The draft Taxation Ruling TR 2017/D3 (Taxation Ruling) released by The Australian Tax Office on 10 May 2017 contains important taxation considerations for shareholders that participate (or conversely, do not participate) in certain renounceable rights issues with a retail bookbuild. Companies considering offering renounceable rights issues should be aware of the information below, in anticipation of the finalised Taxation Ruling which will apply before and after its issue date.

Partner Justin Byrne, and Law Graduate Ben Morris, discuss the changes in further detail.

A renounceable rights issue is an undertaking or offer of a right, by a public company, to issue securities to its eligible shareholders, [1] proportionately to their existing holdings.

The Taxation Ruling only applies to the extent the rights and retail premiums relate to shares held on capital account, and that applies specifically to renounceable rights issues with the following features:

  • eligible retail shareholders receive a proportional entitlement or right to acquire shares in the company (Right or Entitlement), [2] for the offer price, with which they may either exercise all or part of the Entitlement, sell all or part of their Entitlement, or do nothing (not participate);
  • Entitlements of both eligible retail shareholders (who do not participate in the rights issue) and ineligible shareholders, are auctioned to the highest bidder in a retail “bookbuild” process and are transferred to successful bidders; or
  • proceeds in excess of the original offer price that investors pay for the Rights is the retail premium, and these are distributed to the eligible and ineligible shareholders on behalf of whom the Entitlements were sold (Retail Premium).

Summary of the Ruling

The draft Taxation Ruling determines that:

  • the market value of the Rights or Entitlements, at the time they are granted, is non-assessable, non-exempt income in the hands of the shareholder;
    • meaning that Australian Resident eligible shareholders and Foreign Resident ineligible shareholders covered by this Taxation Ruling (when finalised) (Relevant Shareholders) do not need to include the grant of the Entitlement in their assessable income;
  • the Entitlements or Rights are Capital Gains Tax (CGT) assets for tax purposes;
    • meaning that while Relevant Shareholders require no action upon the grant of Entitlements, transfer of the Right to a bidder under the retail bookbuild triggers a CGT event, and the consequential Retail Premium is a capital gain, invoking the capital gains tax provisions;
  • the Entitlements are Rights taken to have been acquired upon the purchase of the original, underlying shares;
    • meaning that any Retail Premium received by Relevant Shareholders may represent a discount capital gain if the original shares have been held for 12 months or more, however;
    • the CGT discount is generally not available for Foreign Residents in respect of a CGT event which happens after 8 May 2012;
  • Retail Premiums are not ordinary income;
    • because the sale of the Entitlement is a mere realisation of a capital asset;
  • Retail Premiums are not dividends;
    • because the Retail Premium is referrable to the proceeds of sale of the Entitlements and the payments are made by the Underwriter, thus they are not distributions of company assets; and
  • there is no withholding tax obligation for the company in respect of Retail Premiums paid to foreign resident ineligible shareholders;
    • because the Retail Premium payments are not made by the company. This is a topical distinction, given the recent budgetary changes to the withholding tax rates on the sale of property by foreigners.

While this is a draft Taxation Ruling, it is crucial to be aware of its effects on shareholders in the interests of maintaining shareholder value and transparency.