Equity funded special franked distributions are the focus of a specific tax integrity measure announced in the Mid-Year Economic and Fiscal Outlook 2016-17 (MYEFO).
Equity funded special franked distributions (ie, dividends and non-share dividends outside the normal distribution pattern) were the principal focus of Taxpayer Alert TA 2015/2: Franked distributions funded by raising capital to release credits to shareholders which was issued on 7 May 2015.
That taxpayer alert was issued following a number of transactions by ASX listed companies during 2014 and 2015.
The underlying ATO concern was that a company with a franking credit store could release franking credits to shareholders outside its normal dividend pattern without a corresponding cash or balance sheet detriment. The specific ATO concern was that releasing franking credits is the main (if not the only) objective of the special dividend – a situation to which the s.177EA specific franking credit anti-avoidance provision is directed.
We outlined the significant technical barriers to s.177EA applying to typical equity funded special dividends in our earlier Riposte found here.
After considering the issue for some time, it is understood that the ATO concern about the potential application of s.177EA to equity funded special dividends had dissipated.
However, the Government’s MYEFO Grinch stole the expected ATO guidance Christmas present by announcing that companies will be prevented from franking special distributions to the extent that they are “funded” directly or indirectly by capital raisings.
Examples of affected capital raisings include underwritten dividend reinvestment plans, share placements and underwritten rights issues.
The new measure is to apply to franked distributions made after midday on 19 December 2016.
Interesting issues for the legislative drafting process include the following:
- read literally, the announcement will only apply where the company issues equity as a first step and pays a special dividend as a second step. However, if the sequencing is inverted – ie, a company pays a special dividend as a first step and then issuing equity as a second step – then the capital raising cannot be said to fund the special dividend (whether directly or indirectly) in any conventional sense. Presumably the intention is that the new measure cannot be so easily defeated;
- as a practical matter, what form of “tracing” of equity funding will be required in order to establish that the new measure does not apply; and
- whether the new provisions will address the “whack a mole” problem of companies equity funding ordinary dividends and using non-equity funding to pay special dividends.