Board of Taxation reviewing application of hybrid mismatch rules to Regulatory Capital

The Board of Taxation (the Board) is currently undertaking a specific review to examine how best to implement the Organisation for Economic Co-operation and Development (OECD) Hybrid Mismatch Recommendations (Action 2 Report), to eliminate deductible/frankable hybrid mismatch arrangements that arise in relation to regulatory capital. The Board has previously provided the Government with a report on the implementation of the OECD hybrid mismatch rules. The report in relation to this latest review is due to be provided to the Government by the end of July 2016. This timeframe will enable the commencement of any recommended measures to align with the proposed commencement of the Australian hybrid mismatch rules.

Preparing for the Attribution Managed Investment Trusts regime

ASIC has granted relief to assist responsible entities of registered schemes to allow them to make changes to their constitutions without automatically holding a members’ meeting. This relief will assist responsible entities to smoothly implement the Attribution Managed Investment Trust (AMIT) regime. Specifically, ASIC Corporations (Attribution Managed Investment Trust) Instrument 2016/489, registered on 21 June 2016, enables a responsible entity of a registered scheme to change the scheme’s constitution without a members’ meeting where it reasonably considers the changes to be necessary for, or incidental to, the scheme being able to be operated as an AMIT.

The instrument also provides relief from the requirement to treat members who hold interests of the same class equally where a responsible entity is making an attribution in accordance with requirements under the new tax system for managed investment trusts.

New ATO products aim to provide taxpayer certainty

The ATO has two new products – Law Companion Guidelines (LCGs) and Practical Compliance Guidelines (PCGs) – which are aimed to provide public advice and guidance to taxpayers. To explain the purpose, nature and role of each of these new products, the following Guidelines were finalised:

  • LCG 2015/1: Law Companion Guidelines: purpose, nature and role in ATO’s public advice and guidance – LCGs, which can have the status of a binding public ruling, aim to provide ATO insight into the practical implications or detail of recently enacted law in ways that may go beyond mere questions of interpretation.
  • PCG 2016/1: Practical Compliance Guidelines, purpose, nature and role in ATO’s public advice and guidance – PCGs aim to give broader law administration guidance that conveys the ATO’s assessment of relative levels of tax compliance risk across a spectrum of behaviours or arrangements (to safely ‘swim between the flags’) and communicate how the ATO will apply its audit resources or provide practical compliance solutions where tax laws are uncertain in their application or are found to be creating unsustainable administrative or compliance burdens.

ATO finalises ruling dealing with TOFA and swaps

TR 2016/2, issued on 25 May 2016, sets out the Commissioner’s final view regarding how section s230-120 of the Income Tax Assessment Act 1997 applies to the taxation of swaps under the accruals/realisation methods which apply under the taxation of financial arrangements (TOFA) rules.

This Ruling, which is substantially the same as the draft (TR 2015/D3), applies to income years commencing both before and after its date of issue.

Section 230-120 sets out how the accruals and realisation methods apply to ‘financial arrangements with notional principal’. Where a financial arrangement satisfies the conditions set out in s230- 120(1), the gains and losses from the financial arrangement are to be worked out in accordance with s230-120(3) when applying the accruals/realisation methods.

The Ruling sets out four examples of swap contracts to illustrate the principles identified in the Ruling:

  • Example 1: Interest rate swap with a nonperiodic lump sum payment
  • Example 2: Cross currency swap
  • Example 3: Total return swap
  • Example 4: Credit default swap.

In brief, the key points made in the Ruling are as follows:

  • The test in s230-120(1) will be satisfied where, having regard to the actual pricing, terms and conditions of the actual financial arrangement, there is, in substance or effect, a notional arrangement (referred to in the Ruling as the notional construct) that has specified characteristics.
  • The notional construct consists of two ‘legs’ and possibly one or more other ‘things’. A ‘thing’ is anything else of which the notional construct consists which is not a leg. The Ruling does not provide any further detail or examples in this regard, but notes that anything not relevantly related to the notional principal will not form part of a leg.
  • Where a financial benefit is, in substance, the result of an equation that contains the notional principal as a term, the financial benefit is calculated by reference to the notional principal. In terms of the legal form of the actual financial arrangement, the notional principal need not be actually provided or received.
  • The financial benefits from each leg of the notional construct and any other ‘thing’ are worked out separately. The accruals/realisation methods apply at each level of each leg or ‘thing’, and the gains and losses from each leg or thing are treated as being the gains and losses from the financial arrangement.
  • In working out the gains or losses of each element of the notional construct, and when they ought to be recognised, the result must properly reflect the financial substance of the financial arrangement.