ATO ID 2010/60: Functional currency choice: amounts borrowed/lent in a non-AUD currency other than the one which later becomes the 'applicable functional currency'
Date of decision: 2 march 2010
Year of income: Year ended 30 June 2010 Year ended 30 June 2011 Year ended 30 June 2012 Year ended 30 June 2013
Business line: Public Groups and International

Issue
Where amounts have been borrowed/lent in a non-AUD currency other than the one which later becomes the 'applicable functional currency', is the amount of principal outstanding at the effective time of the functional currency choice an amount that needs to be translated under the two step translation in section 960-85 of Subdivision 960-D of the Income Tax Assessment Act 1997 (ITAA 1997)?

Decision
Yes, where amounts have been borrowed/lent in a non-AUD currency other than the one which later becomes the 'applicable functional currency', the principal amount outstanding at the effective time of the functional currency choice is an amount that needs to be translated under the two step translation in section 960-85 of Subdivision 960-D of the ITAA 1997?

Facts
The taxpayer is the head company of a consolidated group. The taxpayer has been preparing its financial statements in USD and is intending to make a functional currency choice under Item 1 of subsection 960-60(1) of the ITAA 1997 to use USD, with effect from 1 July 2010. They have not previously chosen to use a non-AUD 'applicable functional currency'. The taxpayer has entered into various loan agreements prior to the effective time of the functional currency choice under which it assumed various obligations. Some of these loan agreements were denominated in CAD/Euro.

Reasons for decision
Summary: Section 960-85 Special rule about translation - events that happened before the current choice took effect Australian resident required to prepare financial reports under section 292 of the Corporations Act 2001 960-85(1 ) If: (a) as the result of a choice (the current choice ) made by you under item 1 of the table in subsection 960-60(1), subsection 960-80(1) requires that an amount be translated to the *applicable functional currency; and (b) the amount is attributable to an event that happened, or a state of affairs that came into existence, at a time (the event time ) before the current choice took effect; Taxation Ruling TR 2007/5 'Income tax: functional currency - when is an amount not in the 'applicable functional currency'?' states at paragraphs 26, 33 and 37 that - 26. The two step translation rule in section 960-85 applies only to relevant 'pre-choice' amounts - that is those 'pre-choice' amounts that are directly relevant to determining an entity's tax relevant net amount and so need to be translated into the 'applicable functional currency'. 33. Section 960-85 is concerned with amounts which are 'attributable to an event that happened or a state of affairs that came into existence' in a prior year, (a 'prior year event'), being a year in which the use of the 'applicable functional currency' did not occur. The concept of 'applicable functional currency' in this respect is purely an income tax law one. In the absence of a valid choice under subsection 960-60(1) to use this currency, there is no 'applicable functional currency' and the appropriate currency required to be used for income tax purposes is Australian currency. 37. A requirement for section 960-85 to apply is that an amount is 'attributable to' an event or a 'state of affairs' that predates the time the choice to use the 'applicable functional currency' takes effect. Such an amount will be attributable in this sense where there is a sufficient causal connection between it and the relevant event or 'state of affairs'. Section 960-85 of the ITAA 1997 is essentially targeting amounts in existence at the effective time of a functional currency choice, which are elements in, or are amounts included in, the calculation of assessable income and allowable deductions for post functional currency choice income years. The amount of non-AUD principal borrowed or lent that is outstanding at the effective time of the functional currency choice, is clearly an amount in existence at that time. It is also an amount 'attributable to' a pre-choice event or state of affairs (essentially being attributable to a number of events that happened, such as the taking out or making of the initial loan and the making or receiving of loan repayments). Further, the amount of non-AUD principal outstanding at the effective time of the functional currency choice is an amount which will be an element in the calculation of assessable income and allowable deductions in post functional currency choice years, for example under Division 775 of the ITAA 1997. Accordingly, the two step translation under section 960-85 of the ITAA 1997 will apply to the amount of principal denominated in CAD/Euro that is outstanding at the effective time of the functional currency choice. In a practical sense, if the loan is a post 30 June 2003 loan, the non-AUD amount will have already been translated to Australian dollars pursuant to subsection 960-50(1) of Subdivision 960-C of the ITAA 1997. This means that the first step of the two step translation under section 960-85 will have already happened (see also former section 103-20 of the ITAA 1997 with regard to pre 1 July 2003 CGT amounts). The amount of principal denominated in a non-AUD currency other than the one which later becomes the 'applicable functional currency', and which is outstanding at the effective time of the functional currency choice , is both a 'pre choice' amount that is attributable to a 'prior year event' and also a 'relevant amount' with ongoing tax significance. In addition, it is an amount that is not in the 'applicable functional currency' and so is subject to the two step translation under section 960-85 of the ITAA 1997.

Legislative references: Income Tax Assessment Act 1997 Division 775 Subdivision 960-C Subsection 960-50(1) Subdivision 960-D Subsection 960-60(1) Section 960-85
Related public rulings and determinations: Taxation Ruling TR 2007/5
Subject references: Applicable functional currency Event time Functional currency Functional currency choice Borrowings & loans