Edited version of private ruling

Authorisation Number: 1011580768724

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Ruling

Subject: Debt Equity

Question 1

Will the shareholder loans issued by the company satisfy the debt test in section 974-20 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes. The shareholder loans will satisfy the debt test in section 974-20 of the ITAA 1997.

This ruling applies for the following periods:

Year ended 30 June 2011 to year ended 30 June 2021

Question 2

Will the ordinary shares and shareholder loans be taken together to give rise to an equity interest under subsection 974-70(2) of the ITAA 1997?

Answer

No. The ordinary shares and shareholder loans will not be taken together to give rise to an equity interest under subsection 974-70(2) of the ITAA 1997.

This ruling applies for the following periods:

Year ended 30 June 2011 to year ended 30 June 2021

Question 3

If the ordinary shares and shareholder loans are taken together to give rise to an equity interest under section 974-70(2) of the ITAA 1997, will the Commissioner determine under section 974-70(4) of the ITAA that it would be unreasonable to apply that section to the ordinary shares and shareholder loans?

Answer

Not applicable - see answer to Question 2.

This ruling applies for the following periods:

Not applicable

Question 4

Will the ordinary shares and shareholder loans issued be taken together to give rise to a debt interest under subsection 974-15(2) of the ITAA 1997?

Answer

No. The ordinary shares and shareholder loans will not be taken together to give rise to a debt interest under subsection 974-15(2) of the ITAA 1997.

This ruling applies for the following periods:

Year ended 30 June 2011 to year ended 30 June 2021

Question 5

If the ordinary shares and shareholder loans are taken together to give rise to a debt interest under section 974-15(2) of the ITAA 1997, will the Commissioner determine under section 974-15(4) of the ITAA 1997 that it would be unreasonable to apply that section to the ordinary shares and shareholder loans?

Answer

Not applicable - see answer to Question 4.

This ruling applies for the following periods:

Not applicable

Relevant facts and circumstances

Scheme description

Ordinary shares and shareholder loans are to be issued at more-or-less the same time to raise funds for a company.

The shareholder loans are to be unsecured and repayable within 10 years. The shareholder loans will be subordinated, and subject to banking covenants to ensure repayment of the loans from financial institutions take precedence, if necessary, up until the date which is 30 years after the drawdown date of the shareholder loan.

The shareholder loans will be interest-bearing at market interest rates. Interest will be payable on a half-yearly basis. Where payment of the interest is not possible, the interest will be capitalised.

Every shareholder must hold a shareholder loan for as long as any shareholder loans are outstanding. Non-shareholders are not permitted to hold shareholder loans unless and until they become shareholders. If a shareholder ceases to be a shareholder, its shareholder loan must be assigned to another shareholder (or shareholders in any proportion), unless it is repaid early.

The shareholder loans will be treated as liabilities for accounting purposes. Any repayment on the shareholder loans will be made pro rata between all shareholder loans.

Subordination terms

During the subordination period any amount payable under the loan agreement will not be payable or repayable and the lender must not demand repayment, sue for, exercise enforcement rights or commence winding up or similar proceedings in respect of any amount owing unless expressly permitted under the senior finance documents or with the consent of those senior lenders.

If and so long as repayments of the shareholder loans were not permitted, the repayment of the shareholder loans will be delayed until senior debt has been repaid. During the period of delay, interest would continue to accrue on the shareholder loans, and would be capitalised.

The shareholder loans will become immediately due and payable, to the extent unpaid, to the relevant subordinated lender on the date which is 30 years after the date that the shareholder loan was provided or advanced to the company.

Ordinary Shares

Shareholders will subscribe for ordinary shares in the company under the terms of its constitution and other relevant documents. A shareholder, in addition to receiving an allotment of ordinary shares, will be also be required to advance a shareholder loan to the company. A shareholder will be entitled to dispose of their shares in the company irrespective of whether their respective shareholder loan has been repaid prior to disposal.

Commercial rationale for restrictions on shareholder loans

The commercial rationale for restricting holders of shareholder loans to the company's shareholders is to ensure that the loans made by the independent senior lenders are considered to be less risk-exposed.

Assumptions

The company will not act as the trustee of a unit trust.

The value of the financial benefits provided by the company will exceed the value of the financial benefits received by the company when those benefits are calculated in present value terms as set out in section 974-50 of the ITAA 1997.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 974-15

Income Tax Assessment Act 1997 Section 974-20

Income Tax Assessment Act 1997 Section 974-35

Income Tax Assessment Act 1997 Section 974-55

Income Tax Assessment Act 1997 Section 974-70

Income Tax Assessment Act 1997 Section 974-130

Income Tax Assessment Act 1997 Section 974-135

Income Tax Assessment Act 1997 Section 974-155

Income Tax Assessment Act 1997 Section 974-160

Income Tax Assessment Act 1997 Section 995-1

Reasons for decision

Question One:

Will shareholder loans satisfy the debt test in section 974-20 of the (ITAA 1997)?

