Private ruling: Interest expense
Published: September 2014
Ruling period: Year ending 30 June 2013 | Year ending 30 June 2014
Date scheme commenced: 1 July 2012

Ruling: Q1: Are you entitled to an interest deduction for the 2012-13 and 2013-14 income years in respect of interest incurred on a disputed loan when you have not paid the interest? | A1: Yes.


Relevant legislative provisions: Income Tax Assessment Act 1997 Section 8-1

Reasons for decision: Summary: Interest is deductible under section 8-1 of the Income Tax Assessment Act 1997 to the extent that it is incurred in gaining or producing assessable income or in carrying on a business for that purpose, except to the extent that the expense is of a capital, private or domestic nature or incurred in gaining or producing exempt income. Taxation Ruling TR 97/7 Income tax: section 8-1 - meaning of 'incurred' - timing of deductions provides guidance on when an expense is incurred. There is no statutory definition of the term 'incurred'; however, the ruling outlines general rules, settled by case law, which will assist in most cases in defining when an outgoing is incurred. Broadly, an expense is incurred at the time that a present money debt is owed and cannot be escaped. Importantly, a taxpayer need not have actually paid any money to have incurred such an outgoing, providing they are definitively committed to it in the year of income. That is, an expense may be incurred where there is a presently existing liability to pay a pecuniary sum. A Product Ruling which has now been withdrawn due to the scheme being carried out in a materially different way from how it was described provides that investors can claim deductions for interest incurred on a loan to fund their investment in the Project if the loan was between the Investor and the Bank. Interest expenses incurred following this withdrawal will continue to be deductible provided the requirements outlines in Taxation Ruling TR 2004/4 Income tax: deductions for interest incurred prior to the commencement of, or following the cessation of, relevant income earning activities are met. Therefore, in your case, the deductibility of the interest is only in question in relation to whether the fact that you have refused to make payments on the loan and entered into a Class Action in relation to the scheme may suggest that you are not committed to the debt, or that the debt can be escaped, and therefore, you have not incurred it. A loss or outgoing is incurred in the year in which there is a presently existing liability to discharge an obligation which is due and that the taxpayer is 'completely subjected' or definitively committed to. The key phrase here is "presently existing liability". The facts of the case determine whether, and when, the taxpayer is under a presently existing liability. In this case, the terms of any contract entered into would be relevant. We have accepted that the transaction was entered into by a bank and that the loan exists and interest was charged. The question arises now as to whether the debt is escapable due to the fact that you are in dispute with the bank and a participant in a Class Action against the bank in relation to the fact that they loaned you money knowing that the scheme was likely to fail. In Commonwealth Aluminium Corporation Ltd (77 ATC 4151 at 4161; (1977) 7ATR 376 at 386, it was found that a taxpayer may completely subject itself to a liability, notwithstanding that the liability is defeasible. The Judge in that case noted: "it may incidentally be remarked that all, or almost all, unpaid liabilities are in a sense defeasible, because they could in the future be forgiven by the creditor, or cancelled by Act of Parliament, or barred by any applicable statute of limitations…. If in one year of income a defeasible liability is allowed as a deduction under sec. 51, and in a later year the defeasance occurs, so that the liability is divested or destroyed, then it would appear that the amount of the liability will be included in the assessable income of the taxpayer for that later year, provided that the amount can properly be characterised as assessable income of that year, although not simply because it had been allowed as a deduction in the earlier year: see H.R. Sinclair & Son Pty. Ltd. v. F.C. of T .(1966) 114 C.L.R. 537: compare Allsop v. F.C. of T. 1965) 113 C.L.R. 341 Where the taxpayer is under a presently existing liability, the deductibility of the outgoing is not affected simply because the liability is theoretically defeasible by others, in this case by way of a favourable outcome from a Class Action of which you are a participant. The Class Action may refund or compensate you in the future -in that circumstance, we would apply the court decision and subsequent tax outcomes. You may have an obligation to amend your income tax return, or include the relevant compensation amount as income. However, it is impossible at this stage, to determine how, if at all, any such amount would be treated given the Class Action is still being decided. In the interim, you are subject to the terms and conditions of the loan arrangement you entered into, which includes the obligation of interest. Therefore, in the case at hand, you have a presently existing liability. You have incurred the interest and can claim a deduction for it for the 2013 and 2014 income years.

Relevant facts: You invested in a scheme using funds borrowed from the Bank. | You are accruing interest on the loan. | You have joined a class action suit against the bank. | You have stated that the bank knew the scheme was likely to fail, but did not advise you and loaned you funds to invest in the scheme anyway. | You are not making any interest payments on the loan and do not intend to do so until, and unless required to do so after the outcome of the class action.