Tax on corporate lending and bond issues in Australia: overview

A Q&A guide to tax on finance transactions in Australia.

This Q&A provides a high level overview of finance tax in Australia and focuses on corporate lending and borrowing (including withholding tax requirements), bond issues, plant and machinery leasing, taxation of the borrower and lender when restructuring debt, and securitisations.

To compare answers across multiple jurisdictions, visit the Tax on corporate lending and bond issues Country Q&A tool.

The Q&A is part of the PLC multi-jurisdictional guide to tax on finance transactions. For a full list of jurisdictional Q&As visit www.practicallaw.com/taxontransactions-mjg.

Karen Payne, Daniele Rostirolla and Rebecca Healy, Minter Ellison
Contents

Tax authorities

1. What are the main authorities responsible for enforcing taxes on finance transactions in your jurisdiction?

The Australian Taxation Office (ATO) is the federal agency responsible for the administration and collection of income tax (which includes capital gains tax), fringe benefits tax and goods and services tax.

Each of the states and territories has an Office of State Revenue that is responsible for the administration and collection of state taxes and duties including stamp duty, land tax and payroll tax.

 

Pre-completion tax clearances

2. Is it possible or necessary to apply for tax clearances from the tax authorities before completing a finance transaction?

A tax clearance procedure is available at the taxpayer's request in respect of the federal taxes due to the ATO (see below).

A private binding ruling can be obtained for a corporate taxpayer or a class ruling can be obtained on behalf of a class of taxpayers (for example, all of the shareholders in the company) in appropriate circumstances. Private rulings set out the Commissioner's opinion about how tax laws apply, and include the following taxes:

  • Income tax.

  • Fringe benefits tax.

  • Franking tax.

  • Withholding tax (mining and non resident).

  • Excise duty.

  • Fuel tax credits (net fuel amount).

  • Excise product grants and benefits including the following fuel schemes:

    • energy grants;

    • cleaner fuel grants;

    • product stewardship (oil) benefits.

  • Indirect taxes:

    • goods and services tax (GST);

    • luxury car tax (LCT);

    • wine equalisation tax (WET).

The ATO provides written advice (in the form of a ruling) that provides full protection from underpaid tax, penalties and interest in relation to an adjusted assessment. A private ruling only relates to the applicant taxpayer and cannot be relied on by another entity. The ruling will not provide full protection where the full facts are not given, or circumstances change.

Private rulings can also be obtained from each of the Offices of State Revenue in respect of stamp duties.

 

Disclosure of finance transactions

3. Is it necessary to disclose the existence of any finance transactions to the tax authorities?

As part of the corporate income tax filing, the level of indebtedness (including any adjustments made for exceeding the thin capitalisation limits) will need to be disclosed. A new reportable tax position schedule also applies for some taxpayers from 2011/2012.

Circumstances where disclosure is required

There is a new schedule that will be introduced as part of the corporate income tax filings for the 2011/2012 income year which will require large businesses to disclose their most contestable and material tax positions in a reportable tax position (RTP) schedule.

An RTP is one or more of the following:

  • A position that is about as likely to be correct as incorrect, or is less likely to be correct than incorrect.

  • A position in respect of which uncertainty about the taxes payable or recoverable is recognised and/or disclosed in the taxpayer's (or a related party's) financial statements.

  • A transaction or event where the proceeds exceed AUD$200 million and the difference between accounting and tax profit exceeds the materiality threshold (generally 5%) (as at 1 March 2012, US$1 was about AUD$0.9).

Manner and timing of disclosure

The RTP schedule and any other tax filings in relation to adjustments made for exceeding the thin capitalisation limits must be disclosed in the schedules which form part of the annual income tax return filing.

 

Taxes on corporate lending/borrowing

Taxes potentially chargeable on amounts receivable

4. What are the main corporate taxes potentially chargeable on interest and other amounts receivable under a loan?

Income tax

Key characteristics. Income tax is payable by companies at the current rate of 30% by all companies on Australian sourced income (this includes corporate limited partnerships and trustees of corporate unit trusts and public trading trusts). Capital gains tax forms part of the income tax legislation and applies at the same company rate of 30%.

