Edited version of your private ruling

Authorisation Number: 1012567405018

Ruling

Subject: Continuity of Ownership, Capital Gain Event L3 and Debt Forgiveness

Issue 1

Question

Will the Acquisition of the XYZ Preference Securities result in XYZ failing the same owners test in section 165-12 of the Income Tax Assessment Act 1997 ("ITAA 1997")?

Answer

No

Issue 2

Question

Does section 705-27 of the ITAA 1997 reduce the tax cost setting amount of XYZ LLC's ("LLC") retained cost base assets, comprising the New Subordinated Loan Notes and Accrued Interest Receivable on the New Subordinated Loan Notes, and thus reduce the capital gain under CGT event L3 upon LLC's entry into the XYZ income tax consolidated group?

Answer

Yes

Issue 3

Question

Are the New Subordinated Loan Notes between XYZ and LLC forgiven for the purposes of Division 245 of the ITAA 1997 upon LLC joining the XYZ income tax consolidated group?

Answer

No

This ruling applies for the following period:

Income year ended 30 June 2014

The scheme commences on:

Income year starting 1 July 2013

Relevant facts

This Ruling is based on the information, relevant facts and assumptions provided by the Applicant.

1. XYZ Limited ("XYZ") is an Australian listed public company and the head company of the XYZ income tax consolidated group ("XYZ Tax Group").

2. The XYZ Trust is a special purpose trust which was established to raise funds for the XYZ group and its financing structure are set out below:

· The XYZ Trust is a public unit trust that was settled with the issue of a single ordinary unit with a face value of $X held by XYZ.

· Subsequently, other units in the XYZ Trust called XYZ Preference Securities were issued to the value of $XX million.

· As part of the establishment of the composite Trust financing structure, XYZ LLC ("LLC"), a limited liability company, was established under Delaware law in the United States of America. LLC is treated as transparent for United States federal tax purposes.

· On establishment of LLC, XYZ invested $X to subscribe for one class of common limited liability company interests in LLC ("LLC Common Share"). The LLC Common Share carries 100% of the voting and management rights in LLC. The LLC Common Share gives XYZ the right to appoint the Board of Directors of LLC which has absolute discretion over any distribution made by LLC.

· Post establishment of LLC, XYZ Trust used the proceeds from the issue of XYZ Preference Securities to subscribe for the preference shares in LLC ("LLC Preference Shares").

· The LLC Preference Shares do not provide the Trustee of the XYZ Trust with any voting rights in LLC. The LLC Preference Shares are the principal asset on the XYZ Trust balance sheet.

· The payment of dividends on both the LLC Common Share and LLC Preference Shares is controlled by XYZ as the holder of the LLC Common Share.

· Post issue of the LLC Preference Shares, the $XX million proceeds were used by LLC to subscribe for subordinated loan notes ("the Notes") issued by XYZ (Europe) Limited ("XYZE").

· XYZE is a non-resident company and is an indirect wholly-owned subsidiary of XYZ. XYZE used the $XX million proceeds received as consideration for the issue of the Notes to retire existing debt.

With effect from June 2012, the Notes held by LLC were sold to XYZ. As consideration for the purchase of the Notes, XYZ issued new subordinated notes ("New Subordinated Loan Notes") to LLC.

3. The New Subordinated Loan Notes have an aggregate principal face value of $XX million and are interest bearing. The New Subordinated Loan Notes are the principal asset on the LLC balance sheet.

4. At 30 June 2013 the New Subordinated Loan Notes had an accounting carrying value of $XX million. The market value of the New Subordinated Notes is substantially less than its face value.

5. Following the June 2012 transaction outlined above, XYZ contributed the Notes to its wholly owned Australian subsidiary, XYZ Australia Pty Limited ("XYZ Australia") in return for equity.

6. XYZ Australia then in turn contributed the Notes to its wholly owned Australian subsidiary XYZ AA Limited ("XYZ AA") in return for equity. Subsequent transactions were within the XYZ Tax Group and are thus ignored for Australian income tax purposes.

7. XYZ AA is the parent company of XYZE. In 2012, XYZ AA used the Notes to settle other existing intercompany balances with XYZE and contributed the remaining Notes to XYZE in return for equity in XYZE. Accordingly, the Applicant has advised that the Notes ceased to exist.

