 over its term, of which a $40 loss was brought to account as the TOFA transitional adjustment; and a $100 loss was brought to account under the Subdivision 230-G balancing adjustment.

No application of the alternative method to work out the transitional balancing adjustments for assets and liabilities that are part of a pre-TOFA joining

2.73 Subitem 104B(3) ensures that the alternative method as outlined in subitems 104(14) and (15) of the TOFA Act cannot be used in working out the transitional balancing adjustments for liabilities and assets that the head company acquired/assumed as part of a pre-TOFA joining and elected to transition into the TOFA regime. [Schedule 2, item 5, subitem 104B(3 )]

2.74 This is because the alternative method does not provide a good approximation of the primary method for these assets and liabilities. As such, the head company should use the primary method to calculate the transitional balancing adjustments for these financial arrangements.

2.75 Under the alternative method, the transitional balancing adjustment for a financial arrangement is worked out by grossing up an amount related to the financial arrangement in the taxpayer's deferred tax asset or deferred tax liability accounts. The deferred tax asset or deferred tax liability amounts essentially represent the deductible temporary difference or the taxable temporary difference as defined in the accounting standards: the difference represents a comparison of the tax carrying value with the accounting carrying value. Normally, the grossed up deferred tax asset and deferred tax liability amounts are a good approximation of the transitional balancing adjustments that would have been worked out under the primary method.

2.76 However because deferred tax asset and deferred tax liability calculations do not take into account 'notional tax events', in some cases the alternative method does not provide a reasonable approximation of the amount that would be calculated under the primary method.

2.77 In the case of an asset or liability that the head company acquires/assumes as part of a pre-TOFA joining, the alternative method does not provide a reasonable approximation of the transitional balancing adjustments worked out under the primary method because the DTA/DTL amounts are accumulated from the time the joining entity starts to have the asset or liability. The deferred tax asset and deferred tax liability amounts reflect the deferred tax effect for the entire period from when the joining entity started to have the financial arrangement until the head company enters into the TOFA regime (unlike the primary method which calculates the difference between actual tax outcomes under the pre-TOFA tax laws and the notional tax outcomes under the TOFA regime from the date the head company started to have the liability until the time the head company started to apply the TOFA provisions).

Assets that are part of a pre-TOFA joining - adjustments for the difference between tax cost setting amount and TOFA starting value

2.78 Subitems 104B(4) to (7) replicate the section 701-61 adjustment for assets that the head company acquired as part of a pre-TOFA joining and to which it has elected to apply the fair value, financial reports or retranslation tax timing method. [Schedule 2, item 5, subitems 104B(4) to 104B(7 )]

2.79 For assets that the head company acquired as part of a joining/consolidation event and for which the fair value, reliance on financial reports or retranslation tax timing method applies, section 701-61 requires the head company to work out the difference between the tax cost setting amount and the Division 230 starting value of the asset, and to spread the difference over four years starting from the income year in which the single entity rule first applied.

2.80 However, section 701-61 may not apply to assets that the head company acquired as part of a pre-TOFA joining, which it has elected to bring into the TOFA regime and apply the fair value, financial reports or retranslation tax timing method to. This is because, as explained in paragraph 2.63, it is unclear whether subsection 701-55(5A) can apply at a joining time prior to the head company entering the TOFA regime.

2.81 Subitems 104B(4) to (7) are intended to achieve the same outcome as provided under section 701-61 for assets that the head company acquire/assumes as a result of a pre-TOFA joining, except the difference between the asset's tax cost setting amount and the Division 230 starting value is to be spread over four years, starting from the head company's first TOFA year, as opposed to the income year in which the joining occurred.

2.82 Note that, as for the adjustments worked out under section 701-61, the adjustments worked out under these amendments are not taken into account for working out other balancing adjustments under the TOFA provisions. This is because these amounts account for the difference between the tax cost setting amount and the Division 230 starting value of the financial arrangement, which are unrelated to the gain or loss made from the financial arrangement.

