Private ruling: Buy-back of mandatorily redeemable preference shares.
Date of advice: 20 June 2018
Published: August 2018
Ruling period: Income year ending 31 December 201X (in lieu of the following 30 June 201X)
Date scheme commenced: 1 June 201X

Ruling: Q1: Will any component of the consideration paid by AusHoldco Pty Ltd ( AusHoldco ) to OS Subco Limited ( OS Subco ) to buy-back mandatorily redeemable preference shares be a dividend as defined under subsection 6(1) of the Income Tax Assessment Act 1936 (ITAA 1936) and therefore be subject to dividend withholding tax under section 128B of the ITAA 1936? | A1: No. | Q2: Will any component of the consideration be treated as an assessable dividend under section 159GZZZP of the ITAA 1936? | A2: No. | Q3: Will the Commissioner make a determination under subsection 45A(2) of the ITAA 1936 that section 45C of the ITAA 1936 applies in relation to the whole, or part of, the capital benefit provided by AusHoldco? | A3: No. | Q4: Will the Commissioner make a determination under subsection 45B(3) of the ITAA 1936 that section 45C of the ITAA 1936 applies in relation to the whole, or part, of the capital benefit under the return of capital provided by AusHoldco? | A4: No.

Relevant facts and circumstances: Parentco is the ultimate parent entity of AusHoldco, and is listed on an overseas Stock Exchange. AusHoldco is an Australian resident for Australian income tax purposes. AusHoldco is the provisional head company of the Australian multiple entry consolidated group ( AusHoldco MEC Group ). Currently all of AusHoldco’s ordinary shares on issue are owned by N Holdco1, which is owned by a few interposed overseas entities and eventually owned by OS Subco, which is a non-resident for income tax purposes. In addition to ordinary shares, AusHoldco has mandatorily redeemable preference shares ( MRPS ) on issue at a face value of AUD$ 1.00 each. None of the ordinary shares and MRPS of AusHoldco are listed or traded on the Australian Securities Exchange (ASX). All of the MRPS are currently owned by OS Subco. Terms of the MRPS The issue date of the MRPS was in 2012. Each MRPS was issued at a face value of AUD$1.00 each. The terms of the MRPS allow AusHoldco to pay dividends to the MRPS holders at its discretion. However, no distribution has ever been made on the MRPS. The MRPS are redeemable by the holder giving notice to AusHoldco, or 9 years after the date of issue – whichever comes first. The MRPS rank ahead of ordinary shares in a return of capital, or upon a winding up. The MRPS only give the holder a right to a return of capital upon a winding up; there is no right to participate in any profits or surplus assets of AusHoldco. AusHoldco may not issue any shares that rank in priority to the MRPS without the consent of existing MRPS holders. The MRPS do not confer any voting rights on the holder. Accounting treatment of the MRPS AusHoldco accounts for the MRPS in its Balance Sheet as a current liability ( Trade and other payables – intercompany ). Proposed arrangement All of the ordinary shares in AusHoldco (which are currently owned by N Holdco1) are to be transferred to OS Subco. Upon completion all of the ordinary shares and the MRPS on issue by AusHoldco will be held by OS Subco. AusHoldco will then undertake a buy-back (as opposed to redemption) of a portion of the MRPS in 2018. AusHoldco is intending to buy-back MRPS at AUD$1.00 each. AusHoldco will debit the entire buy-back consideration against its share capital account. Proposed funding for the buy-back of the MRPS AusHoldco has indicated that it will fund the buy-back from various sources, including cash reserves and asset sales. For accounting purposes AusHoldco intends to account for the transaction by debiting the MRPS liability in the balance sheet, and crediting cash in the balance sheet for the amount of the MRPS bought back. Dividends paid AusHoldco has stated that it has no formal dividend policy, with one exception which is explained by the existence of a court order. Whilst AusHoldco has no formal dividend policy, Parentco has made public announcements regarding dividend payments in that country. Capital Structure of AusHoldco AusHoldco has provided details of its share capital accounts (which include the MRPS). No amount has ever been transferred to a share capital account from another account. AusHoldco’s has advised that for the year ended 31 December 201X it expects its assets will not exceed its liabilities. For the income year ending 31 December 201X, AusHoldco has disclosed an amount of total tax losses carried forward to later income years.

