Edited version of your written advice

Authorisation Number: 1051462103361

Date of advice: 14 December 2018

Ruling

Subject: Division 7A Loans

Question 1

Will you be taken to receive a dividend from the assignee companies in accordance with section 109D(1) of Income Tax Assessment Act 1936 (ITAA 1936) where an interest in a pre-4 December 1997 debt you owe is assigned to X associated private companies?

Answer

Yes

Question 2

Will the assignor company be taken to have made a notional loan to you under section 109T of the ITAA1936 where it assigns its interest in a pre-4 December 1997 debt owed by you to X associated private companies?

Answer

Yes

Question 3

Will the Commissioner determine the amount of the notional loan made by the assignor company to be nil under section 109W of the ITAA 1936?

Answer

Yes

This ruling applies for the following period:

1/07/2018 to 30/06/2019

The scheme commences on:

1/07/2018

Relevant facts and circumstances

1. Z entities are associates of each other pursuant to section 318 of the ITAA 1936.

2. XY of the entities are private companies and the Y others are trusts.

3. According to its financial accounts, one company (the assignor) has an amount receivable from one of the trusts (‘the trust’) and that amount remains outstanding.

4. As the amount receivable was provided by the company to the trust prior to 4 December 1997 and prior to the introduction of Division 7A of Part III of the ITAA 1936, the amount has not been previously treated as a deemed dividend.

5. No written contracts were executed in respect of the arrangement relating to the pre-4 December 1997 amount receivable. There have been no changes to the terms of the arrangement since 4 December 1997.

6. The debt is not statute barred.

7. The assignor proposes to assign its interest in the debt in equal proportions to X assignee companies.

8. The assignment will happen in the 2019 income year.

9. The assignee companies will not demand payment in full by the lodgment day of the income year in which they receive the assignment.

10. No date has been fixed for when the assignee companies will call on payment from the trust.

11. The full amount of the assigned debt will be outstanding at the lodgment day of the income year in which the assignment is made.

12. If payments are not made when called, the assignee companies could issue formal demands and pursue the creditor through recovery proceedings.

13. The terms of the debt will remain the same as stated in the deed of assignment.

14. Express notice of the assignment of the debt will be provided to the trust by 30 June 2019 pursuant to section 134 of the Property Law Act 1958 (X).

15. The purpose of the assignment is to facilitate the liquidation of the assignor company which is considered to be surplus to the group’s requirements.

16. The assignment is to occur before the liquidation of the assignor company.

17. The total consideration that will be paid for the interest in the debt will be the book value of the loans. A valuer has not been engaged.

18. Each assignee company will provide ¹/₃ of the consideration in respect of their interest in the debt.

19. The loans made to date by the assignor, the assignee companies, and the trust, are only to entities controlled by related individuals.

20. It is expected that the assignee will exercise its right to receive payments against the outstanding amount from the entity previously owing the money to the assignor.

Relevant legislative provisions

Income Tax Assessment Act 1936 Division 7A

Income Tax Assessment Act 1936 Subdivision D

Income Tax Assessment Act 1936 Section 109D

Income Tax Assessment Act 1936 Subsection 109D(1)

Income Tax Assessment Act 1936 Subsection 109D(3)

Income Tax Assessment Act 1936 Subsection 109D(3)(b)

Income Tax Assessment Act 1936 Subsection 109D(4)

Income Tax Assessment Act 1936 Subsection 109D(5)

Income Tax Assessment Act 1936 Section 109K

Income Tax Assessment Act 1936 Section 109L

Income Tax Assessment Act 1936 Section 109M

Income Tax Assessment Act 1936 Section 109N

Income Tax Assessment Act 1936 Section 109NA

Income Tax Assessment Act 1936 Section 109NB

Income Tax Assessment Act 1936 Subdivision E

Income Tax Assessment Act 1936 Section 109T

Income Tax Assessment Act 1936 Subsection 109T(1)

