Chapter BB
Buy-backs of shares and non-share equity
interests
Outline of chapter
1.1
Schedule BB to this Bill implements the recommendations of the
Board of Taxation to improve the taxation arrangements relating to the
buy-back of shares and non-share equity interests.
Context of amendments
1.2
The provisions relating to the buy-back of shares and non-share
equity interests are currently contained in Division 16K of Part III of the
Income Tax Assessment Act 1936 (ITAA 1936).
1.3
Division 16K applies where a company buys back a share or
non-share equity interest in itself and cancels the share or interest. In
these circumstances, no income tax consequences arise for the company
(the buying company) that acquires a share or non-share equity interest
under the buy-back.
1.4
The taxation consequences for a taxpayer who disposes of a
share or non-share equity interest under an off-market buy-back (the
seller) depend on whether the buy-back is an off-market buy-back or an
on-market buy-back.
1.5
If the buy-back is an off-market buy-back, a part of the proceeds
paid to the seller may be taxed as a frankable dividend. The rationale for
this approach is that some of the proceeds effectively represent a
distribution of the buying company’s profits to the seller.
1.6
If the buy-back is an on-market buy-back, all the proceeds paid
to the seller are taxed as an ordinary disposal of shares or non-share equity
interests.
1.7
In October 2006, the former government requested the Board of
Taxation to undertake a review of the taxation treatment of off-market
buy-backs.
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Tax Laws Amendment (2011 Measures No. 9) Bill 2011
1.8
The Board of Taxation completed its report to the Treasurer in
June 2008. In broad terms, the Board concluded that the current taxation
treatment of off-market buy-backs is appropriate and recommended that
Division 16K be rewritten and transferred to the Income Tax Assessment
Act 1997 (ITAA 1997) with several refinements to reduce compliance
costs and administration costs.
1.9
As part of the 2009-10 Budget, the Government agreed to
implement the recommendations in the Board’s report.
Summary of new law
1.10
Schedule BB to this Bill implements the recommendations of the
Board of Taxation to improve the taxation arrangements relating to the
buy-back of shares and non-share equity interests.
1.11
In broad terms, the Schedule rewrites the taxation rules relating
to buy-backs of shares and non-share equity interests and transfers them
from Division 16K of Part III of the ITAA 1936 to Division 190 of the
ITAA 1997.
1.12
Consistent with the recommendations of the Board of Taxation,
some changes are made to:
• specify a method for working out the capital/dividend split,
with a discretion available to the Commissioner of Taxation
to permit the use of other methods when appropriate;
• where the approved method for determining the
capital/dividend split is used, switch off the application of
certain integrity provisions;
• where the off-market buy-back is conducted by a listed
company:
– deny notional losses on the disposal of the shares or
non-share equity interests;
– remove the market value uplift rule (which increases the
consideration received where the purchase price of a share
or non-share equity interest under the buy-back is less
than its market value); and
– extend the time for giving a distribution statement in
respect of the dividend or non-share dividend component;
and
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Buy backs of shares and non share equity interests
• specify the amount of a franking debit that arises in the
franking account of a company conducting an off-market
buy-back where the company has foreign resident
shareholders.
Comparison of key features of new law and current law
New law
Current law
Off-market buy-backs
When a company conducts an
off-market buy-back, part of the
purchase price of the share or
non-share equity interest that is
bought back may be taken to be a
dividend that can be franked.
When a company conducts an
off-market buy-back, part of the
purchase price of the share or
non-share equity interest that is
bought back may be taken to be a
dividend that can be franked.
The capital/dividend split can be
worked out based on the average
capital per share or using another
method approved by the
Commissioner. If the average capital
per share method is used, certain
integrity rules in the income tax law
do not apply.
The remaining part of the purchase
price is taken to be consideration
received for the purpose of working
out the amount of gain or loss on the
disposal of the share or non-share
equity interest. However, the
consideration received is increased
where:
The remaining part of the purchase
price is taken to be consideration
received for the purpose of working
out the amount of gain or loss on the
disposal of the share or non-share
equity interest. However, the
consideration received is increased
where:
•
the dividend component is not
fully taxed;
•
the purchase price is less than the
market value; or
•
the seller is a corporate tax entity
and part of the purchase price is a
franked dividend.
•
the dividend component is not
fully taxed;
The Commissioner applies integrity
rules in the income tax law to:
•
if the buy-back is conducted by a
listed company, a notional loss
would otherwise arise on the
disposal of the shares or interests;
•
if the buy-back is conducted by a
listed company:
•
control the basis for working out
the dividend/capital split and the
amount of the dividend
component; and
•
– the purchase price is less than
the market value; or
cause a debit to arise in the
franking account of the company
conducting the buy-back where
the company has foreign resident
shareholders.
– the seller is a corporate tax
entity and part of the purchase
price is a franked dividend.
No taxation consequences arise for
the buying company as a result of the
acquisition and cancellation of the
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Tax Laws Amendment (2011 Measures No. 9) Bill 2011
No taxation consequences arise for
the buying company as a result of the
acquisition and cancellation of the
shares.
