Division 7A of the 1936 Tax Act contains specific anti-avoidance provisions that may result in a deemed dividend such as loans and other benefits provided by a private company to a shareholder or associates of a shareholder of that private company. However the total amount of the deemed dividends cannot exceed the company’s distributable surplus for that income year.
The calculation of the company’s distributable surplus for an income year takes into account the net assets of the company which in turn takes into account the present legal obligations of the company to persons other than the company. Therefore if any income tax payable for that income year is a present legal obligation of the company at the end of that income year, the amount of the distributable surplus will be reduced by the amount of that income tax.
In a recent case, the Full Bench of the Federal Court had to consider whether the present legal obligations of the company for an income year included the amount of income tax payable by the company for that income year even if there was no assessment for income tax and therefore such income tax was not due and owing by the company.
The Court said that in the context of the definition of “distributable surplus”, a construction which gives the term a result that approximates the profits (realised and unrealised) available for distribution is to be preferred to a construction which results in a divergence between the measure of the distributable surplus so construed and the measure of the profits (realised and unrealised) available for distribution. Therefore the Court said the requirement that there be an “obligation” does not require the existence of a debt due, either in the sense of owing or in the sense of being payable. The term “obligation” in the Court’s view in the context of this section embraces situations outside the confines of a creditor/debtor relationship.
The Court therefore held that the obligation is a present one in the sense that it exists and the fact that the obligation is to do something at a future date does not deny its standing as an existing obligation. Thus in the context of the provisions, the amount of income tax payable by the company for that income year was a present legal obligation of the company at the end of that income year even though it did not crystallise into a debt due and owing by the company until after that time.
In relation to the general interest charge, not surprisingly the Full Court upheld the Tribunal’s determination on this question that such interest became a present legal obligation on each day on which the tax that should have been paid remains unpaid.