Following on from last years Budget which saw the removal of certain tax benefits for foreign residents (such as the removal of the capital gains tax (CGT) discount for foreign residents and the increase in the rate of withholding tax on distributions from managed investment trusts from 7.5% to 15%), foreign residents are again targeted in proposed changes to the CGT rules.
Principal Asset Test and Intangible Mining Rights
In 2006, changes were made to the CGT regime to narrow the types of assets to which foreign residents could potentially be subject to CGT. The main focus of the changes was to confirm Australia’s right to tax capital gains from the disposal of interests in Australian real property (including mining, quarrying and prospecting rights) as well as indirect interests in Australian real property held through an entity.
In relation to interests held through an entity, in order for a foreign resident to be subject to CGT it is required that the value of assets attributable to Australian real property be more than 50% of the value of the entity’s assets. Although mining rights are included as Australian real property for these purposes, there have been some cases that have determined that “mining information” is not real property. Where “mining information” has sufficient value, it may be that the 50% threshold is not breached and, as a result, CGT does not apply to the disposal of interests in that entity by a foreign resident.
To address this issue it is proposed that, in determining the real property assets of an entity, intangible assets connected to the right to mine, quarry or prospect for natural resources (such as mining information) will be treated as part of the rights to which they relate. This change can be expected to result in the value of real property in many mining companies now exceeding 50% of the entity’s assets thereby subjecting the disposal of interests in that company by foreign residents to CGT (typically at the Australian corporate rate of tax of 30%).
Principal Asset Test and intercompany dealings in consolidated groups
The Government has also identified that foreign investors that control Australian consolidated groups with significant Australian real property holdings can, by intercompany dealings between entities in the group (such as loans), create non-real property assets and thereby dilute the value of real property assets in the group. The result achieved is that the 50% threshold is not breached and a disposal of interests in the group by a foreign resident is not be subject to CGT. It is proposed that inter-company dealings between entities in the same consolidated group will not form part of the asset calculations so as to potentially dilute the value of real property holdings of the group.
The two proposed changes referred to above will apply to CGT events occurring after the Budget announcement on 14 May 2013.
New withholding tax regime
The final change to the CGT regime announced in the Budget so far as it relates to foreign residents, concerns the proposed introduction of a new withholding tax regime. At the present time if a foreign resident disposes of an asset subject to CGT, the collection of any tax from that foreign resident relies on the foreign resident filing a tax return and paying tax. This can present obvious collection issues.
A withholding tax regime will be introduced which will require the purchaser of an asset from a foreign resident, and which is subject to CGT, to withhold 10% of the proceeds of sale and remit that amount to the Australian Taxation Office. The proposed withholding will not apply to residential property transactions valued at under A$2.5 million. The new withholding regime will also apply where the disposal of an asset by a foreign resident gives rise to a taxable revenue gain rather than a capital gain.
The new withholding tax regime is proposed to apply from 1 July 2016. The Government indicates that it intends to consult on the new regime and a discussion paper outlining the proposed design of the regime will be released by the end of 2013.