Australia: Proposed amendments to thin capitalisation rules

Expectations that proposed changes to safe harbour debt test would result in more REITs having to rely on arm’s length debt test

Proposed amendments

During the recent election campaign, the Australian Labor Party announced it will replace the existing thin capitalization safe harbor debt test (60% of assets) with the Organisation for Economic Cooperation and Development’s (OECD's) recommended approach under BEPS Action 4 (Limiting base erosion involving interest deductions and other financial payments).

This proposal would limit deductions for net interest expenses to 30% of “earnings before interest, taxes, depreciation and amortization” (EBITDA). The alternative worldwide-gearing ratio and arm’s length debt test would be retained.

Possible implications for REITs

Tax professionals expect that the proposed changes to the safe harbour debt test would result in a significantly higher proportion of real estate investment trusts (REITs) needing to rely on the arm’s length debt test. In turn, this could lead to an increase in compliance costs so as to satisfy the new thin capitalisation provisions.

In this regard, the arm’s length debt test requires consideration of what an entity “would borrow” as well as the amount that a lender would lend, and as such, the Australian Taxation Office (ATO) expects a significant amount of market/benchmarking analysis to be undertaken to support a position. This expectation—along with what can often be a lack of publicly available market data that is admissible for tax purposes—could require relatively higher compliance resources to support a debt amount beyond the safe harbour limit.

Read a June 2022 report [PDF 332 KB] prepared by the KPMG member firm in Australia


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