8. For the purpose of this Ruling, LLC is treated as a partnership for all sections of the Income Tax Assessment Act 1936 ("ITAA 1936") (other than Division 5A of Part III of the ITAA1936), the ITAA 1997 (other than Subdivisions 830-A and C of the ITAA 1997) and the Taxation Administration Act 1953, to the extent it relates to the ITAA 1936 and ITAA 1997.

9. The treatment of LLC as a partnership for Australian income tax purposes has the effect that XYZ Trust and XYZ, as shareholders in LLC, are treated as partners in the LLC partnership.

10. XYZ has one class of shares that carry equal voting, dividend and capital distribution rights.

11. Other than one exception, each unitholder in the XYZ Trust has a less than 10% direct holding in the XYZ Trust.

The Acquisition of the XYZ Preference Securities

12. The XYZ Tax Group intends to make an off-market acquisition of the XYZ Preference Securities, in the XYZ Trust in exchange for shares in XYZ ("The Acquisition"). The consideration for the securities will be the market value of the XYZ ordinary shares at the time of acquisition, i.e. at the time of issue or allotment.

13. This Ruling is based on the assumption that there is a 100% acceptance of the offer.

14. Upon the completion of the Acquisition, XYZ Trust will become wholly owned by XYZ and will join the XYZ Tax Group. Given the structure of LLC and its treatment as a partnership for Australian income tax purposes, it will also join the XYZ Tax Group.

15. There is an issue of new shares in XYZ that increases the total number of shares on issue in XYZ by more than 20% when XYZ acquires all the XYZ Preference Securities.

16. XYZ is a widely held company for the purpose of Division 166 and does not choose, pursuant to section 166-15, for Subdivision 166-A to not apply.

17. The ATO has not been asked to rule on the outcome of the Modified COT for the end of each income year in the test period. This Ruling does not consider any other corporate change of XYZ in any other prior year.

18. Section 166-280 which is about controlled test companies does not apply to XYZ.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 26BB

Income Tax Assessment Act 1936 Section 70B

Income Tax Assessment Act 1936 Subsection 70B(7)

Income Tax Assessment Act 1936 Section 159GP

Income Tax Assessment Act 1936 Subsection 159GP(1)

Income Tax Assessment Act 1936 Subsection 159GP(3)

Income Tax Assessment Act 1936 Subsection 159GP(6)

Income Tax Assessment Act 1997 Division 36

Income Tax Assessment Act 1997 Subsection 36-17(2)

Income Tax Assessment Act 1997 Subsection 36-17(3)

Income Tax Assessment Act 1997 Section 36-25

Income Tax Assessment Act 1997 Section 104-510

Income Tax Assessment Act 1997 Subsection 104-510(3)

Income Tax Assessment Act 1997 Division 165

Income Tax Assessment Act 1997 Section 165-10

Income Tax Assessment Act 1997 Section 165-12

Income Tax Assessment Act 1997 Subsection 165-12(2)

Income Tax Assessment Act 1997 Subsection 165-12(3)

Income Tax Assessment Act 1997 Subsection 165-12(4)

Income Tax Assessment Act 1997 Division 166

Income Tax Assessment Act 1997 Section 166-5

Income Tax Assessment Act 1997 Subsection 166-5(1)

Income Tax Assessment Act 1997 Subsection 166-5(2)

Income Tax Assessment Act 1997 Subsection 166-5(3)

Income Tax Assessment Act 1997 Section 166-145

Income Tax Assessment Act 1997 Subsection 166-145(2)

Income Tax Assessment Act 1997 Section 166-150

Income Tax Assessment Act 1997 Subsection 166-150(2)

Income Tax Assessment Act 1997 Section 166-175

Income Tax Assessment Act 1997 Subsection 166-175(1).

Income Tax Assessment Act 1997 Subsection 166-175(2).