Income Tax Assessment Act 1936 Subsection 109T(1)(b)

Income Tax Assessment Act 1936 Subsection 109T(2)

Income Tax Assessment Act 1936 Subsection 109T(3)

Income Tax Assessment Act 1936 Section 109V

Income Tax Assessment Act 1936 Section 109W

Property Law Act 1958 (VIC) Section 134

ATO view documents

TR 2010/3 Income tax: Division 7A loans: trust entitlements

TD 2011/16 Income tax: Division 7A - payments and loans through interposed entities - factors the Commissioner will take into account in determining the amount of any deemed payment or notional loan arising under section 109T of the Income Tax Assessment Act 1936

TD 2018/13 Income tax: Division 7A: can section 109T of the Income Tax Assessment Act 1936 apply to a payment or loan made by a private company to another entity (the 'first interposed entity') where that payment or loan is an ordinary commercial transaction?

Other references (non ATO view)

Corporate Initiatives Pty Ltd & Ors v. Federal Commissioner of Taxation [2005] FCAFC 62; 142 FCR 279; 219 ALR 339; 59 ATR 351; 2005 ATC 4392

Eldersmede Pty Ltd & Ors v. Federal Commissioner of Taxation [2004] AATA 710; 56 ATR 1179; 2004 ATC 2129

Re Montgomery Wools Pty Ltd as trustee for Montgomery Wools Pty Ltd Super Fund and Federal Commissioner of Taxation [2012] AATA 61; 2012 ATC 10-233; (2012) 87 ATR 282

Spellson v. George (1992) 26 NSWLR 666; [1992] NSWCA 254

Reasons for decision

Question 1

Will you be taken to receive a dividend from the assignee companies in accordance with section 109D(1) of Income Tax Assessment Act 1936 (ITAA 1936) where an interest in a pre-4 December 1997 debt you owe is assigned to X associated private companies?

Summary

You will be taken to receive a dividend from the assignee companies under subsection 109D(1) where the debt you now owe to the assignee companies is not fully repaid by the lodgment day of the assignee companies 2019 tax return.

Detailed reasoning

1. Under subsection 109D(1):

A private company is taken to pay a dividend to an entity at the end of one of the private company's years of income (the current year) if:

(a) the private company makes a loan to the entity during the current year; and

(b) the loan is not fully repaid before the lodgment day for the current year; and

(c) Subdivision D does not prevent the private company from being taken to pay a dividend because of the loan at the end of the current year; and

(d) either:

(i) the entity is a shareholder in the private company, or an associate of such a shareholder, when the loan is made; or

(ii) a reasonable person would conclude (having regard to all the circumstances) that the loan is made because the entity has been such a shareholder or associate at some time.

2. A 'loan' is defined for the purposes of Division 7A in subsection 109D(3) as including:

(a) an advance of money; and

(b) a provision of credit or any other form of financial accommodation; and

(c) a payment of an amount for, or on account of, on behalf of or at the request of, an entity, if there is an express or implied obligation to repay the amount; and

(d) a transaction (whatever its terms or form) which in substance effects a loan of money.

3. Paragraph 109D(3)(b) includes within the meaning of a Division 7A loan 'a provision of credit or any other form of financial accommodation'.

4. Paragraph 96 of Taxation Ruling TR 2010/3 Income tax: Division 7A loans: trust entitlements explains what amounts to financial accommodation for the purposes of subsection 109D(3):

In the Commissioner's view, the statutory context in which the phrase appears limits what amounts to financial accommodation under this definition to:

● the supply or grant of some form of pecuniary aid or favour (as suggested by the ordinary meaning of this term - see paragraphs 90 to 92 of this Ruling);

● under a consensual arrangement (similarly to Radilo); and

● where a principal sum or equivalent is ultimately payable (similarly to Radilo).