Example 2.7 : Derivative asset that is part of a pre-TOFA joining, transitioned into the TOFA regime and to which the head company applies the fair value, reliance on financial reports or retranslation tax timing method This is a continuation of Example 2.3.On 1 July 2009, the head company acquires all of the joining entity's membership interests for $1,050. Consequently, the joining entity joins head company's consolidated group.The joining entity has two assets, the forward which has a fair value of $120 and cash at bank of $1,000.In setting the tax costs of the assets of the joining entity, assuming the joining entity has no liabilities, the allocable cost amount (ACA) for the joining entity is $1,050.Cash at bank is a retained cost base asset and has its tax cost set at $1,000.The remaining ACA of $50 is allocated to the forward which is a reset cost base asset. The tax cost of the forward is set at $50, despite the fact that its fair value at the joining time is $120.Applying subitem 104B(5), the Division 230 starting value at the joining time is $120. The tax cost setting amount at the joining time was $50. This means that the Division 230 starting value at the joining time exceeds the tax cost setting amount. Because of this, $17.50 (that is, 25 per cent of this excess) is to be included in the head company's assessable income for:

·
the income year that started on 1 July 2010; and
·
each of the three subsequent income years.

Carving out assets and liabilities that are subject to private rulings or written advice from TOFA transitional amendments

2.83 The amendments to the TOFA transitional provisions in item 104B do not apply to assets that are subject to certain prior private ruling or written advice under an Annual Compliance Arrangement issued by the Commissioner, and liabilities that are the same kind of financial arrangements as the carved out assets. [Schedule 2, item 5, item 104C]

Assets that are carved out

2.84 To be carved out of the application of the amendments to the TOFA transitional provisions, an asset must satisfy the following conditions:

·
assuming item 51 of Schedule 2 to this Bill commences at the commencement of this item, the asset would be carved out from the application of Schedule 2 to this Bill because of the application of the item to a private ruling or written advice under an Annual Compliance Arrangement [Schedule 2, item 5, paragraphs 104C(1)(a) and (b )];
·
the asset is, or is part of, a financial arrangement at the start of the head company's first TOFA year [Schedule 2, item 5, paragraphs 104C(1)(c) and (e )];
·
the asset satisfies subitem 104B(1) [Schedule 2, item 5, paragraph 104C(1)(d )]; and
·
the ruling or advice has effect in relation to the asset for the head company's first TOFA year [Schedule 2, item 5, paragraph 104C(1)(f )]. That is, the ruling provided the tax outcome associated with the application of subsection 701-55(5C) or 701-55(6) in relation to the asset for the head company's first TOFA year.

2.85 If these conditions are met, item 104B does not apply to the asset. [Schedule 2, item 5, paragraph 104C(2 )]

Example 2.8 : Assets that are carved out from item 104B On 1 July 2008, an entity enters into two interest rate swaps (on similar terms) and two cash-settlable forwards. The value of both of these swaps at the time they are entered into is $0, and the value of the forwards is also $0.On 1 July 2009, the entity joins a consolidated group. Due to changes in interest rates, the value of the swaps at the time of joining is:

·
$120 (the swap asset); and
·
-$120 (the swap liability).

Additionally, on 1 July 2009, because of changes in the price of the subject-matter of the forwards, their value is:

·
$10 (the forward asset); and
·
-$10 (the forward liability).

1 July 2010 is the start of the head company's first applicable income year as defined in item 102 of the TOFA Act.Additionally, on 1 July 2010, the head company makes an election under subitem 104(2) of the TOFA Act to apply the TOFA provisions in relation to all of the financial arrangements it had on 1 July 2010.This means that Division 230 applies in relation to the two swaps, and the two forwards.Before 31 March 2011, the head company receives advice under a private binding ruling as to the application of subsection 701-55(6) in relation to its swap asset for the 2008-09 to 2018-19 income years. The ruling states that certain amounts were allowable as deductions in respect of those swap assets.No ruling is received before 31 March 2011 in relation to the forwards.Item 104B of the TOFA Act does not apply in relation to its swap asset (see sub-item 104C(2) of the TOFA Act), because (as per subitem 104C(1) of the TOFA Act):

·
item 51 of Schedule 2 to this Bill applies in relation to the ruling that the head company receives and the swap asset is carved out from the application of item 50 of Schedule 2 to this Bill because of the ruling or written advice;
·
the effect of the ruling is in relation to the swap asset for the 2010-11 income year (amongst others);
·
the swap asset is a financial arrangement at the start of the 2010-11 income year;
·
the requirements under item 104B(1) are satisfied in relation to the asset;
·
the head company is the one mentioned in that subitem; and
·
the 2010-11 income year is the head company's first applicable income year.

However, the head company must apply item 104B in relation to the forward asset, because the ruling, to the extent that item 51 of Schedule 2 to this Bill applies, does not have any effect in relation to the forward asset (see paragraph 104C(1)(b)).

