Practical Compliance Guideline on Simplified Transfer Pricing Record Keeping
The ATO has published for consultation a draft Practical Compliance Guideline (PCG) setting out the seven existing Simplified Transfer Pricing Record Keeping measures as well as providing an additional simplification option for outbound low-level loans.
The measures are designed to reduce the record keeping burden required under Subdivision 284-E of Schedule 1 to the Taxation Administration Act 1953 and therefore improve compliance by offering an administrative safe-harbour. They are available to companies, trusts and partnerships that meet the self-assessed eligibility criteria.
The new simplification option for outbound low-level loans compliments the existing simplification measure for inbound low-level loans, ensuring that low level related party cross-border loans are eligible for the simplification measures regardless of which party is the issuer of the related party debt.
Feedback on the draft PCG is due by 16 December 2016.
The complete list of ‘simplification options’ in the draft PCG are:
- small taxpayers
- intra-group services
- low-level inbound loans
- management and administration services
- technical services and
- low-level outbound loans.
Each simplification option has its own eligibility criteria and taxpayers should review the criteria to determine which one or more of the eight simplification options they can apply. The ATO has also provided examples to assist taxpayers in assessing their eligibility.
To be eligible for the new simplification measure, the outbound loan must comply with a minimum yearly interest rate for each year that the loan is in effect, rather than the monthly rate published by the RBA. This is aimed at providing certainty and ease of use for taxpayers. The taxpayer must also have a combined cross-border loan balance of $50 million or less, have not derived sustained losses, not have related-party dealings with entities in specified countries and have not undergone a restructure within the year.
If a taxpayer chooses to apply one or more of the options available, the ATO will not allocate compliance resources to review the covered transactions or arrangements for transfer pricing purposes, beyond reviewing the eligibility to use the option that has been applied. Taxpayers should therefore maintain contemporaneous documentation to support their eligibility to use the simplified measures.
Practical Compliance Guideline on GST and ‘barter’ transactions
The ATO has released PCG 2016/18 which clarifies the GST treatment of barter transactions. In certain circumstances, the Commissioner will not commit resources to verify the GST reporting of qualifying barter transactions.
Countertrade transactions refer to the direct exchange of things between two entities, where none of the consideration is monetary. Because the transaction is a supply and acquisition, the entities are required to record and report the transaction and be assessed for GST.
This creates a practical problem relating to market valuation of a transaction because the two trading entities are often required to determine the monetary value of the transaction purely for the purpose of ascertaining the GST amount payable.
This PCG aims to reduce the regulatory burden on the taxpayers by offering a practical approach to transactions that are GST neutral (ie the GST payable equals the GST credit in the same tax period).
The two countertrade entities will not have to agree on the value of the transaction or swap tax invoices where the transaction is GST neutral. The entities must have records that report the sale with the corresponding acquisition at the amount they consider the goods or services they have provided to be worth.
However, the exception is limited to entities whose countertrade transactions make up less than 10% of their total supplies, and to arms-length transactions.
Draft Practical Compliance Guideline
The ATO has released PCG 2016/D17 setting out the ATO’s compliance approach with regards to exploration expenditure deductions under the Income Tax Assessment Act 1997 relating to mining and petroleum exploration and prospecting.
The ATO will generally not seek to review all exploration expenditure deductions, particularly where expenditure is readily identifiable and broadly accepted as incurred. Rather, they will take a risk based approached in deciding whether to review expenditure claims. The guideline sets out the factors that the ATO will consider when assessing a taxpayer’s risk of non-compliance and therefore how likely they are to review expenditure claims.
The guideline states that the ATO considers it more likely that expenditure incurred in certain phases of the project life cycle to be at higher risk of being mischaracterised according to law. The closer a project is to being developed or constructed, the greater the degree of complexity in characterising exploration expenditure deductions properly.
High risk areas that have been flagged are:
- cost of long lead assets and early works activities
- expenditure that is incurred ‘too soon’ or goes ‘too far’
- certain costs in relation to an economic feasibility study.
If a taxpayer meets the governance framework principles set out in the guideline, the ATO will only conduct a sample check of the high risk areas, rather than a full review.
