Edited version of your private ruling

Authorisation Number: 1012596354640

Ruling

Subject: Tax consequences in relation to issue of redeemable preference shares

Question 1

Do the redeemable preference shares (RPS) issued to its shareholders give rise to a "debt interest" as defined in Division 974 of the Income Tax assessment Act 1997 (ITAA 1997)?

Answer

Yes

Question 2

Will the RPS be treated as a financial arrangement for the purposes of Division 230 of the ITAA 1997?

Answer

Yes

Question 3

Will any dividend payments made by Company P pursuant to the RPS be deductible to Company P under section 230-15 of the ITAA 1997?

Answer

Yes

Question 4

Will the accruals method apply to the loss in question 3 above pursuant to section 230-100 of the ITAA 1997?

Answer

Yes

Question 5

Upon issuance of the RPS:

(a) will Company P continue to meet the continuity of ownership test in section 166-145 of the ITAA 1997 for losses incurred in the XXXX-XX to the XXXX-XX income year inclusive?

Answer

Yes

(b) will section 166-145 of the ITAA 1997 be treated as having been satisfied by virtue of subsection 166-272(8) in relation to the proposed issue of RPS?

Answer

Yes

Question 6

6(a). Upon Redemption or Buy-Back of, or a Capital Reduction in relation to, the RPS, will a balancing adjustment be made under section 230-435 of the ITAA 1997?

Answer

Yes, in respect of the Redemption of the RPS, and a Capital Reduction in relation to the RPS that reduces all of the outstanding capital of an RPS. However

(i) a Capital Reduction that reduces only some of the outstanding capital of an RPS; and

(ii) a Buy-Back of the RPS,

will not cause a balancing adjustment to be made under section 230-435 of the ITAA 1997.

6(b). Upon Redemption or Buy-Back of, or a Capital Reduction in relation to, the RPS, will any gain or loss calculated under this balancing adjustment be assessable or deductible under section 230-15 of the ITAA 1997?

Answer

Yes. However

(i) a Capital Reduction that reduces only some of the outstanding capital of an RPS; and

(ii) a Buy-Back of the RPS,

will not cause a balancing adjustment to be made under section 230-435 of the ITAA 1997, so that they will not give rise to a gain that is assessable or a loss that is deductible under section 230-15 of the ITAA 1997.

Question 7

Will the RPS give rise to the application of the direct value shifting rules under Division 725 of the ITAA 1997?

Answer

No

Question 8

Will section 45B of the Income Tax Assessment Act 1936 (ITAA 1936) apply to the Redemption or Buy-Back of, or Capital Reduction in relation to, the RPS?

Answer

No

Question 9

Will any component of the Buy-Back Amount be treated as an assessable dividend under section 159GZZZP of the ITAA 1936?

Answer

No

This ruling applies for the following periods:

XX /XX/ XXXX to XX/XX/XXXX

The scheme commences on:

XX /XX/ XXXX

Relevant legislative provisions

Income Tax Assessment Act 1936 subsection 6(1),

Income Tax Assessment Act 1936 section 44,

Income Tax Assessment Act 1936 section 45B

Income Tax Assessment Act 1936 paragraph 45B(2)(a),

Income Tax Assessment Act 1936 paragraph 45B(2)b),

Income Tax Assessment Act 1936 paragraph 45B(2)(c),

Income Tax Assessment Act 1936 paragraph 45B(3)(b,)

