Edited version of private advice

Authorisation Number: 1052118959687

Date of advice: 13 June 2023

Ruling

Subject: Income tax - capital management

Question 1

Will the Commissioner make a determination under paragraph 204-30(3)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) that a franking debit will arise in the franking account of ABC Company (ABC co.) in respect to the fully franked dividend paid by ABC co. to its shareholders (Permitted Dividend)?

Answer

No.

Question 2

Will the Commissioner make a determination under paragraph 177EA(5)(a) of the Income Tax Assessment Act 1936 (ITAA 1936) that a franking debit will arise for ABC co. in its franking account in respect of the Permitted Dividend?

Answer

No.

This ruling applies for the following period:

Year ending 30 June 20xx

The scheme commenced on:

1 July 20xx

Relevant facts and circumstances

Background

1.         ABC co. is an Australian resident for tax purposes.

2.         On XX date, ABC co. received a proposal from XYZ Company (XYZ co.) to acquire all the ordinary shares on issue in ABC co. for $XX per share in cash (Scheme of Arrangement).

3.         ABC co. and XYZ co. entered into a Scheme Deed (SD) on XX date setting out the terms and conditions of the Scheme of Arrangement.

4.         Under the proposed Scheme of Arrangement, XYZ co. would acquire 100% of the shares in ABC co., as listed on the share register on XX date (Scheme Record Date), for cash equal to $XX per ABC co. share on XX date (Implementation Date). However, the consideration payable by XYZ co. would be reduced by the cash amount of the Permitted Dividend (the net amount being the Scheme Consideration).

5.         The SD defines 'Permitted Dividend' to mean a dividend of up to $XX per ABC co. share payable by ABC co. to ABC co. shareholders.

6.         Under the Scheme of Arrangement, the Permitted Dividend was payable on the Implementation Date to ABC co. shareholders that held their shares on XX date (Permitted Dividend Record Date).

Scheme of Arrangement

7.         The Scheme of Arrangement was implemented in accordance with the SD as follows.

8.         On XX date, the Federal Court of Australia made orders:

•                that ABC co. convene a meeting of ABC co. shareholders to consider and vote on the Scheme of Arrangement (Scheme Meeting), and

•                approving the distribution of an explanatory statement providing information about the Scheme of Arrangement (Scheme Booklet) and the Notice of Scheme Meeting to ABC co. shareholders.

9.         On XX date, the Scheme Booklet was registered with the Australian Securities and Investment Commission.

10.      On XX date:

•                the Scheme Meeting was held and the requisite majority of ABC co. shareholders voted in favour of the Scheme of Arrangement, and

•                ABC co. declared that a fully franked special dividend of $XX per ABC co. share would be paid on the Implementation Date (being the Permitted Dividend).

11.      On XX date, the Federal Court of Australia made orders approving the Scheme of Arrangement.

12.      On XX date, the Scheme of Arrangement became effective and ABC co. shares were suspended from trading on the Australian Securities Exchange (ASX).

13.      On the Implementation Date:

•                ABC co. paid a fully franked special dividend of $XX per share to the ABC co. shareholders that held their ABC co. shares on the Permitted Dividend Record Date, and

•                XYZ co. paid $XX to ABC co. shareholders for each ABC co. share they held on the Scheme Record Date.

14.      On the Implementation Date, ABC co. had XX amount of ordinary shares on issue (and no other shares on issue).

15.      On XX date, ABC co. was removed from the official list of the ASX.

Permitted Dividend

16.      The Permitted Dividend consisted of a fully franked amount of $XX per ABC co. share. This included franking credits of $XX per share.

17.      At XX date, ABC co. had retained earnings of $XX. The ABC co. accounting consolidated group had retained earnings of $XX on XX date.

18.      ABC co.'s retained earnings account is not a share capital account and the Permitted Dividend payment depleted ABC co.'s retained earnings.

19.      ABC co. funded the Permitted Dividend from money borrowed under its existing debt facilities.

ABC co. dividend history

20.      The Permitted Dividend is above the usual pattern of dividends, however, it is limited by retained earnings available for distribution.

