Edited version of private advice

Authorisation Number: 1051704483271

Date of advice: 24 June 2020

Ruling

Subject: Franking tax offsets

Question 1

Is Company A required to be a qualified person pursuant to paragraph 207-150(1)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) in respect of any franked distribution made by Company A to Trust A and subsequently distributed to Company A?

Answer

No

Question 2

Is the loan repayment by Company A to Company B in satisfaction of part of the outstanding loan balance a 'related payment' that Company A has made in respect of the dividend to be subsequently paid by Company B to Trust A, and distributed to Company A pursuant to the former section 160APHN of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

No

Question 3

Is Company A entitled to a franking tax offset under section 207-45(b) of the ITAA 1997 where Company A is assessable under Division 6 of the ITAA 1936 on its share of net income from the Company B dividends flowing indirectly to Company A, and where there are no related payments pursuant to the section 160APHN of former Part IIIAA of the ITAA 1936?

Answer

Yes

This ruling applies for the following period:

Year ended 30 June 20XX

The scheme commences on:

1 July 20XX

Relevant facts and circumstances

Company A is an Australian resident for tax purposes.

Company B is an entity incorporated outside of Australia but is a resident of Australia for Australian tax purposes.

The shares in Company B are 100% owned by Company C, as trustee for Trust A. The Trust was established by deed on Date X and the shares in Company B have been beneficially held by the Trust since Company B was established on Date Y. No further shares have been issued since Company B's inception.

Company A has been a listed beneficiary of Trust A from the date it was established as the deed of trust allows the trustee to distribute the dividend in its entirety to Company A.

Company B and Company A entered into a formal loan agreement, which has an amount outstanding and the agreement allows for repayment at any time.

As a result of the recent sale of certain assets Company A has sufficient cash to make a repayment on the loan and intends to make a cash repayment to Company B.

Subsequent to Company B receiving the loan repayment from Company A, it intends to declare a fully franked dividend which will be paid to Trust A. It is intended that this dividend will be paid from the retained earnings of Company A, and based on the excess cash reserves of Company A, which will include the loan repayment amount.

The Trustee of Trust A intends to make a determination to distribute 100% of the fully franked dividend received from Company B to Company A.

The Trust has not made any distributions of dividends from Company B in prior income years.

Assumptions

Trust A is not assessable under section 99 or 99A of the ITAA 1936 on the dividend paid to it by Company B.

The net income of Trust A for the relevant year is greater than zero.

The franked distribution flowing indirectly to Company A did not occur in one or more of the circumstances listed in paragraphs (b) to (eb) of subsection 207-150(1) of the ITAA 1997.

The recipient of the dividend, Trust A, was not required to be a qualified person.

Relevant legislative provisions

Income Tax Assessment Act 1936 Section 95

Income Tax Assessment Act 1936 Section 97

Income Tax Assessment Act 1936 Section 99

Income Tax Assessment Act 1936 Section 99A

Income Tax Assessment Act 1936 Former Section 160APHH

Income Tax Assessment Act 1936 Former Section 160APHG

Income Tax Assessment Act 1936 Former Section 160APHO

Income Tax Assessment Act 1936 Former Section 160APHM

Income Tax Assessment Act 1936 Former Section 160APHD

Income Tax Assessment Act 1936 Former Section 160APHJ

Income Tax Assessment Act 1936 Former Section 160APHL

Income Tax Assessment Act 1997 Subdivision 207-A

Income Tax Assessment Act 1997 section 207-20

Income Tax Assessment Act 1997 subsection 207-20(1)

Income Tax Assessment Act 1997 section 207-45

Income Tax Assessment Act 1997 section 207-45(a)

Income Tax Assessment Act 1997 subsection 207-50(3)

Income Tax Assessment Act 1997 section 207-145

Income Tax Assessment Act 1997 section 207-150

Income Tax Assessment Act 1997 subsection 207-150(1)

Income Tax Assessment Act 1997 paragraph 207-150(1)(a)

Income Tax Assessment Act 1936 Section 95

Income Tax Assessment Act 1936 Section 97

Income Tax Assessment Act 1936 Section 99

Income Tax Assessment Act 1936 Section 99A

Income Tax Assessment Act 1936 Former Section 160APHH

Income Tax Assessment Act 1936 Former Section 160APHG

Income Tax Assessment Act 1936 Former Section 160APHO

Income Tax Assessment Act 1936 Former Section 160APHM

Income Tax Assessment Act 1936 Former Section 160APHD

Income Tax Assessment Act 1936 Former Section 160APHJ

Income Tax Assessment Act 1936 Former Section 160APHL

Income Tax Assessment Act 1997 Subdivision 207-A

Income Tax Assessment Act 1997 section 207-20

Income Tax Assessment Act 1997 subsection 207-20(1)