To meet governance framework principles, taxpayers are expected to have:
- business and commercial policies and procedures associated with the progression of a project.
- tax policies and procedures to prevent the mischaracterisation of exploration expenditure.
In addition, the ATO emphasises the importance of preparing contemporaneous documentation to support the characterisation of the expenditure.
ATO warning – crackdown on trust arrangements
The ATO has released a Taxpayer Alert TA 2016/12 warning that the ATO is investigating arrangements that minimise tax by creating artificial differences between the taxable net income and distributable income of closely held trusts.
This caution flags arrangements where trustees are engineering a reduction in trust income to improperly gain favourable tax breaks.
The problem arises where trustees exploit the proportionate approach and enter arrangements that create contrived differences between the taxable net income and distributable income. This can cause the taxable net income to be assessable to beneficiaries that pay little or no tax while other beneficiaries will receive a trust distribution without incurring a corresponding tax liability.
The ATO will be looking for arrangements with the following features:
- There is an artificial difference between distributable income and taxable income of closely held trusts (primarily motivated by tax avoidance)
- The beneficiary who is made presently entitled to the income of the trust is either not taxed or is taxed at a lower rate than the trustee and/or other beneficiaries and
- The remainder of the income is retained by the trust and will be extracted in a form that incurs little or no tax.
The ATO is not concerned with legitimate differences between distributable income and taxable income based on proper accounting.
The ATO Trusts Taskforce is currently examining cases, ten of which show lost revenue of more than $40 million, to determine whether the arrangements constitute a scam or are captured by anti-avoidance provisions or integrity rules.
If you are involved with a trust that may utilise similar arrangements, please contact our team for assistance.
Bywater Investments Limited v Commissioner of Taxation; Hua Wang Bank Berhad v Commissioner of Taxation  HCA 45
This case considers the residency of a group of companies where the directors resided abroad but the ultimate beneficial owner of each company was the same Australian resident individual. While the meetings of directors were held abroad, the directors acted at the direction of the Australian resident without exercising any independent judgement.
The taxpayers appealed a decision from the Full Court of the Federal Court, which upheld the trial judge’s decision that the central management and control of the appellant companies was exercised in Australia because evidence that control of the companies was exercised by the Australian resident was overwhelming. The companies were, therefore, subject to Australian income tax.
The High Court rejected the taxpayers’ appeal on the basis that while the companies’ officers were outside Australia, they did no more than ‘rubber-stamp’ the decisions made by the Australian resident.
The decision confirms that the residency test should be undertaken by considering the actual central management and control of the taxpayer rather than merely looking at the formal decision making powers of the company.
Section 6(1) of the Income Tax Assessment Act 1936 provides that a company is resident in Australia if it is incorporated in Australia or, if not incorporated in Australia, if it carries on business in Australia and has either its central management and control in Australia or its voting power controlled by shareholders who are residents of Australia.
A company’s central management and control is located at the place where the company’s operations are controlled and directed.
The court found that while the directors held their board meetings overseas, they exercised no independent judgement and would do as they were told by the Australian resident. Their roles were a façade that did not negate the fact that the place of effective management was in Australia.
The appeals were dismissed with costs.
This case has been eagerly awaited by taxation professionals in the hope that the judgement would provide clarity on the interpretation of the ‘management and control’ test and the ‘effective place of management’ test. The judgement certainly makes it clear that while the location of the board of directors is generally a starting point for the tests, it will not be determinative where ‘a board of directors abrogates its decision-making power in favour of an outsider and operates as a puppet or a cypher’.
Legislation and Government updates
Duties Amendment (Landholders and Corporate Reconstruction Consolidation) Bill 2016 (Tas)
The Duties Amendment (Landholders and Corporate Reconstruction Consolidation) Bill 2016 (Tas) (Bill) has been passed by both houses of the Tasmanian Parliament and now awaits assent.
The Bill amends the existing land rich duty provisions with landholder duty provisions and inserts new corporate reconstruction exemption provisions. We provided an outline of the amendments in Talking Tax issue 46.
This article was written with the assistance of Ella Simmons, Law Graduate.