At The Tax Institute’s March 2019 National Convention, in Hobart, Mr Stuart Landsberg and Tariq Rasool, presented the paper they co-authored with Michael Bona, Gabrielle Fitzgibbon, Josh Johnson and Sarthak Sinha, all of accounting firm: PwC. It was titled: Reconstructing financing transactions: a focus on the debt and equity rules, Division 815 and thin capitalisation.
In recent years, there has been an increasing focus by the Australian Taxation Office (ATO) on cross-border financing and refinancing transactions (and related instruments), and particularly on cross-border related party debt (re)financing transactions.
This trend is evident in the increase in ATO guidance aimed at highlighting perceived risks in relation to cross- border (re)financing transactions; the various Federal Budget Announcements, Exposure Legislation and law changes that have been released on the topic; and the increased public spend on audit, review and taskforce activity. As just one example, the twelve months from June 2017 to June 2018 saw a jump from 98 audits, covering 81 public and multinational companies, to 318 multinational companies being under active review/audit (with several significant disputes focusing on this issue), and this number continues to rise.
Taken together, these developments reinforce both the ATO and Treasury’s ‘laser-like’ focus on the varioustax rules applicable to cross-border (re)financing transactions, including:
● pricing of debt (including transfer pricing considerations);
● quantum of debt (including thin capitalisation rules); and
● deductibility of costs associated with debt.
Moreover, these developments have taken place in a post-Chevron, post-hybrids, post-BEPS world, which has culminated in the current complexity, beyond the more traditional potholes that can create uncertainty in even the most ostensibly straight-forward (re)financing transaction.
This paper seeks to elucidate and illustrate the latest developments and trends within some of the traditionalrealms of Australia’s tax law that have the potential to cause unsurprising (re)financing transactions to result in surprising consequences for taxpayers. The key provisions that will be considered include the debt and equity rules in Division 974, Subdivision 815-B (contained within the transfer pricing provisions in Division 815) and the thin capitalisation rules in Division 820.
This paper is structured so as to provide:
- a brief overview of the debt and equity regime;
- a discussion on the implications arising from the recently released TD 2018/D6 (the TD or draftDetermination), which provides updated ATO guidance on whether the debt and equity rules in Division 974 of the Income Tax Assessment Act 1997 (Cth) (ITAA97) can limit the operation of the transfer pricing rules contained in Subdivision 815-B. This topic necessarily traverses elements of debt / equity, thin capitalisation and transfer pricing. Whilst not considered directly in this paper, elements of the draft Determination can also impact value shifting, loss utilisation rules, availability of franking (and / or different withholding tax rates) and the treatment of dividend access shares; and
3. finally, a consideration of the guidance materials and changes released throughout 2018 with respect to the thin capitalisation regime, and a discussion on the potential impact of the draft Determination (and the classification of a financial instrument as either debt or equity) on an entity’s thincapitalisation profile.
In our view, this increasing focus by the ATO and Treasury on cross-border related party (re)financingtransactions is part of the new ‘normal’. In fact, the ATO has already foreshadowed several pieces of new guidance materials in relation to interest-free loans, as well as a range of thin capitalisation issues such asasset revaluations and their proposed compliance approach to taxpayers’ use of the arm’s length debt test.
In addition to this, the Treasury Laws Amendment (Making Sure Multinationals Pay their Fair share of tax in Australia and Other Measures) Bill 2018 (Cth) continues to be before the House of Representatives, and if passed, will itself trigger important changes to asset revaluations for thin capitalisation purposes, and the revised treatment of foreign controlled Australian consolidated groups and multiple entry consolidated (MEC) groups as both outward and inward investment vehicles for thin capitalisation purposes. This is not to mention the significant impact that a newly-elected Labour Government could have on the thin capitalisation regime generally. Each of these potential future developments are discussed further in this paper.
It is this continuing ‘laser like’ focus, which therefore reinforces the importance of tax practitioners remaining up to date and informed in these areas, so that they can continue to respond to new and complex developments in the international tax sphere, whilst remaining cognisant of the more traditional tax rules that have always been, and continue to be, applicable to even the most simple of (re)financing transactions.
It is important to note that many of these new and complex developments are far more subjective and reliant on taxpayer judgment rather than previously-seen bright line tests, and in this environment, the judgment of‘many’ is often better than the view of an individual. We foresee this to be another major challenge, andopportunity, in modern (re)financing practice.