ABC co. shareholders

21.      At no time since incorporation have non-resident ABC co. shareholders owned 95% or more of the shares in ABC co. (that is, ABC co. has never been an exempting entity and it is now not a former exempting entity).

Other relevant facts

22.      The ABC co. share register currently indicates that no non-resident ABC co. shareholder (together with associates) holds a combined interest of 10% or more in ABC co. shares on issue.

Relevant legislative provisions

Income Tax Assessment Act 1936 paragraph 177EA(5)(a)

Income Tax Assessment Act 1997 paragraph 204-30(3)(a)

Reasons for decision

Question 1

Summary

The Commissioner will not make a determination under paragraph 204-30(3)(a) of the ITAA 1997 that a franking debit will arise for ABC co. in its franking account in respect of the Permitted Dividend.

Detailed reasoning

Section 204-30 of the ITAA 1997 outlines the Commissioner's power to make a determination when distributions or distributions and other benefits are streamed. Subsection 204-30(1) of the ITAA 1997 states:

This section empowers the Commissioner to make determinations if an entity streams one or more distributions (or one or more distributions and the giving of other benefits), whether in a single franking period or in a number of franking periods, in such a way that:

(a)       an imputation benefit is, or apart from this section would be, received by a member of the entity as a result of the distribution or distributions; and

(b)       the member would derive a greater benefit from franking credits than another member of the entity; and

(c)       the other member of the entity will receive lesser imputation benefits, or will not receive any imputation benefits, whether or not the other member receives other benefits.

The member that derives the greater benefit from franking credits is the favoured member. The member that receives the lesser imputation benefits is the disadvantaged member.

Subsection 204-30(3) of the ITAA 1997 outlines the nature of the determination that the Commissioner may make. Relevantly, paragraph 204-30(3)(a) of the ITAA 1997 states:

The Commissioner may make one or more of these determinations:

(a)       that a specified franking debit arises in the franking account of the entity, for a specified distribution or other benefit to a disadvantaged member;

...

A determination must be in writing.

The term 'streams' is not defined in either the ITAA 1997 or the ITAA 1936, however, the Explanatory Memorandum to the New Business Tax System (Imputation) Bill 2002 states at paragraph 3.28:

Streaming is selectively directing the flow of franked distributions to those members who can most benefit from imputation credits.

ABC co. shareholders received an imputation benefit from ABC co. when the fully franked dividend was paid to them. However, the Permitted Dividend was paid to all ABC co. shareholders on the ABC co. shareholder register on the Permitted Dividend Record Date and was fully franked irrespective of the tax characteristics of each shareholder.

Accordingly, it cannot be said that ABC co. selectively directed the flow of franked dividends to those members who obtained the most benefit from the franking credits.

Having regard to the relevant circumstances, it is reasonable to conclude that ABC co. did not 'stream' imputation benefits to any ABC co. shareholders.

As the conditions in subsection 204-30(1) of the ITAA 1997 are not met, the Commissioner will not make a determination under paragraph 204-30(3)(a) of the ITAA 1997.

Question 2

Summary

The Commissioner will not make a determination under paragraph 177EA(5)(a) of the ITAA 1936 that a franking debit will arise for ABC co. in its franking account in respect of the Permitted Dividend.

Detailed reasoning

Section 177EA of the ITAA 1936 is a general anti-avoidance provision that applies to franking credit trading schemes where one of the purposes (other than an incidental purpose) of the scheme is to obtain a franking credit benefit. Subsection 177EA(3) of the ITAA 1936 states:

This section applies if:

(a)       there is a scheme for a disposition of membership interests, or an interest in membership interests, in a corporate tax entity; and

(b)       either:

(i)         a frankable distribution has been paid, or is payable or expected to be payable, to a person in respect of the membership interests; or

(ii)        a frankable distribution has flowed indirectly, or flows indirectly or is expected to flow indirectly, to a person in respect of the interest in membership interests, as the case may be; and

(c)       the distribution was, or is expected to be, a franked distribution or a distribution franked with an exempting credit; and

(d)       except for this section, the person (the relevant taxpayer) would receive, or could reasonably be expected to receive, imputation benefits as a result of the distribution; and

(e)       having regard to the relevant circumstances of the scheme, it would be concluded that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for a purpose (whether or not the dominant purpose but not including an incidental purpose) of enabling the relevant taxpayer to obtain an imputation benefit.