Income Tax Assessment Act 1936 subsection 45B(5),

Income Tax Assessment Act 1936 paragraph 45B(5(b),

Income Tax Assessment Act 1936 subsection 45B(8),

Income Tax Assessment Act 1936 paragraphs 45B(8)(a) to (k),

Income Tax Assessment Act 1936 subsection 45B(9),

Income Tax Assessment Act 1936 subsection 45B(10),

Income Tax Assessment Act 1936 section 45C,

Income Tax Assessment Act 1936 subsection 128B(1),

Income Tax Assessment Act 1936 Division 16K,

Income Tax Assessment Act 1936 subsection 159GZZZK(a),

Income Tax Assessment Act 1936 subsection 159GZZZK(d),

Income Tax Assessment Act 1936 section 159GZZZM,

Income Tax Assessment Act 1936 section 159GZZZP,

Income Tax Assessment Act 1936 subsection 159GZZZP(1),

Income Tax Assessment Act 1936 section 159GZZZQ,

Income Tax Assessment Act 1936 177D(2),

Income Tax Assessment Act 1936 section 318,

Income Tax Assessment Act 1997 section 8-1,

Income Tax Assessment Act 1997 section 104-135,

Income Tax Assessment Act 1997 Division 197,

Income Tax Assessment Act 1997 Division 230,

Income Tax Assessment Act 1997 Subdivision 230-A,

Income Tax Assessment Act 1997 section 230-15,

Income Tax Assessment Act 1997 subsection 230-15(1),

Income Tax Assessment Act 1997 subsection 230-15(2),

Income Tax Assessment Act 1997 subsection 230-15(4),

Income Tax Assessment Act 1997 subsection 230-15(4A),

Income Tax Assessment Act 1997 paragraph 230-15(4A)(a),

Income Tax Assessment Act 1997 paragraph 230-15(4A)(b),

Income Tax Assessment Act 1997 paragraph 230-15(4A)(c),

Income Tax Assessment Act 1997 section 230-45,

Income Tax Assessment Act 1997 subsection 230-45(1),

Income Tax Assessment Act 1997 paragraph 230-45(1)(a),

Income Tax Assessment Act 1997 paragraph 230-45(1)(b),

Income Tax Assessment Act 1997 subsection 230-45(2),

Income Tax Assessment Act 1997 section 230-50,

Income Tax Assessment Act 1997 subsection 230-50(1),

Income Tax Assessment Act 1997 Subdivision 230-B,

Income Tax Assessment Act 1997 section 230-100,

Income Tax Assessment Act 1997 subsection 230-100(2),

Income Tax Assessment Act 1997 subsection 230-100(3),

Income Tax Assessment Act 1997 subsection 230-100(5),

Income Tax Assessment Act 1997 section 230-105,

Income Tax Assessment Act 1997 subsection 230-105(1),

Income Tax Assessment Act 1997 section 230-110,

Income Tax Assessment Act 1997 subsection 230-115(1),

Income Tax Assessment Act 1997 subsection 230-115(2),

Income Tax Assessment Act 1997 subsection 230-115(3),

Income Tax Assessment Act 1997 subsection 230-110(1),

Income Tax Assessment Act 1997 section 230-255(3),

Income Tax Assessment Act 1997 Division 230-G

Income Tax Assessment Act 1997 section 230-435,

Income Tax Assessment Act 1997 subsection 230-435(1),

Income Tax Assessment Act 1997 paragraph 230-435(1)(b),

Income Tax Assessment Act 1997 subsection 230-445(1),

Income Tax Assessment Act 1997 subsection 230-445(6),

Income Tax Assessment Act 1997 Division 165,

Income Tax Assessment Act 1997 Subdivision 165-A,

Income Tax Assessment Act 1997 subsection 165-5(2),

Income Tax Assessment Act 1997 subsection 165-5(3),

Income Tax Assessment Act 1997 section 165-12,

Income Tax Assessment Act 1997 section 165-155,

Income Tax Assessment Act 1997 subsection 165-155(2),

Income Tax Assessment Act 1997 subsection 165-255(1),

Income Tax Assessment Act 1997 Division 166,

Income Tax Assessment Act 1997 Subdivision 166-A,

Income Tax Assessment Act 1997 subsection166-5(1),

Income Tax Assessment Act 1997 subsection166-5(2),

Income Tax Assessment Act 1997 subsection166-5(3),

Income Tax Assessment Act 1997 section166-15,

Income Tax Assessment Act 1997 subsection166-15(1),

Income Tax Assessment Act 1997 section 166-145,

Income Tax Assessment Act 1997 subsection 166-145(2),

Income Tax Assessment Act 1997 subsection 166-145(3),

Income Tax Assessment Act 1997 subsection 166-145(4),

Income Tax Assessment Act 1997 subsection 166-145(5),

Income Tax Assessment Act 1997 section 166-235,

Income Tax Assessment Act 1997 section 166-240,

Income Tax Assessment Act 1997 subsection 166-240(2),

Income Tax Assessment Act 1997 subsection 166-240(3),

Income Tax Assessment Act 1997 section 166-265,

Income Tax Assessment Act 1997 section 166-272,

Income Tax Assessment Act 1997 paragraph 166-272(1)(b),

Income Tax Assessment Act 1997 subsection166-272(2),

Income Tax Assessment Act 1997 subsection166-272(8),

Income Tax Assessment Act 1997 section 701-30,

Income Tax Assessment Act 1997 Division 725,

Income Tax Assessment Act 1997 section 725-55,

Income Tax Assessment Act 1997 paragraph 725-50(b),

Income Tax Assessment Act 1997 section 725-145,

Income Tax Assessment Act 1997 section 727-355,

Income Tax Assessment Act 1997 section 727-520,

Income Tax Assessment Act 1997 subsection 727-520(4),

Income Tax Assessment Act 1997 Division 974,

Income Tax Assessment Act 1997 subsection 974-5(4),

Income Tax Assessment Act 1997 Subdivision 974-B,

Income Tax Assessment Act 1997 subsection 974-15(1),

Income Tax Assessment Act 1997 subsection 974-20(1),

Income Tax Assessment Act 1997 paragraph 974-20(1)(a),

Income Tax Assessment Act 1997 paragraph 974-20(1)(b),

Income Tax Assessment Act 1997 paragraph 974-20(1)(c),

Income Tax Assessment Act 1997 paragraph 974-20((1)(d),

Income Tax Assessment Act 1997 paragraph 974-20(1)(e),

Income Tax Assessment Act 1997 subsection 974-20(2),

Income Tax Assessment Act 1997 subsection 974-20(3),

Income Tax Assessment Act 1997 subsection 974-35(1),

Income Tax Assessment Act 1997 subparagraph 974-35(1)(a)(i),

Income Tax Assessment Act 1997 subsection 974-35(3),

Income Tax Assessment Act 1997 section 974-50,

Income Tax Assessment Act 1997 paragraph974-70(1)(b),

Income Tax Assessment Act 1997 subsection 974-70(2),

Income Tax Assessment Act 1997 paragraph 974-70(2)(c),

Income Tax Assessment Act 1997 Subdivision 974-C,

Income Tax Assessment Act 1997 subsection 974-75(1),

Income Tax Assessment Act 1997 section 974-80,

Income Tax Assessment Act 1997 subsection 974-80(1),

Income Tax Assessment Act 1997 paragraph 974-80(1)(d),

Income Tax Assessment Act 1997 subsection 974-130(1),

Income Tax Assessment Act 1997 section 974-135,

Income Tax Assessment Act 1997 subsection 974-135(1),

Income Tax Assessment Act 1997 subsection 974-135(3),

Income Tax Assessment Act 1997 subsection 974-135(5),

Income Tax Assessment Act 1997 subsection 974-155(1),

Income Tax Assessment Act 1997 subsection 974-155(2),

Income Tax Assessment Act 1997 subsection 974-155(3),

Income Tax Assessment Act 1997 subsection 974-160(1),

Income Tax Assessment Act 1997 paragraph 974-160(1)(a),

Income Tax Assessment Act 1997 paragraph 974-160(1)(b),

Income Tax Assessment Act 1997 paragraph 974-160(1)(c),

Income Tax Assessment Act 1997 section 975-300,

Income Tax Assessment Act 1997 subsection 995-1(1),

Income Tax Assessment Regulations 1997 regulation 995-1.05, and

Corporations Act 2001 section 254K.

Relevant facts and circumstances

1. Company P is an incorporated joint venture between unrelated parties.

Company P Corporate structure

2. Company P is the head company of the Company P income tax consolidated group, and is resident in Australia for Australian income tax purposes.

3. Each of Company P's shareholders is a resident of Australia for Australian income tax purposes.

4. There has been no change in the ownership of Company P in the relevant period.

Proposed issue of RPS

Overview

5. Company P is proposing to issue RPS on a pro rata basis to its shareholders, in accordance with their shareholding proportions.

Key terms

6. The Terms provide that shares with an issue price of $X per RPS (Issue Price) will be issued on a partly paid basis.

7. The RPS will be issued in a number of tranches. Every RPS issued in the same tranche (or series) will be paid up to the same value per RPS issued in that series. Each series of RPS will be issued on identical terms (except for the dividend rate) to prior series of RPS. The dividend rate will comprise a credit margin plus the AUD swap rate at the issue date for the term for each series and will therefore vary for each series. Each series will be issued to existing shareholders in the proportions equivalent to each shareholder's shareholding percentage in the ordinary shares of Company P.

8. Dividends will be payable at a fixed market rate (set at the issue date of each series) for the term of the instrument and are expected to be cash settled on a semi-annual basis in XX and XX each year. Dividends are cumulative from the date of issue and calculated with respect to the proportion each RPS is paid up for the given calculation period. The period end is XX/XX and XX/XX. The rate for each series of RPS will be determined at or shortly before the relevant issue date of each series of RPS.

9. The RPS are accounted for as a liability. Company P will recognise the liability progressively as each payment is received. The liability will be disclosed as an interest-bearing liability on the Company P balance sheet. The accounting entries in Company P for each payment by holders of RPS to pay up each RPS will be:

DR Cash $XX

CR Interest-Bearing Liability (RPS) $XX

10. For income tax purposes, the "Interest-Bearing Liability (RPS)" account will be a share capital account for the purposes of section 975-300 of the ITAA 1997,

Currency of the RPS

11. The currency of the RPS to be issued will be in AUD.

Assumptions

For the purposes of this Ruling, the Commissioner is asked to assume or accept the following:

1. Company P will not fail the test for substantial continuity of ownership in section 166-145 prior to the issue of the RPS.

2. The proposed legislative change with respect to section 974-80 will not be enacted at the time of this Ruling.

3. The proposed legislative change on loss recoupment rules will not be enacted at the time of this Ruling.

4. The internal rate of return on the RPS will be less than the benchmark rate of return for the debt interest increased by 150 basis points.

5. No transitional or timing elections have been made or are expected to be made by Company P under the taxation of financial arrangements rules in Division 230 of the ITAA 1997. (Company P has made a retranslation election under subsection 230-255(3) of the ITAA 1997 in respect of certain qualifying forex accounts).

6. There will be no disposal of the ordinary shares in Company P until the end of the 'test period' (as defined in subsection 166-5(2) of the ITAA 1997).

Reasons for decision

Question 1

Summary

Yes, the RPS issued to shareholders will be characterised as a "debt interest" in Company P as defined in Division 974 of the ITAA 1997.

Detailed reasoning

Subsection 995-1(1) of the ITAA 1997 states:

Debt interest in an entity has the meaning given by Subdivision 974-B.

In Subdivision 974-B of the ITAA 1997, subsection 974-15(1) states:

A scheme gives rise to a debt interest in an entity if the scheme, when it comes into existence, satisfies the debt test in subsection 974-20(1) in relation to the entity.

The "debt test" in subsection 974-20(1) is considered below in relation to the proposed issue of RPS by Company P pursuant to the Terms of the RPS.

The debt test

Subsection 974-20(1) of the ITAA 1997 states:

A scheme satisfies the debt test in this subsection in relation to an entity if:

(a) the scheme is a financing arrangement for the entity; and

(b) the entity, or a connected entity of the entity, receives, or will receive, a financial benefit or benefits under the scheme; and

(c) the entity has, or the entity and a connected entity of the entity each has, an effectively non-contingent obligation under the scheme to provide a financial benefit or benefits to one or more entities after the time when:

(i) the financial benefit referred to in paragraph (b) is received if there is only one; or


(ii) the first of the financial benefits referred to in paragraph (b) is received if there are more than one; and

(d) it is substantially more likely than not that the value provided (worked out under subsection (2)) will be at least equal to the value received (worked out under subsection (3)); and

(e) the value provided (worked out under subsection (2)) and the value received (worked out under subsection (3)) are not both nil.

The scheme does not need to satisfy paragraph (a) if the entity is a company and the interest arising from the scheme is an interest covered by item 1 of the table in subsection 974-75(1) (interest as a member or stockholder of the company).

A "scheme" is defined in subsection 995-1(1) of the ITAA 1997. It means any arrangement, scheme, plan, proposal, action, course of action or course of conduct, whether unilateral or otherwise.

The issue of the RPS by Company P will be a "scheme" within this definition.

Is the scheme a financing arrangement?

