Private ruling: An Australian resident company - Payments to an Australian resident trust
Ruling period: Year ending 30 June 2011 | Year ending 30 June 2012 | Year ending 30 June 2013 | Year ending 30 June 2014
Date scheme commenced: 1 July 2010

Ruling: Q1: Is the Australian resident company entitled to claim a deduction for the payments made to the Australian resident trust under section 8-1 of the Income Tax Assessment Act 1997 (ITAA 1997)? | A1: Yes. | Q2: Is the Australian resident company entitled to claim a deduction for the payments made the Australian resident trust under section 230-15 of the ITAA 1997? | A2: No. | Q3: Is the Australian resident company required to include in its assessable income under section 6-5 of the ITAA 1997, amounts derived from its foreign related entities in respect of the payments to the Australian resident trust? | A3: Yes.

Relevant facts and circumstances: An Australian resident company will make annual payments to an Australian resident trust pursuant to a Deed. The Australian resident company will receive certain benefits as a result of entering into the Deed and making the relevant payments. The Australian resident company will receive amounts from related entities in respect of the payments made to the Australian resident trust. Other matters: · The Australian resident company has not made an election under Subitem 103(2) of the Tax Laws Amendment (Taxation of Financial Arrangements) Act 2009. · The Australian resident company has not made an election under Subitem 104(2) of the Tax Laws Amendment (Taxation of Financial Arrangements) Act 2009 .

Relevant legislative provisions: Income Tax Assessment Act 1997 - section 6-5 | Income Tax Assessment Act 1997 - subsection 6-5(1) | Income Tax Assessment Act 1997 - subsection 6-5(2) | Income Tax Assessment Act 1997 - section 8-1 | Income Tax Assessment Act 1997 -subsection 8-1(1) | Income Tax Assessment Act 1997 - subsection 8-1(2) | Income Tax Assessment Act 1997 - Division 230 | Income Tax Assessment Act 1997 - section 230-15 | Income Tax Assessment Act 1997 - subsection 230-15(2) | Income Tax Assessment Act 1997 - section 230-45 | Income Tax Assessment Act 1997 - subsection 230-45(1) | Income Tax Assessment Act 1997 - subsection 230-45(1)(f) | Tax laws amendment (Taxation of Financial Arrangement) Act 2009 - subitem 103(2) | Tax laws amendment (Taxation of Financial Arrangement) Act 2009 - subitem 104(2)

