Remind me: how does Division 7A work?
If Division 7A of the ITAA 36 applies, then certain payments, loans and forgiven debts that a private company arranges for its shareholders or their associates are deemed to be unfranked dividends. You can read a brief outline of Div 7A here
Remind me: How does Section 109RB work
The Commissioner of Taxation (Commissioner) has a discretion [i] to disregard the operation of Division 7A or to deem a dividend paid under Division 7A to be franked dividends if the payment, loan or debt forgiveness arose as a result of an honest mistake or an inadvertent omission by any of the following entities:
- the recipient of the payment, loan or forgiven debt;
- the private company that made the payment or loan or that forgave the debt; or
- any other entity whose conduct contributed to that result.
Taxation Ruling 2010/8: In brief
On 15 December 2010, the ATO released TR 2010/8 setting out when the Commissioner will exercise his discretion under section 109RB.
In the ruling, the ATO states that for the Commissioner to exercise his discretion in section 109RB, the following conditions must be satisfied:
- there must be an honest mistake, or inadvertent omission, made by the recipient, the private company or any other entity that contributed to the operation of Division 7A; and
- the reason for the operation of Division 7A must be due to that honest mistake or inadvertent omission.
Honest mistake and inadvertent omission
Whether or not an honest mistake or inadvertent omission has occurred is a question of fact. It is up to the taxpayer to demonstrate that it is more probable than not that an honest mistake or inadvertent omission has occurred.
The terms "honest mistake" and "inadvertent omission" take on their ordinary meaning. In determining whether a person has made an honest mistake or inadvertent omission, the Commissioner will look at the person's actual state of mind or belief. Examples of:
- honest mistakes include an incorrect view, opinion or misunderstanding of law or fact in relation to how Division 7A operates; and
- a relevant inadvertent omission is a failure to take action that is relevant to, or affects Division 7A.
The Commissioner accepts that a mistake or omission can arise as a result of ignorance. However, the Commissioner would not exercise his discretion under section 109RB if a taxpayer deliberately remains ignorant even though they were previously made aware of the provisions of Division 7A. Similarly, deliberate indifference or wilful acts of blindness would not constitute “honest” mistakes or “inadvertent” omissions.
A recurring mistake or omission can qualify as honest mistakes or inadvertent omissions if:
- they recur for the same reason; and
- the original mistake or omission was made honestly or inadvertently.
An example of a recurring mistake or omission is if a tax agent makes an honest mistake or inadvertent omission and applies that mistake or omission to multiple clients.
The honest mistake or inadvertent omission must be the reason for Division 7A operating
For the Commissioner to exercise his discretion in section 109RB to disregard the operation of Division 7A, the operation of Division 7A must arise because of the honest mistake or inadvertent omission. This means that the honest mistake or inadvertent omission must relate to the operation of Division 7A and facts relevant to Division 7A. The Commissioner will not exercise his discretion if an honest mistake or inadvertent omission is in respect of matters that do not relate to Division 7A.
Will the ATO’s Determination apply retrospectively?
Yes, the ruling applies to all income years — regardless of whether they commenced before or after 15 December 2010.
More information from Maddocks
For questions or more information about the above article, please call Maddocks in Melbourne (03 9288 0555) and ask for a member of the Maddocks Tax and Revenue Team.
More information from Cleardocs
Read about the Cleardocs Division 7A Loan Agreement
Download a checklist of the information you need to order Cleardocs Division 7A Loan Agreement
[i] Section 109RB.