Relevant legislative provisions: Corporations Act 2001 paragraph 254T(1)(a) | Income Tax Assessment Act 1936 subsection 6(1) | Income Tax Assessment Act 1936 paragraph 6(1)(e) | Income Tax Assessment Act 1936 subsection 6(4) | Income Tax Assessment Act 1936 section 44 | Income Tax Assessment Act 1936 section 45A | Income Tax Assessment Act 1936 subsection 45A(1) | Income Tax Assessment Act 1936 subsection 45A(2) | Income Tax Assessment Act 1936 subsection 45A(3) | Income Tax Assessment Act 1936 subsection 45A(4) | Income Tax Assessment Act 1936 section 45B | Income Tax Assessment Act 1936 subsection 45B(1) | Income Tax Assessment Act 1936 subsection 45B(2) | Income Tax Assessment Act 1936 paragraph 45B(2)(c) | Income Tax Assessment Act 1936 subsection 45B(3) | Income Tax Assessment Act 1936 subsection 45B(5) | Income Tax Assessment Act 1936 subsection 45B(8) | Income Tax Assessment Act 1936 subsection 45B(9) | Income Tax Assessment Act 1936 section 45C | Income Tax Assessment Act 1936 section 128B | Income Tax Assessment Act 1936 Division 16K | Income Tax Assessment Act 1936 section 159GZZZK | Income Tax Assessment Act 1936 paragraph 159GZZZK(a) | Income Tax Assessment Act 1936 paragraph 159GZZZK(d) | Income Tax Assessment Act 1936 paragraph 159GZZZK(a) | Income Tax Assessment Act 1936 paragraph 159GZZZK(d) | Income Tax Assessment Act 1936 section 159GZZZM | Income Tax Assessment Act 1936 section 159GZZZP | Income Tax Assessment Act 1936 subsection 159GZZZP(1) | Income Tax Assessment Act 1936 section 159GZZZQ | Income Tax Assessment Act 1936 paragraph 177D(2) | Income Tax Assessment Act 1997 Division 197 | Income Tax Assessment Act 1997 section 197-50 | Income Tax Assessment Act 1997 section 975-300 | Income Tax Assessment Act 1997 subsection 975-300(1) | Income Tax Assessment Act 1997 subsection 995-1(1)

Reasons for decision: Summary: The term ‘dividend’ is defined in subsection 6(1) as follows: dividend includes: (a) any distribution made by a company to any of its shareholders, whether in money or other property; and (b) any amount credited by a company to any of its shareholders as shareholders; However, the term excludes: (d) moneys paid or credited by a company to a shareholder or any other property distributed by a company to shareholders (not being moneys or other property to which this paragraph, by reason of subsection (4), does not apply or moneys paid or credited, or property distributed for the redemption or cancellation of a redeemable preference share), where the amount of the moneys paid or credited, or the amount of the value of the property, is debited against an amount standing to the credit of the share capital account of the company; or (e) moneys paid or credited, or property distributed, by a company for the redemption or cancellation of a redeemable preference share if: (i) the company gives the holder of the share a notice when it redeems or cancels the share; and (ii) the notice specifies the amount paid-up on the share immediately before the cancellation or redemption; and (iii) the amount is debited to the company’s share capital account; except to the extent that the amount of those moneys or the value of that property, as the case may be, is greater than the amount specified in the notice as the amount paid-up on the share; or (f) a reversionary bonus on a life assurance policy. Note: Subsection (4) sets out when paragraph (d) of this definition does not apply. Subsection 6(4) provides: (4) Paragraph (d) of the definition of dividend in subsection (1) does not apply if, under an arrangement: (a) a person pays or credits any money or gives property to the company and the company credits its share capital account with the amount of the money or the value of the property; and (b) the company pays or credits any money, or distributes property to another person, and debits its share capital account with the amount of the money or the value of the property so paid, credited or distributed. As the purchase price for the buy-back of the MRPS is an amount credited by AusHoldco to its sole shareholder, OS Subco, the consideration falls within the definition of ‘dividend’ in subsection 6(1), and the exclusion provided by paragraph 6(1)(d) remains capable of application. In order to determine if the paragraph 6(1)(d) exclusion operates, AusHoldco must demonstrate that the amount being debited, is being debited against a ‘share capital account’. Subsection 975-300(1) of the ITAA 1997 provides: (1) A company’s share capital account is: (a) an account that the company keeps of its share capital; or (b) any other account (whether or not called a share capital account) that satisfies the following conditions: (i) the account was created on or after 1 July 1998; (ii) the first amount credited to the account was an amount of share capital. The MRPS liability account is a share capital account as defined in section 975-300 of the ITAA 1997. As no amount has ever been transferred to a share capital account from another account, AusHoldco’s share capital account (including the ordinary and MRPS) is not ‘tainted’ for the purposes of Division 197 of the ITAA 1997. AusHoldco will debit the entire buy-back consideration against its share capital account. As the entire buy-back consideration is debited against an untainted share capital account (being the MRPS liability account in the accounts of AusHoldco), and no amount