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Ruling

Subject: Deductibility of Guarantee

Question 1

Is Company X entitled to claim a deduction in respect of an amount paid under a guarantee under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

This ruling applies for the following periods:

1 July 2011 to 30 June 2012

The scheme commences on:

1 July 2011

Relevant facts and circumstances

Company X paid amounts to a finance company pursuant to an unconditional bankers guarantee for the floor plan for an unrelated company which defaulted on its payments.

The finance company returned sales proceeds to Company X which was included as assessable income.

The provision of the bank guarantee was in the ordinary course of business and the outgoings were linked to gaining assessable income.

Relevant legislative provisions

Income Tax Assessment Act 1997 Section 8-1

Income Tax Assessment Act 1997 Subsection 8-1(1)

Income Tax Assessment Act 1997 Subsection 8-1(2)

Reasons for decision

Taxation Ruling TR 96/23 (TR 96/23) considers the capital gains tax implications under Part IIIA of the Income Tax Assessment Act 1936 (ITAA 1936) and also to a lesser extent subsection 51(1) of the ITAA 1936 for a guarantor, together with the Part IIIA consequences for a debtor and creditor when payment is made in relation to a contract of guarantee. Among the guarantees considered by TR 96/23 is a guarantee by a company for another company's debt.

Paragraph 45 of TR 96/23 considers when a payment by a guarantor is deductible under subsection 51(1):

"A payment by a guarantor is deductible under subsection 51(1) if the giving of the guarantee, the guarantor's payment under the guarantee and the incurring of the loss or outgoing are acts done in gaining or producing assessable income or in carrying on business for that purpose - provided the loss or outgoing is not of a capital, private or domestic nature. If the payment under the guarantee is not deductible under subsection 51(1), the guarantor needs to consider whether a capital loss is incurred. That is, whether the debt which came to be owed to the guarantor on payment under the guarantee is not a 'personal-use asset.'"

In accordance with TR 96/23, Company X would be entitled to claim a deduction for the cost of paying out the guarantee if it can be shown that the loss or outgoing that you have incurred is deductible under section 8-1 of the ITAA 1997 (the replacement for subsection 51(1) of the ITAA 1936).

An expense is deductible under this section if it fits into one of the positive limbs under subsection 8-1(1) of the ITAA 1997. However, subsection 8-1(2) will preclude deductibility if the expenditure that has been incurred fits into one of the negative limbs listed in that section.

For an expense to meet the requirements of the first positive limb under subsection 8-1(1) of the ITAA 1997 it must be shown that it was incurred for the gaining or producing of assessable income.

It is considered that the outgoings incurred can be linked to the gaining or producing assessable income and in the normal course of Company X's business. As such, the outgoings will be an allowable deduction under section 8-1 of the ITAA 1997.

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