Convertible Notes - Return on a Debt Interest, Division 974, Income Tax Assessment Act 1997

Will an amount of accrued interest paid or credited to the benefit of a convertible note holder pursuant to one scheme be treated as a return on a debt interest as defined in Division 974 of the Income Tax Assessment Act 1997 (ITAA 1997), if a subsequent scheme operates to recharacterise the convertible note from a debt interest to a non-share equity interest pursuant to that Division of the ITAA 1997?

Yes. The accrued interest paid or credited to the benefit of a convertible note holder before the subsequent scheme comes into existence will be treated as a return on a debt interest.

A convertible note to which Division 974 of the ITAA 1997 applies gives rise to a debt interest under that Division. The issuer is proposing: (i) pursuant to a first amendment, to alter terms of the convertible notes issued so that the interest accrued on the convertible note up until acceptance of that amendment becomes due and payable at that time; and (ii) pursuant to a second amendment to the convertible note terms, to be introduced after the first amendment, amend those terms so that the holders of the convertible notes will convert their notes into shares of the issuer rather than redeem their notes for cash on maturity.

Under the first amendment, the interest obligation that had accrued daily on the convertible note according to the original terms of issue, from the 'Interest Payment Date' (as defined in the convertible note agreement) to the date that the first amendment comes into existence, will become due and payable at that time rather than on the next scheduled 'Interest Payment Date'. The return accrued will be paid or credited at the time the first amendment is accepted by the note holders. Where the return accrued is credited to the benefit of the note holders, the note holders will have an indefeasible entitlement to that accrued amount and may draw upon that amount at any time without contingency.

The provisions of the first amendment, if accepted by the noteholders, will be implemented regardless of whether the second amendment is accepted.

An amount paid or credited for the benefit of the convertible note holders at the time the first amendment to the convertible note terms are accepted will be treated as a return on a debt interest as: • that return represents a payment of the interest obligation accrued under the original terms of the convertible note up to that date; • the amendment will make that interest immediately due and payable; • the return does not represent a return of the amount invested in the debt interest; • the return is paid or credited on a debt interest when the holder has that debt interest in the company; and • the obligation to pay interest is not contingent on the acceptance of the second amendment or any other event, other than the acceptance of the first amendment.

Even though the return may be credited rather than physically paid, the convertible note holder will receive an indefeasible right to payment of the accrued interest obligation under the convertible note agreement. As a result, the obligation to pay the accrued interest on the convertible note will be treated as discharged and consequently treated as a return paid to the holder of the debt interest.