Taxation of financial arrangements: identification of an arrangement - facility agreement - single arrangements

Will the rights and obligations under a Senior Debt Facility Agreement, comprising a Construction Loan Facility (CLF) and a Term Loan Facility (TLF), form a single arrangement under subsection 230-55(4) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Yes. The rights and obligations under the Senior Debt Facility Agreement (the 'facility agreement') comprising the CLF and the TLF will form a single arrangement under subsection 230-55(4) of the ITAA 1997.

A company (the borrower) is a special purpose vehicle created to finance a specific project. The borrower enters into a syndicated loan facility agreement with an arms length party (the lender) to fund the project.

The facility agreement comprises two tranches; the CLF and TLF. The terms and conditions of the CLF and TLF are contained in a single contractual agreement. The CLF is available for a set period from the beginning of the project to fund certain costs associated with the project. At the end of that period, the CLF is repaid by conversion to the TLF, which then amortises according to the repayment schedule with final repayment being made on the last repayment date.

Interest is applied at an agreed rate on the outstanding balance under either the CLF or the TLF.

Draw downs under the facility agreement are made by the borrower making a valid request to the lender. The lender will advance funds upon receipt of a valid request. ( Note : this ATO ID does not deal with whether the draw downs that are made pursuant to the facility agreement are themselves separate arrangements or constitute a single arrangement together with the facility agreement under subsection 230-55(4) of the ITAA 1997. The aggregation of a facility agreement and draw downs made pursuant to a facility agreement in a particular fact pattern is considered in ATO ID 2009/115).

The facility agreement creates rights to receive and obligations to provide financial benefits for the lender and the borrower that are contingent upon the borrower making a valid request for a draw down. Under section 230-85 of the ITAA 1997, rights and obligations subject to a contingency are treated as rights and obligations for the purposes of Division 230 of the ITAA 1997.

Under subsection 230-55(4) of the ITAA 1997, regard is to be had to a range of factors in order to determine whether the arrangement comprises certain additional rights and obligations or is limited to only some of those rights and obligations. The combination of various rights and obligations under subsection 230-55(4) is an objective enquiry, the purpose of which is to identify the correct 'unit of taxation' in the context of Division 230 of the ITAA 1997.

Subsection 230-55(4) of the ITAA 1997 states that whether a number of rights and/or obligations are themselves an arrangement or are 2 or more separate arrangements is a question of fact and degree that you determine having regard to the following: (a) the nature of the rights and obligations (b) their terms and conditions (including those relating to any payment, or other consideration for them) (c) the circumstances surrounding their creation and their proposed exercise or performance (including what can reasonably be seen as the purposes of one or more of the entities involved) (d) whether they can be dealt with separately or must be dealt with together (e) normal commercial understandings and practices in relation to them (including whether they are regarded commercially as separate things or as a group or series that forms a whole) (f) the objects of Division 230 of the ITAA 1997

Having regard to the matters contained in subsection 230-55(4) of the ITAA 1997, it is considered that the rights and obligations under the facility agreement, comprising the CLF and TLF, will together constitute one arrangement and will not constitute separate arrangements. This conclusion is reached having regard to the following matters.

The terms of the CLF and the TLF are contained in a single contractual agreement, which contains the essential terms and conditions of the facility agreement. A contract will often define the boundaries of an arrangement, especially where the form of the contract is consistent with its substance; refer to paragraph 2.47 of the Explanatory Memorandum to the Taxation Laws Amendment (Taxation of Financial Arrangements) Bill 2008. The legal form of the facility agreement reflects the economic substance.

The facility agreement is offered by the lender as a financing package comprising the CLF and TLF for the specific purpose of financing the project. It would be commercially understood by the parties that the borrower will have, as a result of the proposed exercise and performance of its rights and obligations under the facility agreement (comprising the CLF and TLF), a continuing obligation to pay the balance of the facility agreement. Similarly, the liability to interest is calculated at a single rate on the outstanding balance under either the CLF or TLF.

Importantly, the CLF is to be repaid at the end of its term by conversion to the TLF. That is, the draw downs made pursuant to the TLF can only be used for the specific purpose of repaying the outstanding balance of the CLF. Further, the repayment of the CLF by conversion to the TLF occurs automatically without the need to redeem, redraw or deliver any draw down notice. This further evidences the integrated and interrelated nature of the CLF and TLF.

Aggregating the CLF and the TLF into a single arrangement (the facility agreement) is consistent with the objects of Division 230 of the ITAA 1997 as it aligns the tax treatment of the arrangement with the commercial recognition of gains and losses from the transaction.

Accordingly, it is considered that the rights and obligations under the facility agreement comprising the CLF and TLF should be aggregated to form a single arrangement for the purposes of subsection 230-55(4) of the ITAA 1997.

Whether or not the facility agreement is a financial arrangement will depend upon whether it satisfies the definition of a 'financial arrangement' in subsection 230-45(1) of the ITAA 1997.