APAC Tax Matters: 12th edition

Australia

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At a glance

  • Changes to the general anti-avoidance rule -  legislation before Parliament
  • Legislation on transfer pricing changes (tranche 2) before Parliament
  • Final element of Australian Investment Manager Regime
  • Base Erosion and Profit Sharing Initiative – Treasury to consider greater transparency of large and multinational business taxpayers
  • Review of Tax Arrangements applying to Permanent Establishments (PEs)

Changes to the general anti-avoidance rule - legislation before Parliament

Part IVA of the Australian tax code contains Australia’s general anti-avoidance regime.

Courts in recent years have had to address what was the actual tax benefit achieved by the taxpayer prior to determining the dominant purpose of a particular tax scheme. Because the courts asked about the nature of the tax benefit, that invited the question of "compared to what" (the alternative postulate). 

Courts were prepared to accept that a corporate group, undertaking a complex transaction, could argue that they would not have undertaken a complex transaction if there was to be a major tax cost (the “do nothing” argument). In several recent cases, the taxpayer successfully argued the “do nothing” alternative postulate with the result that Part IVA was held not to apply because there was no tax benefit.  

Despite the protests of taxpayers and the tax profession, the Australian Tax Office (“ATO”) convinced Treasury and the Government that Part IVA needed amending.

On 16 November 2012, Australia’s Assistant Treasurer released for public comment the exposure draft legislation (ED) and explanatory materials (EM) for the proposed changes to Australia’s general anti-avoidance rule, first announced on 1 March 2012. On 13 February 2013, the Tax Laws Amendment (Countering Tax Avoidance and Multinational Profit Shifting) Bill 2013 was introduced into Parliament. The start date has been moved from the original 2 March 2012 (as per the announcement), to apply to arrangements carried out or commenced on or after 16 November 2012. 

The amendments require three basic assumptions, when the alternative postulate is formulated (and, therefore, the tax benefit is identified). These are:  

  • That all parties acted disregarding any and all tax issues for the taxpayer or anyone else
  • That the alternative postulate achieved the same "non-tax effects" (that is commercial outcomes) and all related non-tax effects
  • If a particular scheme or step achieved no non-tax effects assume that all events and circumstances, that were not part of the scheme, still happened. If there is nothing that was not part of the scheme, the scheme is deemed not to have been entered into

Putting the three assumptions together, all of the non-tax effects are assumed to be achieved without any regard to tax. So the assumptions disregard legitimate or conventional or ordinary tax steps which would be considered by a corporate or a business in undertaking the transaction.

The concern is that this drafting will make it too easy for the ATO to find a tax benefit, and even more importantly that the tax benefit will be maximised or sharply increased.

Taxpayers will then, as now, focus on what the dominant purpose of an arrangement is. But the assessment of dominant purpose will be made between the arrangement as implemented and an alternative postulate that does not take any tax issues into account. This will result in the tax aspects of the original scheme looking more important and, therefore, the potential for losing on the dominant purpose test increasing. 

Action required

  • Businesses should consider the potential impact of the Part IVA amendments in relation to transactions and reorganisations entered into on or after 16 November 2012.
  • Specifically, businesses should factor the proposed changes into business processes for structuring mergers and acquisition (M&A) arrangements, restructures and reorganisations, financing strategies and governance and tax risk management.
  • Businesses should keep appropriate records and build defence files to focus on satisfying the dominant purpose test.

Legislation on transfer pricing changes (Tranche 2) before Parliament

The Tax Laws Amendment (Countering Tax Avoidance and Multinational Profit Shifting) Bill 2013 was introduced to Parliament on 13 February 2013 to bring in the new Australian transfer pricing rules with significant self assessment and documentation requirements. The proposed rules will supplement the recently enacted Subdivision 815-A.

Importantly, the transfer pricing requirements have been brought effectively into the self assessment regime. The onus will be on the company's properly authorised representatives when they sign the income tax return to satisfy themselves that the taxable income reflects arm's length conditions.

The proposed changes include broader and more timely documentation requirements, without which companies will be unable to argue that the transfer pricing positions they have taken are reasonably arguable, thus increasing the potential exposure to penalties in the event of an ATO review.

EY made a detailed submission to Treasury because earlier draft legislation had created significant new ambiguities and uncertainties and fell short of achieving the policy objective of better aligning Australia's transfer pricing rules with OECD practice and guidance.