Income Tax Assessment Act 1997 Section 166-220

Income Tax Assessment Act 1997 Section 166-225

Income Tax Assessment Act 1997 Subsection 166-225(1)

Income Tax Assessment Act 1997 Subsection 166-225(2)

Income Tax Assessment Act 1997 Section 166-230

Income Tax Assessment Act 1997 Subsection 166-230(1)

Income Tax Assessment Act 1997 Section 166-272

Income Tax Assessment Act 1997 Subsection 166-272(1)

Income Tax Assessment Act 1997 Division 245

Income Tax Assessment Act 1997 Section 245-10

Income Tax Assessment Act 1997 Paragraph 245-10(c)

Income Tax Assessment Act 1997 Section 245-35

Income Tax Assessment Act 1997 Paragraph 245-35(a)

Income Tax Assessment Act 1997 Paragraph 245-35(b)

Income Tax Assessment Act 1997 Section 245-36

Income Tax Assessment Act 1997 Section 245-37

Income Tax Assessment Act 1997 Section 245-45

Income Tax Assessment Act 1997 Division 701

Income Tax Assessment Act 1997 Section 701-1

Income Tax Assessment Act 1997 Section 703

Income Tax Assessment Act 1997 Section 703-15

Income Tax Assessment Act 1997 Section 703-20

Income Tax Assessment Act 1997 Section 703-25

Income Tax Assessment Act 1997 Division 705

Income Tax Assessment Act 1997 Subsection 705-25(5)

Income Tax Assessment Act 1997 Paragraph 705-25(5)(b)

Income Tax Assessment Act 1997 Subsection 705-27(1)

Income Tax Assessment Act 1997 Paragraph 705-27(1)(a)

Income Tax Assessment Act 1997 Paragraph 705-27)1)(b)

Income Tax Assessment Act 1997 Subsection 705-27(2)

Income Tax Assessment Act 1997 Paragraph 705-27)(2)(b)

Income Tax Assessment Act 1997 Division 820

Income Tax Assessment Act 1997 Section 820-115

Income Tax Assessment Act 1997 Subsection 995-1

All references are to the ITAA 1997 unless otherwise specified.

Reasons for decision

Question 1

Summary

The Acquisition of the XYZ Preference Securities will not result in XYZ failing the same owners test in section 165-12.

Detailed reasoning

1. Subsections 36-17(2) and 36-17(3) are the operative provisions under which corporate tax entities can choose to utilise an amount of tax losses. Section 36-25 contains special rules about tax losses that apply when utilising an amount of tax losses. Specifically, item 2 in the table under the heading 'Tax losses of companies' refers to special rules that apply to a situation in which a company wants to deduct a tax loss but cannot do so unless certain conditions are met. These special rules are contained in Subdivision 165-A.

2. Section 165-10 states:

"A company cannot deduct a tax loss unless either:

(a) It meets the conditions in section 165-12 (which is about the company maintaining the same owners); or

(a) It meets the condition in section 165-13 (which is about the company satisfying the same business test).

Note: In the case of a widely held or eligible Division 166 company, Subdivision 166-A modifies how this Subdivision applies, unless the company chooses otherwise."

3. In order to satisfy the Continuity of Ownership Test ("COT"), the three conditions in section 165-12 must be satisfied. The three conditions relate to the 'voting power', 'rights to dividends' and 'rights to capital distributions' of shareholders in the company.

4. The 'voting power' test is contained in subsection 165-12(2) which states:

"There must be persons who had more than 50% of the voting power in the company at all times during the ownership test period."

5. The 'rights to dividends' test is contained in subsection 165-12(3) which states:

"There must be persons who had rights to more than 50% of the company's dividends at all times during the ownership test period."

6. The 'rights to capital distributions' test is contained in subsection 165-12(4) which states:

"There must be persons who had rights to more than 50% of the company's capital distributions at all times during the ownership test period."

7. Subsection 166-5(1) contains the application provision for the modifications to the rules in Subdivision 165-A. It states:

"This Subdivision modifies the way Subdivision 165-A applies to a company that is:

(a) a widely held company at all times during the income year..."

8. Widely held company is defined in subsection 995-1(1). It states:

"Widely held company means:

a) a company, shares in which (except shares that carry a right to a fixed rate of dividend) are listed for quotation in the official list of an approved stock exchange..."

9. XYZ is listed on the ASX and is a widely held company for the purpose of Division 166. XYZ does not choose, pursuant to section 166-15, for Subdivision 166-A not to apply. Therefore, Subdivision 166-A applies to XYZ and modifies the operation of Subdivision 165-A.

10. Subsection 166-5(3) contains the "Modified COT". It states:

"The company is taken to have met the conditions in section 165-12 (which is about the company maintaining the same owners) if there is substantial continuity of ownership of the company as between the start of the test period and:

(a) the end of each income year in that period; and

(b) the end of each corporate change in that period."

