Edited version of your written advice

Authorisation Number: 1012882884391

Date of advice: 25 September 2015

Ruling

Subject: Application of thin capitalisation exemption under subsection 820-39(3)

Question 1

Will Entity D meet the conditions in subsection 820-39(3) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

Relevant facts and circumstances

Entity D was established as a Special Purpose Entity (SPE) in order to manage the risk of recovery of certain receivables that were either assumed or created by it. Entity D borrowed funds from Lenders pursuant to a Loan and used the funds to purchase the receivables from Entity F that are payable by Entity G as well as to make another loan.

Entity D was established solely for the purpose of purchasing the receivables and to facilitate the financing for a Project to be completed by Entity G.

The Loan is a debt interest for Australian income tax purposes. The value of the Loan is at least 50% of the receivables.

The Loan has a Maturity Date of less than 10 years.

Entity D is restricted through various contractual requirements to activities which are necessary to ensuring the provision of finance. Entity D may not engage in any business or activity other than those which is necessary for, or incidental to, its role.

Entity D is restricted from issuing other debt.

At least one Director appointed to the Board of Entity D is an 'Independent Director.

The Constitution of Entity D and the contractual requirements prohibit Entity D from:

• Merging or consolidating with another entity

• Issuing any shares, units or grant any rights to acquire shares or units, or

• Selling, disposing of an interest in its property other than that permitted within the transaction documents; and amending its Constitution and the relevant transaction documents.

Entity D will ensure that it maintains its separateness from any other entity. Entity D will display sound Management by keeping proper books and records, conducting its business in Entity D's name only, carrying on and conducting its business in accordance with all applicable laws.

Any recourse will be limited to the certain property specified in the documents and will be limited to transaction parties.

Relevant legislative provisions

Income Tax Assessment Act 1997 Division 820

Income Tax Assessment Act 1997 section 820-39

Income Tax Assessment Act 1997 subsection 820-39(3)

Income Tax Assessment Act 1997 paragraph 820-39(3)(a)

Income Tax Assessment Act 1997 paragraph 820-39(3)(b)

Income Tax Assessment Act 1997 paragraph 820-39(3)(c)

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

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

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

Reasons for decision

All legislative references are to provisions of the Income Tax Assessment Act 1997 unless otherwise stated.

Detailed Reasoning

The conditions in subsection 820-39(3) are:

(a) the entity is one established for the purposes of managing some or all of the economic risk associated with assets, liabilities or investments (whether the entity assumes the risk from another entity or creates the risk itself); and

(b) the total value of *debt interests in the entity is at least 50% of the total value of the entity's assets; and

(c) the entity is an insolvency-remote special purpose entity according to the criteria of an internationally recognised rating agency that are applicable to the entity's circumstances.

Each of these must be met for the requirements of subsection 820-39(3) to be satisfied.

Paragraph 820-39(3)(a) Managing economic risk

The Commissioner accepts that in the circumstances of Entity D, the paragraph 820-39(3)(a) requirement is met as Entity D was established for the purpose of managing some or all the risk associated with an asset that was either assumed or created by Entity D, being the recovery of the receivables. As part of the arrangement, Entity D will assume some or all of the economic risks associated with the underlying receivables since Entity D's return is contingent on the recovering the receivables. That is at least part of the credit risk of the receivables will pass to Entity D.

Paragraph 820-39(3)(b) Value of debt interests

As the loans held in Entity D constitute debt interests for the purposes of the ITAA 1997, the paragraph 820-39(3)(b) requirement will be satisfied as the total value of the loans will be at least half the value of Entity D's assets.

Paragraph 820-39(3)(c) Entity D is an insolvency-remote special purpose entity

Whether Entity D satisfies the criteria of an internationally recognised rating agency is a question of fact, which includes a consideration of criteria published by internationally recognised ratings agencies.

The applicable criteria in Entity D's circumstances are Standard & Poor's (S&P) Asset Isolation And Special-Purpose Entity Criteria - Structured Finance dated 7 May 2013 as modified by the Australian and New Zealand Asset Isolation And Special-Purpose Entity Criteria - Structured Finance, dated 21 August 2013 ('S&P Finance Criteria' or Criteria).

The requirement of meeting such criteria can be met without a determination by a rating agency; subsection 820-39(4).

S&P set out that a Special Purpose Entity (SPE) will achieve insolvency remoteness by adopting some form of the characteristics identified in the Criteria. Therefore, Entity D does not need to satisfy each criterion in order to be assessed as insolvency remote. The characteristics set out in the Criteria to assess insolvency remoteness are:

• Restrictions on objects and powers

• Debt Limitations

• Independent director

• Restrictions on a merger or reorganisation

• Limitations on amendments to organisational documents

• Separateness, and

• Security interests over assets.

The Constitution of Entity D provides that Entity D has the sole purpose of conducting the activities necessary to effect the transaction. The Constitution restricts Entity D from undertaking any activity other than the sole purpose.

Entity D is prohibited from incurring additional debt.

At least one Director appointed to the Board of Entity D is an Independent Director.

Entity D is prohibited from selling or otherwise disposing of any relevant property. Entity D is also prohibited from merging or consolidating with any other entity.

Entity D's Constitution contains certain covenants made by the directors of Entity D to ensure Entity D maintains its separate identity.

Entity D provides limited recourse to Lenders over its undertakings and assets.

The Commissioner accepts that in the circumstances of Entity D, the 'characteristics' of bankruptcy remoteness in the S&P Finance Criteria are satisfied, and therefore the requirements of paragraph 820-39(3)(c) are in turn satisfied.

Conclusion

As each of the requirements set out in paragraphs 820-39(3)(a), (b) and (c) are present in the circumstances of Entity D, Entity D satisfies the conditions in subsection 820-39(3).