Income Tax Assessment Act 1997 section 207-45

Income Tax Assessment Act 1997 section 207-45(a)

Income Tax Assessment Act 1997 subsection 207-50(3)

Income Tax Assessment Act 1997 section 207-145

Income Tax Assessment Act 1997 section 207-150

Income Tax Assessment Act 1997 subsection 207-150(1)

Income Tax Assessment Act 1997 paragraph 207-150(1)(a)

Reasons for decision

Question 1

Is Company A required to be a qualified person pursuant to paragraph 207-150(1)(a) of the ITAA 1997 in respect of any franked distribution made by Company B to Trust A and subsequently distributed to Company A?

Summary

No. The qualified person provisions in the Division 1A of the former Part IIIA of the ITAA 1936 and paragraph 207-150(1)(a) of the ITAA1997 do not apply to you in respect of any franked distribution made by Company B that flows indirectly to Company A.

Detailed reasoning

Division 207 of the ITAA 1997 sets out the consequences of an entity receiving directly or indirectly a franked distribution from a corporate tax entity. Generally, an entity receiving a franked distribution will be required to include an amount equal to the franking credit in their assessable income and be entitled to a tax offset equal to the same amount.

Section 207-150 of Subdivision 207-F of the ITAA 1997 applies where a franked distribution flows indirectly to an entity.

Under subsection 207-150(1) of the ITAA 1997, if an entity to whom a franked distribution is made is 'not a qualified person in relation to the distribution for the purposes of Division 1A' if the amount of franking credit received on the distribution is not included in their assessable income, nor can they claim a tax offset equal to the franking credit; and if the distribution flows indirectly through the entity to another entity - subsection 207-35(3) and section 207-45 of the ITAA 1997 (gross-up of assessable dividends and tax offset entitlement, respectively) do not apply to that other entity.

The wording of section 207-150 of the ITAA 1997 makes it clear that regard is to be had to the rules in the Division 1A in determining whether a person is a qualified person for the purpose of these provisions in respect of a franked distribution.

Though Part IIIAA of the ITAA 1936 ceased to have application from 1 July 2002, it is necessary to have regard to the rules in Division 1A in determining whether an entity is a qualified person for the purpose of the imputation system rules irrespective of whether the distribution is made directly or indirectly to the entity on or after 1 July 2002.

Item 25 of Schedule 4 of the Taxation Laws Amendment (No.2) 1999 (93 of 1999) amended Division 1A to apply to shares and interests in shares acquired on or after 1 July 1997, unless an exception applied.

The qualified person provisions of Division 1A applied to shares that were:

·         If held directly - acquired on or after 1 July 1997; or

·         If held indirectly through a trust - acquired after 3pm on 31 December 1997.

Company B was incorporated. on Date Y and at incorporation it was 100% owned by the Trustee of Trust A. Company A has been a listed beneficiary of Trust A since it was established on Date X.

Both Date X and Date Y are before 1 July 1997 and 3pm on 31 December 1997, so the qualified person provisions under paragraph 207-150(1)(a) have no application.

Question 2

Is the loan repayment by Company A to Company B in satisfaction of part of the outstanding loan balance a 'related payment' that Company A has made in respect of the dividend to be subsequently paid by Company B to Trust A, and distributed to Company A pursuant to the former section 160APHN of the ITAA 1936?

Summary

No, the payment is the repayment of loan and there is not an obligation to pass the benefits of the Company B dividend to another person.

Detailed reasoning

Former subsection 160APHN(2) states:

The taxpayer or associate is taken, for the purposes of this Division, to have made, to be under an obligation to make, or to be likely to make, a related payment in respect of the dividend or distribution if, under an arrangement, the taxpayer or associate has done, is under an obligation to do, or may reasonably be expected to do, as the case may be, anything having the effect of passing the benefit of the dividend or distribution to one or more other persons.

To paraphrase the above subsection;

·         You must identify the dividend; and

·         an action that has (or may have the effect) of passing the benefit of that dividend to another person.

The dividend in question is the dividend from Company B to its sole shareholder which is Trust A.

The Trust will make a determination in accordance with its deed of trust to distribute that dividend to Company A. In respect of a distribution by a trustee, former subsection 160APHN(5) states:

The distribution by a trustee of a dividend to a beneficiary or beneficiaries of the trust who are presently entitled to it does not constitute the making of a related payment in respect of the dividend.

The distribution by the Trustee to Company A of the Company B dividend is thus not a related payment.