11. Accordingly, XYZ is required to satisfy the Modified COT at each testing point described in the above section to be able to choose to utilise tax losses under Division 36. The Applicant has not requested for the ATO to rule on the outcome of the Modified COT for the end of each income year in the test period.

12. 'Corporate change' is defined in subsection 166-175(1). It states:

"There is a corporate change in a company if:

......

d) there is an issue of shares in the company that results in an increase of 20% or more in:

(i) the issued share capital of the company; or

(ii) the number of the company's shares on issue;"

13. A corporate change occurs under the Scheme as there is an issue of new shares in XYZ that increases the total number of shares on issue in XYZ by more than 20% when XYZ acquires all the XYZ Preference Securities.

14. The end of a corporate change is defined in subsection 166-175(2). It states:

"A corporate change ends:

...

(c) if paragraph (1)(d) applies (or paragraph (1)(e) applies because of paragraph (1)(d)) - when the offer period for the issue of shares ends."

15. For the purposes of the Modified COT in subsection 166-5(3), substantial continuity of ownership is defined in section 166-145. It states:

"(1) There is substantial continuity of ownership of the company as between the start of the test period and another time in the test period if (and only if) the conditions in this section are met.

Voting power

(2) There must be persons (none of them companies or trustees) who had more than 50% of the voting power in the company at the start of the test period. Also, those persons must have had more than 50% of the voting power in the company immediately after the other time in the test period.

Note: To work out who had more than 50% of the voting power, see section 165-150.

Rights to dividends

(3) There must be persons (none of them companies) who had rights to more than 50% of the company's dividends at the start of the test period. Also, those persons must have had rights to more than 50% of the company's dividends immediately after the other time in the test period.

Note: To work out who had rights to more than 50% of the company's dividends, see section 165-155.

Rights to capital distributions

(4) There must be persons (none of them companies) who had rights to more than 50% of the company's capital distributions at the start of the test period. Also, those persons must have had rights to more than 50% of the company's capital distributions immediately after the other time in the test period.

Note: To work out who had rights to more than 50% of the company's capital distributions, see section 165-160.

When to apply the test

(5) To work out whether a condition in this section was satisfied at a time (the ownership test time), apply the alternative test for that condition.

Note: For the alternative test, see subsections 165-150(2), 165-155(2) and 165-160(2)."

16. XYZ has only one class of shares that carry equal voting, dividend and capital distribution rights. For the purpose of this Ruling, XYZ will meet all three of the conditions in subsection 166-145 if the 'voting power' condition is satisfied. Accordingly, the analysis below will only be in reference to the 'voting power' condition in the Modified COT in subsection 166-145(2).

17. The term 'more than 50% of the voting power' in subsection 166-145(2) is a defined term and its meaning is given by subsection 165-150(2). It states:

"The alternative test

Applying the alternative test: if it is the case, or it is reasonable to assume, that there are persons (none of them companies or trustees) who (between them) at a particular time control, or are able to control (whether directly, or indirectly through one or more interposed entities) the voting power in the company, those persons have more than 50% of the voting power in the company at that time."

18. The alternative test requires tracing of the ownership of shares in XYZ to individual shareholders. However, Subdivision 166-E contains concessional tracing rules that apply to widely held companies.

19. Section 166-220 is the application provision for the concessional tracing rules. As XYZ is a widely held company, the concessional tracing rules in Subdivision 166-E apply.

20. Subsection 166-225(1) modifies how the ownership tests in section 166-145 are applied to the tested company if:

"(a) a voting stake that carries rights to less than 10% of the voting power in the company is held directly in the company...

Note: Other rules might affect this provision: see sections 166-270, 166-275 and 166-280."

21. In such a case, subsection 166-225(2) states that the Modified COT is applied as if, at the ownership test time, a single notional entity:

"(a) directly controlled the voting power that is carried by each such voting stake; and

...

(c) were a person (other than a company)."

22. At the end of the offer period of the XYZ shares, all shareholders other than one exception will have a direct interest in XYZ of less than 10%.

23. Prima facie, at the end of the offer period, the former unit holders in the XYZ Trust (other than one exception) will be part of the Single Notional Entity under subsection 166-225(2). This is subject to section 166-270, which is an integrity provision that applies in respect of the Single Notional Shareholder. Broadly, section 166-270 operates to cap the Single Notional Shareholder ownership percentage to the percentage at the start of the relevant test period.