However, to the extent that the
purchase price exceeds the market
value, the dividend or non-share
dividend component is unfrankable.
In addition, the buying company must
give a distribution statement in
respect of the dividend or non-share
dividend on or before the day on
which the distribution is made.
However, if the buying company is a
listed company, the time for giving
the distribution statement is seven
days after the distribution is made.
shares.
However, to the extent that the
purchase price exceeds the market
value, the dividend or non-share
dividend component is unfrankable.
In addition, the buying company must
give a distribution statement in
respect of the dividend or non-share
dividend on or before the day on
which the distribution is made.
On-market buy-backs
No change.
When a company conducts an
on-market buy-back, no part of the
purchase price of the share or
non-share equity interest that is
bought back is taken to be a dividend.
Instead, the whole of the purchase
price is taken to be consideration
received for the purposes of working
out the amount of gain or loss on the
disposal on the share or non-share
equity interest.
No taxation consequences arise for
the buying company as a result of the
acquisition and cancellation of the
shares.
In addition, in some circumstances a
franking debit will arise in the
franking account of the buying
company.
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Buy backs of shares and non share equity interests
Detailed explanation of new law
1.13
A buy-back occurs where a company (the buying company)
purchases shares or non-share equity interests in itself from a member or
non-share equity holder (the seller), and cancels the shares.
1.14
The taxation consequences that arise under a buy-back depend
on whether the buy-back is an off-market buy-back or an on-market
buy-back.
Off-market buy-backs
1.15
A buy-back of a share or non-share equity interest is an
off-market buy-back unless:
• the share or non-share equity interest is listed for quotation
on an approved stock exchange; and
• the purchase is made in the ordinary course of trading on that
stock exchange.
[Schedule BB, items 11 and 23, section 190-10 and the definition of ‘off-market
buy-back’ in subsection 995-1(1)]
1.16
If a company undertakes an off-market buy-back:
• part of the purchase price paid to the seller is taken to be a
dividend or non-share dividend (Subdivision 190-A);
• modifications apply for the purpose of determining the
amount of consideration received by the seller on the
disposal of the shares or non-share equity interests in some
circumstances (Subdivision 190-B)—this is relevant for
determining the amount of the gain or loss made by the seller
on the disposal of the shares or interests;
• no taxation consequences arise for the buying company
(Subdivision 190-C); and
• various implications arise under the imputation system
(Subdivision 190-C).
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Tax Laws Amendment (2011 Measures No. 9) Bill 2011
Off-market buy-backs: Part of the purchase price taken to be a dividend
1.17
If a company conducts an off-market buy-back, part of the
purchase price is taken to be a dividend or non-share dividend if there is a
difference between:
• the purchase price for the share or non-share equity interest;
and
• the capital component for the share or non-share equity
interest.
[Schedule BB, item 11, subsection 190-5(1)]
1.18
The amount of the dividend or non-share dividend is the amount
of the difference between the purchase price and the capital component.
[Schedule BB, item 11, subsection 190-5(2)]
1.19
In addition, to ensure that the amount that is taken to be a
dividend or non-share dividend is included in the seller’s assessable
income under section 44 of the ITAA 1936, the dividend or non-share
dividend component is taken to be paid on the day of the buy-back out of
profits derived by the company. [Schedule BB, item 11, subsection 190-5(3)]
What is the purchase price?
1.20
The purchase price for a share or non-share equity interest under
an off-market buy-back is the sum of:
• all amounts of money that the member or non-share equity
holder is entitled to receive in respect of the buy-back; and
• the market value at the time of the buy-back of any property
(other than money) that the member or non-share equity
holder is entitled to receive in respect of the buy-back.
[Schedule BB, item 11, subsection 190-5(4)]
What is the capital component?
1.21
The capital component of the purchase price for a share or
non-share equity interest under an off-market buy-back is:
• for a share—that part of the purchase price which is debited
against the company’s share capital account; or
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Buy backs of shares and non share equity interests
• for an non-share equity interest—that part of the purchase
price which is debited against the company’s share capital
account or non-share capital account.
[Schedule BB, item 11, subsection 190-5(5)]
1.22
The amount of the capital component of the purchase price for a
share or non-share equity interest is:
• the average capital amount; or
• the amount worked out under another calculation method
approved by the Commissioner of Taxation.
[Schedule BB, item 11, subsection 190-15(1)]
1.23
For a share, the average capital amount is worked out using the
formula:
[Schedule BB, item 11, subsection 190-15(2)]
1.24
For a non-share equity interest, the average capital amount is
worked out using the formula:
[Schedule BB, item 11, subsection 190-15(3)]
Example 1.1
In 2005 Company B issued 1000 shares for $2 each. In
November 2011 the shares are listed for $2.50 each on the Australian
stock exchange. Company B conducts an off-market share buy-back
and buys back the shares for $2.50 each.
