Recap on Div 7A
A shareholder of a private company can access company profits by receiving an assessable dividend from their company. Div 7A is an integrity measure that is designed to assess a shareholder (or an associate of a shareholder) of a private company when they get access to company funds without declaring a dividend – in its simplest form the shareholder merely borrows the company’s excess cash funds.
Div 7A will deem the loan to be an assessable dividend (unfranked) unless a loan agreement is in place and specified principal and interest repayments are made over a specified period (typically seven years).
Status as at 30 April 2018
In June 2015, the Federal Government released a post-implementation review of Div 7A which the Board of Taxation completed in November 2014. The Board of Taxation made 15 recommendations that would change the Div 7A regime.
The Federal Government’s response
On 3 May 2016, as part of the 2016–17 Federal Budget, the Treasurer, Scott Morrison, announced that the Government would make targeted legislative amendments to improve the operation and administration of Div 7A, drawing upon a number of recommendations from the Board of Taxation’s review.
These changes are proposed to start on 1 July 2018 (less than 3 months away!). However, to date there have been no further announcements providing more detail about the proposed changes. There is also no sign of progress towards the proposed measures being introduced into Parliament.
Summary of Proposed Budget Night changes
The proposed changes to Div 7A that are intended to take effect from 1 July 2018 include the following:
- introducing a self-correction mechanism for inadvertent breaches;
- new safe harbour rules for valuing the use of company assets;
- simplifying Div 7A loan arrangements; and
- other technical amendments to improve the operation of Division 7A and provide increased certainty for taxpayers.
In regard to the proposed “simplifying Div 7A loan arrangements” and “other technical amendments” announced by the Government, these could be anything raised by the Board of Taxation review and recent history has shown that the old fashioned consultative processes are not being followed by the Government.
If the proposed changes are as administrative as they first appear then this will be good news for taxpayers. We will then wait to see what will happen to the other, more significant, recommendations made by the Board of Taxation.
By way of example the most dramatic recommendation raised by the Board of Taxation was that old grandfathered loans should be brought into the Div 7A regime. This would mean old shareholder loans that pre-dated the introduction of Div 7A (in 1997) and certain old Unpaid Present Entitlements (UPE) that pre-dated amendments to Div 7A (in 2009) would have their exclusion status terminated. If these proposals are enacted then these previously grandfathered transactions will need to be reviewed under Div 7A. This would require, amongst other things;
- Repayment of the loans over a specified period (generally 7 years with a possibility of 25 years);
- The loans documented with approved loan agreements; and
- A Government nominated rate of interest applied to the outstanding balance of the loan.
Significant cash flow issues arise from several aspects of the termination of grandfathered loans.
These “old loans” will need to be met by either;
- reducing the loans via the declaration of dividends by the company to the shareholder(s) which will be assessable (franked to the maximum extent possible) and generally result in tax payable by the shareholder(s) ; or
- actual repayment of the loans (principal and interest) back to the company.
The cash flow required by either method may be substantial and will need to be carefully planned for years ahead.
We are monitoring Government announcements and taxation Bills presented into Parliament to ensure we understand the extent of the proposed changes to Div 7A.