What are the changes?
In broad terms, Division 7A is an anti-avoidance provision of the Income Tax Assessment Act 1936 that has the potential to deem loans from private companies to related parties to be unfranked dividends. On 22 October 2018, Treasury released a consultation paper that proposed radical changes to the way Division 7A would operate from 1 July 2019.
This consultation paper caused quite a stir in the tax and business community – ranging from criticising the proposed overhaul of the Division 7A system as “bad for business” to “stifling innovation and entrepreneurial spirit in Australia”.
A brief overview of the main proposed changes is set out in the table below:
|Proposed change as set out in the consultation paper||Which taxpayers will be affected?|
|1||Division 7A compliant loans should now have a term of 10 years (i.e. no more 7 / 25-year compliant loans).||Private companies making loans on or after 1 July 2019|
|2||Distributable surplus concept (i.e. a measure of a company’s profits according to a Division 7A calculation – not necessarily the same as a company’s retained earnings) will no longer limit the amount of the deemed dividend.||Private companies making loans on or after 1 July 2019|
|3||Unpaid present entitlements or UPEs (i.e. a distribution from a trust to a company that has not yet been paid) existing at 30 June 2019 (excluding UPEs that arose before 16 December 2009) will be treated as loans.||Private companies with UPEs at 30 June 2019|
|4||Transitional rules to convert 7 or 25-year loans existing at 30 June 2019 to 10-year loans.||Private companies with 7 or 25-year compliant loans as at 30 June 2019|
|5||Pre 4 December 1997 loans still in existence at 30 June 2021 will become subject to Division 7A.||Private companies that still have pre 4 December 1997 loans at 30 June 2021|
|A new benchmark interest rate will apply which as at 1 July 2018 was 8.3% compared to the current Division 7A benchmark rate of 5.2%.||Private companies that make loans on or after 1 July 2019 and existing Division 7A loans as at 30 June 2019|
We are just over three months away from 30 June 2019 – and we still do not have certainty on whether the proposals will become law before 30 June 2019. Parliament reconvenes on 2 April 2019 (i.e. the same day as the Federal Budget). We also have an upcoming election that must be held before 19 May 2019.
The odds are stacked against the possibility of passing these proposed measures as law before 1 July 2019 – not just because of the tight timeframe but also because of a possible change of Government. However, even if these proposals only become law after 1 July 2019, there remains the possibility the laws could be applied retrospectively.
How can we help you?
We recommend clients who may be affected by these potential changes to have a conversation with their Adviser about the risks and opportunities that the proposals contain.
In an ideal world, it would be great if legislation would only apply prospectively and had an appropriate lead time to allow taxpayers to prepare for the new rules. However, this is not always the case.
Through our Tax Advisory team across Australia, we can help you identify your exposure if these proposals were to become law, as well as identify potential steps to take to help manage such exposure.
Our Family Office Model means regardless of the location or service offering of your key relationship manager, we can access the right Tax Advisory expertise for you.
Roelof van der Merwe
National Tax Director – Tax Advisory