The average capital amount is worked out using the formula:
Therefore:
•
the average capital amount is $2 (that is, $2000 / 1000); and
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Tax Laws Amendment (2011 Measures No. 9) Bill 2011
•
the dividend component is $0.50 (that is, the total purchase price
($2.50) less the average capital amount ($2).
1.25
In some circumstances a company that undertakes an off-market
share buy-back may consider that the average capital amount results in an
insufficient amount being treated as the capital component of the purchase
price. Therefore, the company can seek the Commissioner’s approval to
use another method to work out the capital component. Other methods
that have previously been accepted by the Commissioner in appropriate
circumstances are:
• the share capital/retained earnings ratio (or slice approach);
and
• the embedded value method.
Certain imputation system integrity rules do not apply to listed
companies
1.26
Currently, a listed company that undertakes an off-market share
buy-back generally needs to seek a ruling from the Commissioner to
clarify that certain imputation system integrity rules do not apply to the
buy-back. The ruling is necessary to provide certainty for the holders of
shares or non-share equity interests in the company who are eligible to
participate in the buy-back.
1.27
Therefore, to provide greater certainty and to reduce compliance
costs, these integrity rules will not apply if:
• the shares or non-share equity interests in the company
conducting the buy-back are listed for quotation on an
official list of an approved stock exchange; and
• the amount of the capital component of the purchase price for
a share or non-share equity interest is the average capital
amount.
[Schedule BB, item 11, subsection 190-20(1)]
1.28
The imputation system integrity rules that do not apply in these
circumstances are:
• section 204-30 of the ITAA 1997, which operates where
imputation benefits are streamed;
• section 45A of the ITAA 1936, which operates where capital
benefits and dividends are streamed;
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Buy backs of shares and non share equity interests
• section 45B of the ITAA 1936, which operates when a
company enters into a scheme to provide capital benefits or
demerger benefits; and
• section 177EA of the ITAA 1936, which operates when a
company enters into a scheme to provide imputation benefits.
[Schedule BB, item 11, subsection 190-20(2)]
1.29
The imputation system integrity rules are switched off only if
the listed company uses the average capital per share method to work out
the capital component. If that method is used, the opportunities for
streaming imputation system benefits are minimised.
1.30
If a company seeks the Commissioner’s discretion to use another
method to work out the capital component, the imputation system
integrity rules still operate. This is because other methods can give rise to
the streaming of imputation system benefits in some circumstances.
Off-market buy-backs: Amount of consideration received by the seller
1.31
When a share or non-share equity interest is disposed of by a
member or equity holder (the seller) under an off-market buy-back, the
seller will generally:
• make a capital gain or capital loss; or
• make a revenue gain or revenue loss.
1.32
The amount of the gain or loss will generally be the amount of
the difference between:
• the amount of consideration received by the seller on the
disposal of the share or interest; and
• the amount paid to acquire (or reduced cost base of) the share
or interest.
1.33
For these purposes, the amount of consideration received by the
seller on the disposal of a share or non-share equity interest will generally
be:
• if part of the purchase price is taken to be a dividend or
non-share dividend, the capital component of the purchase
price for the share or interest worked out under
subsection 190-5(5); or
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Tax Laws Amendment (2011 Measures No. 9) Bill 2011
• if no part of the purchase price is taken to be a dividend or
non-share dividend, the purchase price for the share or
interest.
[Schedule BB, item 11, section 190-70]
1.34
However, for the purpose of working out the amount of gain or
loss made by the seller on the disposal of a share or non-share equity
interest, the amount of consideration received is increased if, broadly:
• the dividend component is not fully taxed;
• the buy-back is conducted by a listed company and the seller
makes a notional loss;
• the buy-back is conducted by an unlisted company and the
purchase price of the share or interest is less than its market
value; or
• the buy-back is conducted by an unlisted company that
franks the dividend component and the seller is a corporate
tax entity which makes a notional loss.
1.35
In some circumstances more than one provision could apply to
increase the amount of consideration that is taken to be received by the
seller. In that event, the amount of consideration that is taken to be
received by the seller is increased by the amount of the adjustment under
each provision.
Consideration received increased if dividend component not fully taxed
1.36
If part of the purchase price of shares or non-share equity
interests under an off-market buy-back is taken to be a dividend or
non-share dividend, the amount of the dividend is included in the seller’s
assessable income under section 44 of the ITAA 1936.
1.37
Alternatively, if the seller is a non-resident, the dividend will be
taxed indirectly because:
• the dividend will be fully franked; or
• the dividend will be subject to dividend withholding tax.
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Buy backs of shares and non share equity interests
1.38
However, in some circumstances the seller may not be taxed,
directly or indirectly, on all or part of the dividend component. This could
happen, for example, if the amount that is taken to be a dividend is
specifically exempt from tax under section 23AJ of the ITAA 1936
because it is a non-portfolio dividend paid by a non-resident company.
1.39
In these circumstances, unless the dividend is paid out of
realised profits, the amount of consideration received is increased to
ensure that the seller pays Australian tax on the dividend component of
the purchase price.
