Edited version of your private ruling

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Ruling

Subject: Income Tax: Deemed Dividend - Deceased estate

Question 1

Where a loan is made by a private company to a shareholder and the shareholder subsequently dies, is the loan deemed to be a dividend to the executor of the estate of the shareholder under Division 7A of the Income Tax Assessment Act 1936 (ITAA 1936) where the loan was not repaid and no repayments were made subsequent to death of the shareholder?

Answer

No

Question 2

Where the loan is forgiven by the private company prior to the granting of probate, is the forgiven loan deemed to be a dividend under Division 7A of the ITAA 1936 to the executor of the estate of the shareholder?

Answer

No

Question 3

Where the loan is forgiven by the private company after the granting of probate, is the forgiven loan deemed to be a dividend under Division 7A of the to the executor of the estate of the shareholder?

Answer

Yes

This ruling applies for the following periods

Financial year ended 30 June 20ZZ

The scheme commences on

1 July 20YY

Relevant facts and circumstances

A private company was owned as follows:

· Mr X (the deceased) - 50%

· Mrs X - 50%

The private company made loans to Mr and Mrs X on or after 1 July 2009 (whilst Mr X was still alive). The loan meets the minimum interest rate and maximum term criteria contained in section 109N of the ITAA 1936.

The private company is registered in New South Wales (NSW) and owns assets in NSW.

Mr X passed away in January 20ZZ

Probate on the estate is yet to be granted.

Probate will be sought in NSW under section 33 of the Wills, Probate and Administration Act 1898 (NSW).

Mr G has been named as the executor in Mr X's will, Mr G is not an associate of Mr or Mrs X (for the purposes of section 318 of the ITAA 1936).

Relevant legislative provisions

Income Tax Assessment Act 1936 section 109D

Income Tax Assessment Act 1936 section 109E

Income Tax Assessment Act 1936 section 109F

Income Tax Assessment Act 1936 section 109N

Income Tax Assessment Act 1936 section 109Y

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

Question 1

Subsection 109E(1) of the ITAA 1936 provides:

109 E(1) Amalgamated loan treated as a dividend in first year in which payment is less than minimum yearly repayment. A private company is taken to pay a dividend to an entity at the end of one of the private company's years of income (the current year) if:

a) the private company made an amalgamated loan to the entity in an earlier year of income; and

b) the amalgamated loan is not repaid at the end of the current year; and

c) the amount (if any) paid to the private company during the current year in relation to the amalgamated loan falls short of the minimum yearly repayment of the amalgamated loan worked out under subsection (5) for the current year; and

d) section 109Q does not apply in relation to the current year.

Note: The amalgamated loan does not give rise to a dividend for that year if the minimum yearly repayment is not made and the entity satisfies the Commissioner that treating the loan as a dividend would cause hardship. See section 109Q.

Under this provision if an entity makes payments in respect of the loan that are less than the minimum yearly repayment, a potential deemed dividend will arise equal to the difference between the minimum yearly repayment and the amount actually paid.

According to Interpretative Decision ATO ID 2002/741 the entity to whom the private company is taken to have paid the dividend must be the same entity to whom the private company made the amalgamated loan.

In the circumstances of this case, for subsection 109E(1) of the ITAA 1936 to potentially apply, the private company would need to have made the loan to the executors of the deceased estate. However as the private company actually made the loan to the shareholder (Mr X) during his lifetime, the executors of his deceased estate are not treated as having received a deemed dividend in respect of the amalgamated loans if they do not make minimum yearly repayments in respect of the loans.

Question 2

Under subsection 109F(1) of the ITAA 1936 a private company is taken to pay a dividend to an entity at the end of the private company's year of income if all or part of a debt the entity owed the private company is forgiven in that year and either:

a) the amount is forgiven when the entity is a shareholder in the private company, or an associate of such a shareholder; or

b) a reasonable person would conclude (having regard to all the circumstances) that the amount is forgiven because the entity has been such a shareholder or associate at some time.

If a private company forgives an amount of debt resulting from a constituent loan taken into account in working out the amount of an amalgamated loan under subsection 109E(3) of the ITAA 1936 the private company is taken to forgive the same amount of debt resulting from the amalgamated loan under subsection 109F(7) f the ITAA 1936.

