The Government has proposed a suite of amendments aimed at 'tidying up' the operation of the taxation of financial arrangements ("TOFA") regime. The proposals are contained in an exposure draft of legislation that was released by Treasury on 10 January 2013. The amendments cover a broad range of the TOFA rules including the core rules, the accruals and realisation methods and the elective fair value and hedging methods. Treasury has proposed that the amendments take effect from 26 March 2009 (the original enactment of the TOFA regime), so taxpayers will need to assess whether their current treatment of financial arrangements will continue to be correct after the amendments are enacted.
Will these changes impact on you?
To give some background, the TOFA regime generally applies to financial arrangements entered into after 1 July 2010 by the following types of taxpayers:
- authorised deposit-taking institutions (broadly banks and similar financial institutions), securitisation vehicles or financial sector entities with an aggregated turnover of $20 million or more;
- superannuation entities, managed investment schemes or similar foreign schemes that have assets of $100 million or more; or
- other entities (but not individuals) that satisfy one of the following thresholds:
- aggregated turnover of $100 million or more;
- assets of $300 million or more; or
- financial assets of $100 million of more.
Consequently taxpayers that fall below these thresholds will not be impacted by the proposals.
Changes that have been proposed
A number of the key changes are discussed below. Most of the amendments are intended to resolve differing interpretations of the current law.
The core rules
- In very broad terms, the TOFA provisions require taxpayers to calculate the gain or loss they will make from entering into a financial arrangement. This is done by offsetting the financial benefits they will provide against financial benefits they will receive. The amendments propose to clarify that financial benefits that a taxpayer might provide should also be included in this calculation. This change was considered necessary because, under the current law, there is an argument that only gains and losses that are certain (i.e. those that a taxpayer will make) should be included in this calculation. Further amendments propose to confirm that no amount should generally be offset against interest received or paid, as interest is simply compensation for the time value of money.
The Accruals/Realisation methods
- The accruals and realisation methods are the default methods for recognising gains or losses under the TOFA provisions. The accruals method applies to sufficiently certain:
- overall gains or losses ; and
- particular gains or losses
that a taxpayer has from entering into a financial arrangement. The amendments propose a number of changes to the manner in which overall gains/losses interact with particular gains/losses. For example, they confirm that a particular gain or loss can be sufficiently certain even if a taxpayer does not have an overall gain or loss that is sufficiently certain. Some practitioners have argued that, under the current law, it is not possible to have a sufficiently certain particular gain or loss unless a taxpayer has a sufficiently certain overall gain or loss. The amendments also propose that the accruals method will apply to a taxpayer's particular gains or losses (rather than their overall gain or loss) unless that taxpayer chooses otherwise or cannot apply the accruals method to the particular gain or loss.
- When a taxpayer applies the accruals method they must spread a gain or loss using a rate of return. This currently presents difficulties if the financial arrangement involves a single payment. The amendments propose to address this issue by requiring taxpayers to calculate a rate of return by reference to a notional principle amount.
- Currently, taxpayers spread gains or losses under the accruals method in a manner that is similar to the calculation required under AASB 139. However taxpayers can only re-estimate their gain or loss from a financial arrangement if circumstances arise that materially affect the timing or amount of gains or losses. By contrast, AASB 139 permits re-estimation in a broader range of circumstances. The amendments propose to allow re-estimation whenever a taxpayer must re-estimate their gain or loss under the accounting standard. They will consequently create greater alignment between the tax and accounting treatment of an arrangement.
Fair value method
- Amendments will clarify the manner in which the TOFA provisions deal with different types of fair value gains and losses recognised under accounting standards.
- Amendments will be made to tighten up the hedging provisions. It was originally intended that a hedging election should apply to all a taxpayer's accounting hedges and would be accounting hedges on a 'one in all in' basis. But under the current law taxpayers can arguably ensure that the election does not apply to a particular hedge (and hence arbitrage different tax treatments) by ensuring that it fails certain documentation requirements. The amendments will remove this possibility.
Interested parties can submit their comments regarding the exposure draft to Treasury until 13 February 2013.
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