1.40
That is, the amount of consideration received is increased if a
part of the dividend or non-share dividend that is taken to be paid is not
included in the assessable income of the seller, and:
• is debited against a share capital account, non-share capital
account or asset revaluation reserve; or
• is attributable directly or indirectly to amounts transferred
from a share capital account, non-share capital account or
asset revaluation reserve.
[Schedule BB, item 11, subsection 190-75(1)]
1.41
In these circumstances, the amount of consideration received by
the seller is taken to be the capital component of the purchase price
increased by the part of the dividend or non-share dividend that is
untaxed. [Schedule BB, item 11, subsection 190-75(2)]
1.42
However, for the purpose of determining whether a part of the
dividend or non-share dividend that is taken to be paid is not included in
the assessable income of the seller, the following provisions which treats
certain amounts as non-assessable non-exempt income, are disregarded:
• section 802-15 of the ITAA 1997, which applies to a
distribution made by an Australian corporate tax entity to a
foreign resident to the extent that the distribution is conduit
foreign income; and
• section 128D of the ITAA 1936, which applies to dividends
that are subject to dividend withholding tax.
[Schedule BB, item 11, subsection 190-75(3)]
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Tax Laws Amendment (2011 Measures No. 9) Bill 2011
1.43
In addition, for the purpose of determining whether a part of the
dividend or non-share dividend that is taken to be paid is debited against a
share capital account, non-share capital account or asset revaluation
reserve, or is attributable directly or indirectly to amounts transferred from
such an account, the dividend or non-share dividend is taken to have been
debited against the account or reserves against which the purchase price
was debited, and to the same extent. [Schedule BB, item 11,
subsection 190-75(4)]
1.44
A share capital account is defined in subsection 975-300 of the
ITAA 1997 to mean, broadly, an account that a company keeps of its
share capital. However, if a company transfers amounts to its share
capital account from other accounts, the company’s share capital account
may become tainted. In most cases, if a company’s share capital account
becomes tainted, the account is no longer treated as a share capital
account.
1.45
For the purpose of applying section 190-75, a tainted share
capital account continues to be treated as a share capital account. This
prevents the operation of section 190-75 being avoided by a company
tainting its share capital account. [Schedule BB, items 20 to 22,
subsection 975-300(3)]
1.46
An asset revaluation reserve is a reserve (however called)
comprising profits arising from the revaluation of an asset or assets to the
extent that those profits have not been realised by disposing of the asset.
If a reserve contains such profits in addition to other amounts, only that
part of the reserve comprising the revaluation profits is taken to be an
asset revaluation reserve. In such a case, the company will determine to
what extent a debit to the reserve is a debit to that part of the reserve
comprising profits arising from the revaluation of assets which have not
been disposed of.
Consideration received increased if the buy-back is conducted by a listed
company and the seller makes a notional loss
1.47
If part of the purchase price of shares or non-share equity
interests under an off-market buy-back is taken to be a dividend or
non-share dividend, then the seller could make a capital loss or revenue
loss on the disposal of the share or non-share equity interest.
1.48
A loss will arise if the capital component is less than the amount
paid to acquire (or reduced cost base of) the share or interest. To the
extent that the loss arises because part of the purchase price is taken to be
a dividend or non-share dividend, the loss is a notional loss.
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Buy backs of shares and non share equity interests
1.49
The Board of Taxation recommended that, where an off-market
buy-back is conducted by a listed company, notional losses should be
denied. The Board concluded that the denial of notional losses will make
shareholder compliance simpler and easier and make the treatment of
amounts received on the disposal of shares or non-share equity interests
under an off-market buy-back more consistent with other parts of the law,
including the outcomes that arise when a company cancels shares or goes
into liquidation.
1.50
Although the Board of Taxation acknowledged that the denial of
notional losses will reduce returns for some taxpayers who participate in
off-market buy-backs conducted by listed companies, the Board
considered that, when viewed in combination with its other
recommendations, the overall outcomes result in a balanced package.
1.51
Therefore, consistent with the recommendation of the Board of
Taxation, the amount of consideration received is increased if:
• the shares or non-share equity interests in the company
conducting the off-market buy-back are listed for quotation
in the official list of an approved stock exchange just before
the buy-back; and
• a loss would be realised for income tax purposes for the
seller in respect of the buy-back (ignoring this adjustment).
[Schedule BB, item 11, subsection 190-80(1)]
1.52
In these circumstances, the amount of consideration received by
the seller is taken to be the capital component of the purchase price
increased by the lesser of:
• the amount of the loss; and
• the amount of the purchase price that is taken to be a
dividend or non-share dividend.
[Schedule BB, item 11, subsection 190-80(2)]
Example 1.2
Katherine receives a purchase price of $100 in respect of an off-market
buy-back of shares by Company M, a listed company. Company M
debits $70 against its share capital account. Company M is taken to
pay Katherine a dividend of $30 (section 190-5).