Subsection 177EA(4) of the ITAA 1936 explains that, for the purposes of paragraph 177EA(3)(e) of the ITAA 1936, it should not be concluded that a person entered into or carried out a scheme for a purpose mentioned in that paragraph merely because the person acquired membership interests, or an interest in membership interests, in the entity.

If section 177EA of the ITAA 1936 applies, subsection 177EA(5) of the ITAA 1936 gives the Commissioner the power to make either of the following determinations:

(a)       if the corporate tax entity is a party to the scheme, a determination that a franking debit or exempting debit of the entity arises in respect of each distribution made to the relevant taxpayer or that flows indirectly to the relevant taxpayer;

(b)       a determination that no imputation benefit is to arise in respect of a distribution or a specified part of a distribution that is made, or that flows indirectly, to the relevant taxpayer.

The requirements of subsection 177EA(3) of the ITAA 1936 are considered below.

Paragraph 177EA(3)(a) - Scheme of disposition of membership interests

The term 'scheme of disposition' is defined in subsection 177EA(14) of the ITAA 1936 and includes entering into any contract, arrangement, transaction or dealing that changes or otherwise affects the legal or equitable ownership of the membership interests or interest in membership interests.

Subsection 995-1(1) of the ITAA 1997 defines 'membership interest' in an entity as having the meaning given by section 960-135 of the ITAA 1997, which states:

If you are a member of an entity:

(a)       each interest, or set of interests, in the entity; or

(b)       each right, or set of rights, in relation to the entity;

by virtue of which you are a member of the entity is a membership interest of yours in the entity.

Subsection 960-130(1) of the ITAA 1997 provides a table that sets out what constitutes a member of various entities. Item 1 is relevant to this circumstance and states that for a company, a member is a member of the company or a stockholder in the company.

Section 960-115 of the ITAA 1997 provides that a company is a 'corporate tax entity'.

The ordinary shares in ABC co. are membership interests in a corporate tax entity and the Scheme of Arrangement is a 'scheme of disposition' as it involved the ABC co. shareholders disposing of their ABC co. shares to XYZ co.

Therefore, this requirement is satisfied.

Paragraph 177EA(3)(b) - Frankable distribution

Subsection 6(1) of the ITAA 1936 defines 'frankable distribution' as having the same meaning as in the ITAA 1997. Subsection 995-1(1) of the ITAA 1997 provides that it has the meaning given by section 202-40 of the ITAA 1997, which provides that a distribution is a frankable distribution to the extent it is not unfrankable under section 202-45 of the ITAA 1997.

Section 202-45 of the ITAA 1997 states:

The following are unfrankable:

(a)       (Repealed by No 101 of 2003)

(b)       (Repealed by No 53 of 2015)

(c)       where the purchase price on the buy-back of a share by a company from one of its members is taken to be a dividend under section 159GZZZP of that Act - so much of that purchase price exceeds what would be the market value (as normally understood) of the share at the time of the buy-back if the buy-back did not take place and were never proposed to take place;

(d)       a distribution in respect of a non-equity share;

(e)       a distribution that is sourced, directly or indirectly, from a company's share capital account;

(f)        an amount that is taken to be an unfrankable distribution under section 215-10 or 215-15;

(g)       an amount that is taken to be a dividend for any purpose under any of the following provisions:

(i)         unless subsection 109RB(6) or 109RC(2) applies in relation to the amount - Division 7A of Part III of that Act (distributions to entities connected with a private company);

(ii)        (Repealed by No 79 of 2007)

(iii)      section 109 of that Act (excessive payments to shareholders, directors and associates);

(iv)      section 47A of that Act (distribution benefits - CFCs);

(h)       an amount that is taken to be an unfranked dividend for any purpose:

(i)         under section 45 of that Act (streaming bonus shares and unfranked dividends);

(ii)        because of a determination of the Commissioner under section 45C of that Act (streaming dividends and capital benefits);

(i)         a demerger dividend;

(j)         a distribution that section 152-125 or 220-105 says is unfrankable.

