Edited version of your written advice

Authorisation Number: 1012773154322

Ruling

Subject: Deductibility of interest declared from a traditional security

Question

Is the accrued interest, previously credited to your account and declared as assessable income in the relevant year, but not received in the final receivership distributions, an allowable deduction under subsection 70B(2) of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

No.

This ruling applies for the following period

Year ended 30 June 2014

The scheme commenced on

1 July 200X

Relevant facts

The arrangement that is the subject of the private ruling is described below. This description is based on the following documents. These documents form part of and are to be read with this description. The relevant document is:

• The private ruling application

• Edited version of a private ruling.

You invested an in a company, in a traditional security as defined in section 26BB of the ITA 1936.

The company went into receivership and declared that "you will no longer receive, nor will your investment, including any interest reinvested or accrued up to the date of going into receivership, be returned to you on its maturity".

Accrued interest declared prior to this date was included in your annual tax returns for the relevant years.

Receivers made distributions, with a final distribution made, to the extent of approximately X cents in the dollar.

You only received a portion of your total in return for your investment with the company.

The 'Trustee' of the trust who is the trustee for the underlying registered holders (Investors) gave notice or entered into an agreement with the company on the Investors' behalf to forgo its and Investors' rights to 'unpaid' interest. That interest is:

• unpaid interest as at date of going into receivership, which is the last month in which interest was paid, and

• was payable after the date the last interest payment was made.

A private ruling was issued by the ATO to say that the interest forgone under the proposed arrangement was not to be included in the assessable income of the trust estate.

Relevant legislative provisions

Income Tax Assessment Act 1936 Subsection 70B(2)

Income Tax Assessment Act 1936 Subsection 26BB

Income Tax Assessment Act 1997 Section 8-1

Income Tax Assessment Act 1997 Division 245

Reasons for decision

Summary

The accrued interest that was credited to your account and declared as assessable income in previous years, but not received in the final receivership distributions, is not an allowable deduction under subsection 70B(2) of the Income Tax Assessment Act 1997 (ITAA 1997). Subsection 70B(2) is applicable where a taxpayer disposes of a traditional security or where it is redeemed. A traditional security issued by a company that has gone into liquidation is not disposed of when the liquidator has made a final payment to the holder of the security and it can't be redeemed.

Detailed reasoning

Subsection 6-5(2) of the ITAA 1997 provides that the assessable income of an Australian resident includes ordinary income derived directly or indirectly from all sources, whether in or out of Australia, during the income year.

Interest income is regarded as ordinary income and therefore assessable under subsection 6-5(2) of the ITAA 1997.

Subsection 6-5(4) of the ITAA 1997 states that in working out whether you have derived an amount of ordinary income, and if so when you derived it, you are taken to have received the amount as soon as it is applied or dealt with in any way on your behalf or as you direct.

Taxation Ruling TR 98/1 sets out the Commissioner's policy on the derivation of income. Paragraph 47 of TR 98/1 states that the general principle is that interest is only derived, or arises, when it is received or credited. This general rule is subject to the overall principle that the appropriate method is that giving a substantially correct reflex of income. Exceptions to the general rule include interest from a business of money lending carried on and interest derived by those whose income is calculated on an accruals basis, who invest in fixed or variable interest securities cum interest.

It is considered that the receipts basis is the correct method in your case. That is interest is derived and assessable when it is received or credited. There has been constructive receipt of the interest amounts.

In the early income years you were advised of the amount of interest income credited to your account and these amounts were disclosed as assessable income in the relevant years. The company went into liquidation and you only received part of the total amount owing to you in the distributions made.

We acknowledge your specific circumstances. However, as the interest income was credited in those income years, this income is derived and assessable to you in the relevant income years. The legislation does not give the Commissioner any discretion in relation to the above provisions.

A deduction is not allowable under subsection 70B(2) of the ITAA 1997 as this only applies where a taxpayer disposes of a traditional security or a traditional security is redeemed. Taxation Ruling TR 96/14 sets out the Commissioner's views on the treatment of traditional securities. Clause v) of paragraph 4 states that: 'a traditional security issued by a company that has gone into liquidation is not disposed of when the liquidator has made a final payment to the holder of the security or where no payments are to be made by the liquidator;' This is further explained at paragraphs 63 to 65. While a particular security might ultimately cease to exist or become worthless because of liquidation or dissolution of the issuer company, neither of those consequences means there has been any act of disposal (as defined) which has been taken by the taxpayer.

Paragraphs 48 to 60 looks at the meaning of disposal in terms of this section and also considers that the forgiving or waiving of a debt of the issuer of the security is not a disposal.

The private ruling issued to the trustee relates to the interest that was 'unpaid' or any amounts that accrued after the receivership date and before the final distribution. The amount of interest that had been credited to the account is not unpaid interest in the terms of the ruling. The outcome of that ruling is not applicable to the interest that was credited to the account.

The interest that was credited to the account is considered to be 'paid' and becomes part of the capital held by the issuer. If this amount is not received in the final distribution it is considered a capital loss for capital gains tax purposes.