24. Based on the share ownership in XYZ, the section 166-270 cap is always greater than 50% for any loss year. Accordingly, as the Single Notional Shareholder has, at all relevant times, greater than 50%, the cap will not cause XYZ to fail the Modified COT. The Single Notional Shareholder will continue to maintain the requisite voting power of greater than 50% (and satisfy the other conditions for substantial continuity of ownership under section 166-145) and up to the section 166-270 cap for all tax losses incurred in the relevant test period when the corporate change relating to the acquisition of the XYZ Preference Securities ends.

25. Section 166-272 contains the "Same Share Test" integrity provision. Subsection 166-272(1) states:

"Application

(1) This section modifies how the ownership tests in section 166-145 are applied to a voting stake, a dividend stake or a capital stake in the tested company held by one of the following entities (the stakeholder):

a) a top interposed entity mentioned in section 166-230 (which is about indirect stakes of less than 10%);

b) a widely help company mentioned in section 166-240;

c) an entity mentioned in subsection 166-245(2) (which is about stakes held by other entities)

d) a depository entity mentioned in section 166-260;

(whether directly, or indirectly through one or more interposed entities)."

26. This section will not apply to the Single Notional Shareholder contained in section 166-225 and, as such, will not impact the outcome of the Modified COT for XYZ.

27. Accordingly, the Acquisition of the XYZ Preference Securities as described under the Scheme will not result in XYZ failing the same owners test under section 165-12.

Question 2

Summary

Section 705-27 operates to reduce the tax cost setting amount of LLC's retained cost base assets, comprising the New Subordinated Loan Notes and Accrued Interest Receivable on the New Subordinated Loan Notes, and thus reduce the capital gain under CGT event L3, upon LLC's entry into the XYZ Tax Group.

Detailed Reasoning

28. Section 705-27 operates to provide a reduction in the tax cost setting amount of a retained cost base asset where it gives rise to a capital gain under CGT event L3. Subsection 705-27(1) states:

"If:

(a) a retained cost base asset of the joining entity is a right to receive a specified amount of such Australian currency covered by paragraph 705-25(5)(b); and

(b) the market value of the asset is less than the tax cost setting amount of the asset; and

(c) the head company makes a capital gain under CGT event L3 (disregarding this subsection) as a result of the joining entity becoming a subsidiary member of the group;

reduce the tax cost setting amount of the asset by the amount of the gain (but not below zero).

Note: Reducing the tax cost setting amount of the asset will also reduce the amount of the capital gain (see paragraph 104-510(1)(b)). The amount of the capital gain might be reduced to nil."

29. Section 705-27 was introduced by Tax Laws Amendment (2010 Measures No 1) Act 2010 and applies with effect from 3 June 2010. Broadly, the intention of the section is to counter the outcome whereby a consolidated group that acquires an entity with impaired debts has a capital gain under the operation of CGT event L3.

30. Each of the above conditions under subsection 705-27(1) is considered below:

Whether the New Subordinated Loan Notes and Accrued Interest Receivable of the LLC are retained cost base assets under paragraph 705-25(5)(b)

31. A retained cost base asset under paragraph 705-25(5)(b) is:

(b) a right to receive a specified amount of such Australian currency, other than a right that is a marketable security within the meaning of section 70B of the Income Tax Assessment Act 1936; or

Example:

A debt or a bank deposit

32. The assets of LLC to be considered are the New Subordinated Loan Notes and the Accrued Interest Receivable.

33. Under subsection 70B(7) of the ITAA 1936 a marketable security means a traditional security that is covered by paragraph (a) of security in section 159GP ITAA 1936.

34. To be a traditional security, it is necessary that a security does not have an "eligible return" as defined in subsection 159GP(3) of the ITAA 1936 (or an eligible return of less than 1.5% as per the formula under section 26BB of the ITAA 1936).

35. A security has an eligible return if it is reasonably likely at the time of issue, having regard to the terms of the security including if it bears deferred interest, that the sum of all payments under the security (other than "periodic interest") will exceed the issue price of the security (subsection 159GP(3) of the ITAA 1936).

36. Interest is 'periodic interest' if the period between the commencement of the period in respect of which the interest is expressed to be payable, and the time at which the interest is payable, is less than or equal to one year (subsection 159GP(6) of the ITAA 1936).

