Last week, the ATO issued three further Taxpayer Alerts effectively operating as a warning in relation to certain types of taxpayer behaviour which they regard as egregious. One of the Taxpayer Alerts, TA 2016/7 applies to “Arrangements involving permanent establishments”.
The Taxpayer Alert is directed at arrangements under which an offshore permanent establishment of an Australian company derives income but has in place certain intra-group arrangements (i.e. inter-branch transactions such as a loan, IP licence or service arrangement between the offshore permanent establishment and head office) under which income is passed back to the Australian group. The Australian group may also have third party expenses (e.g. interest) which it incurs.
Although the law in relation to arrangements of this nature is complicated (involving many areas of our tax law including branch attribution, transfer pricing and thin capitalisation), well established practices or “LORE” have developed over many years (see, for instance, TR 2001/11 and, in relation to banks, TR 2005/11 and the recently released ATO Derivative Guidelines). Notwithstanding this “law” and “LORE”, the ATO clearly feels that certain taxpayers have been too aggressive and have not been recognising the appropriate amount of income in Australia – for instance, by not recognising the consequences of the inter-branch transaction in Australia or alternatively claiming inappropriate deductions in Australia.
The Taxpayer Alert is interesting, in that it comes at a point in time when in relation to certain industries (primarily banks), the ATO has spent a lot of time in the last few years discussing such inter-branch transactions with taxpayers and generally getting comfortable with the tax treatment being adopted by taxpayers – which typically involves recognising the inter-branch transaction as a proxy for the allocation of external income and expenses. The sense is that the Taxpayer Alert is directed at a few specific arrangements which the ATO regards as particularly aggressive rather than representing a more general warning in relation to the tax treatment of inter-branch transactions.
Whatever the case, it does seem clear that the ATO is focussed on looking at inter-branch transactions in greater detail. We have separately seen this in other areas in the last few months and are aware that it is a current area of ATO focus. Similar issues are also relevant for non-resident taxpayers that are operating through a branch in Australia.
Finally, it is also worth noting that the tax treatment of inter-branch transactions may be affected by the current BEPS work that is being undertaken by the OECD and various countries (including Australia and the UK). In particular, it is possible that such inter-branch transactions may be affected by legislation introduced in relation to Hybrid Mismatch Arrangements if there is a “deductible/non-inclusion” outcome in the relevant jurisdictions. How this plays out in the coming years will depend on how countries implement these rules and how they treat such inter-branch transactions more generally.
Although the Taxpayer Alert appears to be aimed at specific arrangements, there is no doubt that the tax treatment of inter-branch transactions will be a developing area in the short to medium term. This position is consistent with the overall agenda as the battle for the tax dollars of large multinationals between countries continues unabated.