The supply or grant of some form of pecuniary aid or favour

5. Paragraphs 98-102 of TR 2010/3 provides further explanation on when an entity is taken to provide a benefit. In summary paragraphs 101-102 of TR 2010/3 state:

101. In Eldersmede and Corporate Initiatives a beneficiary was taken to have provided a benefit to the trustee of a related trust directly as a result of that beneficiary's inaction. The beneficiary provided that benefit to the trustee by failing to either:

● call for payment of its UPE; or

● call for the trustee to invest the amount of that UPE at a commercial return for its (the beneficiary's) benefit.

102. The findings of the AAT and comments by the Full Federal Court indicate that there would be a similar provision of a benefit by an unrelated beneficiary not calling for payment of funds distributed to it if it has knowledge of the UPE and authorises, or with this knowledge acquiesces to, the trust's continued use of those funds for trust purposes.

6. Under section 134 of the Property Law Act 1958 (X), where the assignor makes an absolute assignment in writing of a debt of which express notice is provided to the debtor, the assignment shall be and shall be deemed to have been effectual in law to pass and transfer legal right to the debt and all legal and other remedies.

7. The assignment will be executed in writing via a deed of assignment in which the assignor will assign absolutely all of its right title and interest in the debt to the assignee companies as tenants in common. The assignor will provide express notice to you of the assignment by 30 June 2019 pursuant to section 134 of the Property Law Act 1958 (X).

8. When the assignor assigns absolutely all of its right title and interest in the debt to the assignee companies and provides express notice to you, the assignee companies will have a legal right to call on payment of their interest in the debt from you.

9. Accordingly, by the assignee companies not calling for payment of their interest in the debt from you, they authorise, or acquiesce to, your continued use of those funds for trust purposes. In allowing this to continue they provide a benefit to you in the form of pecuniary aid in the amount of funds owed to you from the assignment of the interest in the debt.

Under a consensual arrangement

10. The assignor and the assignee companies will consent to the assignment of the debt as signatories to the deed of assignment.

11. Whilst you are not a signatory to the Deed of assignment, your corporate trustee, shares common directors with each of the assignee companies and the assignor.

12. In Spellson v. George (1992) 26 NSWLR 666; [1992] NSWCA 254 the Supreme Court of New South Wales had cause to consider what would amount to the consent of a beneficiary to the actions of a trustee in the context of a claim by the beneficiary that there had been a breach of trust. In his judgment, Handley JA, observed:

Consent may take various forms. These include active encouragement or inducement, participation with or without direct financial benefit, and express consent. Consent may also be inferred from silence and lack of activity with knowledge.

13. In Re Montgomery Wools Pty Ltd as trustee for Montgomery Wools Pty Ltd Super Fund and Federal Commissioner of Taxation [2012] AATA 61; 2012 ATC 10-233; (2012) 87 ATR 282 (Montgomery Wools) the AAT held that consent could be inferred where there was a common controlling mind:

85. … In Radilo Enterprises, the Full Court considered the meaning of "the provision of credit or … financial accommodation" in the context of another legislative provision and found that the provision of credit or financial accommodation "implies a consensual transaction". In the case where Mr Montgomery was the controlling mind of both Montgomery Wools and Warwick Wools and was aware of the sale of Pearl Street, the distribution of income to the MWS Fund and the proposed payment to the CBA for the benefit of the MFT rather than to the MWS Fund, the Tribunal can infer there was a consensual arrangement. It would be artificial to suggest otherwise…

87…The arrangement was consensual because it was approved by Mr Montgomery, who was the controlling mind of both trustees. It does not matter that Mr Montgomery did not specifically turn his mind to the legal effect of this or the specific nature of the transactions. He approved and intended to approve the sale and payment of the proceeds for the benefit of the MFT, knowing the MWS Fund was entitled to those proceeds

14. As there are common controlling minds between your corporate trustee and the companies that are party to the assignment, it will be taken that you will have knowledge of the assignment and it will be inferred they have consented to the arrangement.

