ATO Interpretative Decision

ATO ID 2005/357

Income tax

• This document incorporates revisions made since original publication. View its history and amending notices, if applicable.

Issue

Does Division 820 (the thin capitalisation provisions) of the Income Tax Assessment Act 1997 (ITAA 1997) apply to restrict the deductibility of interest incurred by an entity which was solely established for the purpose of borrowing funds for use in a debt securitisation arrangement?

Decision

No. Division 820 (the thin capitalisation provisions) of the ITAA 1997 does not apply to restrict the deductibility of interest incurred by an entity solely established for the purpose of borrowing funds for use in a debt securitisation arrangement because section 820-39 of the ITAA 1997 applies.

Facts

The taxpayer is a Limited Liability Company established in a foreign country.

The taxpayer's sole purpose is to borrow money from foreign investors to buy receivables in a securitisation arrangement.

The taxpayer's return on investment and return of investment is contingent on the recoverability of the receivables.

The taxpayer is carrying on a business.

The taxpayer is funded almost entirely by debt.

The taxpayer is wholly owned by a charitable trust.

The taxpayer is considered by Moody's to be insolvency-remote and has been rated Prime-1 being the best rating and means 'a superior ability to repay short-term debt obligations'.

Reasons for Decision

The ability of a foreign resident taxpayer to deduct interest against its Australian income is subject to the thin capitalisation provisions.

Subsection 820-39(1) of the ITAA 1997 provides that the thin capitalisation provisions do not apply to restrict the deductibility of interest incurred by a taxpayer if the conditions in subsection 820-39(3) apply. The conditions in subsection 820-39(3) are that:

(a)

the entity is one established for the purposes of managing some or all of the economic risk associated with assets, liabilities or investments (whether the entity assumes the risk from another entity or creates the risk itself); and

(b)

the total value of debt interests in the entity is at least 50% of the total value of the entity's assets; and

(c)

the entity is an insolvency-remote special purpose entity according to criteria of an internationally recognised rating agency that are applicable to the entity's circumstances.

In the present case, the taxpayer was established for the sole purpose of borrowing funds to buy receivables as part of a securitisation arrangement. As part of the arrangement, the taxpayer has assumed some or all of the economic risks associated with the underlying receivable, since the taxpayer's return is contingent on the recoverability of the receivable. In other words, at least part of the credit risk on the receivables has passed from the original debtor to the taxpayer. Thus, paragraph (a) is satisfied.

Paragraph (b) is satisfied because the taxpayer is funded almost entirely by debt through issue of short-term notes to investors.

Paragraph (c) is also satisfied because Moody's, being an internationally recognised rating agency, has considered the taxpayers to be insolvency-remote and given the taxpayers a Prime-1 rating, being the highest rating on credit worthiness.

As the taxpayers have satisfied the requirements of subsection 820-39(1) of the ITAA 1997, the thin capitalisation provisions do not apply to restrict the deductibility of interest paid in the course of their business.

Amendment History

Year of income:  Year ended 30 June 2006 Year ended 30 June 2007 Year ended 30 June 2008 Year ended 30 June 2009

Legislative References:
Income Tax Assessment Act 1997
   Division 820
   section 820-1
   section 820-39
   subsection 820-39(3)
   subsection 820-39(1)

Keywords
Inward investment vehicle
Thin capitalisation
Thin capitalisation by non residents

Siebel/TDMS Reference Number:  4795069

Business Line:  Public Groups and International

Date of publication:  23 December 2005

ISSN: 1445-2782