The Multilateral Instrument (that became effective for Australia from 1 January 2019)will now take effect to modify various aspect of Australia/China tax treaty (Chinese-Aust DTA) in respect of withholding taxes from 1 January 2023 and other taxes from 1 March 2023.
On 25 May 2022 China deposited its instrument of ratification of the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent BEPS (the MLI), with the MLI entering into force for China on 1 September 2022. The MLI is already in force for Australia and both China and Australia have selected the Chinese-Aust DTA as a ‘covered tax agreement’. Therefore, the MLI will take effect on the Chinese-Aust DTA in respect of withholding taxes from 1 January 2023 and other taxes from 1 March 2023.
The MLI will modify the Chinese-Aust DTA in a number of ways. Businesses and individuals with operations or transactions covering China and Australia should carefully consider how the changes may impact them.
The highlights of the MLI changes to the Chinese-Aust DTA are as follows:
- Dual resident entities. One of the more significant effects of the MLI on the Chinese DTA will be the shift from the place of effective management (POEM) tie-breaker test for dual resident entities (other than individuals), to a mutual agreement procedure whereby agreement must be reached between the Australian and Chinese tax authorities (albeit with regard to POEM). In the absence of such agreement (a complicated and time-consuming process), dual resident entities will not be entitled to any relief or exemption from tax under the Chinese DTA. This issue may be of particular concern for Chinese subsidiaries of Australian groups with Australian based directors and/or some Australian presence such as employees or operations.
The loss of treaty benefits could have significant consequences, such as the loss of access to reduced withholding tax rates or the protection of the business profits article. Accordingly, businesses will need to be vigilant to ensure they are not dual residents in order to maintain treaty benefits when the MLI changes take effect.
- Treaty preamble. The preamble will be updated to reflect the wording contained in the current (2017) OECD Model Tax Convention (Model Convention), specifically emphasising the purpose of the treaty is to eliminate double taxation ‘without creating opportunities for non-taxation or reduced taxation through tax evasion or avoidance’.
- Treaty abuse. Consistent with the preamble change, a treaty abuse provision will be included to prevent a treaty benefit arising from an arrangement whose principal purpose was to result in that benefit, unless the outcome aligns with the purpose of the treaty. This clause also mirrors wording contained in the Model Convention.
- Land rich entities. The inclusion of changes to confirm that each state may tax gains arising on land-rich interests held by residents of the other contracting jurisdiction, including shares as well as interests in trusts and partnerships.