Where a principal sum or equivalent is ultimately payable

15. As per the draft deed of assignment, ‘the terms of the debt were never reduced to writing however it is understood that the debt is interest free unless otherwise agreed and repayable at the demand of the assignor’.

16. When the assignor assigns absolutely all of its right title and interest in the debt to the assignee companies and provides express notice to you pursuant to section 134 of the Property Law Act 1958 (VIC), the assignee companies will have a legal right to call on payment of their interest in the debt from you.

17. Upon execution of the deed of assignment, the assignee companies will be providing pecuniary aid to you by not calling on a debt that is ultimately payable to the assignee companies. As there are common controlling minds it will be inferred all parties have consented to the arrangement.

18. You are an associate of the shareholders of the assignee companies in accordance with section 318 of the ITAA 1936. Accordingly, the assignee companies will be providing financial accommodation to you and will be taken to have made a loan to you for the purposes of Division 7A.

Timing of loan

19. Subsection 109D(4) sets out in which year the loan is made:

For the purposes of this Division, a loan is made to an entity at the time the amount of the loan is paid to the entity by way of loan or anything described in subsection (3) is done in relation to the entity.

20. The assignee companies do not make a loan in the ordinary sense. For the purposes of Division 7A, the loan made by the assignee companies is the provision of financial accommodation to you, being something ‘described in subsection (3)’. The timing of the provision of financial accommodation by the assignee companies to you will be when the assignee companies receive the assignment of the interest in the debt and do not call for payment in full, which will be during the 2019 income year.

21. Pursuant to subsection 109D(4), for the purposes of Division 7A, the assignee companies will be taken to make a loan to you in the 2019 income year.

22. Subsection 109D(5) deals specifically with loans made before 4 December 1997:

If the terms of a loan made before 4 December 1997 are varied on or after that day by extending the term of the loan or increasing its amount, this Division applies to the loan as if it were made on the new terms when the variation occurred.

23. Whilst the original loan was made to you by the assignor before 4 December 1997, subsection 109D(5) is not applicable to the assignee companies. The financial accommodation that the assignee companies have provided to you is the relevant transaction, and this loan was not made before 4 December 1997. As mentioned above, the loan made by the assignee companies was made via the provision of financial accommodation which only occurs after the deed of assignment is executed and the assignee companies do not demand payment in full.

Exclusions

24. Subdivision D sets out exclusions for loans that will not be treated as dividends for the purposes of subsection 109D(1). None of these exclusions apply to the loan made by the assignee companies to you as explained below:

a) loans to other companies (section 109K);

● The loan is to a trust not a company.

b) loans that are otherwise assessable or specifically excluded from being assessable (section 109L);

● Not applicable. The amount is not otherwise assessable to you. Nor is it specifically excluded from being included in your income outside of Division 7A.

c) loans made in the ordinary course of business on ordinary commercial terms at arm’s length (section 109M);

● Not applicable. The only loans made by the group are to related parties.

d) loans that meet criteria for minimum interest rate and maximum term (section 109N);

● The terms of the debt as stated in the deed of assignment do not meet the conditions in section 109N.

e) certain loans and distributions by liquidators (section 109NA);

● Not applicable.

f) loans that are for the purpose of funding the purchase of certain ESS interests under an employee share scheme (section 109NB).

● Not applicable.

25. You will be taken to receive a dividend from the assignee companies under subsection 109D(1) where the debt you now owe to the assignee companies is not fully repaid by the lodgment day of the assignee companies 2019 tax return.

Question 2

Will the assignor company be taken to have made a notional loan to you under section 109T of the ITAA1936 where it assigns its interest in a pre-4 December 1997 debt owed by you to X associated private companies?

Summary

The assignor company will be taken to have made a notional loan to you under section 109T of the ITAA 1936 where it assigns its interest in a pre-4 December 1997 debt owed by you to X associated private companies.

