The Australian Taxation Office has published a draft update of Practical Compliance Guideline (PCG) 2017/4 on the ATO compliance approach to taxation issues associated with cross-border related party financing arrangements and related transactions, which provides a framework for taxpayer's to assess the tax risk of their related party financing arrangements in accordance with the ATO's risk framework. The draft update includes a proposed Schedule 3 dealing with interest-free loans between related parties.
The proposed Schedule 3 includes that, in general, the ATO considers that there is a high transfer pricing risk with an outbound interest-free loan between related parties given that loans are not generally provided by independent parties on an interest-free basis. As such, having zero interest charged on an outbound related party loan gives a base score of 10 for the determination of overall risk, which results in a taxpayer being automatically placed in the amber (high risk) zone. Through a consideration of minimum and additional factors as outlined in Schedule 3, however, it is possible that the risk may be reduced to the blue zone (moderate risk) or the green zone (low risk).
To assess whether an arrangement remains or falls out of the amber zone, taxpayers will need to exercise judgment having regard to the factors provided in Schedule 3. For an arrangement to be considered lower risk, it must be reasonable to conclude that either the zero interest rate is an arm's length condition of the loan, that the loan is in substance an equity contribution, or that independent entities would not have entered into the actual loan but would have entered into an equity funding arrangement.
Comments on the proposed Schedule 3 may be submitted by 14 October 2020.