Introduction

Further to the May 2016 Federal Budget, in which the Federal Treasurer announced the Australian Government's intention to introduce a Diverted Profits Tax (DPT), draft DPT legislation has now been released for consultation. This continues the Australian Government's response to BEPS which includes introducing unilateral and targeted measures under the rationale of "ensuring multinationals are paying their fair share of tax".

Broadly, the DPT will apply to multinationals with annual global income of $1 billion or more where, based on information available to the Commissioner of Taxation (Commissioner), it is reasonable to conclude that profits have been artificially diverted from Australia. If the DPT applies, tax will be payable on the amount of the diverted profits at a rate of 40 per cent. It will apply to income years commencing on or after 1 July 2017 whether or not a relevant transaction was entered into before that date.

Key features

The DPT will apply to an entity (the relevant taxpayer) if, broadly:

  • it is reasonable to conclude that a scheme (or any part) was carried out for a principal purpose (including where it is one or more principal purposes) of enabling a relevant taxpayer (or relevant taxpayer and other taxpayers) to:
    • obtain a tax benefit; or
    • both obtain a tax benefit and reduce a foreign tax liability.
  • the relevant taxpayer is a member of a group with annual global income of at least $1 billion; and
  • the relevant taxpayer obtains a tax benefit in connection with a scheme involving a foreign associate.

The Commissioner’s ability to form a reasonable conclusion is not prevented by a lack of, or incomplete, information provided by the taxpayer. Further, the Commissioner is not required to actively seek further information to reach a reasonable conclusion. Similar to the Multinational Anti-Avoidance Law (MAAL), in coming to a conclusion about the purpose test the Commissioner must have regard to certain factors. This list reflects the factors that are typically considered in an Australian anti-avoidance context, and additionally includes:

  • the extent to which the quantifiable non-tax financial benefits outweigh the tax benefits;
  • the tax position achieved under foreign law; and
  • the amount of the tax benefit that arises in connection with the scheme.

According to the draft Explanatory Memorandum, where a person acts on professional advice, it may be appropriate, in certain circumstances, to attribute the objective purpose of the professional adviser to the person.

When will it not apply?

The DPT will not apply if it is reasonable to conclude that one of the following tests applies to the relevant taxpayer:

  • the $25 million turnover test — this test will apply if, broadly, the sum of the Australian turnover of the relevant taxpayer and the Australian turnover of any other Australian entities that are part of the same significant global group does not exceed $25 million (but this does not include circumstances where turnover has been artificially booked offshore, for instance where the Australian turnover reported for accounting purposes does not reflect the substance of the activities in Australia); or
  • the sufficient foreign tax test — this test will apply if, broadly, the increase in the foreign tax liabilities of foreign entities resulting from the scheme is 80 per cent or more of the reduction in the Australian tax liability of the relevant taxpayer (for example, where the foreign tax is paid at rate of 24 per cent or more); or
  • the sufficient economic substance test — this test will apply if, broadly, the income earned by each relevant entity connected with the scheme reasonably reflects the economic substance of the entity’s activities (being active and not passive activities). In this context, regard may be had to the OECD Transfer Pricing Guidelines as well as the BEPS Final Report for Actions 8 -10, but only to the extent relevant to determining economic substance.

Process and procedure

If the DPT applies to a scheme, the Commissioner may issue a DPT assessment to the relevant taxpayer. Under the DPT assessment, tax is payable on the amount of the diverted profits at a penalty rate of 40 per cent. Where this occurs, the taxpayer will have 21 days to pay the amount set out in the DPT assessment.

Importantly, the DPT due and payable will not be reduced by the amount of foreign tax paid on the diverted profits, consistent with the application of the existing transfer pricing rules.

Following the assessment, the taxpayer will be able to provide the Commissioner with further information disclosing reasons why the DPT assessment should be reduced (including to nil) during the period of review (generally 12 months after notice is given of the DPT assessment).

If, at the end of that period of review, the relevant taxpayer is dissatisfied with the DPT assessment, or the amended DPT assessment, the taxpayer will have 30 days to challenge the assessment by making an appeal to the Federal Court of Australia. However, when considering the appeal, it is proposed the Federal Court will generally be restricted to considering evidence that was provided to the Commissioner before the end of the period of review. This is obviously designed to encourage at taxpayer to be forthcoming with relevant information during the review period.

According to the Explanatory Memorandum, the Commissioner will issue guidance on the administrative processes prior to the decision to issue an assessment for a DPT liability. This will include:

  • the Commissioner's internal review process;
  • advice from the Commissioner of an intention to issue an assessment
  • a period of 60 days for the taxpayer to make representations in relation to the DPT before a DPT assessment is made.

The Commissioner will be able to issue an assessment for a DPT liability within 7 years of the issue of a notice of an income tax assessment.

In practical terms, the stated objectives of the DPT include to:

  • encourage greater compliance by large multinational enterprises with their tax obligations in Australia, including with Australia's transfer pricing rules;
  • encourage greater openness with the Commissioner, address information asymmetries and allow for speedier resolution of disputes; and
  • impose a lower threshold test, making it easier for the Commissioner to apply Australia's anti-avoidance provisions, without expanding the coverage of the corporate tax base.

The Explanatory Memorandum notes the Commissioner would make a DPT assessment only after a course of communications between the Commissioner and the relevant taxpayer during which no agreement has been reached about the correct amount of tax that should be paid. The inclusion of a reasonableness test may not necessarily provide much comfort in the context of rules that may ultimately be viewed as weighted in the Commissioner's favour.

Similar to the MAAL, it seems relatively clear that the DPT design is intended to maximise transparency by multinationals in order to avoid adverse inferences being drawn. This is yet another relevant factor to consider in any cross border supply chain arrangements, including impending restructures.