Explanatory Memorandum
(Circulated by the authority of the Treasurer, the Hon John Dawkins, M.P.)Market Value Method
Overview
This chapter explains the procedure for determining by the market value method whether any Foreign Investment Fund ( FIF) income is to be included in the taxpayer's assessable income. This income is calculated by taking into account changes in the market value of the interest in the FIF.
The amount attributed to the taxpayer under the market value method is calculated in two stages.
- he first stage is to measure the income taking into account the movement in the market value of the taxpayer's interest in the FIF.
- f there was a market value increase, the second stage reduces the market value increase by any FIF loss carried forward from prior years in relation to that FIF interest.
Generally, the amount arising under the market value method will be included in the taxpayer's assessable income for the income year which coincides with the notional accounting period of the FIF.
Explanation
The market value method will be applied if it is practicable to do so and the taxpayer has not chosen to apply the calculation method. [Subsection 535(1)]
If it is practicable to ascertain the market value for an interest or class of interests in a FIF at the relevant measurement point (usually the end of the year of income) then the market value method may be used.
This Chapter is divided into two parts. The first part relates to the foreign investment fund income calculation. The second part explains how to ascertain the market value.
Part 1 - Calculating the FIF income
The amount of the foreign investment fund income is determined in two steps. The first step calculates the movement in the market value, generally between two annual reporting dates. The second step allows for the recoupment of any unapplied previous years' FIF losses against any increase in market value in the current year in relation to the same FIF. The result of these calculations is the amount of foreign investment fund income that is to be included in the assessable income of the taxpayer.
Step 1 - Calculating the movement in the market value
The movement in the market value of the taxpayer's interests in the FIF, which have a market value at the end of the notional accounting period, that is, the foreign investment fund amount is calculated in the following five applications. [Section 538]
Determine the market value of the taxpayer's interests in the FIF on the last day of the notional accounting period.
The currency used for the market valuation on the first application is to be used for the amount ascertained in each of the following four applications.[Subsection 538(3)]
Add the value of distributions by the FIF to the taxpayer during the notional accounting period in respect of the interests referred to in the first application.
If the taxpayer disposed of any interest in the FIF during the notional accounting period, add the value of any distributions by the FIF in respect of the interests andthe proceeds of any interests in the FIF which the taxpayer disposed of during the notional accounting period.
Deduct the opening market value (this is the same as the value at the end of the previous notional accounting period) of the interests at the commencement of the notional accounting period.
Deduct the cost of any interests in the FIF which the taxpayer acquired during the notional accounting period.
The aggregate of these five applications will give the foreign investment fund amount.
Example 1
Assume the opening value of an FIF interest was HK$50,000, and at the end of the notional accounting period the closing value of the interest was HK$53,000. There were no acquisitions, disposals or distributions during the notional accounting period. The increase in market value, the FIF amount, would be HK$3,000.
Example 2
Assume the opening value of a FIF interest was HK$50,000, and at the end of the notional accounting period the closing value of the interest was HK$45,000. There were no acquisitions, disposals or distributions during the accounting period. The decrease in market value, the FIF amount, would be a FIF loss of HK$5,000.
If the foreign investment fund amount is positive, the amount represents the gross foreign investment fund amount. [Section 540]
If the foreign investment fund amount is negative a FIF loss has occurred. [Section 541]
This FIF loss may be used to offset assessable income of the taxpayer but only to the extent that the taxpayer has previously been subject to foreign investment fund taxation from the income of that FIF. [Section 532]
Step 2 - Calculating the amount included in assessable income
The second step is to determine the amount to be included in assessable income - the FIF income. [Section 542]
The FIF income is calculated by subtracting from the gross FIF income the total of any 'unapplied previous FIF losses'. [subsection 542(2)].
If the result is positive there will be FIF income is converted to Australian dollars at the rate of exchange applicable at the end of the notional accounting period and that FIF income is included in the taxpayer's assessable income.
