All legislative references are to the Income Tax Assessment Act 1997 (ITAA 1997) and the Income Tax Assessment Act 1936 (ITAA 1936) unless specified otherwise.
This response does not deal with law relating to corporations and the relevant accounting standards as they apply to the buy back.
Off-market share buy-back
Under the current law, where there is an off-market buy-back, the difference between the purchase price and that part of the purchase price that is debited against amounts standing to the credit of the company’s share capital account is treated as a dividend paid to the shareholder out of company profits on the day of the buy-back (ITAA 1936 s 159GZZZP).
A distribution is able to be franked only where it is a frankable distribution. A distribution (including a non-share dividend) is a frankable distribution to the extent that it is not unfrankable (ITAA 1997 s 202-40). The distributions that are unfrankable are detailed in ITAA 1997 s 202-45.
The relevant items for a share buy-back that are unfrankable include:
- in the case of a share buy-back that is taken to be a dividend under ITAA36 s 159GZZZP, the excess (if any) of the purchase price over the market value
- a distribution that is sourced, directly or indirectly, from a company’s share capital account (s 202-45(e)).
Item 2 will not cause a dividend to be unfrankable where the dividend does not breach the law relating to corporations and is paid out of current trading profits recognised in its accounts and available for distribution (the mere fact that the company has unrecouped prior year accounting losses or has lost part of its share capital will not be relevant), or is paid out of an unrealised capital profit of a permanent character recognised in its accounts and available for distribution (provided the company’s net assets exceed its share capital by at least the amount of the dividend).
It must be noted that Item 1 may be an issue where the shares are being bought back for more than their market value at the time of the buy-back. This may be an issue given that the proposal is to buy back shares at a value that includes profits that have not been made, but are only expected to be made.
The company may pay the maximum even if it exceeds the amount of franking credits it has in its franking account at the time. However, franking deficit tax (FDT) will be imposed by the New Business Tax System (Franking Deficit Tax) Act 2002 if the company’s franking account is in deficit (ie, its franking debits exceed its franking credits) at the end of an income year (ITAA 1997 s 205-45(2)). FDT is not imposed as a penalty but as a prepayment of income tax prematurely imputed to its members.
Accordingly, a corporate tax entity that meets a residency requirement may offset its FDT liability against its future income tax liabilities (ITAA 1997 s 205-70). However, where the company franks a distribution during an income year and its FDT liability is more than 10 per cent of the total franking credits arising in its franking account for the year, the company’s FD tax offset against future company tax liabilities is reduced by 30 per cent. [21-02-2012]
Q. Can an amount paid under a personal guarantee be a capital loss for CGT purposes (assuming the taxpayer giving the guarantee is not in the business of doing so)?
All legislative references are to the Income Tax Assessment Act 1997 (ITAA 1997) unless specified otherwise.
Where the debt owing by the company to the guarantor is released or otherwise extinguished and the guarantor does not receive any payment in relation to the debt, a capital loss may arise to the guarantor (s 104-25). However, the capital loss will be disregarded if the debt owing to the guarantor is a personal use asset (s 108-20; Taxation Ruling TR 96/3).
CGT asset
The debt is a CGT asset in the hands of the guarantor. A release or cancellation of the debt will constitute CGT event C2, being the cancellation, release or discharge of an intangible asset (s 104-25). Where the reduced cost base of the debt exceeds the capital proceeds received, a capital loss equal to the excess will arise (s 104-25(3)). The debt will need to be released or cancelled in order for the CGT event to arise. The reduced cost base of the debt will generally be equal to the amount of the guarantee payment that the guarantor was required to make.
Where the guarantor does not receive any consideration for the release of the debt, the capital proceeds will be equal to the market value of the debt (s 116-30). If the company is insolvent at the time of release the market value of the debt will be nil (Taxation Ruling TR 93/6).