Each item listed in section 202-45 of the ITAA 1997 are considered below.

Paragraph 202-45(c)

ABC co. will not buy back any of its shares under the SD or in any other circumstances. As such, paragraph 202-45(c) of the ITAA 1997 does not apply.

Paragraph 202-45(d)

Subsection 995-1(1) of the ITAA 1997 defines 'non-equity share' as a share that is not an equity interest in the company.

ABC co. does not have any non-equity shares on issue. ABC co. only has ordinary shares on issue. As such, paragraph 202-45(d) of the ITAA 1997 does not apply.

Paragraph 202-45(e)

ABC co. paid the Permitted Dividend from its retained earnings account, which does not meet the definition of a share capital account as provided in section 975-300 of the ITAA 1997. As such, paragraph 202-45(e) of the ITAA 1997 does not apply.

Paragraph 202-45(f)

Section 215-10 of the ITAA 1997 applies where non-share dividends are paid by authorised deposit taking institutions and section 215-15 of the ITAA 1997 applies to non-share dividends that are paid by corporate tax entities that do not have frankable profits available.

As set out above, ABC co. paid the Permitted Dividend to shareholders that held ordinary shares in ABC co. as at the Permitted Dividend Record Date. The Permitted Dividend is not a non-share dividend. As such, paragraph 202-45(f) of the ITAA 1997 does not apply.

Paragraph 202-45(g)

Division 7A of the ITAA 1936 applies to private companies. ABC co. was not a private company when the Permitted Dividend was paid. As such, subsections 109RB(6) and 109RC(2) of the ITAA 1936 do not apply.

Section 47A of the ITAA 1936 applies to controlled foreign companies (CFCs). ABC co. is not a CFC. Therefore, section 47A of the ITAA 1936 does not apply.

Therefore, paragraph 202-45(g) of the ITAA 1997 does not apply.

Paragraph 202-45(h)

Section 45 of the ITAA 1936 applies where a company streams the provisions of shares and the payment of minimally franked dividends to its shareholders in such a way that only some shareholders receive the shares and / or minimally franked dividends.

Section 45A of the ITAA 1936 concerns the streaming of dividends and capital benefits to some shareholders and allows the Commissioner to make a determination that section 45C of the ITAA 1936 applies.

ABC co. paid the Permitted Dividend to all ABC co. shareholders who held ABC co. shares on the Permitted Dividend Record Date, proportionately and without having regard to the circumstances of any particular shareholder. Accordingly, it is reasonable to conclude that there was no streaming for the purposes of both sections 45 and 45A of the ITAA 1936.

Section 45B of the ITAA 1936 also enables the Commissioner to make a determination under section 45C of the ITAA 1936 and is aimed at schemes to provide capital benefits that are made in substitution for dividends.

As the Permitted Dividend is a dividend, section 45B of the ITAA 1936 is not relevant.

Therefore, paragraph 202-45(h) of the ITAA 1997 does not apply.

Paragraph 202-45(i)

Subsection 995-1(1) of the ITAA 1997 provides that 'demerger dividend' has the meaning given by subsection 6(1) of the ITAA 1936, which states:

Demerger dividend means that part of a demerger allocation that is assessable as a dividend under subsection 44(1) or that would be so assessable apart from subsections 44(3) and (4).

As ABC co. have not undertaken a demerger, the Permitted Dividend is not a 'demerger dividend'. As such, paragraph 202-45(i) of the ITAA 1997 is not relevant.

Paragraph 202-45(j)

Section 152-125 of the ITAA 1997 applies to small businesses and section 220-105 of the ITAA 1997 applies to New Zealand franking companies.

ABC co. is neither a small business nor a New Zealand Franking company. As such, paragraph 202-45(j) of the ITAA 1997 is not relevant.

For the reasons set out above, it is reasonable to conclude that the Permitted Divided was a frankable distribution.