of the buy-back exceeds what has been paid up on the MRPS according to AusHoldco’s share capital account, the amount will not constitute a dividend within the meaning of subsection 6(1) (due to the paragraph 6(1)(d) exclusion). Subsection 6(4) does not apply to the present case as no person has or will contribute amounts to be credited to AusHoldco’s share capital account. Therefore, subsection 6(4) will not apply as an exception to paragraph 6(1)(d) of the definition of dividend. Paragraph 6(1)(e) does not apply as AusHoldco is buying back (rather than redeeming or cancelling) the MRPS. As the consideration provided by AusHoldco to OS Subco is not a dividend as defined under subsection 6(1), and therefore not assessable to OS Subco under section 44, the dividend withholding tax provisions under section 128B will not apply. Division 16K of Part III prescribes the income tax consequences of a buy-back of shares for the purchaser and seller. Where a company buys a share in itself from a shareholder in the company, section 159GZZZK provides: For the purposes of this Division, where a company buys a share in itself from a shareholder in the company: (a) the purchase is a buy-back; and (b) the shareholder is the seller; and (c) if: (i) the share is listed for quotation in the official list of a stock exchange in Australia or elsewhere; and (ii) the buy-back is made in the ordinary course of trading on that stock exchange; the buy-back is an on-market purchase; and (d) if the buy-back is not covered by paragraph (c)—the buy-back is an off-market purchase. Accordingly, the transaction between AusHoldco and OS Subco will be a buy-back under paragraph 159GZZZK(a), and it will be an ‘off-market purchase’ under paragraph 159GZZZK(d) as none of the MRPS are listed or traded on the ASX. Section 159GZZZM defines ‘purchase price’ as follows: For the purposes of this Division, the purchase price in respect of a buy-back of a share is: (a) if the seller has received or is entitled to receive an amount or amounts of money as a result of or in respect of the buy-back—that amount or the sum of those amounts; or Sections 159GZZZP and 159GZZZQ govern whether any part of the purchase price is a dividend, and the amount of consideration that the seller is taken to have received in respect of an off-market purchase. Subsection 159GZZZP(1) provides: (1) For the purposes of this Act, but subject to subsection (1A), where a buy-back of a share or non-share equity interest by a company is an off-market purchase, the difference between: (a) the purchase price; and (b) the part (if any) of the purchase price in respect of the buy-back of the share or non-share equity interest which is debited against amounts standing to the credit of: (i) the company’s share capital account if it is a share that is bought back; or (ii) the company’s share capital account or non-share capital account if it is a non-share equity interest that is bought back; is taken to be a dividend paid by the company: (c) to the seller as a shareholder in the company; and (d) out of profits derived by the company; and (e) on the day the buy-back occurs. Any ‘dividend’ component that is embodied in the consideration paid by AusHoldco will be identified as the amount of the difference between the purchase price and the amount which is to be debited against the credit of the share capital account. This difference is taken to be a dividend paid by the company, to the seller as a shareholder in the company, out of profits derived by the company, making it a dividend that is assessable under section 44. AusHoldco will buy-back a portion of the MRPS at the original issue price/face value of the MRPS. AusHoldco will not provide OS Subco with other cash or property for the buy-back. Therefore, the purchase price for the purposes of section 159GZZZP will be the price paid at face value of the MRPS. As the entire ‘purchase price’ of a MRPS (being the buy-back consideration) will be debited against amounts standing to the credit of the MRPS liability account (being part of the share capital account of AusHoldco as defined in section 975-300 of the ITAA 1997 and discussed above), subsection 159GZZZP(1) results in no component of the buy-back consideration being treated as an assessable dividend paid by AusHoldco for the purposes of the ITAA 1936 or the ITAA 1997. Section 45A is an anti-avoidance provision applicable to streaming arrangements attempting to provide a capital benefit to certain shareholders and dividends to others. Where the Commissioner makes a written determination under subsection 45A(2) that section 45C applies in relation to the whole or part of the capital benefits, the capital benefits will be treated as unfranked dividends paid out of the company’s profits. Subsection 45A(1) provides: (1) This section applies in respect of a company that, whether in the same year of income or in different years of income, streams the provision of capital benefits and the payment of dividends to its shareholders in such a way that: (a) the capital benefits are, or apart from this section would be, received by shareholders (the advantaged shareholders ) who would, in the year of income in which the capital benefits are provided, derive a greater benefit from the capital benefits than other shareholders; and (b) it is reasonable to assume that the other shareholders (the disadvantaged shareholders ) have received, or will receive, dividends. However, it does not apply if section 45 applies in relation to the streaming or in the circumstances set out in subsection (5). Subsection 45A(1) contemplates situations where a company has a number of different shareholders, and the company has the ability to stream different benefits to different shareholders. Paragraph 45A(3) states that a reference to ‘provision of a capital benefit’ is a reference to: … (b) the distribution to the shareholder of share capital or share premium; ... The consideration provided by AusHoldco for the buy-back will constitute the ‘provision of a capital benefit’ as the amount will be debited to AusHoldco’s share capital account. Subsection 45A(4) provides a non-exhaustive list of circumstances in which a shareholder would derive a greater benefit from capital benefits than another shareholder. Where the conditions of section 45A of the ITAA 1936 are met, the Commissioner is authorised to make a determination under section 45C that any part of the capital benefit provided to the shareholder is an unfranked dividend. As OS Subco will be the sole shareholder of AusHoldco at the time of the proposed buy-back, this section is not relevant to the buy-back by AusHoldco. Subsection 45B(1) provides: (1) The purpose of this section is to ensure that relevant amounts are treated as dividends for taxation purposes if: (a) components of a demerger allocation as between capital and profit do not reflect the circumstances of a demerger; or (b) certain payments, allocations and distributions are made in substitution for dividends. For the purpose of this private ruling the relevant purpose of section 45B is to ensure that proceeds of the buy-back paid to the MRPS holder are treated as a dividend if that amount (or a part of it) is made in substitution of a dividend. Therefore, it is important to consider whether the buy-back amount is made in substitution of a dividend. Subsection 45B(2) provides: (2) This section applies if: (a) there is a scheme under which a person is provided with a demerger benefit or a capital benefit by a company; and (b) under the scheme, a taxpayer (the relevant taxpayer ), who may or may not be the person provided with the demerger benefit or the capital benefit, obtains a tax benefit; and (c) having regard to the relevant circumstances of the scheme, it would be concluded that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for a purpose (whether or not the dominant purpose but not including an incidental purpose) of enabling a taxpayer (the relevant taxpayer ) to obtain a tax benefit. Accordingly, section 45B may apply when a taxpayer obtains a tax benefit as a result of the provision of a capital benefit, which is provided under a ‘scheme’ (which is defined in subsection 995-1(1) of the ITAA 1997). The meaning of the term ‘ provided with a capital benefit’ is defined in subsection 45B(5). OS Subco (and ultimately Parentco) is provided with a capital benefit as it will receive a distribution of share capital from AusHoldco. Therefore, section 45B applies to the current buy-back of the MRPS by AusHoldco. Pursuant to subsection 45B(9), a person will obtain a tax benefit where the amount of tax payable (or another amount payable under the Act) would be less than the amount of tax (or other amount) that would have been payable had the capital benefit instead been as assessable dividend. The buy-back of the MRPS provides OS Subco (a non-resident) with a ‘tax benefit’ as the Australian tax payable on the distribution of the share capital is less than what would be payable if an assessable dividend was paid by AusHoldco to OS Subco, as such a dividend would be subject to Australian dividend withholding tax (to the extent it was not franked by AusHoldco). The Commissioner is given the power to make a determination that section 45C applies under subsection 45B(3). In making that determination paragraph 45B(2)(c) provides: (2) This section applies if: … (c) having regard to the relevant circumstances of the scheme, it would be concluded that the person, or one of the persons, who entered into or carried out the scheme or any part of the scheme did so for a purpose (whether or not the dominant purpose but not including an incidental purpose) of enabling a taxpayer (the relevant taxpayer ) to obtain a tax benefit. Paragraph 45B(2)(c) provides that section 45B only applies if, having regard to the relevant circumstances of the scheme, it would be concluded that the scheme was entered into for a purpose (for a non-incidental purpose) of enabling a taxpayer to obtain a tax benefit. The relevant circumstances are inexhaustively listed in subsection 45B(8) and also include the matters set out in subsection 177D(2). Having regard to the relevant circumstances of the buy-back, the Commissioner concludes that the buy-back of the MRPS will not be undertaken for a purpose of enabling OS Subco to obtain a tax benefit. As the paragraph 45B(2)(c) requirement will not be satisfied, section 45B will not apply to the buy-back of the MRPS. Accordingly, the Commissioner will not make a determination under subsection 45B(3) that section 45C applies in relation to any of the capital benefit arising from the return of capital provided by AusHoldco.

Reasons for decision: All references are to the Income Tax Assessment Act 1936 ( ITAA 1936 ) unless otherwise stated.