Key tax considerations of additional payments
The tax impact of additional payments made in response to IBOR reform to maintain existing economic positions will depend on the source and character of the payment. Lending arrangements that are modified solely to respond to IBOR reform will generally continue to receive any withholding tax exemptions they previously received.
In some circumstances, parties may be required to make additional one-off or a series of payments to the counterparty for the purposes of preserving the parties’ economic positions where the financial arrangement is amended in response to IBOR reform.
We understand that in the majority of cases, changes to contracts for the purpose of responding to IBOR reform will not result in the need for additional payments as the economics of the transaction between parties will be broadly maintained through the adjustments made to the new RFR.
Where additional payments do arise, the tax impact of the payment/receipt of these payments, regardless of whether there has been a variation or rescission of the existing contract, will depend on the source and character of the payment, which may result in a potential assessable gain or deductible loss for income tax purposes or a withholding tax liability. You should consider the nature of this payment, which will depend on the nature of the underlying contract and the party making the payment.
Where a borrower is required to pay an amount to the lender, we would generally expect this payment to be compensation to the lender for being kept out of the use and enjoyment of the principal sum and therefore be in the nature of interest.Footnote1
For completeness, where a lender is required to pay an amount to the borrower, we would generally expect that this payment cannot represent compensation to the borrower for being kept out of the use and enjoyment of the principal sum and would not be in the nature of interest.
Impact on the availability of existing withholding tax exemptions
Some lending arrangements impacted by IBOR reform may benefit from an existing concessional treatment for the purposes of withholding tax. For example, the issuer of a debenture may be exempt from the requirement to pay interest withholding tax under the public officer test in section 128F of the ITAA 1936.
Where this is the case, the eligible lending arrangements will continue to receive concessional treatment under section 128F of the ITAA 1936 where the relevant contract amendment due to IBOR transition does not result in the termination and creation of a new financing arrangement. This concessional treatment would extend to any additional payments arising as a result of IBOR reform that are in the nature of interest. We would generally expect this to be the case where a borrower is required to pay an amount to the lender as a result of IBOR reform.
If an arrangement is modified in a manner that results in a new financial arrangement, where amendments are made other than solely for the purpose of responding to IBOR reform, the arrangement may be treated as reissued or a new loan facility and therefore you will need to consider whether any interest payments made after the modifications continue to be exempt from interest withholding tax.
Where an amendment is made to a syndicated facility which has already satisfied the requirements of section 128F of the ITAA 1936, and that amendment is made solely due to IBOR transition, this would not affect the existing concessional treatment under section 128F of the ITAA 1936.
Tax implications for additional payments and withholding tax exemptions for lending arrangements.- Footnote 1
- Commissioner of Taxation v Myer Emporium Ltd [1987] HCA 18.