Paragraph 974-20(1)(a) of the ITAA 1997 requires the scheme to be a "financing arrangement" for the entity. Under subsection 974-130(1) of the ITAA 1997, a scheme is a "financing arrangement" for an entity if it is entered into or undertaken to, inter alia, "raise finance for the entity (or a connected entity of the entity)".

However, the postscript to subsection 974-20(1) of the ITAA 1997 states that the scheme does not need to satisfy paragraph 974-20(1)(a) of the ITAA 1997 if the entity is a company (which Company P is) and the interest arising from the scheme is an interest covered by item 1 of the table in subsection 974-75(1) of the ITAA 1997. The latter requirement is satisfied because the RPS, being a share in Company P, gives rise to an interest in Company P as a member of Company P.

Therefore, paragraph 974-20(1)(a) of the ITAA 1997 does not have to be satisfied by the RPS.

Has the entity received or will it receive a financial benefit under the scheme?

Paragraph 974-20(1)(b) of the ITAA 1997 requires that the entity, or a connected entity of the entity, receives, or will receive, a financial benefit or benefits under the scheme.

Subsection 974-160(1) of the ITAA 1997 states:

In this Act:

financial benefit :

(a) means anything of economic value; and

(b) includes property and services; and

(c) includes anything that regulations made for the purposes of subsection (3) provide is a financial benefit;

even if the transaction that confers the benefit on an entity also imposes an obligation on the entity.

The financial benefit to be received by Company P is the "Issue Price" of each RPS. The RPS may be issued on a partly paid basis, with every RPS in a new issue being paid up to the same value per RPS issued in that new issue; and

Accordingly, Company P will receive a financial benefit under the scheme. Paragraph 974-20(1)(b) of the ITAA 1997 is satisfied.

Is there an effectively non-contingent obligation to provide financial benefits?

Paragraph 974-20(1)(c) of the ITAA 1997 requires the entity to have, or the entity and a connected entity of the entity to each have, an effectively non-contingent obligation under the scheme to provide a financial benefit or benefits to one or more entities after the time when the financial benefit(s) referred to in paragraph 974-20(1)(b) of the ITAA 1997 is or are received.

The financial benefits to be provided by Company P are:

a. the Dividend Entitlement to be paid to the Shareholders; and

b. in the absolute discretion of the Board, a return of the paid-up amount of each share. This is subject to a non -discretionary requirement to return the paid up amount of each share by the Mandatory Date.

An "effectively non-contingent obligation" is defined in subsection 995-1(1) of the ITAA 1997 to have the meaning given by section 974-135 of the ITAA 1997.

Subsection 974-135(1) of the ITAA 1997 states:

There is an effectively non-contingent obligation to take an action under a scheme if, having regard to the pricing, terms and conditions of the scheme, there is in substance or effect a non-contingent obligation (see subsections (3), (4) and (6)) to take that action.

Subsection 974-135(3) of the ITAA 1997 defines "non-contingent" to mean:

An obligation is non-contingent if it is not contingent on any event, condition or situation (including the economic performance of the entity having the obligation or a connected entity of that entity), other than the ability or willingness of that entity or connected entity to meet the obligation.

The Dividend Entitlements that are unpaid to holders of the RPS in relation to a particular Calculation Period will automatically accumulate. Any amount that remains unpaid will be included in the amount that must be paid on or before the end of the term. Accordingly, the obligation to pay the Dividend Entitlements is not contingent on any event, condition, or situation.

The Company P has a non-discretionary requirement to return, on or before the end of the term, the paid-up capital of the RPS through a Capital Reduction, Buy-Back or Redemption. Accordingly, the obligation to return capital in respect of the RPS is not contingent on any event, condition, or situation.

Subsections 974-135(1) and (3) of the ITAA 1997 are satisfied in respect of the Dividend Entitlements and the paid-up capital of the RPS.

Section 254K of the Corporations Act 2001 states:

A company may only redeem redeemable preference shares:

(a)  if the shares are fully paid-up; and

(b)  out of profits or the proceeds of a new issue of shares made for the purpose of the redemption

Subsection 974-135(5) of the ITAA 1997 states:

An obligation to redeem a preference share is not contingent merely because there is a legislative requirement for the redemption amount to be met out of profits or a fresh issue of equity interests.

Therefore, even though Company P may only redeem the RPS out of profits or the proceeds of a new issue of shares made for the purpose of the redemption, subsection 974-135(5) of the ITAA 1997 ensures that it is still not a contingent obligation.

Paragraph 974-20(1)(c) is satisfied.

Will the value provided be at least equal to the value received?

Paragraph 974-20(1)(d) of the ITAA 1997 requires that it be substantially more likely than not that the value provided (worked out under subsection 974-20(2) of the ITAA 1997) will be at least equal to the value received (worked out under subsection 974-20(3) of the ITAA 1997).

Subsection 974-35(1) of the ITAA 1997 states:

For the purposes of this Subdivision:

(a) the value of a financial benefit received or provided under a scheme is its value calculated:

(i) in nominal terms if the performance period (see subsection (3)) must end no later than 10 years after the interest arising from the scheme is issued; or

(ii) in present value terms (see section 974-50) if the performance period must or may end more than 10 years after the interest arising from the scheme is issued; and

(b) the regulations may make provisions relating to the valuation of a financial benefit.

The "performance period" (as defined in subsection 974-35(3) of the ITAA 1997) of the RPS will end no later than 10 years after the RPS are issued.

Accordingly, the value of the financial benefits received and provided will be calculated in nominal terms, in accordance with subparagraph 974-35(1)(a)(i) of the ITAA 1997.

The value of the financial benefits provided by Company P (worked out under subsection 974-20(2) of the ITAA 1997) will be the Issue Price and the Dividend Entitlements. The value of the financial benefit received by Company P (worked out under subsection 974-20(2) of the ITAA 1997) will be the Issue Price.

Accordingly, as it is substantially more likely than not that the value provided by Company P will be at least equal to the value received by Company P, paragraph 974-20(1)(d) of the ITAA 1997 is satisfied.

Will the value provided and the value received both not be nil?

Paragraph 974-20(1)(e) of the ITAA 1997 requires that the value provided (worked out under subsection 974-20(2) of the ITAA 1997) and the value received (worked out under subsection 974-20(3) of the ITAA 1997) are not both nil. For the reasons given in relation to paragraph 974-20(1)(d) of the ITAA 1997, paragraph 974-20(1)(e) of the ITAA 1997 is satisfied.

Conclusion

As all the requirements of subsection 974-20(1) of the ITAA 1997 will be satisfied, the RPS will satisfy the debt test.

Related schemes

Subsection 974-155(1) of the ITAA 1997 states that subject to subsection 974-155(3) of the ITAA 1997, 2 schemes are "related" to one another if they are related to one another in any way.

Subsection 974-155(2) of the ITAA 1997 is an inclusive definition of when 2 schemes are related to each other.

The Commissioner has considered subsection 974-70(2) of the ITAA 1997, which provides that two or more related schemes (being, in this case, the ordinary shares in Company P and the RPS that will be issued by Company P) taken together can give rise to an "equity interest" in a company.

However, paragraph 974-70(2)(c) of the ITAA 1997 will not be satisfied by the scheme that is the subject of this Ruling.

Section 974-80 of the ITAA 1997

Subsection 974-80(1) of the ITAA 1997 states that section 974-80 of the ITAA 1997 deals with the situation in which:

(a) an interest carries a right to a variable or fixed return from a company; and

(b) the interest is held by a connected entity of the company; and

(c) apart from this section, the interest would not be an equity interest in the company; and

(ca) the scheme that gives rise to the interest is a financing arrangement for the company; and

(d) there is a scheme, or a series of schemes, designed to operate so that the return to the connected entity is to be used to fund (directly or indirectly) a return to another person (the ultimate recipient).

All of the requirements of subsection 974-80(1) of the ITAA 1997 will be satisfied, other than paragraph 974-80(1)(d) of the ITAA 1997.

Paragraph 1.28 of the Supplementary Explanatory Memorandum to the New Business Tax System (Debt and Equity) Bill 2001 states:

The amendment of paragraph 974-80(1)(d) is a technical amendment that will ensure that the provision applies as intended, which is only in those cases where the scheme or schemes are deliberately designed so that the return to the connected entity is in turn used to fund either directly or indirectly a return to the ultimate recipient.

Having regard to the circumstances of the scheme that is the subject of this Ruling, it cannot be concluded that the scheme is "deliberately designed" to achieve such an outcome.