Meaning of 'unapplied previous FIF losses'
The meaning of any 'unapplied previous FIF losses' is the amount by which the undeducted amount of a foreign investment fund loss exceeds the sum of any gross FIF income applying to a taxpayer's interest in a FIF, regardless of whether the operative provision did not apply because of any of the Divisions 2 to 9 and 11 to 15. [Subsection 542(5)]
In calculating the unapplied previous FIF losses, the undeducted amount of a FIF loss is so much of a FIF loss that has not been allowed as a deduction from the assessable income of the taxpayer. [Subsection 542(6)]
Once a FIF loss has been used in ascertaining if there was, for any notional accounting period, an unapplied previous FIF loss, then that loss cannot be taken into account again for the purposes of ascertaining an unapplied previous FIF loss for later notional accounting periods. [Subsection 542(7)]
Also, in determining the gross FIF income that is used in calculating the unapplied previous FIF losses, only that gross FIF income accruing after the notional accounting period in which the loss was incurred and before the current notional accounting period in which the taxpayer has a gross FIF income is applied. [Subsection 542(5)]
Part 2 - Ascertaining market value
In order to apply the market value method, a taxpayer must first ascertain the market value of the taxpayer's interests in the FIF. [Section 539]
The means by which a market value is determined is by reference to:
- he quoted market values for shares, options and rights;
- he quoted market values for units in a listed unit trust;
- he quoted market values of convertible notes;
- he quoted market values of any similar interests.
Only quotations from an approved stock exchange will be accepted (see Schedule 3 for the list of approved stock exchanges).
For unlisted funds, the officially quoted buy-back or redemption price of units will be used.
More than one specific quoted price
Shares, units and other instruments of a particular class of interest in a FIF may be quoted on a number of approved stock exchanges. When two or more approved stock markets provide a quoted price for the taxpayer's interest, the taxpayer chooses the stock market from which the market value will be taken. [Subsection 539(5)]
Can the approved stock exchange be changed?
Once the taxpayer selects a approved stock exchange for measurement of the market value that exchange will be used for all future market value calculations for that FIF interest. It will not matter that the size of the taxpayer's total interest in the FIF has been increased by acquisitions from other exchanges or markets. However, if it is no longer practicable to use that market, the taxpayer will be able to elect to use another approved market or approved exchange. This may occur where, for example, the market or stock exchange ceases to operate or the class of interest is delisted on that exchange, but it is still listed on another exchange. [Subsection 539(6)]
What if quoted prices are not available?
If the quoted values are not available to the taxpayer at the times market values are to be determined, either the calculation method or the deemed rate of return method is to be used. [Section 537]
If a class of interest in a FIF does not have a quoted value (for example, the taxpayer has both preference and ordinary shares in a company and the preference shares are not quoted whilst ordinary shares are quoted) and the taxpayer does not elect for the calculation method then the taxpayer's interests relating to the different classes must be split. The deemed rate of return method will be used for those interests of the class which is not quoted.
Special rule where there is no quoted value at the start of the FIF measures
The opening market value, at the commencement of a particular notional accounting period, will generally be determined by the value of the interest at the end of the previous notional accounting period. This rule will be modified where a FIF has a history of market quotations, but is not quoted immediately prior to the commencement of the FIF measures on 1 January 1993 and, in the case of a trust, did not have a unit buy-back or redemption price on that date. In these circumstances, the opening value will be the average of the value on the last reporting day before 1 January 1993 and the value on the next reporting day. [Subsection 539(4)]
The reporting day means:
- n the case of a foreign company, the day the directors reported to the members on the financial position of the company; or
- n the case of a foreign trust, the day the trustee or manager of the trust reported to the holders of interests in the trust on the financial position of the trust.[Subsection 539(7)]
This averaging will only apply where the post 1 January 1993 reporting date is not more than 12 months after 1 January 1993 and the reporting dates are not more than 12 months apart.