Edited version of private ruling

Authorisation Number: 1011718880131

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Ruling

Subject: Deductions - repayment of loan principal

Question 1

Would the Borrower be able to claim an income tax deduction pursuant to section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997) for a loss or outgoing in relation to the repayment of a loan to a related entity?

Answer

No.

Question 2

Would the Borrower be able to claim an income tax deduction over five years pursuant to section 40-880 of the ITAA 1997 for business capital expenditure in relation to the loan repayment?

Answer

No.

This ruling applies for the following periods:

Year ending 30 June 2012

The scheme commences on:

Not yet commenced

Relevant facts and circumstances

The Borrower will require cash in the next 12 months to fund certain operating activities. The Lender, a related company, is expected to have some excess cash during this time.

It is proposed that some time during the 2012 financial year the Lender will lend to the Borrower approximately $100,000 (the Loan). The Loan is likely to be interest-free and unsecured.

The Borrower is currently insolvent. At the time the Loan is made the Borrower is still expected to be insolvent to the same extent.

Both the Lender and the Borrower are Australian resident taxpayers and belong to the same family group.

It is expected that the Borrower will become solvent and will eventually repay the full amount of the Loan, say within three to five years thereafter.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1 and

Income Tax Assessment Act 1997 Section 40-880.

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 1936 (ITAA 1936) is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable.

We have not fully considered the application of Part IVA of the ITAA 1936 to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

If you want us to rule on whether Part IVA of the ITAA 1936 applies we will first need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA of the ITAA 1936, go to our website and enter 'part iva general' in the search box on the top right of the page, then select: Part IVA: the general anti-avoidance rule for income tax.

Reasons for decision

While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.

Question 1

Summary

The repayment of the principal amount of a loan is not deductible under section 8-1 of the ITAA 1997.

Detailed reasoning

Section 8-1 of the ITAA 1997 allows a general deduction for losses and outgoings to the extent to which they are incurred in gaining or producing assessable income, or are necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income. However, no deduction is allowed where the outgoings are of capital, or of a capital nature.

Therefore, the repayment of the principal amount of a loan is not deductible under section 8-1 of the ITAA 1997 because it is an outgoing of a capital nature.

Question 2

Summary

The repayment of loan principal does not give rise to a deduction under section 40-880 of the ITAA 1997.

Detailed reasoning

Section 40-880 of the ITAA 1997 allows a deduction over five income years for certain business-related capital expenditure. Therefore, for expenditure to be considered for deduction under section 40-880 of the ITAA 1997, it must be capital expenditure.

However subsection 40-880(9) of the ITAA 1997 specifically denies a deduction under section 40-880 of the ITAA 1997 for an amount of expenditure you incur by way of returning an amount you have received.

Paragraphs 2.79 and 2.80 of the Explanatory Memorandum to the Tax Laws Amendment (2006 Measures No. 1) Act 2006 discuss returns of capital under section 40-880 of the ITAA 1997. They are as follows:

2.79 Some capital amounts are not considered legitimate blackhole expenditures as they comprise the transfer or distribution of funds, repayments, or do not give rise to any income tax consequences. As such, the expenditure does not represent an economic loss to the taxpayer and is not deductible. [Schedule 2, item 30, subsection 40-880(9)]

2.80 Expenditures excluded by this provision include, but are not limited to:

§ dividends paid by companies;

§ distributions by trustees;

§ margin calls;

§ payments made by a company to buy back its own shares; and

§ repayments of loan principal.

Therefore, the repayments of loan principal do not give rise to a deduction under section 40-880 of the ITAA 1997.

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