Therefore, section 974-80 of the ITAA 1997 will not apply to deem the RPS to be an "equity interest".

Tie-breaker rule

Subsection 974-5(4) of the ITAA 1997 states:

If an interest satisfies both the debt test and the equity test, it is treated as a debt interest and not an equity interest.

As the RPS will satisfy the debt test, there is no need to consider the equity test in subsection 974-75(1) of the ITAA 1997, because even if it satisfies the equity test, subsection 974-5(4) of the ITAA 1997 ensures that the RPS will be treated as a debt interest.

Question 2

Summary

Yes. The RPS will be a "financial arrangement" for the purposes of Division 230 of the ITAA 1997, specifically under section 230-45 of the ITAA 1997.

Detailed reasoning

Subdivision 230-A of the ITAA 1997 provides the test for determining whether an arrangement is a "financial arrangement". Broadly, an arrangement will be a "financial arrangement" if it satisfies the definition of a "financial arrangement" in section 230-45 of the ITAA 1997 and/or the definition of a "financial arrangement" in section 230-50 of the ITAA 1997 (relating to equity interests).

The RPS will be a financial arrangement under section 230-45 of the ITAA 1997 where the requirements in subsection 230-45(1) of the ITAA 1997 are met:

(1) You have a financial arrangement if you have, under an * arrangement:

(a) a * cash settlable legal or equitable right to receive a * financial benefit; or

(b) a cash settlable legal or equitable obligation to provide a financial benefit; or

(c) a combination of one or more such rights and/or one or more such obligations

unless

(d) you also have under the arrangement one or more legal or equitable rights to receive something and/or one or more legal or equitable obligations to provide something; and

(e) for one or more of the right and/or obligations covered by paragraph (d):

(i) the thing that you have the right to receive, or the obligation to provide, is not a financial benefit; or

(ii) the right or obligation is not cash settlable; and

(f) the one or more rights and/or obligations covered by paragraph (e) are not insignificant in comparison with the right, obligation or combination covered by paragraph (a), (b) or (c).

The right, obligation or combination covered by paragraph (a), (b) or (c) constitutes the financial arrangement.

Subsection 230-45(2) of the ITAA 1997 states:

(2) A right you have to receive, or an obligation you have to provide, a * financial benefit is cash settlable if, and only if:

(a) the benefit is money or a * money equivalent;…

Broadly, the RPS will constitute a "financial arrangement" under section 230-45 of the ITAA 1997 if the rights or obligations under it are cash settlable within the meaning of subsection 230-45(2) of the ITAA 1997, and there are no 'not insignificant' rights or obligations under the arrangement which are not cash settlable.

Application of section 230-45 of the ITAA 1997

Under the RPS, there are legal rights or obligations to receive or provide financial benefits (as defined in paragraph 974-160(1)(a) of the ITAA 1997) for the purposes of section 230-45 of the ITAA 1997. Company P's right to receive the Issue Price of the RPS is cash settlable as defined in subsection 230-45(2) of the ITAA 1997.

Accordingly, this right satisfies paragraph 230-45(1)(a) of the ITAA 1997.

Further, the obligation of Company P to make payments at maturity, cancellation or redemption of the RPS, and the cumulative obligation to pay dividends to holders, are each cash settlable as defined in subsection 230-45(2) of the ITAA 1997. Accordingly, these obligations satisfy paragraph 230-45(1)(b) of the ITAA 1997.

There are no other rights or obligations under the RPS which are not insignificant and not cash settable. The RPS will constitute a "financial arrangement" under section 230-45 of the ITAA 1997.

Application of section 230-50 of the ITAA 1997

Taxation Determination TD 2011/12 provides that where an equity interest is a "financial arrangement" which satisfies both subsection 230-45(1) of the ITAA 1997 and subsection 230-50(1) of the ITAA 1997, subsection 230-50(1) of the ITAA 1997 will apply. It is therefore relevant to consider the application of section 230-50 of the ITAA 1997 to the RPS.

This issue is only relevant if the RPS were classified as an "equity interest".

An 'equity interest' is defined in subsection 995-1(1) of the ITAA 1997 and takes its meaning from Subdivision 974-C of the ITAA 1997. The test as to whether the RPS are an equity interest is set out in subsection 974-75(1) of the ITAA 1997. The RPS will satisfy the equity test in subsection 974-75(1) of the ITAA 1997 in relation to a company, as it is an interest in the company as a member or stockholder of the company (item 1 of the table in subsection 974-75(1) of the ITAA 1997).

However, paragraph 974-70(1)(b) of the ITAA 1997 requires that an equity interest not be characterised as a "debt interest". The RPS are a "debt interest" under subsection 974-15(1) of the ITAA 1997 as they satisfy the debt test in subsection 974-20(1) of the ITAA 1997 (see Question 1 of this Ruling).

Accordingly, the RPS would not be a "financial arrangement" that satisfies subsection 230-50(1) of the ITAA 1997.

Conclusion

The RPS will be a "financial arrangement" for the purposes of Division 230 of the ITAA 1997, specifically under section 230-45 of the ITAA 1997.

Question 3

Summary

Yes. On the basis of subsection 230-15(4A) of the ITAA 1997, a dividend paid by Company P in respect of a RPS is a loss that Company P can deduct to the extent to which it would have been a deductible loss under subsection 230-15(2) of the ITAA 1997.

Detailed reasoning

Division 230 of the ITAA 1997 governs the income tax treatment of gains and losses on financial arrangements.

Company P will only be entitled to a deduction under subsection 230-15(2) of the ITAA 1997 if it makes a loss from a "financial arrangement". In Question 2, the Commissioner has ruled that the RPS issued by Company P are a 'financial arrangement' for the purposes of Division 230 of the ITAA 1997.

Under subsection 230-15(2) of the ITAA 1997, an entity can deduct a loss it makes from a financial arrangement, but only to the extent that the entity makes the loss in gaining or producing its assessable income or is necessarily made in carrying on a business for that purpose.

A dividend paid by Company P in respect of a RPS will satisfy the definition of a "dividend" in subsection 6(1) of the Income Tax Assessment Act 1936 (ITAA 1936), being a distribution made by a company to a shareholder, whether in money or other property, that is not debited against an amount standing to the credit of the share capital account of Company P.

Where subsection 230-15(4A) of the ITAA 1997 is satisfied, a dividend on a debt interest (such as a dividend paid by Company P in respect of a RPS) is a loss that an entity can deduct to the extent to which it would have been a deductible loss under subsection 230-15(2) of the ITAA 1997.

Subsection 230-15(4A) of the ITAA 1997 states:

A *dividend on a *debt interest is a loss you can deduct to the extent to which it would have been a deductible loss under subsection (2) if:

(a) the payment of the amount of the dividend were the incurring of a liability to pay the same amount as interest; and

(b) that interest were incurred in respect of the finance raised by you in respect of which the dividend was paid or provided; and

(c) the debt interest retained its character as a debt interest for the purposes of subsection (4).

The payment of a dividend by Company P in respect of a RPS (being a debt interest) will satisfy paragraph 230-15(4A)(a) of the ITAA 1997 because it will be the equivalent of the payment of interest.

That deemed interest will be incurred in respect of the finance raised by Company P in respect of which the dividend will be paid, satisfying paragraph 230-15(4A)(b) of the ITAA 1997.

The RPS (being a debt interest) will retain its character as a debt interest for the purposes of subsection 230-15(4) of the ITAA 1997, satisfying paragraph 230-15(4A)(c) of the ITAA 1997.

Furthermore, a dividend on the RPS would be a deductible loss under subsection 230-15(2) because Company P will necessarily make the loss in carrying on a business for the purpose of gaining or producing its assessable income. The RPS are being issued to raise funds which will be used to complete a major business project of Company P for the purpose of generating assessable income. The cost of having the use of those funds is the payment of dividends.

Accordingly, on the basis of subsection 230-15(4A) of the ITAA 1997, a dividend paid by Company P in respect of a RPS is a loss that Company P can deduct to the extent to which it would have been a deductible loss under subsection 230-15(2) of the ITAA 1997.

Question 4

Summary

Yes. The accruals method will apply to the loss in Question 3, pursuant to section 230-100 of the ITAA 1997

Detailed reasoning

Where a gain or loss is sufficiently certain pursuant to Subdivision 230-B of the ITAA 1997, subsections 230-100(2) and (3) of the ITAA 1997 require a taxpayer to apply the accruals method to a gain or loss that the taxpayer makes from a financial arrangement. Where the accruals method does not apply, subsection 230-100(5) of the ITAA 1997 requires a taxpayer to apply the realisation method to a gain or loss that the taxpayer makes from a financial arrangement.