Liabilities that are carved out of item 104B

2.86 To be carved out of the application of the amendments to the TOFA transitional provisions, a liability must satisfy the following conditions:

·
the liability is, or is part of, a financial arrangement of the same kind as the financial arrangement that an asset, that is carved out under subitem 104C(1), is, or is part of [Schedule 2, item 5, paragraphs 104C(3)(a ), ( b) and (c )]. For example, interest rate swaps that are in the money and that are out of the money are the same kind of financial arrangements, whereas interest rate swaps that are in the money and cross currency swaps that are out of the money are different kinds of financial arrangements;
·
the liability is, or is part of, a financial arrangement at the start of the head company's first applicable income year [Schedule 2, item 5, paragraphs 104C(3)(b) and (e )]; and
·
the liability satisfies subitem 104B(1) [Schedule 2, item 5, paragraph 104C(3)(d )].

2.87 If these conditions are met, item 104B does not apply to the liability. [Schedule 2, item 5, paragraph 104C(4 )]

Example 2.9 : Liabilities that are carved out of item 104B This is a continuation of Example of 2.8.As in that example, item 104B does not apply to the entity's swap asset, item 104B also does not apply to its swap liability, because (as per subitem 104C(3)):

·
the swap liability is a financial arrangement as at the start of the 2010-11 income year;
·
the swap liability is the same kind of financial arrangement as the swap asset to which subitem 104(2) applies;
·
the requirements are under subitem 104B(1) are satisfied in relation to the liability; and
·
the head company would be the one mentioned in paragraph 104C(1)(e).

However, the head company will need to apply item 104B in relation to the forward liability, because the forward liability is not a financial arrangement of the same kind as the swap asset (see paragraph 104C(3)(c)).

Application and transitional provisions

2.88 These amendments commence on 26 March 2009, immediately after commencement of the provisions they are amending. [Clause 2, item 9 in the table]

2.89 The amendments to the TOFA consolidation interaction provisions apply to taxpayers for the same income years as the provisions they are amending. [Schedule 2, item 6]

2.90 The amendments commence and apply retrospectively because the amendments are largely technical amendments to correct parts of the law that did not give proper effect to the policy as stated in the TOFA explanatory memorandum.

2.91 The TOFA regime is a new and very complex part of the tax laws that commenced on 26 March 2009 and applies mandatorily for income years commencing on or after 1 July 2010. Shortly after its introduction, the Government made it clear that technical amendments and further integrity measures may be necessary to ensure the law operates as intended. (see the then Assistant Treasurer's Media Releases No. 103 of 4 December 2008 and No. 022 of 26 March 2009) In addition, the Government announced its intention to make retrospective legislative clarification where it became aware that the law could produce unintended outcomes (see the then Assistant Treasurer's Media Release No. 005 of 12 January 2010).

2.92 In this regard, all announced amendments to the TOFA Act (see the then Assistant Treasurers' Media Releases' No. 043 of 4 September 2009, No. 145 of 29 June 2010 and No. 019 of 29 November 2010) have retrospective effect from the start of those provisions, regardless of whether they benefited or adversely affected taxpayers.

2.93 Like the TOFA provisions, the amendments apply symmetrically to gains and losses from financial arrangements whether they are assets or liabilities. As such, the amendments may benefit or adversely affect different taxpayers, depending on their circumstances.

STATEMENT OF COMPATIBILITY WITH HUMAN RIGHTS

Prepared in accordance with Part 3 of the Human Rights (Parliamentary Scrutiny) Act 2011

Amendments to the TOFA consolidation interaction and transitional provisions

2.94 This Schedule is compatible with the human rights and freedoms recognised or declared in the international instruments listed in section 3 of the Human Rights (Parliamentary Scrutiny) Act 2011 .

Overview

2.95 Schedule 2 to this Bill amends the TOFA consolidation interaction provisions in the ITAA 1997 and the transitional provisions in the TOFA Act.

2.96 The amendments to the TOFA consolidation interaction provisions ensure that the tax treatment of financial arrangements that are part of a joining/consolidation event is consistent with the TOFA tax timing rules and that the tax treatment of liabilities that are, or are part of, a financial arrangement, takes into account changes in the value of the liability other than the repayment of the liability.

2.97 The amendments to the TOFA transitional provisions ensure that the TOFA consolidation interaction provisions apply where:

·
a joining/consolidation event occurred prior to a consolidated group starting to apply the TOFA provisions in relation to its financial arrangements; and
·
the head company has made an election to apply the TOFA provisions to its existing financial arrangements.

Human rights implications

2.98 This Schedule does not engage any of the applicable rights or freedoms.

Conclusion

2.99 This Schedule is compatible with human rights as it does not raise any human rights issues.

Assistant Treasurer, the Hon David Bradbury


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