Whilst some changes were made in the Bill now before Parliament, key themes of the earlier draft remain, including that actual conditions between entities which result in a transfer pricing benefit may be replaced with arm's length conditions.  This will provide the ATO with significant reconstructive powers.

The Commissioner has increased ability to adjust a taxpayer's results to what he considers a commercially realistic behaviour or outcomes within the broad definition of arm's length conditions. This is combined with greater legislative ability to use profit based methods.

The date of application for most transfer pricing changes (tranche 2) is from the earlier of 1 July 2013 or the date that the legislation receives Royal Assent.

Action required

  • Identify the risks arising from the significant changes to Australia’s transfer pricing rules (particularly relating to reconsidering reconstructive powers available to the ATO and broader and more timely documentation requirements)
  • Assess current and proposed arrangements in light of the new requirements and develop appropriate action plans to address transfer pricing risks
  • Act to mitigate risks to their international arrangements. This might include resolving uncertainty concerning the ATO’s interpretation of the new law, by seeking advance pricing agreements or other actions
  • Anticipate increased ATO scrutiny as a result of the broad powers provided through the new transfer pricing rules: the greatest impact is expected in the areas of cross-border financing, business restructures, and businesses with consistently low profits or losses

Final element of Australian Investment Manager Regime

On 21 December 2012, the Minister for Financial Services and Superannuation reaffirmed that the Government would consult extensively in relation to the final element of the Australian Investment Manager Regime (IMR) as well as announcing important improvements to the IMR's operation.

IMR element 3 is proposed to provide an exemption for widely held foreign funds and their investors where the funds invest in certain Australian assets. The IMR element 3 will complete the Australian IMR for foreign funds and is broader than the “interim” IMR element 1 (foreign fund tax amnesty) and element 2 (permanent establishment foreign conduit income) which were enacted in September 2012.

In addition, there will be changes to improve the operation of the IMR including legislative amendments to allow certain tracing through to underlying investors.

These changes will be important to allow more foreign funds to access the IMR concessions.

Action required

  • Businesses should monitor the progress of the IMR reforms and their potential application.
  • Businesses should also consider engaging in the consultation process on IMR element 3 in the first half of 2013.

Base Erosion and Profit Sharing Initiative – Treasury to consider greater transparency of large and multinational business taxpayers

As part of the Base Erosion and Profit Shifting (BEPS) Initiative, Treasury has been asked to examine the possibility of greater transparency of large and multinational businesses tax liabilities.

This has arisen due to debates over whether large multinationals should be afforded the same level of privacy and confidentiality afforded to individuals to encourage large multinationals to pay their “fair” share of tax and discourage tax minimisation strategies.

On 12 February 2013, the OECD released its initial report titled “Addressing Base Erosion and Profit Shifting”.

An equivalent Australian Treasury paper “Ways to Address Tax Minimisation of Multinational Enterprises”, currently under development is intended to set out the risks to the sustainability of Australia’s corporate tax base from multinational tax minimisation strategies. A specialist reference group formed to ensure that Treasury can access a wide range of perspectives based on experience and expertise had its inaugural meeting on 26 February 2013.  Treasury is expected to consult with interested stakeholders before the Treasury paper is released for public consultation in mid 2013.

Action required

  • Large multinationals should monitor the progress of this initiative and consider engaging in the consultation process in Australia and overseas.
  • Businesses should also consider the potential impact to their reputation. Multinationals need to assess their tax risks in Australia - current, impending and possible tax controversies - and their tax governance around tax management.
  • Businesses should monitor unilateral tax changes in Australia and overseas including changes related to thin capitalisation.

Review of Tax Arrangements applying to Permanent Establishments

On 31 October 2012, the Board of Taxation (an advisory authority tasked with improving the design and operation of Australian tax law) released a discussion paper that considers the appropriate approach for the determination of profit attribution to permanent establishments.

The paper is relevant for taxpayers with permanent establishments in Australia or overseas, primarily those in the financial services industry dealing with branches involving derivatives, foreign exchange and global trading arrangements, and any taxpayer using permanent establishments or branches.

The paper sets out alternative methods for profit attribution including potential implications of Australia adopting the OECD endorsed ‘functionally separate entity approach, and reviews the cap on interest rates on certain international interbank loans currently set by the London Interbank Offered rate (LIBOR).

Action required

  • Businesses should consider the potential application to their business to the extent they carry on business through a foreign permanent establishment.
  • The Bill before Parliament discussed above also makes changes to the transfer pricing provisions related to permanent establishments which need to be factored in.
  • Businesses should consider whether to engage in the consultation process.