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Edited version of private ruling
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Ruling
Subject: Interest expenses
Are you entitled to a deduction for the interest you will incur on a loan that relates to the payment of your tax debt after cessation of your business?
No.
This ruling applies for the following period
Year ended 30 June 2011
Year ended 30 June 2012
Year ended 30 June 2013
The scheme commenced on
1 July 2005
Relevant facts
You operated a business as a sole trader.
Your sole trader business ceased and you continued trading under a company entity. All billings were under the company entity from this time.
Your only activity in relation to your former sole trader business after was collecting money from debtors.
You have a tax debt relating to your former sole trader business.
You plan to borrow funds to extinguish your tax liability which includes the original tax levied and interest that has accrued. You will incur interest on the borrowings.
Reasons for decision
These reasons for decision accompany the Notice of private ruling.
While these reasons are not part of the private ruling, we provide them to help you to understand how we reached our decision.
Section 8-1 of the Income Tax Assessment Act 1997 allows a deduction for all losses and outgoings to the extent to which they are incurred in gaining or producing assessable income except where the outgoings are of a capital, private or domestic nature, or relate to the earning of exempt income.
No loan existed at the time the sole trader business was being operated. Any loan would only come into existence after the sole trader business ceased.
Whether a deduction is allowable will depend on whether the occasion for incurring the interest '...is to be found in the business operations directed towards the gaining or production of assessable income generally...' (Placer Pacific Management Pty v. FC of T 95 ATC 4459; (1995) 31 ATR 253).
In this case, unlike Federal Commissioner of Taxation v. Jones (2002) 117 FCR 95; 2002 ATC 4135; (2002) 49 ATR (Jones Case) and FC of T v. Brown 99 ATC 4600; (1999) 43 ATR 1, the interest expense has no direct relationship to the previous income earning activities.
In the Jones Case the Federal Court stated:
Whether the occasion for a loss or outgoing lies in business operations so as to be deductible under s 51 or s 8-1 requires a judgment about the nexus between the loss or outgoing and the business operations; there must be "sufficient proximity" between the loss or outgoing and the business operations: FCT v Brown (1999) 43 ATR 1 at 9; 99 ATC 4600 at 4607.
In this case there is not 'sufficient proximity' as the loan would be taken out after the business ceased and would only have an indirect relationship to the previous business operations. That is, it would not arise out of the income producing activities but would be merely in respect of those activities.
The interest expenses will not be incurred in gaining or producing your assessable income but rather the occasion for the outgoing arose from the former sole trader business. The company which then commenced business is a separate legal entity from its shareholders and directors (Salomon v. A Salomon & Co Ltd (1897) AC 22) and is taxable in its own right.
In our view, the facts of your case may be distinguished from those in ATO ID 2006/269, which relates to a taxpayer currently carrying on a sole trader business. In your case, you are no longer carrying on a sole trader business and the company which now carries on the business is a separate entity.
Accordingly, you would not be entitled to a deduction for the interest incurred on a loan taken out after the sole trader business activities ceased.