It is thus necessary to establish whether the loss on the RPS is 'sufficiently certain' for the purposes of section 230-100 of the ITAA 1997.

Accruals: sufficiently certain financial benefits

As provided for in subsection 230-115(1) of the ITAA 1997, in deciding whether it is sufficiently certain at a particular time that a taxpayer will make a gain or loss from a financial arrangement, regard must only be had to financial benefits that the taxpayer is sufficiently certain to receive and provide. The Note to subsection 230-115(1) of the ITAA 1997 clarifies that the particular time may be the time at which the taxpayer starts to have the arrangement (which would be the time Company P issues the RPS). However, it does not have to be that time.

Subsection 230-115(2) of the ITAA 1997 states:

A financial benefit that you are to receive or provide is to be treated as one that you are sufficiently certain to receive or to provide only if:

(a) it is reasonably expected that you will receive or provide the financial benefit (assuming that you will continue to have the financial arrangement for the rest of its life); and

(b) at least some of the amount or value of the benefit is, at that time, fixed or determinable with reasonable accuracy.

Subsection 230-115(3) of the ITAA 1997 provides that in applying subsection 230-115(2) of the ITAA 1997 to the financial benefit, it is necessary to have regard to:

· the terms and conditions of the financial arrangement.

· accepted pricing and valuation techniques.

· the economic or commercial substance and effect of the arrangement.

· the contingencies that attach to the other financial benefits that are to be provided or received under the arrangement.

Overall gain or loss, or particular gain or loss

Subsection 230-100(2) of the ITAA 1997 states:

The accruals method provided for in this Subdivision applies to a gain or loss you have from a *financial arrangement if:

(a) the gain or loss is an overall gain or loss from the arrangement; and

(b) the gain or loss is sufficiently certain at the time when you start to have the arrangement; and

(c) you choose to apply the accruals method to the gain or loss, or subsection(4) applies to the gain or loss.

Subsection 230-105(1) of the ITAA 1997 states:

You have a sufficiently certain overall gain or loss from a *financial arrangement at the time when you start to have the arrangement only if it is sufficiently certain at that time that you will make an overall gain or loss from the arrangement of:

(a) a particular amount; or

(b) at least a particular amount.

The amount of the gain or loss is the amount referred to in paragraph (a) or (b).

The dividends paid by Company P on the RPS will depend on the paid-up value of the RPS. The terms of the RPS expressly contemplate the partial or total return of capital on the RPS. This is consistent with the economic or commercial substance and effect of the RPS and the contingencies that attach to the other financial benefits that are to be provided or received under the RPS. Taking account of these factors, it is not sufficiently certain at the time that Company P starts to have the financial arrangement (by issuing the RPS) that Company P will make an overall loss from the arrangement of at least a particular amount. Therefore, section 230-105 of the ITAA 1997 is not relevant.

Subsection 230-100(3) of the ITAA 1997 states:

The accruals method provided for in this Subdivision also applies to a gain or loss you have from a *financial arrangement if:

(a) the gain or loss arises from a *financial benefit that you are to receive or are to provide under the arrangement; and

(b) the gain or loss:

(i) is sufficiently certain before or at the time when you start to have the arrangement and before you are to receive or provide the benefit; or

(ii) becomes sufficiently certain after the time when you start to have the arrangement and before you are to receive or provide the benefit; and

(c) the benefit has not already been taken into account in applying:

(i) the accruals method provided for in this Subdivision; or

(ii) the realisation method provided for in this Subdivision;

to another gain or loss from the arrangement.

This subsection has effect subject to subsection (4).

Subsection 230-110(1) of the ITAA 1997 states:

You have a sufficiently certain gain or loss from a *financial arrangement at a particular time if it is sufficiently certain at that time that you make, or will make, a gain or loss from the arrangement of:

(a) a particular amount; or

(b) at least a particular amount;

when one of the following occurs:

(c) you receive a particular *financial benefit under the arrangement or one of your rights under the arrangement ceases;

(d) you provide a particular financial benefit under the arrangement or one of your obligations under the arrangement ceases.

The amount of the gain or loss is the amount referred to in paragraph (a) or (b).

The dividends paid by Company P (using the "Dividend Entitlement" formula in clause XX of the Terms) on the RPS will depend on the paid-up value of the RPS. On the "Period End Date", it will be sufficiently certain at that time that Company P will make a loss from the arrangement (being the RPS) of a particular amount (the dividend). Each dividend paid by Company P on the RPS (being a financial arrangement) will constitute the provision of a particular financial benefit under the arrangement. Therefore, section 230-110 of the ITAA 1997 is satisfied.

Conclusion

The accruals method will apply to the loss in Question 3, pursuant to section 230-100 of the ITAA 1997.

Question 5

Summary

Yes

Detailed reasoning

Section 165-12 of the ITAA 1997 specifies conditions that a company must satisfy in order to deduct a tax loss. Broadly, section 165-12 of the ITAA 1997 provides that the company must maintain more than 50% continuity of ownership throughout the ownership test period. The ownership test period is the period from the start of the loss year to the end of the income year in which the company seeks to deduct the tax loss.

Division 166 of the ITAA 1997 modifies the way the rules in Division 165 of the ITAA 1997 apply to a widely held company or an eligible Division 166 company. However, the company may choose that Subdivision 165-A of the ITAA 1997 is to apply to it for the income year without the modifications made by Subdivision 166-A of the ITAA 1997 (subsection 166-15(1) of the ITAA 1997).

It should be noted that subsection 166-5(1) of the ITAA 1997 only requires a company to be a widely held company or an eligible Division 166 company during "the income year", i.e. the year in which the company seeks to deduct a tax loss and hence must satisfy the requirements of Division 165 of the ITAA 1997 as modified by Division 166 of the ITAA 1997 (paragraph 1.13 of the Explanatory Memorandum to the Tax Laws Amendment (Loss Recoupment Rules and Other Measures) Bill 2005).

A company does not have to be a widely held company or an eligible Division 166 company in the income year that it made the tax loss.

Eligible Division 166 company

None of the shares of Company P are listed for quotation in the official list of an "approved stock exchange" (within the meaning of subsection 995-1(1) of the ITAA 1997, and Regulation 995-1.05 of, and Schedule 5 to, the Income Tax Assessment Regulations 1997). This means that Company P is not a "widely held company" (as defined in subsection 995-1(1) of the ITAA 1997).

Company C owns XX% of the ordinary shares in Company P. This is a "voting stake" (as defined in section 166-235 of the ITAA 1997) that carries rights to XX% of the voting power in Company P. If the RPS are still on issue in the income year in which Company P seeks to deduct a tax loss, they will have the same voting power as the ordinary shares in Company P. Company C will own the same percentage of the ordinary shares and the RPS in Company P.

Company B owns XX% of the ordinary shares in Company P. This is a "voting stake" (as defined in section 166-235 of the ITAA 1997) that carries rights to XX% of the voting power in Company P. If the RPS are still on issue in the income year in which Company P seeks to deduct a tax loss, they will have the same voting power as the ordinary shares in Company P. Company B will own the same percentage of the ordinary shares and the RPS in Company P.

The ordinary shares of Company C are listed for quotation in the official list of the Australian Securities Exchange.

Company B is a company that is wholly owned, indirectly, by Company F (overseas company).

Both the Australian Securities Exchange and the overseas stock exchange are an "approved stock exchange" within the meaning of subsection 995-1(1) of the ITAA 1997, and Regulation 995-1.05 of, and Schedule 5 to, the Income Tax Assessment Regulations 1997.

As a result, Company C and Company F are currently each a "widely held company" (as defined in subsection 995-1(1) of the ITAA 1997).

If Company C and Company F each remain a "widely held company" for the whole of each income year in which Company P seeks to deduct any part of its tax losses made in the XXXX-XX income year to the XXXX-XX income year (inclusive), Company P will be an "eligible Division 166 company" (as defined in subsection 995-1(1) of the ITAA 1997) for the whole of that income year. This is because Company P is a company:

(a) that is not a "widely held company"; and

(b) voting stakes that carry rights to more than 50% of the voting power in Company P (specifically, XX%) are beneficially owned, directly and indirectly through interposed entities, by 2 widely held companies (Company C and Company F), whether or not the RPS are still on issue in the income year in which Company P seeks to deduct any part of the relevant tax losses.