Calculation of tax. Taxable income is calculated by deducting all allowable deductions from assessable income, and then calculating the tax. Capital gains (and losses) form part of this taxable income calculation (although capital losses are quarantined to offset capital gains only).

Triggering event. Resident taxpayers are generally assessed on their worldwide income (subject to specific exemptions) and non-residents on Australian sourced income only.

Resident and non-resident taxpayers are liable for Australian tax. Non-residents are only subject to capital gains tax in Australia on assets that have a connection with Australia (that is, taxable Australian property).

Applicable rate(s). The current income tax rate applicable to companies is 30%.

Withholding tax

Key characteristics. A final withholding tax on interest income applies where the lender is a foreign resident that does not carry on business in Australia through a permanent establishment.

Calculation of tax. Any withholding tax payable is a tax liability of the non resident recipient of the interest.

However, we note that the Australian borrower will only be entitled to claim an income tax deduction for payments of interest which are subject to withholding tax once the withholding tax has been remitted to the ATO.

Triggering event. The relevant legislation are the provisions of the Income Tax Assessment Act 1936, the Income Tax Assessment Act 1997 and the Taxation Administration Act 1953 (referred to collectively here as the Tax Act). The Tax Act imposes a requirement to withhold and remit tax to the ATO on certain prescribed payments to non-residents, including interest.

The liability to withhold tax generally arises when the interest has been paid, credited or otherwise dealt with.

Applicable rate(s). A 10% final withholding tax applies on interest income derived by a non-resident (subject to any applicable relief, including under a relevant tax treaty).

 

Tax reliefs available for borrowing costs

5. What corporate tax reliefs are available for borrowing costs (including interest and other amounts payable under a loan)?

Interest withholding tax exemption — financial institutions

Key characteristics. Interest paid to a financial institution that is a tax resident in one of the following jurisdictions is exempt from interest withholding tax:

  • Finland.

  • France.

  • Japan.

  • New Zealand.

  • Norway.

  • South Africa.

  • United Kingdom.

  • United States of America.

Calculation of relief. See above, Key characteristics.

Triggering event. See above, Key characteristics.

Applicable rate(s). See above, Key characteristics.

Interest withholding tax — public offer

An exemption from withholding tax also exists where there is a public offer of a debenture or syndicated loan facility in accordance with the Tax Act.

Thin capitalisation rules

We also note that Australia's thin capitalisation rules may apply to disallow a proportion of the otherwise deductible interest expense attributable to the Australian operations of:

  • Australian entities that operate internationally.

  • Australian entities that are foreign controlled.

  • Foreign entities that operate in Australia.

The thin capitalisation rules apply where the amount of debt used to finance the Australian operations exceeds the specified limits.

Broadly, the maximum allowable debt amount is generally 75% of the average value of the entity's Australian assets (with some adjustments).

This is based on the safe harbour debt-to-equity funding ratio of 3:1.

 

Tax payable on the transfer of debt

6. What corporate, transfer, stamp or other taxes are payable on the transfer of a debt under a loan?

Goods and services tax (GST)

Generally, no GST is payable on transfers of debt. However, the transferor and transferee may be restricted in their ability to claim input tax credits for the GST charged on any costs incurred in connection with the debt transfer.

Key characteristics. GST is a broad-based tax of 10% on most goods, services and other items sold or consumed in Australia. The tax applies to all taxable transactions in a supply chain but generally business taxpayers claim a credit or refund for the GST they have incurred in acquiring supplies. So while GST is paid at each step in the supply chain, businesses do not generally bear any actual economic cost of the tax. The cost of GST is borne by the final consumer, who cannot claim GST credits.

The tax is collected by businesses and remitted to the ATO.

Calculation of tax. The tax is generally charged at 10% on most goods, services and other items sold or consumed in Australia.

Triggering event. Generally, a taxable supply within Australia triggers the tax.

Most goods, services and other things sold or provided within Australia are taxable.

There are some exceptions, as follows:

  • GST-free supplies (as the name implies) are not subject to GST. These include:

    • most basic foods;

    • some education courses;

    • supplies of going concerns and qualifying farmland (if used for a farming business);

    • some medical, health and care products and services.