Therefore, it is expected that this requirement will be satisfied.

Paragraph 177EA(3)(c) - Franked distribution

The Permitted Dividend was a fully franked distribution.

Therefore, this requirement is satisfied.

Paragraph 177EA(3)(d) - Imputation benefits

Paragraph 177EA(3)(d) of the ITAA 1936 requires that but for the application of section 177EA of the ITAA 1936, the person (being the relevant taxpayer) has received, or could reasonably be expected to have received, imputation benefits as a result of the distribution.

Subsection 177EA(16) of the ITAA 1936 outlines when an 'imputation benefit' is received and states:

A taxpayer to whom a distribution flows directly receives an imputation benefit as a result of the distribution if:

(a)       the taxpayer is entitled to a tax offset under Division 207 of the Income Tax Assessment Act 1997 as a result of the distribution; or

(b)       where the taxpayer is a corporate tax entity - a franking credit would arise in the franking account of the taxpayer as a result of the distribution.

Note: where the distribution is made directly to the taxpayer, see subsection 204-30(6) of the Income Tax Assessment Act 1997 for a definition of imputation benefit.

Subsection 204-30(6) of the ITAA 1997 further states:

A member of an entity receives an imputation benefit as a result of a distribution if:

(a)        the member is entitled to a tax offset under Division 207 as a result of the distribution; or

(b)        an amount would be included in the member's assessable income as a result of the distribution because of the operation of section 207-35; or

(c)         a franking credit would arise in the franking account of the member as a result of the distribution; or

(d)        an exempting credit would arise in the exempting account of the member as a result of the distribution; or

(e)        the member would not be liable to pay withholding tax on the distribution, because of the operation of paragraph 128B(3)(ga) of the Income Tax Assessment Act 1936; or

(f)         the member is entitled to a tax offset under section 210-170 as a result of the distribution.

It is expected that a large proportion of ABC co. shareholders received imputation benefits as defined in subsection 204-30(6) of the ITAA 1997 where a distribution is made directly to the taxpayer, and as defined in subsection 177EA(16) of the ITAA 1936 where a distribution flows indirectly to a taxpayer. This is due to resident ABC co. shareholders being entitled to a franking credit tax offset under Division 207 of the ITAA 1997 as a result of the Permitted Dividend, and non-resident ABC co. shareholders not being liable to pay withholding tax on the Permitted Dividend in accordance with paragraph 128B(3)(ga) of the ITAA 1936.

Therefore, this paragraph is satisfied as but for the operation of section 177EA of the ITAA 1936, ABC co. shareholders would receive the franking credits attached to the Permitted Dividend.

Paragraph 177EA(3)(e) - Purpose to obtain an imputation benefit

The 'relevant circumstances' of a scheme that must be considered for the purposes of paragraph 177EA(3)(d) of the ITAA 1936 are set out in subsection 177EA(17) of the ITAA 1936, which states:

The relevant circumstances of a scheme include the following:

(a)  the extent and duration of the risks of loss, and the opportunities for profit or gain, from holding membership interests, or having interests in membership interests, in the corporate tax entity that are respectively borne by or accrue to the parties to the scheme, and whether there has been any change in those risks and opportunities for the relevant taxpayer or any other party to the scheme (for example, a change resulting from the making of any contract, the granting of any option or the entering into of any arrangement with respect to any membership interests, or interests in membership interests, in the corporate tax entity);

(b)  whether the relevant taxpayer would, in the year of income in which the distribution is made, or if the distribution flows indirectly to the relevant taxpayer, in the year in which the distribution flows indirectly to the relevant taxpayer, derive a greater benefit from franking credits than other entities who hold membership interests, or have interests in membership interests, in the corporate tax entity;

(c)   whether, apart from the scheme, the corporate tax entity would have retained the franking credits or exempting credits or would have used the franking credits or exempting credits to pay a franked distribution to another entity referred to in paragraph (b);

(d)  whether, apart from the scheme, a franked distribution would have flowed indirectly to another entity referred to in paragraph (b);