Katherine has a cost base and reduced cost base of $90 for the shares
and must work out a capital gain or loss on the disposal.
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Tax Laws Amendment (2011 Measures No. 9) Bill 2011
Apart from section 190-80, Katherine would be taken to have received
the $70 capital component in respect of the buy-back. However, this
would give Katherine a capital loss of $20 (that is, the reduced cost
base ($90) less the capital component ($70)).
Section 190-80 applies to increase the amount of consideration
received by $20 (which is the lesser of the dividend amount ($30) and
the loss amount ($20)). Therefore, the amount of consideration that is
taken to be received by Katherine is $90.
Katherine’s capital loss after applying section 190-80 is nil (that is, the
reduced cost base ($90) less the consideration received ($90)).
Example 1.3
Kenny receives a purchase price of $100 in respect of an off-market
buy-back of shares by Company C, a listed company. Company C
debits $60 against its share capital account. Company C is taken to
pay Kenny a dividend of $40 (section 190-5).
Kenny has a cost base and reduced cost base of $120 for the shares and
must work out a capital gain or loss on the disposal.
Apart from section 190-80, Kenny would be taken to have received the
$60 capital component in respect of the buy-back. However, this
would give Kenny a capital loss of $60 ((that is, the reduced cost base
($120) less the capital component ($60)).
Section 190-80 applies to increase the amount of consideration
received by $40 (which is the lesser of the dividend amount ($40) and
the loss amount ($60)). Therefore, the amount of consideration that is
taken to be received by Kenny is $100.
Kenny’s capital loss after applying section 190-80 is $20 (that is, the
reduced cost base ($120) less the consideration received ($100)).
Consideration received increased if the buy-back is conducted by an
unlisted company and the purchase price is less than market value
1.53
Tax advantages may be obtained if an off-market share buy-back
could be conducted by an unlisted company at a price lower than the
market value of the share or non-share equity interest that is bought back.
In such a case, the taxable gain on the disposal of the share or interest
could be reduced or a tax loss could be created.
1.54
14
Therefore, the amount of consideration received is increased if:
Buy backs of shares and non share equity interests
• the shares or non-share equity interests in the company
conducting the off-market buy-back are not listed for
quotation in the official list of an approved stock exchange
just before the buy-back; and
• the amount that would have been the market value of the
share or interest at the time of the buy-back if the buy-back
did not occur and was never proposed to occur exceeds the
purchase price for the share or interest.
[Schedule BB, item 11, subsection 190-85(1)]
1.55
In these circumstances, the amount of consideration received by
the seller is taken to be the capital component of the purchase price
increased by the amount by which the market value of the share or interest
exceeds its purchase price. [Schedule BB, item 11, subsection 190-85(2)]
1.56
Under the current law, this market value uplift rule applies to
off-market buy-backs conducted by both listed and unlisted companies.
The Board of Taxation recommended that the market value uplift rule no
longer apply to off-market buy-backs conducted by listed companies.
This is because, where an off-market buy-back is conducted by a listed
company, section 190-80 applies to increase the consideration received by
a seller and deny any notional losses.
Consideration received increased if the buy-back is conducted by an
unlisted company that franks the dividend component and the seller is a
corporate tax entity which makes a notional loss
1.57
Where a corporate tax entity disposes of shares or non-share
equity interests under an off-market buy-back conducted by an unlisted
company and the dividend component of the purchase price is franked, the
consideration received is increased to deny notional losses. This is
appropriate because corporate tax entities effectively pay no tax on the
franked dividends.
1.58
Therefore, the amount of consideration received is increased if:
• the shares or non-share equity interests in the company
conducting the off-market buy-back are not listed for
quotation in the official list of an approved stock exchange
just before the buy-back;
• a loss would be realised for income tax purposes for the
seller in respect of the buy-back (ignoring this adjustment);
and
15
Tax Laws Amendment (2011 Measures No. 9) Bill 2011
• the seller is a corporate tax entity that is entitled to a tax
offset for franking credits attached to the dividend or
non-share dividend component of the purchase price.
[Schedule BB, item 11, subsection 190-90(1)]
1.59
In these circumstances, the amount of consideration received by
the seller is taken to be the capital component of the purchase price
increased by the lesser of:
• the amount of the loss; and
• the amount worked out applying the formula:
[Schedule BB, item 11, subsection 190-90(2)]
1.60
Under the current law, corporate tax entities are denied notional
losses in respect of off-market buy-backs conducted by both listed and
unlisted companies where the dividend component of the purchase price is
franked. However, section 190-90 applies only to off-market buy-backs
conducted by unlisted companies because, where an off-market buy-back
is conducted by a listed company, section 190-80 applies to increase the
consideration received by a seller and deny notional losses in all cases.
Off-market buy-backs: Tax neutral for buying companies
1.61
When a company conducts an off-market buy-back, the
buy-back and subsequent cancellation of the shares or non-share equity
interests are disregarded for the purpose of working out whether:
• the company makes a capital gain or capital loss;
• the company has an amount included in their assessable
income (other than as a capital gain); or
• the company is allowed a deduction.
