Income tax: Consolidation: Single entity rule and assessable recoupment

Do the assessable recoupment rules in Subdivision 20-A of the Income Tax Assessment Act 1997 (ITAA 1997) apply to a debt between members of the same consolidated group?

No. The single entity rule (SER) in section 701-1 of the ITAA 1997 will prevent Subdivision 20-A of the ITAA 1997 from applying to the head company in respect of a debt owed by a member of the consolidated group to another member of the same consolidated group.

Finance Co and Borrower Co are wholly owned by Head Co.

Prior to Head Co's election to form a consolidated group, Finance Co lent funds to Borrower Co for an investment, which ultimately went bad. Finance Co wrote the debt off in its books of account and claimed a deduction for a bad debt under one of the listed provisions in the tables in section 20-30 of the ITAA 1997.

Head Co and its subsidiaries, including Finance Co and Borrower Co, formed a consolidated group. Subsequently, Finance Co recouped the debt owed from Borrower Co.

Prima facie, the recoupment of the debt by Finance Co gives rise to an assessable recoupment for the purposes of Subdivision 20-A of the ITAA 1997. However, due to the operation of the single entity rule contained in section 701-1 of the ITAA 1997, both the payment by Borrower Co and the recoupment by Finance Co are treated as having been undertaken by the head company and are ignored.

The recoupment of the debt is ignored because the single entity rule deems subsidiary members to be parts of the head company rather than separate entities during the period that they are members of the consolidated group. Taxation Ruling TR 2004/11 at paragraph 8 states: Consequently, the single entity rule has the effect that: (a) the actions and transactions of a subsidiary member are treated as having been undertaken by the head company; (b) the assets a subsidiary member of the group owns are taken to be owned by the head company (with the exception of intra-group assets) while the subsidiary remains a member of the consolidated group; (c) assets where the rights and obligations are between members of a consolidated group (intra-group assets) are not recognised for income tax purposes during the period they are held within the group whether or not the asset, as a matter of law, was created before or during the period of consolidation; and (d) dealings that are solely between members of the same consolidated group (intra-group dealings) will not result in ordinary or statutory income or a deduction to the group's head company.

Accordingly, the recoupment of the debt is not recognised for the purposes of provisions of the income tax law, including Subdivision 20-A of the ITAA 1997. This intent is clearly articulated in TR 2004/11 at paragraphs 26, 27, 32 and 33.