(e)  if the scheme involves the issue of a non-share equity interest to which section 215-10 of the Income Tax Assessment Act 1997 applies - whether the corporate tax entity has issued, or is likely to issue, equity interests in the corporate tax entity:

(i)    that are similar, from a commercial point of view, to the non-share equity interest; and

(ii)   distributions in respect of which are frankable;

(f)    whether any consideration paid or given by or on behalf of, received by or on behalf of, the relevant taxpayer in connection with the scheme (for example, the amount of any interest on a loan) was calculated by reference to the imputation benefits to be received by the relevant taxpayer;

(g)  whether a decision is allowable or a capital loss is incurred in connection with a distribution that is made or that flows indirectly under the scheme;

(ga) whether a distribution that is made or that flows indirectly under the scheme to the relevant taxpayer is sourced, directly or indirectly, from unrealised or untaxed profits;

(h)  whether a distribution that is made or that flows indirectly under the scheme to the relevant taxpayer is equivalent to the receipt by the relevant taxpayer of interest or of an amount in the nature of, or similar to, interest;

(i)    the period for which the relevant taxpayer held membership interests, or had an interest in membership interests, in the corporate tax entity;

(j)    any of the matters referred to in subsection 177D(2).

Each of the relevant circumstances in subsection 177EA(17) of the ITAA 1936 are considered below to establish whether they incline toward or against a not incidental purpose of enabling the relevant taxpayer to obtain an imputation benefit (Requisite Purpose).

Paragraph 177EA(17)(a) - risk

This circumstance requires consideration of whether there has been any change in the risks and opportunities for the ABC co. shareholders arising from holding the ABC co. shares.

The Explanatory Memorandum to the Taxation Laws Amendment Bill (No. 3) 1998 (Explanatory Memorandum), which introduced the original version of section 177EA, states at paragraphs 8.80 to 8.82:

8.80 The extent to which the person receiving a dividend is exposed to the risks and opportunities of owning shares or an interest in shares, or another person is so exposed, is a relevant factor....

8.81 For example, a taxpayer who buys a put option on shares (which provides the right but not the obligation to sell for a stipulated price on or before a specific date) will have diminished risk with respect to the shares because the taxpayer will have guaranteed the sale price of the shares and will be indifferent to falls in the market price of the shares.

8.82 The incidence of risk is a strong pointer to where real ownership of the shares lies. The risks and opportunities of share ownership may be removed or altered, among other ways, by entering into a derivative (for example, a futures contract or an option). For example, where the value of a derivative contract of a shareholder varies inversely with the value of the shareholder's shares, to the extent of the inverse variation, the effect is to pass the risks and opportunities of holding the share to the counterparty under the contract. By using derivatives the risks and opportunities of share ownership can be reduced to nothing, or to any fraction of the ordinary exposure (or even increased). Generally, the greater the risk borne by the taxpayer receiving the franking credit benefit, the less likely it is that the requisite purpose is present.

As owners of the shares in ABC co., the ABC co. shareholders would have been exposed to risks and opportunities, the duration of which coinciding with the periods of their ownership of the shares.

However, as the ABC co. shares were listed on the ASX, it is not possible to know, and ABC co. is not aware of, whether any of the ABC co. shareholders entered into derivative contracts or hedged their position to minimise the risks and opportunities associated with holding the ABC co. shares.

Accordingly, it is reasonable to conclude that this circumstance does not incline toward ABC co. entering into the Scheme of Arrangement for the Requisite Purpose.

Paragraph 177EA(17)(b) - derive a greater benefit

This circumstance requires consideration of whether the relevant taxpayer, being an ABC co. shareholder, derived a greater benefit from franking credits than other entities, being the other ABC co. shareholders.

The Permitted Dividend was paid to all ABC co. shareholders based on their ownership of ABC co. shares on the Permitted Dividend Record Date. Whilst resident ABC co. shareholders derived a greater benefit from franking credits than non-resident ABC co. shareholders, the entitlement to the Permitted Dividend did not depend on whether the ABC co. shareholder was a resident or non-resident.

It is therefore reasonable to conclude that this circumstance does not incline toward the Requisite Purpose.

