At present, capital gains and capital losses made by foreign residents are disregarded unless the asset being disposed of is taxable Australian real property (TARP).
To ensure that foreign residents actually pay tax on capital gains made on the disposal of TARP, a new foreign resident capital gains tax (CGT) withholding regime will be implemented on sales arising from contracts entered into after 30 June 2016. The regime will require purchasers of certain taxable Australian property assets to withhold and pay an amount equal to 10% of the first element of the cost base of the asset to the purchaser (usually, the purchase price) to the Australian Taxation Office (ATO).
The regime applies to all non-resident vendors including both individuals and companies.
The regime will apply to the acquisition of an asset that is:
- TARP, which includes leases of land, company title interests as well as mining, quarrying and prospecting rights
- indirect Australian real property interests, such as an interest of 10% or more in an entity whose underlying value is principally derived from Australian real property
- an option or right to acquire such property or interest.
For acquisitions of this type, the only situations in which withholding will not be required are:
- in the case of the acquisition of TARP
- transactions valued at less than AUD2 million
- transactions for which a clearance certificate is obtained from the Commissioner
- for other types of property covered by the provisions
- where the vendor has made a declaration that it is an Australian resident for income tax purposes and the purchaser does not know that the declaration is false
- where, if the CGT asset acquired is a membership interest, the vendor has made a declaration that the interest is not an indirect Australian real property interest
- transactions conducted through an approved stock exchange
- arrangements already subject to an existing withholding obligation
- securities lending arrangements
- transactions involving vendors who are subject to formal insolvency or bankruptcy proceedings.
In calculating the amount to withhold, the purchase price is taken to exclude any adjustments but to include the value of any non-monetary consideration given, as well as the GST (if any) if the purchaser is not entitled to an input tax credit for the GST paid. Where there are multiple vendors, the AUD2 million threshold applies to the total market value of the sale and not the value of each individual vendor's interest. Accordingly each vendor must provide a clearance certificate if it wishes to be excluded from the withholding requirement, even if its interest in the relevant property is worth less than AUD2 million.
Unlike the withholding tax that applies to royalties, interest and dividends, this withholding tax is a "non final" withholding tax. Non-residents subject to withholding under these provisions are still required to lodge an income tax return and pay any outstanding tax, with the ability to claim a credit in their return for the amount of tax withheld that is remitted to the ATO.
In situations where it is not appropriate to withhold 10% of the purchase price, such as where the vendor knows the amount of the capital gain it will make on disposal is less than 10% of the sale price, the vendor, or purchaser, may apply for a variation to the rate of withholding. In considering whether such application will be granted, the Commissioner will consider factors such as:
- whether the vendor will make a capital gain on the transaction
- whether the vendor will otherwise have an income tax liability
- the interests of any creditors of the vendor.
Purchasers who fail to withhold will be subject to the existing administrative penalty regime. This includes the prospect that the purchaser may be subject to a penalty equal to the amount that should have been withheld.
What Does This Mean?
- The legislation is drafted on the assumption that the vendor is a non-resident and, only once the vendor produces a clearance certificate (or declaration), can the purchaser proceed on the basis that no withholding is necessary. As such, vendors or prospective vendors should apply for a clearance certificate as soon as they form an intention to dispose of the property.
- Some non-residents may, prior to sale of the relevant property, not have had cause to obtain an Australian tax file number. This regime effectively forces such individuals and entities into registering which may have broader implications for these vendors.
- As the regime extends to the acquisition of interests (i.e. shares and units) in land holding entities, purchasers under share and unit sale transactions may also be required to withhold. Vendors of such interests should also seek a clearance certificate at the earliest chance possible. The existence of such a certificate should also be added to the completion checklist for not only the settlement of real property transactions but also for share and unit sale transactions and business sale agreements which include a real property component.
- Payment must be made by an electronic payment method (although the ATO may permit payment by cheque) on or before the day the purchaser becomes the owner of the property. However, in recognition of the fact that purchasers are unlikely to make payments before settlement of sale transactions, the ATO has indicated it will allow a short period after settlement to make the payment.
- The vendor's ability to claim a credit for the tax withheld is dependent on the purchaser actually remitting the amount withheld to the ATO. In this respect the regime differs significantly from the GST where entitlement to an input tax credit is dependent simply on the counterparty holding a valid tax invoice.
- Where a purchaser is required to pay an amount to the ATO, the purchaser must notify the ATO in the approved form before settlement. Normally this would require the purchaser to quote the vendor's tax file number. Vendors may be cautious from a privacy and security perspective of disclosing such information to unrelated and relatively unknown purchasers.
- In terms of declarations as to residency, it would seem that these may take the form of a warranty in a sale agreement rather than a separate document. Standard sale agreements should be amended accordingly.