Private ruling: Financial Arrangements
Published: April 2013

Ruling: Q1: Is the Priority Partnership Interest (PPI) which is taken to be issued by Entity B under section 701-1 of the Income Tax Assessment Act 1997 (ITAA 1997) a financial arrangement as defined under section 230-45 of the ITAA 1997? | A1: No . The PPI which is taken to be issued by Entity B under section 701-1 of the ITAA 1997 is a financial arrangement under section 230-50 of the ITAA 1997. | Q2: If the answer to question 1 is yes, is the PPI capital amount contributed and any subsequent re-investment of a PPI distribution as an additional capital amount taken to be separate financial arrangements under section 230-55 of the ITAA 1997? | A2: Please see answer to Question 1. | Q3: If the answer to question 1 is yes, does the accruals method in subdivision 230-B of the ITAA 1997 apply to the loss from the PPI? | A3: Please see answer to Question 1.

Relevant facts and circumstances: 1. Entity B is the provisional head company of a multiple entry consolidated (MEC) group (Entity B MEC group). 2. Entity P is a partnership registered as a limited partnership under the relevant partnership act. Entity P is treated as a company for Australian tax purposes pursuant to Division 5A of the Income Tax Assessment Act 1936 (ITAA 1936). 3. Entity P is a member of the Entity B MEC group and is an eligible tier 1 company. 4. Entity Q is a company resident in a foreign jurisdiction, and is the general partner in Entity P. 5. Entity S, a dual resident company, and Entity X, a member of the Entity B MEC group, are limited partners in Entity P. 6. Entity K (an overseas entity) subscribed for 100% of the Ordinary Shares in Entity S. 7. Entity S acquired a Priority Partnership Interest (PPI) issued by Entity P. 8. Entity P subscribed for Ordinary Shares in Entity Y representing a 90% economic interest. The ordinary shares represent the only investment held by Entity P. The profits of Entity P are dependent upon increases in the value of its investment in Entity Y including any dividends. 9. On that same day Entity Y entered into an intra group loan (Loan) with Entity Z. The Loan is the only investment held by Entity Y. The Loan bears a fixed interest rate per annum with compounding interest. Entity Y derives all its income from interest on amounts owed to it under the Loan. 10. Entity S then acquired two further PPIs in Entity P. 11. An amending deed (Amending Deed) between Entity Q, Entity X and Entity S was subsequently entered into detailing the proposed changes to Entity P including: a) Change the maturity date term and rate of return applicable to future Priority Partnership Interests. b) Enable the acquisition of a further PPI and terminating the existing ones. 12. All PPI issued prior to the Amending Deed were repaid by way of Entity P issuing a promissory note to Entity S. 13. Entity S acquired a further PPI (New PPI) in Entity P contributing capital by way of endorsement of the promissory note. 14. The maturity date on the Loan was also extended to effectively align it with the maturity of the New PPI. 15. Entity B has made an election, pursuant to Item 103(2) of the Tax Laws Amendment (Taxation of Financial Arrangements) Act 2009 (TOFA Act), for Division 230 of the ITAA 1997 to apply to its financial arrangements from 1 July 2009. 16. Entity B has also made an election under Item 104(2) of the TOFA Act, for Division 230 of the ITAA 1997 to apply to its existing financial arrangements. Therefore, Division 230 of the ITAA 1997 applies to all financial arrangements Entity B started to have prior to 1 July 2009. 17. Entity B did not make an election under Subdivisions 230-C, 230-D, 230-E or 230-F of the ITAA 1997 for the purposes of calculating gains and losses on Division 230 financial arrangements.

Relevant legislative provisions: Income Tax Assessment Act 1997 Division 230; | Income Tax Assessment Act 1997 Subdivision 230-B; | Income Tax Assessment Act 1997 Subdivision 230-C; | Income Tax Assessment Act 1997 Subdivision 230-F; | Income Tax Assessment Act 1997 Paragraph 230-40(4)(e); | Income Tax Assessment Act 1997 Section 230-45; | Income Tax Assessment Act 1997 Subsection 230-45(1); | Income Tax Assessment Act 1997 Subsection 230-50(1); | Income Tax Assessment Act 1997 Section 230-55; | Income Tax Assessment Act 1997 Subsection 230-55(1); | Income Tax Assessment Act 1997 Subsection 230-55(4); | Income Tax Assessment Act 1997 Section 230-55; | Income Tax Assessment Act 1997 Division 974; | Income Tax Assessment Act 1997 Subdivision 974-B; | Income Tax Assessment Act 1997 Subdivision 974-C; | Income Tax Assessment Act 1997 Subsection 974-15(1); | Income Tax Assessment Act 1997 Subsection 974-20(1); | Income Tax Assessment Act 1997 Subsection 974-35(1); | Income Tax Assessment Act 1997 Section 974-70; | Income Tax Assessment Act 1997 Subsection 974-70(1); | Income Tax Assessment Act 1997 Subsection 974-70(2); | Income Tax Assessment Act 1997 Subsection 974-75(1); | Income Tax Assessment Act 1997 Section 974-80; | Income Tax Assessment Act 1997 Subsection 974-80(1); | Income Tax Assessment Act 1997 Paragraph 974-80(1)(a); | Income Tax Assessment Act 1997 Paragraph 974-80(1)(b); | Income Tax Assessment Act 1997 Paragraph 974-80(1)(c); | Income Tax Assessment Act 1997 Paragraph 974-80(1)(ca); | Income Tax Assessment Act 1997 Paragraph 974-80(1)(d); | Income Tax Assessment Act 1997 Subsection 974-80(2); | Income Tax Assessment Act 1997 Subparagraph 974-80(2)(b)(ii); | Income Tax Assessment Act 1997 Subsection 995-1;