Paragraphs 177EA(17)(c) and (d) - use of franking credits apart from the scheme

This circumstance requires consideration of where, apart from the scheme, the corporate tax entity would have retained the franking credits or used them to pay a franked distribution to another entity, or the franked distribution would have flowed to another entity.

Apart from the scheme constituted by the payment of the Permitted Dividend as per the Scheme of Arrangement, the Permitted Dividend would not have been paid to ABC co. shareholders. Rather, it is expected that ABC co. would have instead retained the franking credits which may have then flown to future ABC co. shareholders.

Accordingly, the circumstances in paragraphs 177EA(c) and (d) of the ITAA 1936 incline towards the existence of the Requisite Purpose.

Paragraph 177EA(17)(e) - non-share equity interests

This circumstance is not relevant as the Scheme of Arrangement did not involve the issue of a non-share equity interest.

Paragraph 177EA(17)(f) - calculation of scheme consideration

This circumstance looks at whether any consideration paid to the ABC co. shareholders in connection with the Scheme of Arrangement was calculated by reference to the imputation benefits received by the ABC co. shareholders.

The Scheme Consideration paid by XYZ co. to the ABC co. shareholders was reduced by the cash amount of the Permitted Dividend and was not reduced or otherwise affected by the imputation benefits that ABC co. shareholders received.

Accordingly, it is reasonable to conclude that this circumstance does not incline towards the existence of the Requisite Purpose.

Paragraph 177EA(17)(g) - deduction or capital loss

This circumstance requires consideration of whether a deduction is allowable, or a capital loss is incurred in connection with a distribution that is made or that flows indirectly under the Scheme of Arrangement.

The Explanatory Memorandum states at paragraph 8.89:

In some schemes the franking credit benefit is captured by matching the franked dividend or distribution with an associated allowable deduction or capital loss. The deduction or loss in effect relieves the dividend or distribution from tax, enabling the franking rebate or franking credit to be used to shelter other income from tax. Accordingly, it is relevant to note whether there is an associated allowable deduction or capital loss under the scheme.

As ABC co. shares were listed on the ASX and widely held, it is reasonable to conclude that ABC co. would not have been aware of the tax profiles of each ABC co. shareholder. ABC co. is not aware of any of its shareholders entering into any arrangements that attempt to utilise the franking credit attached to the Permitted Dividend to shelter other income from tax.

Therefore, it is reasonable to conclude that this circumstance does not incline towards the existence of the Requisite Purpose.

Paragraph 177EA(17)(ga) - unrealised or untaxed profits

This circumstance requires consideration of whether the Permitted Dividend is sourced from unrealised or untaxed profits.

The Permitted Dividend was sourced from ABC co.'s realised profits and funded by ABC co.'s existing debt facilities. The Permitted Dividend was not sourced from any unrealised or untaxed profits.

Therefore, it is reasonable to conclude that this circumstance does not incline towards the existence of the Requisite Purpose.

Paragraph 177EA(17)(h) - interest

This circumstance requires consideration of whether the Permitted Dividend is equivalent to the receipt by the ABC co. shareholder of interest or of an amount in the nature of, or similar to, interest.

The Permitted Dividend that was paid to ABC co. shareholders was paid as a result of their status as a shareholder and did not constitute a payment of interest, or an amount in the nature of interest.

Therefore, it is reasonable to conclude that this circumstance does not incline towards the existence of the Requisite Purpose.

Paragraph 177EA(17)(i) - length of ownership

This circumstance requires consideration of the length of time that ABC co. shareholders have owned the ABC co. shares.

Other than the length of the maximum possible ownership, the length of time that ABC co. shareholders owned their shares is likely to vary significantly. As such, whilst it may be possible there may be some shareholders that acquired their ABC co. shares following the announcement of the Scheme of Arrangement, given that ABC co. was a widely held public company and the Permitted Dividend was paid to all ABC co. shareholders, it is reasonable to accept that ABC co. has not taken into account each shareholder's particular circumstances.

Accordingly, it is reasonable to conclude that this circumstance does not incline towards the existence of the Requisite Purpose.