Reasons for decision: Summary: 1. Section 8-1 of the ITAA 1997 allows a deduction for all losses or outgoings to the extent that they are incurred in gaining or producing assessable income or are necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income. However, no deduction is allowed to the extent that the losses or outgoings are of a capital, private or domestic nature, are necessarily incurred in gaining or producing exempt income or are prevented from a deduction by any other provisions of the ITAA 1997. 2. In this case, it is considered that the payments made to the Australian resident trust satisfy the positive limbs of subsection 8-1(1) of ITAA 1997. In the circumstances, it is considered that the payments made to the Australian resident trust are necessarily incurred in the carrying on of the Australia resident company's business for the purposes of producing assessable income. 3. It is considered that the payments made to the Australian resident trust are not of a private nature, are not incurred in gaining or producing exempt income and are not prevented from a deduction by any other provisions of the ITAA 1997 (See paragraphs 8-1(2)(b) to (d) of the ITAA 1997). Accordingly it falls for consideration as to whether it is a loss or outgoing of capital or of a capital nature. | Detailed Reasoning - Are the payments capital or of a capital nature?: 4. The guiding principles for distinguishing between an outgoing of a revenue nature or capital nature was set out in Sun Newspapers Ltd and Associated Newspapers Ltd v. Federal Commissioner of Taxation (1938) 61 CLR 337; (1938) 45 ALR 10; (1938) 1 AITR 403; 5 ATD 87 ( Sun Newspapers ). At issue was whether certain outgoings incurred to prevent the publication of a rival newspaper was a capital payment. In this regard Dixon J stated [at CLR p.359]: "The distinction between expenditure and outgoings on revenue account and on capital account corresponds with the distinction between the business entity, structure, or organisation set up or established for the earning of profit and the process by which such an organisation operates to obtain regular returns by means of regular outlay, the difference between the outlay and returns representing profit and loss." 5. In coming to his decision, Dixon J set out three matters requiring consideration [at CLR p.363]. They were: (a) the character of the advantage sought, and in this its lasting quality may play a part; (b) the manner in which the advantage is to be used, relied upon or enjoyed, and in this and under the former head recurrence may play its part ; and (c) the means adopted to obtain the advantage; that is, by providing a periodical reward or outlay to cover its use or enjoyment for periods commensurate with the payment or by making a final provision or payment so as to secure future use or enjoyment. 6. The circumstances in this case, when considered in connection with the matters stated by Dixon J in Sun Newspapers , point towards a conclusion that the expenditure incurred by the Australian resident company is not capital or of a capital nature. 7. Therefore, the payments are considered to be revenue in nature. 8. The Australian resident company will incur an expense at the time in each year when a presently existing legal obligation to make a payment to the Australian resident trust comes into existence. 9. The Australian resident company is entitled to claim a deduction for the payments made to the Australian resident trust under section 8-1 of the ITAA 1997. | Detailed Reasoning - Question 2: 10. Subsection 230-15(2) of the ITAA 1997 provides that: "You can deduct a loss you make from a financial arrangement, but only to the extent that: (a) you make it in gaining or producing your assessable income; or (b) you necessarily make it in carrying on a business for the purposes of gaining or producing your assessable income." 11. Relevantly, an amount will only be deductible pursuant to subsection 230-15(2) of the ITAA 1997 where it is a loss made from a financial arrangement. 12. It is considered that the arrangement in this case will not constitute a financial arrangement pursuant to subsection 230-45(1) of the ITAA 1997 as there exist not insignificant non-cash settlable rights for the purposes of paragraph 230-45(1)(f) of the ITAA 1997. 13. As the arrangement is not a financial arrangement, the payments to the Australian resident trust will not be deductible under section 230-15 of the ITAA 1997. | Detailed Reasoning - Question 3: 14. Subsection 6-5(1) of the ITAA 1997 provides that a taxpayer's assessable income includes income according to ordinary concepts, which is called ordinary income. 15. Subsection 6-5(2) of the ITAA 1997 provides that the assessable income of a resident taxpayer includes ordinary income derived directly or indirectly from all sources during the income year. | Detailed Reasoning - Are the amounts received ordinary income?: 16. The legislation does not define the expression "income according to ordinary concepts". In determining whether an amount is ordinary income, the following principles can be ascertained: · what receipts ought to be treated as income must be determined in accordance with ordinary concepts and usages of mankind, except in so far as a statute dictates otherwise; · whether the payment received is income depends upon a close examination of all relevant circumstances; and · whether the payment received is income is an objective test. 17. Relevant factors in determining whether a payment is ordinary income include: · whether the payment is the product of any employment, services rendered, or any business; · whether the payment is expected and relied upon; · the character of the payment in the hands of the recipient; · whether the payment is received as a lump sum or periodically; and · the motive of the person making the payment, although this is rarely decisive by itself. 18. Having regard to relevant circumstances in this case and relevant factors, it is considered that the amounts received by the Australian resident company from its related entities in respect of the payments to the Australia resident trust are ordinary income. | Detailed Reasoning - When is the income derived?: 19. Section 6-5 of the ITAA 1997 requires an amount of ordinary income to be brought to account as assessable income when it has been derived. 20. Taxation Ruling TR 98/1 Income tax: determination of income; receipts versus earnings (TR 98/1) states at paragraphs 27 to 29 that: "27. A taxpayer determines when income is derived by adopting a method of accounting for income. When accounting for income, for tax purposes, a taxpayer must adopt the method of accounting that, in the circumstances, is appropriate. A method of accounting is appropriate if it gives a 'substantially correct reflex' of that income. This is the principle established in Carden's case. 28. Whether a method gives a 'substantially correct reflex' and therefore is appropriate is a conclusion to be made from all circumstances relevant to the taxpayer and the income. It is necessary, according to Dixon J in Carden's case, to: ' ... discover what gains have during the period of account come home to the taxpayer in a realized or immediately realizable form.' 29. Appropriateness of the accounting method used by a taxpayer is the sole test for determining which method of accounting should be used: Henderson's case; Brent's case; and Barratt's case. " 21. Further, at paragraphs 33 to 35, it is stated that: "33. Rather than setting down hard and fast rules, the approach of the courts, when deciding whether one or another method of accounting for income was appropriate, has been to weigh the total circumstances of a taxpayer and the income to determine whether the accounting method produces the correct reflex of income for the year. 34. In FCT v. Dunn, Davies J, when discussing whether one method or another was appropriate, said: 'On the other hand, the question was not entirely one of law. The issue was the appropriate means of computing the income derived by the taxpayer. The circumstances of his occupation, how it was carried on and what records and books were kept were matters to be taken into account, and evidence as to accounting principles and practice was relevant. All these are matters of fact.' 35. In Carden's case, Dixon J said: 'The considerations which appear to me to affect any such question are to be found in the nature of the profession concerned and, indeed, the actual mode in which it is practised in a given case.' " 22. In this case, it is considered that the amounts received by the Australian resident company have 'come home' when the amounts are received. It is at this point, the Australian resident has done everything necessary to earn the income. 23. Accordingly, it is considered the amounts received by the Australian resident company from its related entities, are derived for the purposes of section 6-5 of the ITAA 1997 in the income year in which they are received. 24. The Australian resident company is required to include in its assessable income, amounts received from its related entities in respect of the payments made to the Australian resident trust in the income year in which they are received, under section 6-5 of ITAA 1997.

Please check this edited version to be sure that there are no details remaining that you think may allow you to be identified. Contact us at the address given in the fact sheet if you have any concerns. | Does Part IVA apply to this ruling?: Part IVA of the Income Tax Assessment Act 1936 is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable. | We have not fully considered the application of Part IVA to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part. | If you want us to rule on whether Part IVA applies we will first need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply. | For more information on Part IVA, go to our website www.ato.gov.au and enter 'part iva general' in the search box on the top right of the page, then select: Part IVA: the general anti-avoidance rule for income tax.