Multinationals scrambling to meet thin cap reform deadlines
Captured entities will have less than two months to build a new thin capitalisation model from scratch ahead of the bill’s mid-year window.
Taxpayers with a 30 June year-end have been given less than two months to get their debt arrangements to meet the government’s new thin capitalisation regime.
The Treasury Laws Amendment (Making Multinationals Pay Their Fair Share – Integrity and Transparency) Bill 2023 introduces a new thin capitalisation regime that will apply to income years beginning on or after 1 July 2023.
While the bill was first announced almost two years ago, those affected by the regime will have a relatively short window to prepare for the recently finalised reforms.
“The fact that the new thin capitalisation regime has, for many taxpayers, been enacted only months prior to the income year to which it applies, leaves precious little room to manoeuvre,” wrote RSM Australia’s national tax technical director, Liam Telford, and partner Simon Aitken.
“Taxpayers with a 30 June year-end have less than eight weeks to restructure their debt arrangements where this is appropriate.”
The reforms are key to the government’s commitment to the OECD/G20 inclusive framework on base erosion and profit shifting. The tax integrity measures of the bill are expected to generate $720 million over four years from 2022–2023.
Assistant Treasurer Andrew Leigh said the bill would “hold companies, particularly large corporate groups, to account on their corporate structures and whether they are operating with opaque or atypical tax arrangements.”
“Given the global momentum towards ensuring that firms pay their fair share of tax, it is in the public interest that shareholders and the community have more information of this kind.”
The bill established a new group of ‘general class investors’, which combines existing inward and outward investors at the exclusion of financial entities and authorised deposit-taking institutions to whom the original rules will continue to apply.
Among the key transformations of the bill include a new earnings-based ‘fixed ratio test’ in place of the ‘safe harbour test’ which limits an entity’s debt-related deductions to 30 per cent of tax earnings before interest, taxes, depreciation, and amortisation (EBITDA).
The new regime also supplants the ‘arm’s length debt test’ with the ‘third-party debt test’ and the ‘worldwide gearing test’ with the ‘group ratio test’ upon election by the taxpayer.
The former disallows all debt deductions apart from certain third-party debt. At the same time, the latter limits net debt deductions to a ratio of the worldwide group’s net interest expense and EBITDA.
BDO Australia said the rules are “complex” and will require “careful application.”
“This is exacerbated by the new thin cap rules applying to income years commencing on or after 1 July 2023. As such, there is not a great deal of time to consider the implications of these new rules before the end of the 2024 financial year,” it added.
“While the new debt deduction creation rules will not apply until after 30 June 2024, they will require careful consideration of intra-group debt financing arrangements to determine whether the debt deductions associated with these arrangements will be deductible. This applies to both existing and future arrangements.”
Telford and Aitken of RSM Australia said “highly leveraged” operations may be substantially affected by the new regime.
“All taxpayers should take tax advice and at a minimum build a new thin capitalisation model. We expect the 2024 tax return forms will require disclosure of the thin capitalisation method chosen and applied,” said Telford and Aitken.
They added that taxpayers will have a new obligation to document the use of all related party loans to consider if they are used for “ineligible” debt creation purposes.
“Taxpayers who are subject to an audit will need to satisfy their auditor that their interest expense does not give rise to a permanent tax difference. The audit completion timeframe will bring forward the required tax analysis,” they said.