37. Under the New Subordinated Note Deed Poll ("the Deed") the New Subordinated Loan Notes will have an eligible return and the interest will not come within the definition of "periodic interest" under subsection 159GP(6) of the ITAA 1936. XYZ, as the Issuer, can elect to defer the payment of interest on any Interest Payment Date. Therefore, it cannot be said at the time of issue in relation to all amounts of interest payable under the New Subordinated Loan Notes, that the period between the commencement of the period in respect of which interest is expressed to be payable, and the time at which the interest is payable, is less than or equal to one year.

38. Accordingly, the New Subordinated Loan Notes are not traditional securities and therefore are not marketable securities. They are retained cost base assets under paragraph 705-25(5)(b). The Accrued Interest receivable on the New Subordinated Loan Notes will also not be marketable securities and will be retained cost base assets under paragraph 705-25(5)(b).

The market value of the asset is less than the tax cost setting amount of the asset

39. The tax cost setting amount of the New Subordinated Loan Notes pursuant to section 705-25 as retained cost base assets is the face value of the Notes. The tax cost setting amount of the Accrued Interest Receivable pursuant to section 705-25 as a retained cost base asset is approximately $XX.

40. Based on the facts and assumptions, the market value of the New Subordinated Loan Notes and Accrued Interest Receivable is less than the tax cost setting amount of these assets. The requirement of paragraph 705-27(1)(b) is satisfied.

The head company makes a capital gain under CGT event L3 (disregarding subsection 705-27(1)) as a result of the joining entity becoming a subsidiary member of the group

41. CGT event L3 happens where the tax cost setting amounts for retained cost base assets exceeds the joining allocable cost amount (section 104-510). In such a case, for head company core purposes, the head company makes a capital gain equal to the excess (subsection 104-510(3)).

42. The tax cost setting amount for the New Subordinated Loan Notes, Accrued Interest Receivable and cash disregarding section 705-27 would exceed the group's allocable cost amount and, as relevant, the group's partnership cost pool. Accordingly, disregarding section 705-27, a capital gain would arise under CGT event L3.

43. Therefore, as all three conditions of subsection 705-27(1) have been met in regards to the New Subordinated Loan Notes and the Accrued Interest Receivable, the tax cost setting amount of the New Subordinated Loan Notes and Accrued Interest Receivable is to be reduced by the amount of the gain. Accordingly, the capital gain that arises under CGT event L3 is reduced to nil.

Whether subsection 705-27(2) applies

44. Subsection 705-27(2) states:

"If:

(a) the requirements in subsection 701-58(1) (intra-group assets) are satisfied in relation to the asset; and

(b) the joining entity has been entitled to a deduction for an income year ending on or before the joining time because of the * market value of the asset being less than the specified amount mentioned in paragraph (1)(a); and

(c) the accounting liability that corresponds to the asset has not been reduced under subsection 705-75(2);

reduce the amount of the reduction under subsection (1) by the amount of the deduction (but not below zero)".

45. Subsection 705-27(2) does not apply to reduce the amount of the subsection 705-27(1) reduction as the condition in paragraph 705-27(2)(b) is not met. That is, LLC (or XYZ and the XYZ Trust as partners in LLC) has not been entitled to a deduction for an income year ending on or before the joining time because of the market value of the asset being less than the specified amount mentioned in paragraph 705-27(1)(a).

Question 3

Summary

The New Subordinated Loan Notes between XYZ and LLC are not forgiven for the purposes of Division 245 upon LLC joining the XYZ Tax Group.

Detailed Reasoning

46. Division 245 applies to the forgiveness of a commercial debt. Subdivision 245-A contains the application provisions for Division 245. Section 245-10 states:

"Subdivisions 245-C to 245-G apply to a debt of yours if:

(a) the whole or any part of interest, or of an amount in the nature of interest, paid or payable by you in respect of the debt has been deducted, or can be deducted, by you; or

(b) interest, or an amount in the nature of interest, is not payable by you in respect of the debt but, had interest or such an amount been payable, the whole or any part of the interest or amount could have been deducted by you; or

(c) interest or an amount mentioned in paragraph (a) or (b) could have been deducted by you apart from the operation of a provision of this Act (other than paragraphs 8-1(2)(a), (b) and (c)) that has the effect of preventing a deduction."

