Simon Croese considers some questions provoked by the ATO's recent guidance on tax implications when LIBOR is negative.
The Australian Taxation Office (ATO) has recently provided the following guidance to the Australian Financial Markets Association (AFMA) and its affected members on the application of Part IIIB of the Income Tax Assessment Act 1936 (ITAA 1936) when the London Interbank Offered Rate (LIBOR) is negative:
"The Commissioner is of the view that the clear effect of an applicable LIBOR rate at or below zero on section 160ZZZA of Pt IIIB of ITAA 1936 is that the notional amount of interest under that section is capped at zero, and a deduction is denied for interest on intra-bank borrowings. Section 160ZZZA does not result in assessable income being derived by the Australian branch of a foreign bank when there is a negative applicable LIBOR rate for intra-bank borrowings. If no amount of interest is taken under section 160ZZZA to be paid by an Australian branch, it follows that paragraph 160ZZZJ(1)(a) is not satisfied. No withholding tax would be payable where no interest was paid or taken to be paid."
This view of the Commissioner should be uncontentious; representing the only logical conclusion when one considers the mechanics of section 160ZZZA. However, the above guidance does not answer the more fundamental question of how a payment or receipt calculated on a negative interest rate should be characterised from a tax perspective. That is, is such a payment in the nature of interest or is it simply a fee charged by a borrower for holding the lender’s funds?
The answer to this question will have numerous implications: notably whether a withholding tax liability arises on the payment of negative 'interest' or, if the amount paid is in fact a fee, the goods and services tax (GST) consequences.
Of course, it is not simply vanilla term loans where this issue arises. In a securities lending transaction, when interest rates are very low, the rebate paid by the securities lender can become negative such that the securities borrower is required to pay a negative rebate on the cash collateral it has posted with the lender. There are already conflicting views as to whether a positive rebate should attract withholding tax under a cross border securities lending arrangement. Negative rebates, just like negative interest, add another layer of uncertainty which ultimately needs to be addressed.