Paragraph 177EA(17)(j) - subsection 177D(2) of the ITAA 1936

The matters listed in subsection 177D(2) of the ITAA 1936 include:

(a)  the manner in which the scheme was entered into or carried out;

(b)  the form and substance of the scheme;

(c)   the time at which the scheme was entered into and the length of the period during which the scheme was carried out;

(d)  the result in relation to the operation of this Act that, but for this Part, would be achieved by the scheme;

(e)  any change in the financial position of the relevant taxpayer that has resulted, will result, or may reasonably be expected to result, from the scheme;

(f)    any change in the financial position of any person who has, or has had, any connection (whether of a business, family or other nature) with the relevant taxpayer, being a change that has resulted, will result of may reasonably be expected to result, from the scheme;

(g)  any other consequence for the relevant taxpayer, or for any person referred to in paragraph (f), of the scheme having been entered into or carried out;

(h)  the nature of any connection (whether of a business, family or other nature) between the relevant taxpayer and any person referred to in paragraph (f).

Each matter referred to in subsection 177D(2) of the ITAA 1936 is considered below:

•                The manner in which the scheme was entered into and carried out was consistent with other commercial transactions of a similar nature. Specifically, the shares in ABC co. were sold under the Scheme of Arrangement, just before which the Permitted Dividend was paid (as permitted by the SD). Therefore, paragraph 177D(2)(a) of the ITAA 1936 does not incline for the Requisite Purpose.

•                It is considered that the form and substance of the scheme were consistent as the Permitted Dividend was paid to the ABC co. shareholders. Accordingly, paragraph 177D(2)(b) of the ITAA 1936 does not incline for the Requisite Purpose.

•                In relation to the time at which the scheme was entered into and length of the period during which the scheme was carried out, as the Permitted Dividend was paid just before the transfer of shares in ABC co. under the Scheme of Arrangement, it is considered that there is no evidence to suggest that the scheme was designed to take advantage of events or changes of a tax nature, or that its timing was dictated by anything other than ABC co.'s commercial imperatives. As such, paragraph 177D(2)(c) of the ITAA 1936 does not incline for the Requisite Purpose.

•                But for the operation of section 177EA of the ITAA 1936, a resident ABC co. shareholder would include the franking credits attached to the Permitted Dividend in its assessable income and be entitled to the corresponding tax offset pursuant to Division 207 of the ITAA 1997, and a non-resident ABC co. shareholder would be exempt from dividend withholding tax. Accordingly, it is considered that paragraph 177D(2)(d) of the ITAA 1936 does incline for Requisite Purpose.

•                The financial position of the ABC co. shareholders, as the relevant taxpayers, has changed as a result of the scheme as the ABC co. shareholders received the Scheme Consideration, which included the Permitted Dividend, and have ceased to own their ABC co. shares. Whilst it is likely the ABC co. shareholders are in a better financial position overall; this is largely due to the premium that XYZ co. paid to acquire the ABC co. shares. Accordingly, it is considered that paragraph 177D(2)(e) of the ITAA 1936 does not incline for the Requisite Purpose.

•                The financial position of ABC co. has also changed as a result of the scheme as it is depleted of cash equivalent to the amount of the Permitted Dividend, which is an outcome consistent with transactions of this nature. Therefore, it is considered that paragraph 177D(2)(f) of the ITAA 1936 does not incline for the Requisite Purpose.

•                It is considered that there are no other relevant consequences which have arisen from the scheme for the relevant taxpayers or any other person. As such, paragraph 177D(2)(g) of the ITAA 1936 does not incline for the Requisite Purpose.

•                ABC co. shareholders have a business connection with ABC co. and paragraph 177D(2)(h) of the ITAA 1936 does not incline for the Requisite Purpose.

Having regard to the relevant circumstances of the scheme, it is reasonable to conclude that the scheme was not entered into for the Requisite Purpose.

Therefore, the Commissioner will not make a determination under paragraph 177EA(5)(a) of the ITAA 1936 that a franking debit will arise for ABC co. in its franking account in respect of the Permitted Dividend.

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