47. The New Subordinated Loan Notes could potentially meet the requirement of subsection 245-10(c) as the interest on the New Subordinated Loan Notes could have been deducted by XYZ. The Applicant has advised that the interest deduction on the New Subordinated Loan Notes would have been available if it was not restricted by the Thin Capitalisation provisions in Division 820, specifically section 820-115 due to XYZ having 'excess debt'. Accordingly, the New Subordinated Loan Notes may be considered to be a 'commercial debt' for the purposes of Division 245.

48. Section 245-35 defines what constitutes forgiveness of a debt. It states:

"A debt is forgiven if and when:

(a) the debtor's obligation to pay the debt is released or waived, or is otherwise extinguished other than by repaying the debt in full; or

(b) the period within which the creditor is entitled to sue for the recovery of the debt ends, because of the operation of a statute of limitations, without the debt having been paid"

49. In the context of the New Subordinated Loan Notes, XYZ is the debtor because it owes LLC the face value of the Notes.

50. Post completion of the Acquisition, XYZ retains the legal obligation to honour the New Subordinated Loan Notes and LLC retains its legal right and claim against XYZ to repay the debt. LLC does not relinquish its legal rights under the New Subordinated Loan Notes or release' XYZ from its obligation. There has been no intentional renunciation of any legal right by LLC. It follows that the New Subordinated Loan Notes are not considered to be forgiven under subsection 245-35(a).

51. Notwithstanding that upon the completion of the Acquisition, the New Subordinated Loan Notes will be disregarded for entity core purposes when LLC becomes part of the XYZ Tax Group under the single entity rule in section 701-1. The statutory fiction created by the single entity rule is only relevant for the head company and entity core purposes and does not result in any release, waiver or other extinguishment. As such, the New Subordinated Loan Notes continue to exist for legal purposes and therefore is not considered to be forgiven for income tax purposes under subsection 245-35(a).

52. Subsection 245-35(b) does not apply as LLC will continue to be legally entitled to sue for the recovery of the New Subordinated Loan Notes post consolidation.

53. Section 245-36 defines what constitutes forgiveness of a debt if the debt is assigned. It states:

"A debt is forgiven if and when the creditor assigns the right to receive payment of the debt to another entity (the new creditor) and the following conditions are met:

(a) Either the new creditor is the debtor's associate or the assignment occurred under an arrangement to which the new creditor and debtor were parties;

(b) The right to receive payment of the debt was not acquired by the new creditor in the ordinary course of trading on a market, exchange or other place on which, or facility by means of which, offers to sell, buy or exchange securities, (within the meaning of Division 16E of Part III of the Income Tax Assessment Act 1936) are made or accepted."

54. There is no agreement between the creditor, LLC, and the debtor, XYZ, to assign the New Subordinated Loan Notes to a new creditor. Accordingly, section 245-36 should not apply.

55. Section 245-37 defines what constitutes forgiveness of a debt if a subscription for shares enables payment of the debt. It states:

"If an entity subscribes for shares in a company to enable the company to make a payment in or towards discharge of a debt it owes to the entity, the debt is forgiven when, and to the extent that, the company applies any of the money subscribed in or towards payment of the debt."

56. As outlined in the Acquisition Steps, XYZ will acquire the XYZ Preference Securities in the XYZ Trust and, as consideration for the Acquisition, XYZ will issue ordinary shares in XYZ to the XYZ Preference Securities holders.

57. Whilst the XYZ Preference Securities holders will 'subscribe' for shares in XYZ, this subscription of shares is not for a "payment in or towards discharge of a debt it owes to the entity" as is required for the application of section 245-37. Rather, the subscription for shares in XYZ is settled by the transfer of the XYZ Preference Securities to XYZ and does not relate to the repayment of the New Subordinated Loan Notes. Consequently, section 245-37 does not apply.

58. Section 245-45 contains an in substance forgiveness provision. It states:

(1) If:

(a) the debtor and the creditor in relation to a debt enter into an * arrangement; and

(b) under the arrangement, the debtor's obligation to pay the debt is to cease at a particular future time; and

(c) the cessation of the obligation is to occur without the debtor incurring any financial or other obligation (other than an obligation that, having regard to the debtor's circumstances, is of a nominal or insignificant amount or kind);

Subdivisions245-C to 245-G apply as if the debt were * forgiven when the arrangement is entered into.

59. XYZ and LLC have not entered into an arrangement that satisfies the requirements of section 245-45.

60. Based on the above analysis, the New Subordinated Loan Notes are not considered to be forgiven for the purposes of Division 245.