Under subsection 109F(2) of the ITAA 1936 the amount of the dividend is equal to the amount of debt forgiven, subject to the private company's distributable surplus as calculated under section 109Y of the ITAA 1936.

Following the Grant of Probate of the individual's will, section 44 of the Probate and Administration Act 1898 (NSW ) deems all real and personal property of the deceased (including title to the shares) to have passed to and become vested in the executor as from the death of the individual.

As the title to the shares in the private company passed to the deceased's legal personal representative upon the death, the legal personal representative is the relevant shareholder for the purposes of paragraph 109F(1)(a) of the ITAA 1936.

However, as explained above, ATO ID 2002/741 states that:

The entity to whom the private company is taken to have paid the dividend must be the same entity to whom the private company made the amalgamated loan.

For subsection 109E(1) of the ITAA 1936 to apply, the private company must have made the loan to the executor of the deceased estate.

As the private company made the loan to the shareholder, the executor of the shareholder's deceased estate is not treated as having received a deemed dividend in respect of the amalgamated loan.

Accordingly, when the loan is forgiven by the private company prior to the granting of probate, the forgiven loan is not considered as deemed dividend to the executor of the shareholder.

Question 3

For the purposes of Division 7A of Part III of the ITAA 1936, an amalgamated loan is taken to have been made during an income year if a private company makes a constituent loan, or loans, to an entity during the income year which:

(a) are not fully repaid before the company's lodgement day for the year,

(b) would cause the company to be taken under section 109D of the ITAA 1936 to pay a dividend to the entity at the end of the year, apart from section 109N of the ITAA 1936, and

(c) have the same maximum term for the purposes of section 109N of the ITAA 1936 (subsection 109E(3) of the ITAA 1936).

Because the loan made by the private company to the shareholder satisfied the conditions in subsection 109E(3) of the ITAA 1936, it is taken to be an amalgamated loan for the purposes of Division 7A of Part III of the ITAA 1936.

Repayments made in respect of the loan are taken to be repayments made in relation to the amalgamated loan under subsection 109E(4) of the ITAA 1936.

Under subsection 109F(1) of the ITAA 1936 a private company is taken to pay a dividend to an entity at the end of the private company's year of income if all or part of a debt the entity owed the private company is forgiven in that year and either:

(a) the amount is forgiven when the entity is a shareholder in the private company, or an associate of such a shareholder; or

(b) a reasonable person would conclude (having regard to all the circumstances) that the amount is forgiven because the entity has been such a shareholder or associate at some time.

If a private company forgives an amount of debt resulting from a constituent loan taken into account in working out the amount of an amalgamated loan under subsection 109E(3) of the ITAA 1936, the private company is taken to forgive the same amount of debt resulting from the amalgamated loan under subsection 109F(7) of the ITAA 1936.

Under subsection 109F(2) of the ITAA 1936 the amount of the dividend is equal to the amount of debt forgiven, subject to the private company's distributable surplus as calculated under section 109Y of the ITAA 1936.

Following the Grant of Probate of the individual's will, section 44 of the Probate and Administration Act 1898 (NSW) deems all real and personal property of the deceased (including title to the shares) to have passed to and become vested in the executor as from the death of the individual.

The deceased's property (including title to the shares) is held absolutely by the legal personal representative for the duration of the administration of the shareholder's estate: Official Receiver In Bankruptcy v. Schultz [1990] HCA 45; (1990) 170 CLR 306.

Following the Grant of Probate, the legal personal representative immediately assumes liability to pay the deceased's debts (including the debt owed by the deceased to the private company (the amalgamated loan)): Certoma, GL 2010, The Law of Succession in New South Wales, 4th edn Thomson Reuters, Sydney, p. 304.

As the title to the shares in the private company passed to the deceased's legal personal representative upon the death of the shareholder, the legal personal representative is the relevant shareholder for the purposes of paragraph 109F(1)(a) of the ITAA 1936 .

By forgiving the debt owed by the legal personal representative of Mr X, the private company would be taken to have paid a dividend to the legal personal representative shareholder in the income year in which the forgiveness occurs.