  • Input taxed supplies which include financial supplies (that is, dealing in securities or lending or borrowing money), and renting out residential premises are also not subject to GST. However, the supplier is also limited in its ability to claim input tax credits or refunds.

Liable party/parties. GST is collected by the supplier and is paid by the acquirer as part of the purchase price or consideration.

Applicable rate(s). GST is charged at a flat rate of 10%

Income tax

A transfer of a debt should have no direct tax consequences. However, the commercial debt forgiveness rules may apply to the borrower to reduce the amount of the borrower's tax attributes (future deductions, for example, carry forward losses, cost base, and so on).

Key characteristics. The commercial debt forgiveness provisions may apply to the borrower where the transfer of the debt constitutes an extinguishment or forgiveness of the liability (or part of the liability).

Calculation of tax. Where commercial debt forgiveness rules apply, the amount of the forgiveness is broadly worked out by calculating the value of the debt when it was forgiven, on the basis that the borrower was solvent at the time of the forgiveness, less any consideration given by the borrower for the forgiveness of the debt.

This "net forgiven amount" is then applied to reduce the borrower's "tax deductions" in the following order:

  • Deductible revenue losses.

  • Deductible capital losses.

  • Carry forward expenditures.

  • Cost base of assets.

Triggering event. The commercial debt forgiveness provisions apply where the borrower is released from its obligations (or part of its obligations) in relation to the debt for no or below market value consideration.

Liable party/parties. The borrower is liable.

Applicable rate(s). The borrower's tax attributes (future deductions) are reduced.

Stamp duty

The stamp duty consequences of the transfer of a debt will vary depending on:

  • Whether the debt is secured or unsecured.

  • The location of the debt.

In Queensland:

  • The transfer of an unsecured debt will be dutiable with duty payable at rates of up to 5.25%.

  • The transfer of a secured debt over non dutiable property will not be dutiable.

  • The transfer of a secured debt over dutiable property will be dutiable, though various concessions do exist, so in certain circumstances a nominal rate of duty may be payable.

In South Australia:

  • The transfer of an unsecured debt will generally be dutiable with duty payable at rates of up to 5.5%.

  • The transfer of a secured debt will not be subject to duty.

In Western Australia:

  • The transfer of an unsecured debt will generally be dutiable with duty payable at rates of up to 5.15%, unless the debt transferred is a trade debt, which will not be dutiable.

  • The transfer of a secured debt will not be dutiable where the consideration for the transfer is equal to, or greater than, the market value of the debt/security interest.

In Western Australia, the purchaser is liable to the duty. However, both the seller and the purchaser are liable for the duty in Queensland and South Australia.

The transfer of a debt in each of New South Wales, Tasmania, the Australian Capital Territory, Victoria and the Northern Territory is generally not subject to duty or is exempt.

 

Withholding tax

7. Is there withholding tax on interest or any other payments under a loan?

When withholding tax applies

The Tax Act imposes a requirement to withhold and remit tax to the ATO on certain prescribed payments to non-residents, including dividends, interest and royalties.

The liability to withhold tax generally arises for the non resident when the respective dividend, interest or royalty amount has been paid, credited or otherwise dealt with.

Income tax deductions for payments (by the resident) of interest and royalties subject to withholding tax are not available until such time as the withholding tax has been remitted to the ATO.

Applicable rate(s) of withholding tax

The following income classes are generally taxed on a final withholding tax basis:

  • Interest is charged at 10%.

  • Unfranked dividends are charged at 30% (though this amount can be limited by a double tax treaty).

  • Royalties are charged at 30% (though this amount may be limited by a double tax treaty).

Exemptions from withholding tax

See Question 5, Interest withholding tax exemption – financial institutions: Key characteristics) for a discussion on the exemption from withholding tax that is available where interest is paid to financial institutions resident in certain jurisdictions.

An exemption from withholding tax also exists where there is a public offer of a debenture or syndicated loan facility in accordance with the Tax Act.

For a comparative summary of withholding tax on interest, see table, Withholding tax requirements on interest on corporate debt, and the key exemptions, in this multi-jurisdictional guide.

 

Guarantees

8. Do any particular tax issues arise on the provision of a guarantee?

The ATO has expressed the view that amounts paid by a guarantor in substitution for interest payments are "in the nature of interest" and therefore constitute interest for the purposes of the Tax Act, meaning that they are subject to interest withholding tax when paid by an Australian resident to a non-resident.