Company A has a loan agreement in which they borrowed a sum of money from Company B.

The intended payment will reduce that balance and the amount of interest being charged, which will reduce the amount that will have to be repaid later.

The fact that some of the amount of the cash from the Loan repayment that Company B will receive may be used to fund the Company B dividend does not have the effect of passing the benefit of the dividend.

A better description would be that the repayment of the Loan will provide Company B with the cash to pay the dividend to the Trust.

In addition, for a payment to be a related payment, it must have the effect of 'passing the benefit of that dividend to another person'. In this case the initial payment is proposed to be from Company A (to Company B as repayment of the Loan) and Company A will then receive another amount (the Company B dividend) by way of a trust distribution.

For a related payment to arise there would have to be a transaction or event via which Company A passes, or is expected to pass, the benefit of the dividend onto another entity.

Question 3

Is Company A entitled to a franking tax offset under section 207-45 of the ITAA 1997 where Company A is assessable under Division 6 of the ITAA 1936 on their share of net income from the Company B dividends flowing indirectly to Company A and where there are no related payments pursuant to former section 160APHN of the ITAA 1936?

Summary

Yes. You are entitled to a tax offset under section 207-45 of the ITAA 1997 where you are assessable under Division 6 of the ITAA 1936 on the share of net income from the Company A dividends flowing indirectly to you.

Detailed reasoning

Subdivision 207-A of the ITAA 1997 deals with franked distributions received by entities other than:

a)         A partnership or trustee to whom a franked distribution is made (except a partnership or trustee that is a corporate tax entity, or a trustee of a trust that is a complying superannuation entity, when the distribution is made); or

b)         an entity to whom a franked distribution flows indirectly.

Section 207-20 of the ITAA 1997 states:

207-20(1) If an entity makes a franked distribution to another entity, the assessable income of the receiving entity, for the income year in which the distribution is made, includes the amount of the franking credit on the distribution. This is in addition to any other amount included in the receiving entity's assessable income in relation to the distribution under any other provision of this Act.

207-20(2) The receiving entity is entitled to a tax offset for the income year in which the distribution is made. The tax offset is equal to the franking credit on the distribution.

Section 207-45 of the ITAA 1997 deals with tax offsets where the distribution flows indirectly to an entity. Section 207-45 of the ITAA 1997 states that:

An entity to whom a *franked distribution *flows indirectly in an income year is entitled to a *tax offset for that income year that is equal to its *share of the *franking credit on the distribution, if it is:

a)         an individual; or

b)         a *corporate tax entity when the distribution flows indirectly to it; or

c)         the trustee of a trust that is liable to be assessed on a share of, or all or a part of, the trust's *net income under section 98, 99 or 99A of the Income Tax Assessment Act 1936 for that income year; or

d)         the trustee of a *complying superannuation fund, a *non-complying superannuation fund, a *complying approved deposit fund, a *non-complying approved deposit fund or a *pooled superannuation trust in relation to that income year.

Under subsection 207-50(3) of the ITAA 1997 a franked distribution flows indirectly to a beneficiary of a trust in an income year if, and only if:

(a) during that income year, the distribution is made to the trustee of the trust, or *flows indirectly to the trustee as a partner or beneficiary because of a previous application of subsection (2) or this subsection; and

(b) the beneficiary has this amount for that income year (the share amount):

(i) a share of the trust's *net income for that income year that is covered by paragraph 97(1)(a) of the Income Tax Assessment Act 1936; or

(ii) an individual interest in the trust's net income for that income year that is covered by section 98A or 100 of that Act;

(whether or not the share amount becomes assessable income in the hands of the beneficiary); and

(c) the beneficiary's *share of the distribution under section 207-55 is a positive amount (whether or not the beneficiary actually receives any of that share).

As the distribution is made to the Trustee and the Trustee then distributes it to you, it is taken under subsection 207-20(1) of the ITAA 1997 to have been made indirectly, thereby satisfying the requirement under subsection 207-45(a) of the ITAA 1997 for that income year. Therefore, in the event that you are assessed on the franked distribution as the ultimate recipient, you will be entitled to a franking credit under section 207-45 of the ITAA 1997.

Section 207-150 of the ITAA 1997 will not impact on your entitlement to the tax offset, as none of the circumstances listed in paragraphs (b) to (eb) of this section apply. The qualified person rule in paragraph 207-150(1)(a) of the ITAA 1997 has no application in relation to the Company A shares, as per Question 1.

For these reasons your entitlement under section 207-45 of the ITAA 1997 to a tax offset in respect of franking credits attaching to the Company B dividend will not be limited under subsection 207-150(1) of the ITAA 1997.