Answer:

Yes.

Reasoning:

(a) the scheme is a financing arrangement for the entity.

As the purpose for the issue of the shareholder loans is to raise finance for the company this requirement of the debt test is satisfied.

(b) the entity, or connected entity of the entity, receives or will receive a financial benefit or benefits under the scheme.

Under the scheme, the company will obtain a financial benefit, namely the receipt of proceeds from the shareholder loans.

(c) the entity has, or the entity and a connected entity of the entity each has, an effectively non-contingent obligation under the scheme to provide a financial benefit or benefits to one or more entities after the relevant time.

Having regard to the terms and conditions surrounding the shareholder loans, it is considered that the company has an effectively non-contingent obligation to repay the shareholder loans together with any accrued but unpaid interest in respect of that amount on the date which is 30 years after the drawdown date of the shareholder loans.

(d) it is substantially more likely than not that the benefit provided will at least equal the benefit received.

Based on the stated facts and assumptions supplied by the applicant the performance period will be taken to be 30 years and the valuation requirement of the debt test will be satisfied. Critical to the drawing of this conclusion is the assumption the applicant has asked the Commissioner to apply for the purposes of this Ruling that the value in present value terms of the financial benefits provided by the company will exceed the value received by the company whatever performance period beyond 10 years might apply.

(e) the value provided and the value received are not both nil.

As the value provided and the value received will not both be nil this requirement of the debt test will be satisfied.

Conclusion re debt test

Therefore, all the requirements of the debt test in subsection 974-20(1) of the ITAA 1997 will be satisfied in relation to shareholders loans.

Question Two

Will the ordinary shares and shareholder loans issued by the company be taken together to give rise to an equity interest in the company under subsection 974-70(2) of the ITAA 1997?

Answer:

No, they will not be taken together to give rise to an equity interest under subsection 974-70(2) of the ITAA 1997.

Reasoning:

The ordinary shares and shareholder loan satisfy the definition of related schemes pursuant to section 974-155 of the ITAA 1997.

However, the requirements of paragraph 974-70(2)(c) of the ITAA 1997 are not met as it is not reasonable to conclude, on an objective basis, that the company intended, or knew that a party to the scheme, or one of the schemes, intended the economic effects of the constituent schemes to be the same as or similar to the economic effects of an equity interest.

As paragraph 974-70(2)(c) of the ITAA !997 is not satisfied, the constituent schemes when taken together, will not give rise to an equity interest in the company.

Question 3

If the ordinary shares and shareholder loans are taken together to give rise to an equity interest under section 974-70(2) of the ITAA 1997, will the Commissioner determine under section 974-70(4) of the ITAA that it would be unreasonable to apply that section to the ordinary shares and shareholder loans?

Answer

Not applicable - see answer to Question 2.

Question Four

Will the ordinary shares and shareholder loans issued by the company be taken together to give rise to a debt interest in the company under subsection 974-15(2) of the ITAA 1997?

Answer:

No, the ordinary shares and shareholder loans will not be taken together to give rise to a debt interest under subsection 974-15(2) of the ITAA 1997.

Reasoning:

The ordinary shares and shareholder loan satisfy the definition of related schemes pursuant to section 974-155 of the ITAA 1997.

Given that the performance period may exceed ten years, the valuation of the financial benefits the company will provide and receive, is to be calculated in present value terms in accordance with subsection 974-35(1) of the ITAA 1997. Further, given that the value, when calculated in nominal terms, of the financial benefits to be provided by the company (that is, repayment of the shareholder loans with interest), will not exceed the total value of the financial benefits it receives (that is, funds from the provision of shareholder loans plus the capital provided by way of ordinary shares), it is clear that the test in 974-20(1)(d) of the ITAA 1997 will not be satisfied if the values are properly calculated using present value terms in accordance with the formula in subsection 974-50(4) of the ITAA 1997.

In conclusion, the shareholder loans and ordinary shares taken together, will not give rise to a debt interest as required by paragraph 974-15(2)(b) of the ITAA 1997, because the requirements of paragraph 974-20(1)(d) of the ITAA 1997 regarding the debt test are not satisfied.

Question 5

If the ordinary shares and shareholder loans are taken together to give rise to a debt interest under section 974-15(2) of the ITAA 1997, will the Commissioner determine under section 974-15(4) of the ITAA 1997 that it would be unreasonable to apply that section to the ordinary shares and shareholder loans?

Answer

Not applicable - see answer to Question 4.

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