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ATO Alert Targets Company Loans

Monday, March 7, 2011

The Australian Tax Office (ATO) has recently released a Taxpayer Alert warning taxpayers of arrangements involving loans to members of a company limited by guarantee (LBG company) and the operation of Division 7A of the Income Tax Assessment Act 1936 (ITAA36).

Under these arrangements a LBG company is established to receive income distributions from a trust and then lend that money to directors, members or associates of that company or related parties. Minimal or no interest or principal is paid on the loans, however the Commissioner has stated that the Tax Office is concerned that some people are utilizing these arrangements to obtain income from their trusts without having to pay the required amount of tax.

The alert applies to arrangements with features substantially equivalent to the following:

  • A company limited by guarantee (the LBG company) is set up and becomes a beneficiary or an object of a trust (the Trust);
  • The Trust distributes net income to beneficiaries including the LBG company. The distribution to the LBG company may have franking credits attached;
  • The LBG company pays tax on the distributions at the company tax rate (30%);
  • The LBG company makes loans to directors, members or associates of the LBG company or related parties to the directors, members or associates (the borrower);
  • The borrower does not include the value of the loans in their assessable income in the year in which they are received;
  • The borrower pays minimal or no interest to the LBG in relation to these loans; and
  • Aside from the perceived beneficial tax treatment, there is little or no commercial reason for the establishment of a limited by guarantee company.

The Tax Office has indicated that anyone who has participated in such arrangements should come forward prior to April 30, 2011 before they are contacted, and that if they do so, there may be reductions in any penalties imposed by the Tax Office.