Reasons for decision: Summary: The PPI which is taken to be issued by Entity B under section 701-1 of the ITAA 1997 is a financial arrangement under section 230-50 of the ITAA 1997. | Detailed Reasoning - Detailed reasoning: 1. Broadly, a taxpayer has a financial arrangement under subsection 230-45(1) 1 2. if it has, under an arrangement: a. a cash settlable legal or equitable right to receive a financial benefit; or b. a cash settlable legal or equitable obligation to provide a financial benefit; or c. a combination of one or more such rights and/or one or more such obligations, unless the taxpayer also has, under the arrangement, one or more legal or equitable rights to receive or obligations to provide something which is not a financial benefit, or is not cash settlable, and the one or more rights or obligations are not insignificant in comparison with the cash settlable rights and obligations under the arrangement. 3. In order to determine whether an arrangement is a financial arrangement under section 230-45, the rights and obligations that constitute the arrangement for the purposes of Division 230 must be determined having regard to subsection 230-55(4). 4. Subsection 230-50(1) states that you also have a financial arrangement if you have an equity interest. The equity interest constitutes the financial arrangement. Where a financial arrangement is both a subsection 230-45(1) and 230-50(1) financial arrangement, Taxation Determination TD 2011/12 provides that the financial arrangement will be a subsection 230-50(1) financial arrangement. 5. An equity interest is a defined term in subsection 995-1(1), having the meaning given by, in the case of a company, Subdivision 974-C. 6. An equity interest can arise under Subdivision 974-C by way of a single scheme under subsection 974-70(1), related schemes in subsection 974-70(2) or an interest under section 974-80. 7. Subsection 974-70(1) provides that a scheme gives rise to an equity interest in a company if, when the scheme comes into existence, the scheme satisfies the equity test in subsection 974-75(1) in relation to the company because of the existence of an interest, and the interest is not characterised as, and does not form part of a larger interest that is characterised as, a debt interest in the company, or a connected entity of the company, under Subdivision 974-B. 8. Note 2 to subsection 974-70(1) indicates that an equity interest can also arise under section 974-80 (arrangements for funding return through connected entities). | Detailed Reasoning - Section 974-80 analysis: 9. Section 974-80 was introduced to deal with arrangements that granted an investor (the ultimate recipient) an interest which was effectively an equity interest in a company. The provision is intended to apply when the returns that are paid to the ultimate recipient are funded from tax deductible payments made by the company and the connected entities of the company. 2 10. Section 974-80 can only apply to an interest that has not been classified as an equity interest under section 974-70. 11. Section 974-80 cannot apply unless each of the five requirements in subsection 974-80(1) is satisfied, and it is only when these conditions are met, that subsection 974-80(2) needs to be considered. 12. Based on the facts and circumstances as set out in this ruling, all the requirements of subsection 974-80(1) are met. | Detailed Reasoning - Subsection 974-80(2): 13. Subsection 974-80(2) is considered if the five paragraphs of subsection 974-80(1) are met. If subsection (2) is also satisfied, then the interest held by the connected entity of the company will be treated as an equity interest in the company. 14. Based on the facts and circumstances as set out in this ruling, the requirement in subsection 974-80(2)(b)(ii) is satisfied. 15. As the PPI meets all the requirements in subsection 974-80(1) and satisfies subsection 974-80(2), the PPI issued by Entity P gives rise to an equity interest in Entity P under subsection 974-80(2). | Detailed Reasoning - Conclusion: 16. As the PPI issued by Entity P gives rise to an equity interest, the PPI is a financial arrangement under section 230-50. 17. Paragraph 230-40(4) (e) provides that Subdivision 230-B (accruals and realisation method) does not apply to a gain or loss you make from an arrangement that is a financial arrangement under 230-50. 18. As no election was made under Subdivisions 230-C or 230-F, Division 230 will not apply to any gains or losses made under the PPI. 3 | Detailed Reasoning - Question 2: If the answer to question 1 is yes, is the PPI capital amount contributed on 21 April 2009 and any subsequent re-investment of a PPI distribution as an additional capital amount taken to be separate financial arrangements under section 230-55 of the ITAA 1997? | Detailed Reasoning - Detailed reasoning: 19 Please see analysis for Question 1. | Detailed Reasoning - Question 3: If the answer to question 1 is yes, does the accruals method in subdivision 230-B of the ITAA 1997 apply to the loss from the PPI? | Detailed Reasoning - Detailed reasoning: 20. Please see analysis for Question 1. 1 All references are made in relation to the Income Tax Assessment Act 1997 unless otherwise stated. 2 Refer paragraph 2.41 to 2.49 of the EM and also paragraphs 1.27 to 1.29 of the Supplementary EM to the New Tax System (Debt and Equity) Bill 2001 . 3 Subsection 230-270(1) and subsection 230-330(1) prevents Subdivision 230-D and Subdivision 230-E from applying to 230-50 financial arrangements.

Is the Priority Partnership Interest (PPI) which is taken to be issued by Entity B under section 701-1 of the ITAA 1997 a financial arrangement as defined under section 230-45 of the ITAA 1997?