Detailed reasoning

26. Subsection 109T(1) provides that a private company will be taken to make a payment or loan to the target entity as described in section 109V or 109W if:

(a) the private company makes a payment or loan to another entity (the first interposed entity) that is interposed between the private company and the target entity; and

(b) a reasonable person would conclude (having regard to all the circumstances) that the private company made the payment or loan solely or mainly as part of an arrangement involving a payment or loan to the target entity; and

(c) either:

(i) the first interposed entity makes a payment or loan to the target entity; or

(ii) another entity interposed between the private company and the target entity makes a payment or loan to the target entity.

27. The test in paragraph 109T(1)(b) is approached from the perspective of a reasonable person and applies having regard to the prevailing circumstances at the time when the interposed entity makes the payment or loan to the target entity.

28. Paragraph 109T(1)(b) makes no reference to there being any purpose or intent of avoiding Division 7A. It merely requires that a reasonable person would conclude that a payment or loan from the private company to the interposed entity was made as part of an arrangement involving a payment or loan to the target entity. Nonetheless, such a purpose or intent may help establish such a reasonable conclusion.

29. Subsection 109T(2) makes it clear that it does not matter whether the interposed entity made the payment or loan to the target entity before, after or at the same time that the first interposed entity received the payment or loan from the private company; or whether or not the interposed entity paid or lent the target entity the same amount as the private company paid or lent the first interposed entity.

30. Subsection 109T(3) provides an exclusion if the payment or loan to the first interposed entity is treated as a dividend under subdivision B of Division 7A.

31. The assignor is being wound up as it is considered to be surplus to the group’s requirements. The winding up necessitates the assignor to take some action in respect of the debt owed by you. The action chosen is the assignment of the debt to the assignee companies.

32. Upon execution of the deed of assignment in 2019 income year, the assignor assigns its interest in the debt to each of the assignee companies (interposed entities). The transfer of the assignors interest in the debt is a transfer of property by the assignor to the assignee companies which amounts to a payment as defined by subsection 109C(3)(c) and a payment to an interposed entity for the purposes of subsection 109T(1)(a).

33. Paragraph 109D(3)(b) includes within the meaning of a Division 7A loan 'a provision of credit or any other form of financial accommodation'.

34. As per the reasoning in question 1 the assignee companies will be providing financial accommodation to you and be taken to have made a loan to you for the purposes of Division 7A when they are assigned the interest in the debt and do not call for payment in full, being during the 2019 income year.

Reasonable person test

35. The reason for assigning the debt is to facilitate the assignor winding up. The debt is being assigned in equal shares to X companies.

36. If the interest in debt was not assigned before winding up, the assignor would be required to demand repayment.

37. The sum of the debt owed by you is roughly equivalent to the sum of unsecured loans that you have made to related parties. Approximately 50% of the unsecured loans have been made to XY related persons, who are also the XY directors of your trustee. The related persons are also directors of the assignor or the assignee companies.

38. You have no other substantial assets to fund repayment of the debt.

39. Other alternatives would be for the assignor to forgive the debt which may have tax consequences or the loan could be distributed in specie as part of a liquidator’s distribution.

40. The financial accommodation provided by the assignee companies to you only arises as a result of the assignor choosing to assign them the debt and the assignee companies failing to demand payment.

41. As there are common controlling minds between the assignor, assignee companies and you it will be inferred that each will have knowledge before the assignment occurs that no date has been fixed for when the assignee companies will call on payment from you. It will also be inferred that they will each have knowledge that the assignee companies will not demand payment by the assignee companies’ lodgment date for the year in which the assignment occurs.

42. Based on the facts, a reasonable person would conclude the main purpose of the assignor in assigning the debt to the assignee companies was to allow for the continued use of the funds for an indeterminate time after the assignor is wound up.