To decide on the issue of whether payments made under the guarantee are in substitution for interest payments, the relevant guarantee documents must be considered.

 

Bond issues

9. For corporate taxation purposes, are bonds treated any differently from standard corporate loans?

Bonds are not treated any differently from corporate loans from an income tax perspective.

 

Taxes payable on the issue and/or transfer of a bond

10. What stamp, transfer or similar taxes are payable on the issue and/or transfer of a bond?

Income tax

There are no additional issues that arise from the transfer of a bond as compared to a transfer of a debt.

Stamp duty

The issue of a bond will generally not be subject to duty unless it is secured by property located, or taken to be located for the purposes of any stamp duty law, in New South Wales.

The transfer of a bond, as a corporate debt security, is generally not subject to duty or is exempt in each Australian jurisdiction.

GST

The issue or transfer of a bond will generally not be subject to GST. However, the issuer and acquirer may be restricted in their ability to claim input tax credits for the GST charged on any costs incurred in connection with the bond issue or transfer.

 

Exemptions

11. Are any exemptions available?

Interest withholding tax exemption — financial institutions

Interest paid to a financial institution that is a tax resident in one of the following jurisdictions is exempt from interest withholding tax:

  • Finland.

  • France.

  • Japan.

  • New Zealand.

  • Norway.

  • South Africa.

  • United Kingdom.

  • United States of America.

Interest withholding tax exemption — public offer

An exemption from withholding tax also exists where there is a public offer of a debenture or syndicated loan facility in accordance with the Tax Act.

Tax consolidation

Intra-group debt between members of the same tax consolidated group is disregarded for tax purposes (that is, debt, which is extinguished or transferred between members of a corporate group, will generally not attract income tax consequences where the group has elected to form a tax consolidated group).

 

Plant and machinery leasing

Claiming capital allowances/tax depreciation

12. What are the basic rules for enabling the lessor or lessee of plant and machinery to claim capital allowances/tax depreciation?

Broadly, Division 40 of the Income Tax Assessment Act 1936 allows a taxpayer who holds a depreciating asset a deduction for the decline in value of the asset (based on its effective life) during an income year.

To be entitled to a deduction, the taxpayer must hold the asset during the year in question. Generally in respect of a lease of plant and machinery, the legal owner is the holder of the asset.

However, for income tax purposes, some arrangements (for example, hire purchase agreements) are re-characterised as a sale of property, combined with a loan, by the notional seller to the notional buyer, to finance the purchase price. Under a hire purchase agreement, the notional buyer is taken to be the owner of the assets and may be entitled to capital allowance deductions.

A tax deduction is prima facie allowed for an amount equal to the yearly decline in value of the depreciating asset. However, the deduction may be reduced to extent that the asset is used, or installed ready for use, for a non-taxable purpose.

 

Rate of capital allowances/tax depreciation

13. What is the rate of capital allowances/tax depreciation; does it depend on the type of assets?

The amount of deduction allowed is the yearly decline in the value of the asset, which is calculated using the cost of the asset.

The rate of the tax depreciation depends on the type of asset and the method that is used to calculate the decline in value.

Two methods of calculating decline in value are available:

  • Prime cost method.

  • Diminishing value method.

The holder of the asset can choose which method to use. Once the choice has been made, it cannot be changed.

 

Lessees not carrying on business in the jurisdiction

14. Are there special rules for leasing to lessees that do not carry on business in your jurisdiction?

Division 250 of the Income Tax Assessment Act 1997 may apply to a lessor who leases an asset to a non-resident.

The effect of Division 250 is that the capital allowance deductions in respect of the asset are denied, and the lease arrangement will be treated as a deemed loan that will be taxed on a compounding accruals basis as a financial arrangement.

Broadly, Division 250 applies to the lessor where:

  • An asset is put to a tax preferred use for a period greater than 12 months.

  • The lessors receive, or can reasonably be expected to receive, financial benefits in relation to the tax preferred use of the asset from an entity that is not an Australian resident.

  • The lessors are entitled to claim capital allowance deductions.