Substantial continuity of ownership

To satisfy the conditions in section 165-12 of the ITAA 1997 as modified by Division 166 of the ITAA 1997, subsection 166-5(3) of the ITAA 1997 requires Company P (being an eligible Division 166 company) to satisfy the conditions for substantial continuity of ownership in section 166-145 of the ITAA 1997 as between the start of the test period and:

· the end of each income year in that period; and

· the end of each corporate change in that period.

The company's test period is the period consisting of the loss year, the income year and any intervening period (subsection 166-5(2) of the ITAA 1997).

For the purposes of this Ruling, the "test period" under subsection 166-5(2) of the ITAA 1997 will (under subsection 165-255(1) of the ITAA 1997, as affected by section 701-30 of the ITAA 1997) start on XX/XX/XXXX, being the date on which Company P ceased to be a subsidiary member of the Company C income tax consolidated group and became the head company of the Company P income tax consolidated group.

The "test period" will end when all of the tax losses made by Company P in the XXXX-XX income year to the XXXX-XX income year (inclusive) are deducted by Company P.

Under section 166-145 of the ITAA 1997, there is substantial continuity of ownership of a company as between the start of the test period and another time in the test period if, at the start of the test period and immediately after the other time in the test period:

§ the same persons (none of them companies or trustees) had more than 50% of the voting power in the company;

§ the same persons (none of them companies) had rights to more than 50% of the company's dividends; and

§ the same persons (none of them companies) had rights to more than 50% of the company's capital distributions.

If there is substantial continuity of ownership under section 166-145 of the ITAA 1997, the effect of subsection 166-5(3) of the ITAA 1997 is that Company P will be taken to have satisfied section 165-12 of the ITAA 1997.

Section 166-240 of the ITAA 1997

For the purposes of subsection 166-240(3) of the ITAA 1997, Company C and Company F will each be a widely held company for the whole of each income year in which an "ownership test time" (as defined in section 166-145 of the ITAA 1997) occurs.

As discussed below, Company C and Company F will each be a widely held company which, directly or indirectly, held during the whole of each income year in which each ownership test time occurs in the test period:

(a) a voting stake that carries rights to between 10% and 50% (inclusive) of the voting power in the company;

(b) a dividend stake that carries the right to receive between 10% and 50% (inclusive) of any dividends that the company may pay;

(c) a capital stake that carries the right to receive between 10% and 50% (inclusive) of any distribution of capital of the company.

Therefore, section 166-240 of the ITAA 1997 modifies how the ownership tests in section 166-145 of the ITAA 1997 are applied to Company P, as discussed below:

Under subsection 166-240(2) of the ITAA 1997, the ownership tests in section 166-145 of the ITAA 1997 are applied to Company P as if, at each relevant ownership test time, the widely held company (each of Company C and Company F) were a person (other than a company) which held the voting stake, dividend stake and capital stake.

Section 166-265 of the ITAA 1997 provides that, because section 166-240 of the ITAA 1997 applies, the persons who actually held each affected voting stake, dividend stake and capital stake are taken not to have held it.

Same share same interest rule

Section 166-272 of the ITAA 1997 modifies how the ownership tests in section 166-145 of the ITAA 1997 are applied to a voting stake, a dividend stake or a capital stake in Company P held by a stakeholder, being (under paragraph 166-272(1)(b) of the ITAA 1997) a widely held company mentioned in section 166-240 (whether directly, or indirectly through one or more interposed entities).

The same share same interest rule is in subsection 166-272(2) of the ITAA 1997. For the purpose of determining whether Company P has satisfied a condition, a condition that has to be satisfied is not satisfied unless, at all relevant times:

· the only shares in Company P that are taken into account are the XXX XXX ordinary shares in existence at the beginning of the test period on 29 October 2008, in the numbers in which they were held by their direct shareholders (Company C and Company B) on that date; and

· the only interests (including shares) in any other entity that is interposed between the stakeholder (Company Funder section 166-240 of the ITAA 1997 in this case, as Company C holds its shares in Company P directly) and Company P that are taken into account are exactly the same interests and are held by the same persons. This means that the interests in interposed entities must have been in existence at the beginning of the test period on Xx/XX/XXXX, and must be in the numbers in which they were held by their holders on that date.

Dividend rights condition in subsection 166-145(3) of the ITAA 1997

At the start of the test period (XX/XX/XXXX), Company C and Company F had rights to 100% of Company P's dividends through the operation of section 166-240 of the ITAA 1997 on:

· Company C's ownership of XX% of the ordinary shares in Company P; and

· COMPANY B's ownership of XX% of the ordinary shares in Company P.

This was a result of owning all XX of the ordinary shares on issue on that date.

On XX/XX/XXXX (the end of an income year in the test period), Company C and Company F had rights to almost XXX% of Company P's dividends through the operation of section 166-240 of the ITAA 1997, as a result of owning XXX of the XXXX ordinary shares on issue on that date.

On XX/XX/XXXX (the end of an income year in the test period), Company C and Company F had rights to almost XXX% of Company P's dividends through the operation of section 166-240 of the ITAA 1997, as a result of owning XX of the XXXXX ordinary shares on issue on that date.

On XX/XX/XXXX (the end of an income year in the test period), Company C and Company F had rights to almost XXX% of Company P's dividends through the operation of section 166-240 of the ITAA 1997, as a result of owning XX of the XXXXX ordinary shares on issue on that date.

On XX/XX/XXXX (the end of an income year in the test period), Company C and Company F had rights to almost XXX% of Company P's dividends through the operation of section 166-240 of the ITAA 1997 on:

· Company C's ownership of almost XXX% of the ordinary shares in Company P; and

· Company B's ownership of almost XXX% of the ordinary shares in Company P.

This was a result of owning XX of the XXXXX ordinary shares on issue on that date.

On XX/XX/XXXX (the end of an income year in the test period), Company C and Company F had rights to almost XX% of Company P's dividends through the operation of section 166-240 of the ITAA 1997 on:

· Company C's ownership of almost XXX% of the ordinary shares in Company P; and

· Company B's ownership of almost XXX% of the ordinary shares in Company P.

This was a result of owning XXXXX of the XXXXX ordinary shares on issue on that date.

It is expected that before the next ownership test time (XX/XX/XXXX), Company P will begin issuing the RPS on a progressive basis in series.

The holders of the RPS will have the right to receive dividends that Company P may pay.

Under subsection 166-272(2) of the ITAA 1997, the only shares in Company P that are taken into account are the shares held, directly and indirectly, by the same entities which held them at the start of the test period.

As the RPS had not been issued at the start of the test period, the RPS will not satisfy subsection 166-272(2) of the ITAA 1997.

To satisfy subsection 166-145(3) of the ITAA 1997:

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.

Section 165-155 of the ITAA 1997 defines who has rights to "more than 50% of the company's dividends". The alternative test in subsection 165-155(2) of the ITAA 1997 will be relevant to Company P, because companies own shares in Company P. Furthermore, subsection 166-145(5) of the ITAA 1997 mandates the use of the alternative test. Subsection 165-155(2) of the ITAA 1997 states:

Applying the alternative test: if it is the case, or it is reasonable to assume, that there are persons (none of them companies) who (between them) at a particular time have the right to receive for their own benefit (whether directly or *indirectly) more than 50% of any *dividends that the company may pay, those persons have rights to more than 50% of the company's dividends at that time.

The ordinary shares in Company P, and the RPS issued by Company P, will both have the right to receive dividends. As subsection 166-272(2) of the ITAA 1997 only allows the ordinary shares in Company P to be taken into account, it is impossible to conclude that Company P will satisfy subsection 166-145(3) of the ITAA 1997 at an ownership test time on and including 30 June 2014 until the RPS cease to exist. This is because the holders of the RPS have the right to receive dividends in respect of the RPS that may amount to 50% or more of any dividends that Company P may pay.

Therefore, the dividend rights condition in subsection 166-145(3) of the ITAA 1997 will not be satisfied for each test time in the test period. For this reason alone, there will not be substantial continuity of ownership of Company P under section 166-145 of the ITAA 1997.

Capital distribution rights condition in subsection 166-145(4) of the ITAA 1997

For the reasons given in relation to the dividend rights condition in subsection 166-145(3) of the ITAA 1997, mutatis mutandis, Company C and Company F will not have rights to 100% of Company P's capital distributions at each ownership test time.