43. This conclusion is informed by factors including the similarity in the quantum of assigned debt to the unsecured loans owed to you by related parties, the lack of other liquid assets held by you to fund repayment of the debt, the common controlling minds between the parties and the shared knowledge that the debt will continue to remain unpaid for an indeterminate time.

44. The exclusion in subsection 109T(3) would not apply as the payments to each of the interposed entities (the assignee companies) are company to company payments and would therefore be excluded from being treated as a dividend under section 109C due to the operation of section 109K.

45. Where section 109T applies, the amount of the payment or loan taken to have been made by the private company to the target entity is determined by the Commissioner taking into account the factors described in sections 109V and 109W respectively.

46. The transaction between the assignee companies to you (target entity) is a loan as defined in subsection 109D(3).

47. Section 109W operates to treat the private company as making a loan to the target entity where an interposed entity loans an amount to the target entity. The timing of the notional loan will be when the interposed entity made the loan to the target entity.

48. The assignor will be taken to make a notional loan to you when the assignee companies are assigned the debt and do not call for payment in full.

Question 3

Will the Commissioner determine the amount of the notional loan made by the assignor company to be nil under section 109W of the ITAA 1936?

Summary

The Commissioner will determine the amount of the notional loan made by the assignor company to be nil under section 109W of the ITAA 1936.

Detailed reasoning

49. Taxation ruling TD 2011/16 Income tax: Division 7A - payments and loans through interposed entities - factors the Commissioner will take into account in determining the amount of any deemed payment or notional loan arising under section 109T of the Income Tax Assessment Act 1936 outlines the factors the Commissioner will consider. These factors, and their application to the proposed arrangement are detailed as follows:

a) the amount that an interposed entity loaned or paid you (target entity)

● Where the assignee companies fail to call on the debt, the amount of financial accommodation (being a loan for the purposes of Division 7A), by the assignee companies will be equal to the assigned debt.

b) how much of the amount loaned to you by an interposed entity under the arrangement the Commissioner believes represented arm's length consideration payable to you by the private company or an interposed entity for anything (other than its right to receive repayment of the loan and any relevant interest);

● Not applicable. The amount is a loan and does not represent consideration payable to you for anything.

c) the extent to which any actual loans made as part of the arrangement have been repaid by that time

● No amount will be paid in the 2019 income year and no fixed date for payment has been determined.

d) the extent to which any loan or payment made from the private company to an interposed entity as part of the arrangement meets the criteria set out in section 109N

● The terms of the debt as stated in the deed of assignment do not meet the conditions in section109N.

e) the extent to which any actual loans made as part of the arrangement would be covered by section 109M (loans in the ordinary course of the private company's business made on its usual terms applicable to arm's length parties)

● Not applicable. The only loans made by the assignor and assignee companies are to related parties, and are therefore not in the ordinary course of business.

f) the extent to which the above factors reflect genuine transactions that are not designed to avoid the application of Subdivision E otherwise than as envisaged within the scheme of Division 7A.

● Not applicable.

50. In addition to the relevant factors above, the Commissioner may, in appropriate cases, consider (having regard to the intended purpose of Division 7A) the extent to which tax is otherwise payable because of the structure used in the arrangement. (See paragraph 81 of Tax Determination TD 2018/13 Income tax: Division 7A: can section 109T of the Income Tax Assessment Act 1936 apply to a payment or loan made by a private company to another entity (the 'first interposed entity') where that payment or loan is an ordinary commercial transaction?)

51. The assignee companies will be taken to pay a dividend to you under subsection 109D(1) where the debt assigned to them is not fully repaid by the lodgment day of the tax return for the year the assignment and subsequent loan is made (2019 tax return).

52. Based on the above factors outlined in TD 2011/16 and that the amount of the notional loan from the assignor to you will also be assessable to you as a deemed dividend from the assignee companies, the Commissioner would determine the notional loan amount from the assignor to you as nil.