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This edited version has been archived due to the length of time since original publication. It should not be regarded as indicative of the ATO's current views. The law may have changed since original publication, and views in the edited version may also be affected by subsequent precedents and new approaches to the application of the law.

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Edited version of private ruling

Authorisation Number: 1011829566044

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Ruling

Subject: Division 7A - deemed dividend - debt forgiveness

Question 1

If a company had a distributable surplus and wished to forgive a debt of a director, was the company required to issue an unfranked dividend to this director in the year of the distributable surplus?

Answer

The question is invalid as the debt was not forgiven in the 2007-08 financial year.

Question 2

If so, is the company also required to issue the same unfranked dividend to all equal shareholders?

Answer

The question is invalid as this is not a tax law question.

Question 3

Was the money borrowed in the 2007-08 financial year a deemed dividend under Division 7A of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

Yes.

This ruling applies for the following period:

2007-08 financial year

The scheme commences on:

1 July 2007

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

This description of the scheme is based on information contained in the following documents, and on the scheme being implemented according to the arrangements described in those documents:

During the 2007-08 financial year a director/shareholder of the company borrowed some money. It was not paid back before the company lodged its tax return for the financial year.

No repayments of the loan have ever been made.

The balance sheet as at 30 June 2008 indicates sufficient distributable surplus to issue an unfranked dividend.

The company has an unsigned and undated loan document relating to borrowings by the shareholder with no amounts specified.

Relevant legislative provisions

Income Tax Assessment Act 1936 section 109D
Income Tax Assessment Act 1936 section 109D(1AA)
Income Tax Assessment Act 1936 subsection 109D(3)
Income Tax Assessment Act 1936 section 109D(4)
Income Tax Assessment Act 1936 section 109N
Income Tax Assessment Act 1936 section 109Z
Income Tax Assessment Act 1936 section 245-35 to Schedule 2C
Income Tax Assessment Act 1936 subsection 245-35(1) to Schedule 2C

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 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 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 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, go to our website www.ato.gov.au 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.

Company debt forgiveness

A debt would be forgiven for the purposes of Division 7A of the Income Tax Assessment Act 1936 (ITAA 1936) when it would be forgiven under section 245-35 of Schedule 2C to the ITAA 1936. Subsection 245-35(1) of Schedule 2C of the ITAA 1936 states that a debt is forgiven when the debtor's obligation to pay the debt is released, waived or extinguished.

Action would have been required by the company directors to forgive the debt by a deed of release for example, for it to have been forgiven. A debt cannot be forgiven retrospectively.

Company loan to a shareholder

A loan, for the purpose of Division 7A, is a term defined in subsection 109D(3) of the ITAA 1936 to be an advance of money to an entity, a provision of credit to an entity, a payment of an amount for an entity, or a transaction which is a loan of money.

Where:

However if the loan is under an agreement made in writing for an interest rate that is equal to or exceeds the benchmark, and the term does not exceed 7 years for an unsecured loan, and other conditions are met, it would not be treated as a dividend (section 109N of the ITAA 1936).

The loan agreement should identify the parties, set out the terms of the loan, and be signed and dated. It can be drafted to cover loans made for a number of financial years into the future.

The loan is made at the time the amount is paid to the entity (subsection 109D(4) of the ITAA 1936).

The dividend amount is the same as the loan that has not been repaid (section 109D(1AA) of the ITAA 1936). If a private company is taken to have paid a dividend under Division 7A of the ITAA 1936 it is taken as a payment to the entity as a shareholder out of the company's profits (under section 109Z of the ITAA 1936).

An unsigned, undated document would not be accepted as a qualifying loan agreement. Therefore the amount would be treated as a deemed dividend under Division 7A in the 2007-08 financial year.

If there had been an acceptable loan agreement in place, the deemed dividend would arise when the loan repayments were not made.

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