Introduction

In the 12 months since the handing down of the 2015 Federal Budget, the focus on multinational tax avoidance has continued unabated by governments around the world and in the press.

In particular, Treasury, the Australian Taxation Office (ATO) and the Foreign Investment Review Board (FIRB) have been displaying a coordinated approach in dealing with the myriad issues associated with multinational profit shifting.

Further, the Multinational Anti-Avoidance Legislation (MAAL), designed to counter the use of artificial and contrived arrangements to avoid Australian taxation, received Royal Assent and commenced on 11 December 2015 and applies to schemes entered into on or after 1 January 2016. The MAAL targets global groups with an annual turnover of AUD$1 billion or more which, in broad terms, structure their affairs such that revenue from sales to Australian customers are recorded substantially offshore in low/no tax jurisdictions but where the activities of an Australian entity are instrumental to the sale transaction with the Australian customer.   

Treasury also announced on 22 February 2016 that FIRB approvals would become subject to additional conditions aimed at tax compliance.  Specifically, the conditions include undertakings to comply with tax laws, pay tax debts, provide full disclosure about tax planning, and, for higher risk transactions, to compulsorily seek tax clearances from the tax authority.

On 26 April 2016, the ATO also published four Taxpayer Alerts dealing with emerging profit-shifting arrangements that may lead to tax avoidance, being arrangements where companies have been:

  • inappropriately recognising (or over valuing) internally generated intangible assets in order to raise their maximum allowable debt levels under Australia’s thin capitalisation rules (TA 2016/1);
  • implementing arrangements to avoid the operation of the MAAL (TA 2016/2);
  • using related party financing arrangements to create an alleged need to swap currencies and periodical payments designed to increase the cost of borrowing and/or avoid interest withholding tax in Australia (TA 2016/3); and
  • using cross-border leasing arrangements involving mobile assets to gain favourable tax treaty outcomes (TA 2016/4).

These developments continue the trend set by the Government in last year’s Federal Budget of focusing on multinational corporate tax avoidance, and in its 2016/17 Budget the Government has announced additional new measures focussing on multinational tax avoidance.  These specific Budget measures are set out below.

A new DPT to be introduced

The Government has announced a 40% DPT aimed at MNEs that artificially divert profits from Australia. The rules are proposed to apply to income years commencing on or after 1 July 2017.

As part of the Budget announcement, the Treasury has released a discussion paper outlining how the DPT would apply in the Australian context. Submissions in relation to the discussion paper are due by 17 June 2016.

Background to the proposed DPT

The Treasury has stated in its discussion paper that the design of the proposed DPT for Australia will be broadly based on the second limb of UK’s DPT which prevents companies from creating tax advantages by using transactions or entities that lack economic substance.

The proposed 40% DPT follows the introduction of the MAAL.

Main features of Australia’s DPT

Key features of the proposed DPT include the following:

  • The DPT will impose a tax rate of 40% on profits transferred offshore through related party transactions, where the transaction has given rise to an ‘effective tax mismatch’ and where the transaction has ‘insufficient economic substance’ (as defined below)
    • Effective tax mismatch’ will exist in circumstances where an Australian taxpayer has a cross-border transaction with a related party, and as a result, the increased tax liability of the related party attributable to the transaction is less than 80% of the corresponding reduction in the Australian company’s tax liability;
    •  Determination of whether there is ‘insufficient economic substance’ will be based upon whether it is reasonable to conclude based on information available at the time to the ATO that the transaction(s) was designed to secure the tax reduction. The determination should be assisted by recent introduction of information exchange regimes between tax authorities in different jurisdiction (as well as the country-by-country reporting) which provide the ATO a greater access to information to assist with its determination.
  • The measure will apply to large companies with global revenue of $1 billion or more. However, a de minimis threshold will apply to exempt entities with Australian turnover of less than $25 million, except whether income is artificially booked offshore rather than in Australia.
  • An offset will be allowed for any Australian taxes paid on the diverted profits (e.g. Australian withholding taxes and Australian tax paid under the CFC regime could be credited)
  • The DPT itself will not be deductible or creditable for income tax purposes. A franking credit will be allowed for DPT paid but will be limited to the company tax rate applicable to the entity.
  • A DPT liability will only arise from an assessment issued by the ATO (unlike the UK DPT, the taxpayer will not be required to disclose upfront that they have transactions which could give rise to a DPT liability).
  • Taxpayers that are issued with an assessment under the DPT rules will be required to make an upfront payment of any DPT liability, which can only be adjusted following a successful review of the assessment. This places the onus on the taxpayers to provide relevant and timely information to prove why the DPT should not apply.

Implementing the OECD hybrid mismatch arrangement rules

The Government intends to implement the OECD rules to eliminate hybrid mismatch arrangements taking into account the recommendations made by the Board of Taxation in its report on the Australian implementation of those rules.

As part of this measure, the Government has asked the Board of Taxation to undertake additional work on the manner in which to best implement these rules in relation to regulatory capital.

This measure is directed to ensuring that MNEs cannot exploit differences in the tax treatment of an entity or instrument under the laws of two or more tax jurisdictions and targets the situation where tax is either deferred or not paid at all.  The measure is intended to apply from the later of 1 January 2018 or 6 months following the date of royal assent of the enabling legislation.

A typical example of a hybrid mismatch occurs where a loan from one member of a group to its subsidiary might be treated as equity under one country’s tax law and debt under the tax law of another.  Absent the proposed changes, the subsidiary would have been permitted to claim a deduction for interest payments but the parent company might not pay tax on those payments.  Another example would be where a limited partnership which is taxed as a corporate in one jurisdiction but as a “pass through” in another might be entitled to a deduction in respect of the same interest outgoing in more than one jurisdiction.  That is, the limited partnership might be entitled to an interest deduction in Australia as it is treated as a company but the partners would also receive the benefit of the tax deduction on interest in their home jurisdiction.

Transfer pricing rules to implement OECD recommendations

It is proposed that the transfer pricing law will be amended to give effect to the 2015 OECD transfer pricing recommendations, which amended the OECD guidelines.

Broadly, the amendments ensure that the transfer pricing of MNEs better aligns the taxation of profits with economic activity, and enhance guidance on intellectual property and hard-to-value-intangibles.

Australia’s transfer pricing legislation currently specify that the rules are to be interpreted to ensure it is applied consistent with OECD’s Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations as last updated in 2010.

The amendment will apply from 1 July 2016.

Administrative penalties for significant global entities to be increased

From 1 July 2017, it is proposed that the Government will increase the administrative penalties for those companies with a global revenue of $1 billion or more for failure to adhere to tax disclosure obligations.

It is proposed that penalties relating to:

  • lodgment of tax documents to the ATO will be increased by a factor of 100. The maximum penalty will therefore be raised from $4,500 to $450,000; and
  • making false and misleading statement to the ATO will be doubled.