Client Alert

Who does this affect?

Australian investors with interests in offshore funds.

What do you need to do?

Review the issues papers and consider whether you wish to make a submission.

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Betsy-Ann Howe  
Partner
T +61 2 9296 2408

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Sydney
Betsy-Ann Howe  
Richard Snowden  

Melbourne
Andrew Clements  
David Wood  

Perth
 

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The Board of Taxation this week released issues papers on possible reforms to Australia’s foreign source income anti-tax-deferral regimes. The closing date for submissions in relation to the issues papers, and the earlier position paper released on 12 March 2008, is 20 June 2008.

The proposed reforms will consider the controlled foreign company, foreign investment fund, transferor trust and deemed present entitlement regimes. The issues papers cover the listed public company exemption, the active investment exemption, the distribution exemption, the identification and measurement of interests and branch equivalent calculations.

Background

On 10 October 2006 the Government announced that it had asked the Board of Taxation to undertake a review of the anti-tax-deferral regimes (the controlled foreign company, foreign investment fund, transferor trust and deemed present entitlement regimes).

The objectives of this review are:

• to reduce the complexity and compliance costs associated with anti-tax-deferral regimes including whether the current regimes can be collapsed into a single regime, and
• to examine whether the anti-tax-deferral regimes strike an appropriate balance between effectively countering tax deferral and unnecessarily inhibiting Australia from competing in the global economy.

On 25 May 2007, the Board released a discussion paper. Subsequently, a number of consultation forums were held and submissions were received by the Board from various industry bodies and other interested parties.

On 12 March 2008, the Board released its position paper on possible reforms to Australia’s foreign source income anti-tax-deferral regimes. The Board has indicated that the principles set out in the paper should provide a framework to reduce compliance costs and complexity while not inhibiting the ability of Australian businesses to compete globally.

The Board has invited comments on any of the proposals contained in the position paper but, in releasing these issues papers, the Board has indicated that it also wishes to provide industry with more detailed proposals on which to comment.

Issue 1 - Listed public company exemption

The Board supports the implementation of a listed public company exemption provided integrity rules can be developed to address any inappropriate deferral risk.

The following exclusions from any listed public company exemption have been developed.

Limitations on certain activities

These limits might apply as activity-based exclusions (e.g. no more than 20% of the Australian listed public company’s foreign profits are derived from nominally passive foreign activities, such as financial activities, investment business or the management of intangible assets such as intellectual property) or as income-based exclusions (e.g. no more than 50% of the Australian listed public company’s foreign profits are derived from nominally foreign passive income and foreign income derived from services provided to related entities, or from services provided exclusively to related entities).

Minimum dividend payout ratio

This exclusion may apply if the dividend payout ratio is less than a prescribed percentage, where the prescribed percentage may vary according to the industry classification of the company.

Minimum franking credit ratio

This exclusion may apply if the franking percentage ratio is less than a prescribed percentage, where, again, the prescribed percentage may vary according to the industry classification of the company.

Issue 2 - Active investment exemption

The Board’s stated intention in developing the active investment exemption is that taxpayers who are currently exempt, including under the CFC active income exemption, would generally continue to be exempt under any revised arrangements. The issues papers propose the following:

• That the active income exemption would be available universally to resident taxpayers in respect of an interest that they hold in any kind of foreign entity.
• The active income exemption could be drafted so that exemptions apply more consistently than under the current FIF active business exemption.
• Ineligible activities will be based on the existing FIF approach, with suitable modernisation.
• A taxpayer with access to higher levels of information will have the opportunity to undertake further investigation to establish that prima facie ineligible activities should be treated as eligible.

Issue 3 - Distribution exemption

The Board proposes that the distribution exemption apply where an “Australian managed fund” receives distributions of income from a foreign entity equal to or greater than a significant specified percentage of the market value increase in the Australian managed fund’s interest in the foreign entity over the year. Allowance would be made for changes in the market value that result from acquisitions, disposals and distributions made during the year.

Issue 4 - Identification of interests

The Board proposes that, in summary, a resident taxpayer will have an interest for the purpose of the foreign source attribution rules if they:

• are a member of a foreign company or stockholder in the foreign company
• are a beneficiary or unitholder of the foreign trust
• hold legal title to a foreign life insurance policy
• have transferred value to a foreign entity for insufficient or no consideration, or
• hold an option, convertible note, or other instrument, that confers a right to acquire an interest of the kind referred to above (that is, an interest in a company or a trust).

Issue 5 - Branch-equivalent calculations

The Board seeks comments on how the branch equivalent calculations should be designed going forward with a particular focus on:

• whether the calculations should rely on information prepared in accordance with accounting standards and, if so, provide details on how such an approach would apply, or
• whether the Australian tax law approach should be retained as the basis for the calculations and, if so, explain what modifications to those rules should be made having regard to the relevant policy framework.

Further information

Further information in relation to the review of the anti-tax-deferral regimes is available on the Board of Taxation’s website at http://www.taxboard.gov.au/content/anti_tax_deferral.asp

We would be pleased to assist you in preparing submissions in relation to the review.