  • The lessors lack a predominant economic interest in the asset.

For these purposes, for Division 250 to apply the asset must be used by the non-resident wholly or principally outside Australia.

Division 250 will not apply where the lease arrangement is considered to be a hire purchase arrangement within the scope of Division 240 of the Income Tax Assessment Act 1997 on the basis that the lessor is not entitled to a deduction for capital allowances for assets acquired under hire purchase arrangements.

In some instances, the lease payments received may be classified as royalties under the Tax Act or the relevant double tax treaty, that is, such payments may be classified as a payment for "the use, or the right to use, any industrial … equipment".

 

Taxation of rentals

15. How are rentals taxed?

Where above provisions do not apply the income tax rules apply general principles to the lessee and lessor to ensure that they appropriately account for rental income derived and rental expenditure incurred.

The source of rental income will be where the real property is situated or, where it relates to the rental income from goods, where the contract was entered into.

 

Rulings and clearances

16. Is a ruling or clearance necessary or common?

A tax clearance procedure is available at the taxpayer's request in respect of the federal taxes due to the ATO (see Question 2).

A private binding ruling can be obtained for a corporate taxpayer, or a class ruling can be obtained on behalf of a class of taxpayers (for example, all of the shareholders in the company) in appropriate circumstances.

The ATO provides written advice (in the form of a ruling) that provides full protection from underpaid tax, penalties and interest in relation to an adjusted assessment. A private ruling only relates to the applicant taxpayer and cannot be relied on by another entity. The ruling will not provide full protection where the full facts are not given, or circumstances change.

It is common practice to obtain a ruling where the tax issues involved are contentious or under reform.

Private rulings can also be obtained from each of the Offices of State Revenue in respect of stamp duties.

 

Restructuring debt

Unpaid or deferred interest or capital

17. What is the tax treatment of the borrower and the lender if interest or capital is unpaid or deferred?

Ordinarily the income tax rules apply general principles to the borrower and lender to ensure that they appropriately account for interest income derived and interest expenditure incurred.

However, these rules may be impacted by the application of the Taxation of Financial Arrangements (TOFA) regime. These rules seek to tax gains or losses (financial arrangements) over the life of the arrangement and ignore distinctions between capital and revenue (generally taxed as revenue gains and losses).

 

Debt write-off/release and debt for equity swap

18. What is the tax treatment of the borrower and lender if a loan is:
  • Written off or released (wholly or partly)?

  • Replaced by shares in the borrower (debt for equity swap)?

Where a loan is written off or released, the commercial debt forgiveness rules (see Question 6, Income tax) will generally apply to the borrower as it is released from its obligations (or part of its obligations) in relation to the debt for no, or below market value, consideration.

In terms of the lender:

  • Where the lender is in the business of lending money, the portion of both the principal and the interest which the parties have agreed will not be repaid should be available as a bad debt (revenue) deduction in accordance with the Tax Act.

  • Where the lender is not in the business of lending money, the portion of the unpaid interest which the parties have agreed will not be repaid should be available as a bad debt deduction in accordance the Tax Act. Any unpaid principal will generally give rise to a capital loss at the time the debt is written off.

Where a loan is replaced with shares in the borrower (a debt for equity swap) this amounts to a commercial debt forgiveness. However, where the market value of the shares issued is at least equal to the value of the debt forgiven, there may not be any tax implications for the borrower as a result of the forgiveness.

 

Securitisation

19. Briefly explain the key features of the tax regime applicable to securitisations, including details of any specific tax rules that apply or issues that arise in relation to securitisations.

The general income tax rules apply to securitisations to ensure that a securitisation vehicle appropriately accounts for interest income derived and interest expenditure incurred.

However, the TOFA regime and the US Foreign Account Tax Compliance Act (FATCA) withholding regime may also apply to securitisation vehicles. FATCA applies from 1 July 2013 and imposes a 30% US withholding tax unless the foreign financial institution (FFI) has entered an FFI Agreement to disclose certain material to the US Inland Revenue Service (IRS).

 

Reform

20. Please summarise any proposals for reform that will impact on the taxation of finance transactions described above.

US FATCA withholding (30%) may apply to many finance transactions, although these rules are yet to be finalised by the IRS.

 
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