Borrowing expenses passed on to a subsidiary

Where a parent company incurs expenditure for borrowing money and on-lends part of those borrowings to a subsidiary, can the subsidiary claim a deduction under subsection 25-25(1) of the Income Tax Assessment Act 1997 (ITAA 1997) for a proportion of the borrowing expenses passed on to it by the parent company?

No. The subsidiary did not incur the expenditure in borrowing money.

A non-resident parent company entered into a credit facility under which it incurred borrowing expenses.

A draw down was made by the parent company in order to acquire an unsecured loan note issued by a resident subsidiary. Pursuant to the terms of the unsecured loan note, the subsidiary was only liable to pay interest at a fixed rate on the borrowing. It was not liable to pay an amount for establishing the note.

The unsecured loan note was subsequently discharged and, at a later date, the subsidiary was invoiced an amount by the parent company in respect of borrowing costs.

Subsection 25-25(1) of the ITAA 1997, allows a deduction for expenditure incurred for borrowing money to the extent the money is used for the purpose of producing assessable income.

Section 25-25 of the ITAA 1997 expresses the same intent as former section 67 of the Income Tax Assessment Act 1936 (ITAA 1936) so that case law concerning section 67 also provides guidance on the application of section 25-25.

In Ure v. FC of T 81 ATC 4100 at ATC 4112; (1981) 11 ATR 484 at ATR 498, Deane and Sheppard JJ made the following comments on the operation of subsection 67(1) of the ITAA 1936: The words 'expenditure incurred... in borrowing money' in the context of section 67(1) of the Act refer in our view, to the 'cost' of borrowing as distinct from the 'cost' of the money. The expenditure on account of legal expenses and valuation fees was plainly a 'cost' of borrowing: it was incurred in relation to the actual establishment of the relevant loan.

And further, at ATC 4113; ATR 498: It seems to us to be preferable to interpret the reference to expenditure incurred in borrowing as including payment to be made during the life of the loan pursuant to a contractual obligation which was incurred at the time of borrowing as an incident of establishing the loan.

Under the terms of the unsecured loan note, the subsidiary borrowed funds from the parent company. At the time of borrowing, there was no contractual obligation imposed on the subsidiary to pay an amount for establishment of the loan.

As the later invoicing of an amount to the subsidiary was not incurred at the time of borrowing as an incident of establishing the loan, no amount of the expenditure is deductible to the subsidiary under subsection 25-25(1) of the ITAA 1997.