[Schedule BB, item 11, section 190-140]
1.62
As a result, the buy-back is effectively tax neutral for the buying
company. Therefore, the buying company will not, for example, make a
capital gain or loss as a result of the cancellation of the shares. In
addition, the buying company is not allowed a deduction in respect of any
expenditure incurred in respect of the buy-back.
16
Buy backs of shares and non share equity interests
Off-market buy-backs: Imputation system rules
1.63
When a company conducts an off-market buy-back, the
imputation system is modified so that:
• the dividend or non-share dividend component is unfrankable
to the extent that the purchase price of the share or interest
exceeds its market value;
• if the buy-back is conducted by a listed company, the time
for giving distribution statements is extended; and
• a franking debit arises in the company’s franking account if it
has foreign resident shareholders.
Dividend component unfrankable where the purchase price is greater
than market value
1.64
If a company conducts an off-market buy-back, the company
can generally attach franking credits to the dividend or non-share dividend
component of the purchase price.
1.65
However, as an integrity rule, the dividend or non-share
dividend is unfrankable to the extent that the purchase price for the share
or non-share equity interest exceeds the market value (as normally
understood) of the share or interest at the time of the buy-back assuming
that the buy-back did not occur and was never proposed to occur.
[Schedule BB, items 11 and 12, section 190-145 and paragraph 202-45(c)]
1.66
This integrity rule prevents a company from being able to pass
on franking credits to sellers which could not ordinarily be accessed
where:
• the amount of the purchase price for a share or non-share
equity interest exceeds its market value; and
• the excess purchase price is taken to be a dividend or
non-share dividend.
Extension of the time for listed companies to give distribution statements
1.67
A company that makes a franked distribution must give the
recipient a distribution statement. Generally, the distribution statement
must be given on or before the day on which the distribution is made
(section 202-75 of the ITAA 1997).
17
Tax Laws Amendment (2011 Measures No. 9) Bill 2011
1.68
Listed companies that undertake off-market buy-backs often
have difficulty in satisfying the requirement to give recipients a
distribution statement on or before the day the distribution is made. This
difficulty arises because of the buy-back process used by listed
companies.
1.69
Therefore, the time for giving a distribution statement for a
frankable distribution is extended if:
• the distribution is a dividend or a non-share dividend paid in
relation to a share or non-share equity interest under an
off-market buy-back; and
• the shares or interests are listed for quotation in the official
list of an approved stock exchange just before the buy-back.
[Schedule BB, items 11 and 13, section 190-150 and the note to subsection 202-75(2)]
Franking debit where companies have foreign resident shareholders
1.70
A primary attraction for companies to use off-market buy-backs
as a capital management tool is that part of the purchase price is treated as
a frankable dividend or non-share dividend for income tax purposes.
Consequently, shareholders and non-share equity interest holders who can
fully utilise franking credits have greater incentive to participate in
off-market buy-backs than other shareholders or interest holders.
1.71
As a result, when a company undertakes an off-market
buy-back, the Commissioner routinely applies the general anti-avoidance
provision in section 177EA of the ITAA 1936 to debit the company’s
franking account to prevent the streaming of franking credits from foreign
resident shareholders or interest holders to Australian resident
shareholders or interest holders.
1.72
The Board of Taxation concluded that it is appropriate to protect
the Australian tax base by preventing the streaming of franking credits
from foreign resident shareholders or interest holders to Australian
resident shareholders or interest holders. However, the Board
recommended that, to ease compliance costs, a specific provision should
cause a franking debit to arise in the company’s franking account and
specify the basis for working out the amount of the franking debit.
1.73
Therefore, a franking debit will arise in the franking account of a
company conducting an off-market buy-back if:
• just before the buy-back, one or more foreign residents are
members or equity holders in the company; and
18
Buy backs of shares and non share equity interests
• the dividend or non-share dividend component of the
purchase price is franked to any extent.
[Schedule BB, items 11 and 14, subsections 190-155(1) and 205-30(1)]
1.74
The franking debit will arise in the franking account of a
company conducting the off-market buy-back on the day of the buy-back.
[Schedule BB, items 11 and 14, subsections 190-155(5) and 205-30(1)]
1.75
The amount of the franking debit that arises in the franking
account of the company conducting the off-market buy-back is worked
out using the formula:
where:
• the franking credits allocated is the sum of the franking
credits allocated to all the franked distributions for the shares
and non-share equity interests bought back;
• the number of foreign interests is the number of shares or
non-share equity interests in the company that:
– are held just before the buy-back by foreign residents;
– are of the same kind as those bought back; and
– are not bought back;
• the number of total interests is the number of shares or
non-share equity interests in the company just before the
buy-back of the same kind as those bought back (including
those that are bought back); and
19
Tax Laws Amendment (2011 Measures No. 9) Bill 2011
• the weighted WHT rate is the weighted average of the rates
set out in subsection 190-155(3) for the foreign interests.
