The attack on stapled structures continues. Following the recent ATO Taxpayer Alert on stapled structures (TA 2017/1), the Government has now released a consultation paper seeking submissions in relation to stapled structures, the taxation of real property investments and the re-characterisation of trading income.
The consultation paper deals with the issues raised in TA2017/1, being the use of arrangements (commonly stapled structures) to re-characterise trading income into passive income. The reason for the concern is that passive income is taxed on a flow through basis and can be taxed concessionally (via MIT structures) in the hands of non-residents. Further details regarding the areas of concern are explained in our Tax Briefs on TA2017/1.
The Government states that it wants to undertake a holistic examination of the taxation regime and why it has led to the use of stapled structures. The objective of the consultation process is to look at options available to eliminate the inappropriate re-characterisation of active income to passive income while at the same time making sure that Australia's tax regime is internationally competitive for foreign investment into Australian real estate and critical infrastructure assets. The following policy issues are specifically raised:
- Revenue considerations - Only passive income should be taxed on a flow through basis and therefore concessionally taxed under the MIT rules.
- International competitiveness - The Australian tax regime must be internationally competitive so as to attract and retain foreign investment.
- Economic efficiency - The tax system should not distort investment decisions.
- Simplicity - The tax system should not impose unnecessary complexity and compliance costs.
- Transparency - Tax concessions should be clear and transparent.
The Government also wants to discuss options available to transition existing arrangements into any modified tax rules over an appropriate time period.
The Impact on the Real Estate Sector
The consultation paper makes it very clear that passive rental income generated by A-REITS should continue be taxed on a flow through basis. Stapled A-REITS are not an area of concern as the Government sees this as the aggregation of complimentary (but separate) businesses. The concern with the use of staples is where an integrated trading business is fragmented into two businesses, one passive and the other active. Consistent with TA 2017/1, there appears to be some concern with sectors such as student accommodation and aged care.
On this basis, the current flow through treatment for the passive income generated by A-REITS should be retained. The use of flow through trusts for other sectors such as hotels, manufactured home estates and student accommodation is an area that will be looked at and will therefore need to be carefully monitored. As noted in our tax brief on TA2017/1, we are of the view that this flow through treatment is appropriate and should be retained.
As part of the review, the Government will consider whether a specific REIT regime should be introduced. This will obviously mean that as a consequence of the review, there may be a significant change to how A-REITS will be administered for tax purposes (eg a new trading trust regime, potentially falling outside of the AMIT rules, etc). Another critical factor will be support from State Governments regarding stamp duty exemptions should restructures be ultimately required. Note that even if there are changes, the concessional MIT tax rate should still be retained.
The Impact on the Infrastructure Sector
The Government acknowledges that if it determines tax law changes are required to deal with stapled structures, the infrastructure sector will likely be adversely affected. This would impact infrastructure investment in Australia. The Government will therefore consider targeted measures to support what is referred to as "critical" infrastructure investment. One of the questions raised in the consultation paper is what should be the form of such critical infrastructure concessions.
Where to from here?
The use of stapled structures has become common practice in Australia. The current ATO focus on the structures and the release of the consultation paper by the Government will clearly result in change. It has unfortunately taken a very long time before concerns with stapled structures have been raised. It is crucial that the Government consults widely and makes its policy position clear and competitive. A fair transitional approach will also be required as many investment models will clearly be impacted if staples are abolished. It is also a very good opportunity for the Government to modernise the tax regime for the real estate and infrastructure sectors. One would hope that the ATO does not question structures used for real estate and infrastructure investment until such time as the Government's policy position is made clear.