Withholding tax exemption: interest paid inside Australia after 2 July 1998 on debentures issued outside Australia on or before 2 July 1998

Where interest is paid to a foreign noteholder after 2 July 1998 on a debenture issued on or before that date, must the interest be paid outside Australia for it to qualify under subsection 128F(2) of the Income Tax Assessment Act 1936 (ITAA 1936) for exemption from withholding tax?

Yes. Where interest is paid to a foreign noteholder after 2 July 1998 on a debenture issued on or before that date, the interest must be paid outside Australia for it to qualify under subsection 128F(2) of the ITAA 1936 for exemption from withholding tax.

Prior to 2 July 1998, an Australian resident company issued debentures outside Australia to non-resident institutional investors. The debenture issue satisfied the public offer test in subsection 128F(3) of the ITAA 1936, and in all other respects up to that date, the interest payments on the debentures met the requirements of the subsection 128F(2) of the ITAA 1936 exemption from withholding tax, including the requirement in paragraph 128F(1)(d) of the ITAA 1936 that the interest be paid outside Australia.

After 2 July 1998, the original terms of the debenture issue were re-negotiated on terms whereby certain amounts of interest were paid inside Australia.

Reasons for Decision

Subsection 128F(2) of the ITAA 1936 confers an exemption from withholding tax on interest paid on certain publicly offered debentures. The subsection provides that withholding tax is not payable under Division 11A in respect of 'interest to which [section 128F] applies'.

Relevantly, subsection 128F(1) of the ITAA 1936 specifies circumstances where section 128F applies to interest.

Prior to its amendment on 16 July 1999 by Taxation Laws Amendment Act (No. 2) 1999 (93 of 1999) (TLAA (No 2) 1999), subsection 128F(1) read:

This section applies to interest paid by a company in respect of a debenture if: (a) the company was a resident of Australia when it issued the debenture; and (b) the company is a resident of Australia when the interest is paid; and (c) the company issued the debenture outside Australia for the purpose of raising finance outside Australia; and (d) the interest is paid outside Australia; and (e) the issue of the debenture satisfies the public offer test set out in subsection (3) or (4).

By item 27 of Schedule 1 to the TLAA (No 2) 1999, paragraphs (c) and (d) of subsection 128F(1) of the ITAA 1936 were repealed. The question arises as to how the amendment applies, if at all, to interest paid on debentures that issued before the amendment.

Sub-item 39(1) of Schedule 1 to the TLAA (No 2) 1999 provides that, 'Subject to this item, the amendments made by this Schedule apply in relation to transactions entered into after 2 July 1998'.

Sub-item 39(5) provides specifically that, 'The amendments made by items 27 to 32 apply to debentures issued after 2 July 1998'.

Thus, sub-item 39(5) of Schedule 1 to the TLAA (No 2) 1999 makes it clear that the repeal of paragraph 128F(1)(d) of the ITAA 1936 applies only to debentures issued after 2 July 1998, not on or before that date. In other words, where a debenture has been issued on or before 2 July 1998, the interest withholding tax exemption requirement in paragraph (d) continues to apply: interest paid on such debenture after 2 July 1998 must be paid outside Australia if it is to qualify for the withholding tax exemption in subsection 128F(2) of the ITAA 1936.