[Schedule BB, items 11 and 14, subsections 190-155(2) and 205-30(1)]
1.76
For the purpose of working out the weighted WHT rate, the rate
for a foreign interest is:
• the rate set out in paragraph 7(a) of the Income Tax
(Dividends, Interest and Royalties Withholding Tax)
Act 1974—currently 30 per cent; or
• if the member who holds the foreign interest is a resident of a
country that Australia has a double tax agreement with, the
rate of withholding tax applying to dividends under the
relevant double tax agreement.
[Schedule BB, item 11, subsections 190-155(3) and (4)]
1.77
The company can use the register of its members just before the
buy-back to determine whether a member is a resident of a country that
Australia has a double tax agreement with. [Schedule BB, item 11,
subsection 190-155(4)]
On-market buy-backs
1.78
A buy-back of a share or non-share equity interest is an
on-market buy-back if:
• the share or non-share equity interest is listed for quotation
on an approved stock exchange; and
• the purchase is made in the ordinary course of trading on that
stock exchange.
[Schedule BB, items 11 and 25, section 190-210 and the definition of ‘on-market
buy-back’ in subsection 995-1(1)]
1.79
If a company undertakes an on-market buy-back:
• no part of the purchase price paid to the seller is taken to be a
dividend or non-share dividend (section 190-205);
• the purchase price is the amount of consideration that is taken
received by the seller on the disposal of the shares or
non-share equity interests (section 190-215)—this is relevant
for determining the amount of the gain or loss made by the
seller on the disposal of the shares or interests;
20
Buy backs of shares and non share equity interests
• no taxation consequences arise for the buying company
(section 190-220); and
• a franking debit arises in the franking account of the buying
company in some circumstances (section 190-225).
No part of the purchase price is taken to be a dividend
1.80
If a company conducts an on-market buy-back, no part of the
purchase price is taken to be a dividend or non-share dividend. [Schedule
BB, item 11, subsection 190-205(1)]
1.81
The purchase price for a share or non-share equity interest under
an on-market buy-back is the sum of:
• all amounts of money that the member or non-share equity
holder is entitled to receive in respect of the buy-back; and
• the market value at the time of the buy-back of any property
(other than money) that the member or non-share equity
holder is entitled to receive in respect of the buy-back.
[Schedule BB, item 11, subsection 190-205(2)]
Amount of consideration received by the seller
1.82
When a share or non-share equity interest is disposed of by a
member or equity holder (the seller) under an on-market buy-back, the
seller will generally:
• make a capital gain or capital loss; or
• make a revenue gain or revenue loss.
1.83
The amount of the gain or loss will generally be the amount of
the difference between:
• the amount of consideration received by the seller on the
disposal of the share or interest; and
• the amount paid to acquire (or reduced cost base of) the share
or interest.
1.84
For these purposes, the amount of consideration received by the
seller on the disposal of a share or non-share equity interest is equal to the
purchase price for the share or interest. [Schedule BB, item 11, section 190-215]
21
Tax Laws Amendment (2011 Measures No. 9) Bill 2011
Tax neutral for buying companies
1.85
When a company conducts an on-market buy-back, the buy-back
and subsequent cancellation of the shares or non-share equity interests are
disregarded for the purpose of working out whether:
• the company makes a capital gain or capital loss;
• the company has an amount included in their assessable
income (other than as a capital gain); or
• the company is allowed a deduction.
[Schedule BB, item 11, section 190-220]
1.86
As a result, the buy-back is effectively tax neutral for the buying
company. Therefore, the buying company will not, for example, make a
capital gain or loss as a result of the cancellation of the shares. In
addition, the buying company is not allowed a deduction in respect of any
expenditure incurred in respect of the buy-back.
Franking debit arises in the franking account of the buying company
1.87
A franking debit will arise in the franking account of a company
conducting an on-market buy-back if a franking debit would have arisen
if:
• the purchase of the share or interest were a frankable
distribution equal to the one that would have arisen if the
buy-back had been an off-market share buy-back; and
• the distribution were franked at the entity’s bench market
franking percentage for the franking period in which the
purchase was made or, if the entity does not have a
benchmark franking percentage for the period, at a franking
percentage of 100 per cent.
[Schedule BB, items 11 and 15, subsections 190-225(1) and 205-30(1)]
1.88
The franking debit will arise in the franking account of a
company conducting the on-market buy-back on the day of the buy-back.
[Schedule BB, items 11 and 15, subsections 190-225(3) and 205-30(1)]
1.89
The amount of the franking debit that arises in the franking
account of the company conducting the on-market buy-back is the amount
of the franking debit that would have arisen. [Schedule BB, items 11 and 15,
subsections 190-225(2) and 205-30(1)]
22
Buy backs of shares and non share equity interests
Application and transitional provisions
1.90
These amendments apply to off-market buy-backs and
on-market buy-backs announced by the company conducting the buy-back
after the day this Bill receives Royal Assent. [Schedule BB, item 26]
Consequential amendments
1.91
Consequential amendments will:
• repeal the existing provisions relating to buy-backs in
Division 16K of Part III of the ITAA 1936;
• update the check lists in section 10-5 and 12-5 of the
ITAA 1997;
• update references to the buy-back provisions in the capital
gains tax provisions (including, for example, a note to clarify
that the amount of consideration received under an
off-market buy-back or an on-market buy-back is treated as
capital proceeds for capital gains tax purposes);
• update a reference to the buy-back provisions in the taxation
of financial arrangement provisions;
• update references to the buy-back provisions in the value
shifting provisions; and
• repeal a redundant definition of ‘off-market purchase’.