Therefore, the capital distribution rights condition in subsection 166-145(4) of the ITAA 1997 will not be satisfied for each test time in the test period.

Substantial continuity of ownership but for subsection 166-272(2) of the ITAA 1997

The dividend rights condition in subsection 166-145(3) of the ITAA 1997 and the capital distribution rights condition in subsection 166-145(4) of the ITAA 1997 will not be satisfied for each test time in the test period.

However, this is only because of the same share same interest rule in subsection 166-272(2) of the ITAA 1997. But for that provision, all of the shares in existence in Company P at an ownership test time would be taken into account at that time.

But for the operation of subsection 166-272(2) of the ITAA 1997, at each test time in the test period, nearly XX% of all of the dividend stakes and capital stakes would have been held by the 2 widely held companies (Company C and Company F), being nearly XX% of the right to receive any dividends and the right to receive any capital distributions of Company P at those times. This percentage would have been attributed to each of Company C and Company F under section 166-240 of the ITAA 1997.

Thus, except for the operation of the same share same interest rule in subsection 166-272(2) of the ITAA 1997, the dividend rights condition in subsection 166-145(3) of the ITAA 1997 and the capital distribution rights condition in subsection 166-145(4) of the ITAA 1997 would have been satisfied for each ownership test time in the test period.

Saving rule

Subsection 166-272(8) of the ITAA 1997 provides that if any of the conditions in section 166-145 of the ITAA 1997 have not been satisfied (in this case, the dividend rights condition in subsection 166-145(3) of the ITAA 1997 and the capital distribution rights condition in subsection 166-145(4) of the ITAA 1997), those conditions are taken to have been satisfied if:

(a) they would have been satisfied except for the operation of subsection 166-272(2); and

(b) Company P has information from which it would be reasonable to conclude that less than 50% of:

(i) the *tax loss; or

(ii) the *notional loss; or

(iii) the bad debt; or

(iv) the unrealised net loss (within the meaning of section 165-115E);

as the case requires, has been reflected in deductions, capital losses, or reduced assessable income, that occurred, or could occur in future, because of the happening of any CGT event in relation to any direct equity interests or indirect equity interests held in the tested company by the stakeholder, or an entity interposed between the stakeholder and the tested company, during the test period.

Paragraph 1.124 of the Explanatory Memorandum to the Tax Laws Amendment (Loss Recoupment Rules and Other Measures) Bill 2005 states, in relation to subsection 166-272(8) of the ITAA 1997, that:

A loss can only be reflected in ownership interests to the extent that it represents an economic loss.

There will be no disposal of the ordinary shares in Company P until the end of the test period for all of the tax losses made in the XXXX income year to the XXXX income year (inclusive).

The RPS are a "debt interest" in Company P, and hence are not relevant to subsection 166-272(8) of the ITAA 1997.

Taxpayer has stated that it is possible that the issue, life and redemption of the RPS could give rise to foreign exchange losses. This is on the basis that the RPS are expected to be denominated in Australian dollars, and a holder of the RPS (such as Company B) may have a foreign functional currency. As the RPS are a "debt interest", we accept that any foreign exchange loss deduction would not occur because of the happening of any CGT event in relation to any direct equity interests or indirect equity interests held in the tested company.

Therefore, Company P has information from which it would be reasonable to conclude that less than XX% of the tax losses made in the XXXX-XX income year to the XXXX-XX income year (inclusive) has been reflected in deductions, capital losses, or reduced assessable income that occurred, or could occur in future, because of the happening of any CGT event in relation to any direct equity interests or indirect equity interests held in Company P by the stakeholders (being each of the 2 widely held companies mentioned in section 166-240 of the ITAA 1997 - Company C and Company F) during the test period.

Accordingly, the dividend rights condition in subsection 166-145(3) of the ITAA 1997 and the capital distribution rights condition in subsection 166-145(4) of the ITAA 1997 will be taken to have been satisfied by the application of subsection 166-272(8) of the ITAA 1997 during the test period for tax losses made in the XXXX-XX income year to the XXXX-XX income year (inclusive).

For completeness, we note that the voting power condition in subsection 166-145(2) of the ITAA 1997 is likely to be satisfied without the application of subsection 166-272(8) of the ITAA 1997. This is because the RPS confers the same voting rights on the holders of the RPS as the voting rights of the holders of ordinary shares. At the start of the test period (XX/XX/XXXX), there were XXXXX ordinary shares on issue, held by Company C and Company B. On XX/XX/XXXX, there were XXXXX ordinary shares on issue. Given the large Issue Price of each RPS that is anticipated, it is probable that less than XXXX RPS will be issued. This will not cause a failure of the voting power condition in subsection 166-145(2) of the ITAA 1997.

However, if this conclusion is incorrect, the voting power condition in subsection 166-145(2) of the ITAA 1997 will be taken to have been satisfied by the application of subsection 166-272(8) of the ITAA 1997 during the test period for tax losses made in the XXXX-XX income year to the XXXX-XX income year (inclusive), for the reasons given in relation to the dividend rights condition in subsection 166-145(3) of the ITAA 1997 and the capital distribution rights condition in subsection 166-145(4) of the ITAA 1997, mutatis mutandis.

Question 6 (a)

Summary

Yes, in respect of the Redemption of the RPS, and a Capital Reduction in relation to the RPS that reduces all of the outstanding capital of an RPS. However

(i) a Capital Reduction that reduces only some of the outstanding capital of an RPS; and

(ii) a Buy-Back of the RPS,

will not cause a balancing adjustment to be made under section 230-435 of the ITAA 1997.

Detailed reasoning

Paragraph 230-435(1)(b) of the ITAA 1997 provides that a balancing adjustment is made under Subdivision 230-G if

all of your rights and/or obligations under a financial arrangement otherwise cease.

A cessation of the relevant rights and/or obligations under a financial arrangement can occur in different ways, for example, through their discharge or satisfaction, close out, forfeiture or maturity.

Upon the Redemption or Buy-Back of an RPS, or a Capital Reduction that reduces all of the outstanding capital of that RPS, all of the rights and obligations of Company P under the RPS will cease, satisfying paragraph 230-435(1)(b) of the ITAA 1997.

Therefore, the Redemption or Buy-Back of, or a Capital Reduction in relation to, an RPS (provided the Capital Reduction reduces all of the outstanding capital of that RPS) will cause a balancing adjustment to be made under section 230-435 of the ITAA 1997.

A Buy-Back of the RPS will not cause a balancing adjustment to be made under section 230-435 of the ITAA 1997. This is because of section 159GZZZN of the ITAA 1936.

Question 6 (b)

Summary

Yes. However

(i) a Capital Reduction that reduces only some of the outstanding capital of an RPS; and

(ii) a Buy-Back of the RPS,

will not cause a balancing adjustment to be made under section 230-435 of the ITAA 1997, so that they will not give rise to a gain that is assessable or a loss that is deductible under section 230-15 of the ITAA 1997.

Detailed reasoning

As paragraph 230-435(1)(b) of the ITAA 1997 applies, the method statement in subsection 230-445(1) of the ITAA 1997 must be used by Company P to make the balancing adjustment. The method statement will lead to the calculation of either a gain or loss that Company P will make from the financial arrangement.

In accordance with subsection 230-445(6) of the ITAA 1997, the gain or loss Company P is taken to make under subsection 230-445(1) of the ITAA 1997 is a gain or loss for the income year in which the event referred to in subsection 230-435(1) of the ITAA 1997 occurs. For Company P, this event will be covered by paragraph 230-435(1)(b) of the ITAA 1997.

Subsection 230-15(1) of the ITAA 1997 provides that an entity's assessable income includes a gain they make from a financial arrangement. On this basis, any gain calculated under the method statement in subsection 230-445(1) of the ITAA 1997 from the balancing adjustment would be included in the assessable income of Company P for the income year in which paragraph 230-435(1)(b) of the ITAA 1997 is satisfied.

Conversely, subsection 230-15(2) of the ITAA 1997 provides that an entity can deduct a loss they make from a financial arrangement. On this basis, any loss calculated under the method statement in subsection 230-445(1) of the ITAA 1997 from the balancing adjustment would be an allowable deduction of Company P for the income year in which paragraph 230-435(1)(b) of the ITAA 1997 is satisfied.

Question 7

Will the RPS give rise to the application of the direct value shifting rules under Division 725 of the ITAA 1997?

