By Iain Spittal
27 June 2019
The Australian Taxation Office (ATO) recently released its final guidance on determining the tax residency of foreign companies controlled by Australian groups.
The identification of tax residency is important as it can give rise to significant tax implications including exposure to Australian income tax and capital gains tax, application of Australian’s participation exemptions and Controlled Foreign Company (CFC) rules etc.
By way of background, a company that is not incorporated in Australia will be a tax resident of Australia if either of the following is met:
- The company carries on a business in Australia and has its Central Management and Control (CMAC) in Australia; or
- The company carries on a business in Australia and its voting power is controlled by shareholders who are residents of Australia.
Since the recent Taxation Ruling 2018/5 on the meaning of CMAC, the criteria of carrying on a business in Australia will be met if the CMAC is in Australia even though the trading or investment activities of the business generating the profits are not in Australia.
The Practical Compliance Guideline (PCG) provides guidance for taxpayers on establishing where a CMAC is located and includes 15 examples. Below are some key factors:
- Board minutes recording who made the decisions and where they were made: the Commissioner will accept them as prima facie establishing where the CMAC is located. Where there are no board minutes, other evidence may include papers circulated to board members in advance of meeting, contemporaneous correspondence/emails showing the board’s deliberations and role played by each director, as well as oral evidence.
- Decision making in more than one place (when directors physically meet in multiple locations or when board meetings are conducted electronically): the Commissioner does not accept that a decision is necessarily made in the place it is formalized or where the last signature is placed on a resolution or vote on it is cast, but rather where the key decisions are made as matter of substance. Where meetings are conducted electronically, the focus is on where the participants contributing to high level decisions are located rather than where electronic facilities are based.
- The person that is merely influential versus real decision maker: in relation to high level decisions, consideration will be given to persons that are the real decisions makers as opposed to persons that are merely influential, even if that influence is strong.
- Relevance of company’s activities when identifying high level decision making: the smaller the scale of business activities, the more likely high-level decisions will overlap with those who execute them and vice-versa.
- Decision making in a corporate group: directors of foreign company will not cease to exercise their CMAC merely because their decisions conclude that it is in the best interest of the company to facilitate the plans/policies of its parent, comply with proposals advanced by its parent, make decisions only after receiving approval from the parent etc.
The PCG also outlines a transitional and ongoing compliance approach. Subject to certain conditions being met, the transitional period (from 15 March 2017 to 30 June 2019) enables taxpayers to make the necessary changes (including appointment/removal of directors, conduct of meetings etc.) so that the CMAC is exercised outside of Australia.
In addition, there is a safe-harbour for subsidiaries of public companies only whereby the residency risk will be considered low provided various strict conditions are met, including:
- The foreign company is either:
- A subsidiary of a public group listed in Australia and is treated as a non-resident and as a CFC in Australia; or
- A foreign company (or wholly owned subsidiary) listed on an approved stock exchange and is treated as a resident of a listed country (i.e. France, United Kingdom, Germany, Canada, Japan, New Zealand and United States) for the purpose of the CFC rules.
- A substantial majority of the CMAC is exercised overseas (that is not a tax haven) and the foreign company is treated as a resident in that overseas’ jurisdiction through board meetings that are held outside of Australia or where the majority of directors are not present in Australia; and
- The foreign company has not undertaken or entered in any artificial or contrived arrangements affecting the location of its CMAC, or in tax avoidance scheme whose outcome depends on the location of company’s residence, or in arrangements to conceal ultimate beneficial or economic ownership, or arrangements involving abuse of board processes (including backdating documents or board not truly executing its functions).
Foreign incorporated companies that are controlled by Australian groups should assess their Australian residency status to identify any risks and remedial action that may be required, especially where there are potential decision-making influencers in Australia. This may include some improvements to the documentation of decision making overseas, revisiting the governance, systems and processes. This review should be conducted as soon as possible given the transitional approach.