Amending Debt Instruments – 3 Tax Questions To Consider

Debt instruments are amended for a range of commercial reasons. It may be to replace references to LIBOR, to change bond restrictive covenants under a consent solicitation process or as part of an 'amend and extend' exercise for bank debt. The changes will rarely be tax-driven but it is important both for the debtor and for creditors that the potential tax issues are not overlooked.

Exactly what the tax issues are for a particular amendment will depend on a wide range of factors. The jurisdictions concerned, the nature of the amendments, the types of debtor and creditor and the date of the original debt instrument are likely to be significant, for example. However, broadly, the issues can be divided into three questions:

1. Will the amendment be a taxable event? Will creditors be treated as having disposed of their original asset for tax purposes? If so, they may recognise a taxable gain (or allowable loss) as a result. A similar point may arise for the debtor if it is required to derecognise its liability under the old debt and recognise a new liability in respect of the amended instrument. For jurisdictions which impose stamp or transfer taxes on issues of debt instruments, this also needs to be considered. Does the original debt instrument remain albeit on new terms or is it to be treated as having been cancelled and replaced by a fresh issue?

2. Will the ongoing tax treatment of the debt instrument be altered? First, will the amended terms themselves result in a different tax treatment? For example, could the debt become viewed as being equity-like for tax purposes because the rate of interest now exceeds a reasonable commercial return or because its term has been extended? Where the borrower has...