Summary

No

Detailed reasoning

Under section 725-145 of the ITAA 1997, there is a "direct value shift" under a scheme involving equity or loan interests in an entity (the target entity) if:

(a) there is a decrease in the market value of some equity or loan interests in the target entity;

(b) the decrease is reasonably attributable to one or more things done under the scheme, and occurs at or after the time when that thing, or the first of those things, is done; and

(c) other equity or loan interests in the target entity must be issued at a discount, or there must be an increase in the market value of other equity or loan interests in the target entity - in either event, it must be reasonably attributable to the thing, or to one or more of the things, referred to in (b). It must also occur at or after the time referred to in (b).

There can only be consequences for a direct value shift if there is an entity that controls the target entity (for value shifting purposes) at some time during the scheme period as defined in section 725-55 of the ITAA 1997 (paragraph 725-50(b) of the ITAA 1997). Section 727-355 of the ITAA 1997 sets out the relevant tests for whether an entity has "control (for value shifting purposes)" of a company.

The RPS satisfy the definition of an "equity or loan interest" in an entity under section 727-520 of the ITAA 1997. The RPS are a "primary loan interest" in Company P under subsection 727-520(4) of the ITAA 1997, as they represent a loan to Company P.

On the basis of the facts of the scheme that is the subject of this Ruling (in particular relating to the ordinary shares and the RPS of Company P), the Commissioner accepts that the issue of the RPS, the declaration that a Dividend Entitlement be paid to the holders of the RPS and the payment of a Dividend Entitlement will not constitute a "direct value shift" as defined in section 725-145 of the ITAA 1997.

Question 8

Will section 45B of the Income Tax Assessment Act 1936 (ITAA 1936) apply to the Redemption or Buy-Back of, or Capital Reduction in relation to, the RPS?

Summary

No

Detailed reasoning

Section 45B of the ITAA 1936 applies where certain capital benefits are provided to shareholders in substitution for dividends. It allows the Commissioner to make a determination that section 45C of the ITAA 1936 applies to a capital benefit. The effect of such a determination is that all or part of the capital benefit received by the shareholder is treated as an unfranked dividend.

In broad terms, section 45B applies where:

(a) there is a scheme under which a person is provided with a capital benefit by a company (paragraph 45B(2)(a) of the ITAA 1936);

(b) under the scheme, a taxpayer, who may or may not be the person provided with the capital benefit, obtains a tax benefit (paragraph 45B(2)(b) of the ITAA 1936); and

(c) 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 a taxpayer to obtain a tax benefit (paragraph 45B(2)(c) of the ITAA 1936).

Scheme

A 'scheme' for the purposes of section 45B of the ITAA 1936 has the meaning given by subsection 995-1(1) of the ITAA 1997 (subsection 45B(10) of the ITAA 1936). It means any arrangement, scheme, plan, proposal, action, course of action or course of conduct, whether unilateral or otherwise.

The issue of the RPS in series to the existing ordinary shareholders of Company P will constitute a scheme for the purposes of paragraph 45B(2)(a) of the ITAA 1936.

Capital benefit

Under subsection 45B(5) of the ITAA 1936, a reference to a person being "provided with a capital benefit" is a reference to any of the following:

(a) the provision of ownership interests in a company to the person;

(b) the distribution to the person of share capital or share premium;

(c) something that is done in relation to an ownership interest that has the effect of increasing the value of an ownership interest (which may or may not be the same interest) that is held by the person.

As there will be a distribution to the holders of the RPS of share capital to effect the Redemption or Buy-Back of, or a Capital Reduction in relation to, the RPS, the holders of the RPS will be provided with a capital benefit under paragraph 45B(5)(b) of the ITAA 1936).

Thus, there is a scheme under which the holders of the RPS are provided with a capital benefit by Company P, satisfying paragraph 45B(2)(a) of the ITAA 1936.

Tax benefit

Under subsection 45B(9) of the ITAA 1936, a relevant taxpayer "obtains a tax benefit" if:

-an amount of tax payable; or

-any other amount payable under the ITAA 1936 or the ITAA 1997,by the relevant taxpayer would, apart from section 45B

-be less than the amount that would have been payable; or

-be payable at a later time than it would have been payable,

if the capital benefit had been an assessable dividend.

The provision of the capital benefit is likely to cause CGT event G1 (section 104-135 of the ITAA 1997) to happen. This would cause a reduction in the holder's cost base and reduced cost base of a RPS, until the cost base is reduced to nil. A reduction in the cost base of a CGT asset does not, of itself, cause an amount of tax to be payable. By contrast, if the capital benefit had been an assessable dividend, an Australian resident holder would have to include it in their assessable income under section 44 of the ITAA 1936, and a non-resident holder would have the dividend reduced by an amount of withholding tax under subsection 128B(1) of the ITAA 1936.

Thus, under the scheme, the holders of the RPS will obtain a tax benefit.

Relevant circumstances

For the purposes of paragraph 45B(2)(c) of the ITAA 1936, the Commissioner is required to have regard to the "relevant circumstances" of the scheme enumerated in subsection 45B(8) of the ITAA 1936 to form a conclusion about whether or not 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 a taxpayer (the relevant taxpayer) to obtain a tax benefit. However, the list of relevant circumstances in subsection 45B(8) of the ITAA 1936 is not exhaustive and regard may be had to other circumstances on the basis of their relevance.

The test of purpose is an objective one. The requisite purpose does not have to be the most influential or prevailing purpose, but it must be more than an incidental purpose. The purpose which causes section 45B of the ITAA 1936 to apply may be the purpose of any party to the scheme.

Having regard to all of the relevant circumstances of the scheme enumerated in subsection 45B(8) of the ITAA 1936, it is not concluded that Company P, the proposed holders of the RPS or any other person who entered into or carried out the scheme (or any part of it) did so for a more than incidental purpose of enabling the proposed holders of the RPS to obtain a tax benefit.

If:

· the facts and assumptions of the scheme that is the subject of this Ruling remain unchanged at the time of any Redemption or Buy-Back of, or a Capital Reduction in relation to, the RPS; and

· specifically if the total amount of the capital benefit(s) provided under any such Redemption or Buy-Back of, or a Capital Reduction in relation to, the RPS is limited to a return of the paid up amount of the Issue Price of the RPS,

the Commissioner will not make a determination under paragraph 45B(3)(b) of the ITAA 1936 that section 45C of the ITAA 1936 applies in relation to the whole, or a part, of the capital benefit.

Question 9

Will any component of the Buy-Back Amount be treated as an assessable dividend under section 159GZZZP of the ITAA 1936?

Summary

No, provided the entire Buy-Back Amount of each RPS is debited against amounts standing to the credit of the 'Interest-Bearing Liability (RPS)' account (being part of the "share capital account" of Company P as defined in section 975-300 of the ITAA 1997).

Detailed reasoning

Division 16K of Part III of the ITAA 1936 prescribes the income tax consequences of a buy-back of shares for the purchaser and seller. A Buy-Back of any of the RPS from the holders by Company P will be a "buy-back" under subsection 159GZZZK(a) of the ITAA 1936, and will be an "off-market purchase" under subsection 159GZZZK(d) of the ITAA 1936.

Section 159GZZZM of the ITAA 1936 defines the "purchase price" in respect of a buy-back of a share as either the amounts of money or the market value of property, or both, that the seller has received or is entitled to receive.

Sections 159GZZZP and 159GZZZQ of the ITAA 1936 governs whether any part of the "purchase price" is a dividend, and (in respect of an off-market purchase) the amount of consideration that the seller is taken to have received.

Subsection 159GZZZP(1) of the ITAA 1936 provides that the dividend component of the purchase price is the difference between the "purchase price" and the part (if any) of the "purchase price" which is debited against amounts standing to the credit of the company's share capital account or non-share capital account. This difference is taken to be a dividend paid by the company, to the seller as a shareholder in the company, out of profits derived by the company, making it a dividend that is assessable under section 44 of the ITAA 1936.

If the entire "purchase price" of a RPS (being the Buy-Back Amount) is debited against amounts standing to the credit of the 'Interest-Bearing Liability (RPS)' account (being part of the "share capital account" of Company P as defined in section 975-300 of the ITAA 1997), subsection 159GZZZP(1) of the ITAA 1936 will have the effect that no component of the Buy-Back Amount will be treated as an assessable dividend paid by Company P for the purposes of the ITAA 1936 or the ITAA 1997.