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Edited version of your written advice
Authorisation Number: 1051182050707
Date of advice: 19 January 2017
Ruling
Subject: Income tax: Division 7A
Question 1
Would the further contribution of capital to the Partnership by a corporate partner be taken to be a dividend paid by the corporate partner to the Partnership for the purposes of Division 7A of the Income Tax Assessment Act 1936 (ITAA 1936)?
Answer
No
This ruling applies for the following periods:
2016-17 income year
2017-18 income year
The scheme commences on:
The date on which the proposed capital is contributed.
Relevant facts and circumstances
A corporate trustee and a company are partners in a partnership (the Partnership).
The business carried on by the partners in partnership is redevelopment of the land and buildings for commercial purposes.
The company proposes to make a further capital contribution to fund alterations to be done to the land and buildings for commercial purposes for the purpose of attracting and securing prospective arm's length tenants.
The Partnership is an associate of the shareholder of the company.
Relevant legislative provisions
Income Tax Assessment Act 1936 section 109C
Income Tax Assessment Act 1936 section 109D
Income Tax Assessment Act 1936 section 109J
Reasons for decision
Division 7A is an anti-avoidance measure designed to prevent private companies from making tax-free distributions of profits to shareholders or their associates in the form of, relevantly, loans or payments. Amounts loaned or paid by a private company to shareholders or their associates are treated as dividends (unless specific exclusions apply).
Loan - section 109D of the ITAA 1936
Pursuant to subsection 109D(1) of the ITAA 1936, if a private company makes a loan to a shareholder or an associate of a shareholder; or a reasonable person would conclude that the loan is made because the recipient has been a shareholder or associate at some time, the loan will be taken to be a dividend if it is not repaid by the earlier of the due date for lodgement and the actual date of lodgement of the company's income tax return for the year of income in which the loan is made (unless an exclusion applies).
Taxation Determination TD 2008/14 Income tax: Division 7A of Part III of the Income Tax Assessment Act 1936 - what is the meaning of 'because' in the context of the expression 'because the entity has been such a shareholder or associate at some time' in relation to payment, loans and debt forgiveness made by a private company to the entity? (TD 2008/14) states in determining whether a reasonable person would conclude that the loan is made because the recipient has been a shareholder or associate at some time, what is important is whether the real and significant reason for the transaction is the fact the entity has been a shareholder or associate at some time.
Taxation Ruling TR 2010/3 Income tax: Division 7A loans: trust entitlements (TR 2010/3) provides guidance on the ordinary meaning of the term 'loan' and the extended meaning of the term for the purposes of Division 7A.
The essential element of an ordinary loan is the obligation to repay a borrowed amount. For the purposes of Division 7A, what constitutes a loan is listed at subsection 109D(3) of the ITAA 1936 and extends beyond the ordinary meaning of the term to include:
● an advance of money
● a provision of credit or any other form of financial accommodation
● a payment with the express or implied obligation to repay the amount; and
● a transaction which in substance effects a loan of money.
The Commissioner's view at paragraph 85 of TR 2010/3 is that the phrase 'advance of money' suggests a payment of moneys ahead of a due date, or a payment in expectation of repayment or reimbursement.
The phrase 'provision of credit' involves allowing time to pay any debt, not just that arising under a loan agreement and could, depending on the circumstances, extend to allowing time to pay as stipulated at paragraph 87 of TR 2010/3.
The phrase 'financial accommodation' can be read both narrowly and widely. The Commissioner's view at paragraphs 92 and 96 of TR 2010/3 is that 'financial accommodation' is limited to:
● the supply or grant of some form of pecuniary aid or favour
● under a consensual arrangement; and
● where a pecuniary sum or equivalent is ultimately payable.
A transaction which in substance effects a loan of money will consist of a payment requiring repayment as stated at paragraph 116 of TR 2010/3.
The proposed capital contribution is made in accordance with the Partnership Agreement and for purposes which are consistent with purpose of the Partnership.
The proposed capital contribution is not an ordinary loan or a loan by virtue of the extended definition of the term for the purposes of Division 7A, but rather a bona fide capital contribution. As such, it follows that there will be no deemed dividend arising under section 109D of the ITAA 1936.
Payment - section 109C of the ITAA 1936
Pursuant to subsection 109C(1) of the ITAA 1936, if a private company pays an amount during a year to an entity, the private company will be taken to pay a dividend at the end of the year of income if either the payment was made when the entity was a shareholder or an associate of a shareholder or a reasonable person would conclude that the payment is made because the recipient has been a shareholder or associate at some time (unless an exclusion applies).
Paragraphs 22 through 24 of TD 2008/14 state in determining whether a reasonable person would conclude that the loan is made because the recipient has been a shareholder or associate of such a shareholder at some time, what is important is whether the real and significant reason for the transaction is the fact the entity has been a shareholder or associate at some time.
For the purposes of Division 7A, a payment is defined at subsection 109C(3) of the ITAA 1936 to include:
● a payment to, on behalf of or for the benefit of a shareholder or associate
● a credit to, on behalf of or for the benefit of a shareholder or associate; and
● a transfer of property to a shareholder or associate.
However, under subsection 109C(3A) of the ITAA 1936, a loan to a shareholder or associate of such a shareholder is not a payment to the shareholder or associate.
The proposed capital contribution is not a loan according to its ordinary meaning or by the extended definition for the purposes of Division 7A.
The proposed capital contribution does, however, constitute a payment for the purposes of Division 7A and is to be made to an associate of a shareholder of the corporate partner. In the event the proposed capital contribution is made as a lump sum, there will be one payment. If the proposed capital contribution is made in instalments, each instalment will constitute a payment for Division 7A purposes.
As the exemption in section 109J of the ITAA 1936 applies, no deemed dividend will arise from the proposed capital contribution under section 109C of the ITAA 1936.