[Schedule BB, items 1 to 4, 6 to 10, 16 to 19 and 24, sections 10-5, 12-5, 116-10, 116-20,
118-1, 118-20, 125-70, 230-515, 725-230, and 995-1]
Legislative history of Division 16K
1.92
Division 16K of Part III of the ITAA 1936 was added by
Taxation Laws Amendment Act (No. 3) 1990 [Act No.58 of 1990].
23
Tax Laws Amendment (2011 Measures No. 9) Bill 2011
1.93
These Acts have amended Division 16K.
Act title
24
Act No.
Effect of amendments
Taxation Laws
Amendment Act (No. 2)
1994
82 of 1994
The amendments ensured
that the consideration
received under an
off-market buy-back
included the amount of a
rebatable dividend paid in
relation to a revaluation
reserve.
Taxation Laws
Amendment Act (No. 3)
1995
170 of 1995
The amendments were
consequential upon the
introduction of the former
disqualifying account
rules which prevented
dividends paid out of
share capital accounts or
asset revaluation reserves
from being rebatable or
frankable.
Taxation Laws
Amendment Act (No. 1)
1996
31 of 1996
The amendments
introduced modifications
to increase the amount of
consideration received
where:
•
the purchase price is
less than the market
value;
•
the dividend
component is not fully
taxed; or
•
the seller is a corporate
tax entity and part of
the purchase price is a
franked dividend.
Tax Laws Improvement
Act (No. 1) 1998
46 of 1998
The amendments were
minor consequential
amendments upon the
introduction of Tax Law
Improvement Project
rewrites of other
provisions.
Taxation Laws
Amendment (Company
Law Review) Act 1998
63 of 1998
The amendments were
minor consequential
amendments resulting
from changes to the
Corporations Law.
Buy backs of shares and non share equity interests
New Business Tax
System (Debt and
Equity) Act 2001
163 of 2001
The amendments were
consequential upon the
introduction of the
debt/equity rules and
extended the scope of the
buy-back provisions to
cover non-share equity
interests.
Tax Laws Amendment
(2004 Measures No 6)
Act 2005
23 of 2005
The amendments were
minor consequential
amendments resulting
from the introduction of
the simplified imputation
system.
Tax Laws Amendment
(Loss Recoupment and
Other Measures) Act
2005
147 of 2005
The amendments were
minor consequential
amendments resulting
from the introduction of
the conduit foreign
income rules.
Finding tables
1.94
The amendments substantially rewrite Division 16K of Part III
of the ITAA 1936. These finding tables help locate which provision in the
Bill corresponds to a provision in the current law that has been rewritten,
and vice versa.
1.95
References to the old law in the finding table are to provisions in
Division 16K of Part III of the ITAA 1936, unless otherwise stated.
1.96
References to the new law are to provisions in Division 190 of
the ITAA 1997. Also, in the finding tables:
• No equivalent means that this is a new provision that has no
equivalent in the current law. These reflect changes to
implement the recommendations of the Board of Taxation.
• Omitted means that the provision in the old law has not been
rewritten in the new law.
25
Tax Laws Amendment (2011 Measures No. 9) Bill 2011
Table 1.1 — Old law to new law
Old law
New law
159GZZZIA
190-10, 190-210
159GZZZJ
190-10, 190-210
159GZZZK
190-10, 190-210
159GZZZL
Omitted
159GZZZM
190-5
159GZZZN
190-140, 190-220
159GZZZP
190-5
159GZZZQ
190-70, 190-75, 190-85, 190-90
159GZZZR
190-205
159GZZZS
190-215
Table 1.2 — New law to old law
New law
26
Old law
190-1
No equivalent
190-5
159GZZZP, 159GZZZM
190-10
159GZZZIA, 159GZZZJ,
159GZZZK
190-15
No equivalent
190-20
No equivalent
190-70
159GZZZQ(1)
190-75
159GZZZQ(3) to (7)
190-80
No equivalent
190-85
159GZZZQ(2)
190-90
159GZZZQ(8) and (9)
190-140
159GZZZN
190-145
202-45(c) of the ITAA 1997
190-150
No equivalent
190-155
No equivalent
190-205
159GZZZR
190-210
159GZZZIA, 159GZZZJ,
159GZZZK
190-215
159GZZZS
190-220
159GZZZN
190-225
205-30 of the ITAA 1997
Buy backs of shares and non share equity interests
27