The Exposure Draft is the next stage in the Government’s multinational tax integrity package which ensures that large multinational enterprises pay their fair share of tax in Australia.
Overview of proposed laws
Broadly, the new regime denies a significant global entity (SGE) a deduction for a payment made to their ‘associate’ to the extent it is attributable to a right to ‘exploit an intangible asset’ where:
- as a result of the arrangement under which the payment was made, or a related arrangement, the SGE or their associate acquires, or acquires a right to exploit, or exploits, the intangible asset; and
- as a result of the arrangement (referred to above) the associate, or another associate of the SGE, derives income in a ‘low corporate tax jurisdiction’, directly or indirectly from exploiting the intangible asset, or from a related intangible asset.
Broadly, an entity will be an SGE where its global income, or its global parent entity’s annual income, is $1 billion or more.
These proposed measures apply to payments made directly, or indirectly, to an associate.
The proposed rules do not include an express definition of the term ‘intangible asset’ and so it is intended to take its ordinary meaning and will include intellectual property, information, data, algorithms, software licences. Trademarks, patents and some specifically identified assets such as know how and broadcasting rights.
Certain intangible assets are expressly excluded from the new regime. These include rights and interests in tangible assets or land and certain financial arrangements.
Importantly, the explanatory materials note the evolving nature of intangible assets in this new era of innovation. The ability to include or exclude assets by regulation is intended to allow the Government to make timely changes to the regime to reflect future developments in industry and more widely, around the globe.
There are potential uncertainties that may, therefore, arise with respect to the meaning of ‘intangible assets’. For example, an exclusive license to distribute branded pharmaceutical products could be both a right in respect of a trademark or a right in respect of goods. This may require apportionment which is discussed below.
The meaning of ‘exploit’
The new provisions apply to the extent payments are attributable to a right to ‘exploit’ an intangible asset.
An entity will ‘exploit’ an intangible asset in a broad range of circumstances, including where it uses, markets, sells, licenses, distributes, supplies, receives, or forbears in respect of, or does anything else in respect of the intangible asset.
These measures also apply in relation to permission to exploit an intangible asset and may therefore capture arrangements such as the issuance of a licence key or other information that allows access to a piece of software or a database.
These measures will only apply to payments ‘to the extent’ they are so attributable. This suggests that payments may be apportioned between a right to exploit an intangible asset and other ends.
There is no guidance provided at this stage on how these payments should be apportioned. In other contexts, the ATO have interpreted ‘to the extent’ as requiring apportionment on a fair and reasonable basis having regard to the relevant facts and circumstances but further guidance on this issue will be required.
Low corporate income tax jurisdiction
A foreign country will be a ‘low corporate tax jurisdiction’ if its corporate income tax rate is less than 15% or nil. When determining this rate:
- one is to disregard deductions, offsets, credits, losses, tax treaties, concessions for intra-group dividends, and non-resident income tax rates;
- if the rate is progressive, one is to have regard to the highest progressive tax rate;
- if there is no tax on a particular amount of income, one is to treat the rate on that income as nil; and
- if there are different rates for different types of income, one is to have regard only to the lowest rate.
The rules are silent upon whether the 15% rate is based on the federal tax rate or an aggregate of regional, state and local tax rates.
In addition, the Minister may determine a foreign country to be a ‘low corporate tax jurisdiction’. The Minister may do this where he is satisfied that the income tax laws of the country provide for a preferential patent box regime which lacks sufficient economic substance. For these purposes, the Minister may consider OECD guidance.
While the Exposure Draft does not yet include penalties, the Government is considering imposing a shortfall penalty to penalise SGEs who mischaracterise relevant payments to avoid income tax, including withholding tax. The Government is currently seeking stakeholder views on how to ensure the penalty is appropriately targeted.
When the provisions take effect
If enacted, these provisions would apply to amounts paid, liabilities incurred, or amounts credited on or after 1 July 2023.
These provisions are intended to operate as an integrity rule. They are drafted extremely broadly and, unlike other anti-avoidance measures, lack a purpose requirement.
These measures address existing concerns of the ATO and Treasury regarding cross-border intangibles arrangements. For example, the ATO are reviewing transfer pricing and general anti-avoidant risks for international arrangements which:
- mischaracterise payments for intangible assets; and
- mischaracterise Australian activities connected with the development, enhancement, maintenance, protection and exploitation of intangibles.
While Australia’s existing transfer pricing and general anti-avoidance rules go some way to addressing these issues, the provisions in the Exposure Draft are intended to introduce a more specific integrity rule to complement Australia’s existing anti-avoidance provisions.
It is not clear how these provisions will interact with other international and domestic tax regimes. For example, where a corporate taxpayer may be subject to a corporate tax rate in excess of 15% under the foreign country’s controlled foreign company rules, or where the income inclusion or qualifying domestic minimum top-up tax rules apply (under the BEPS Pillar Two Framework). Careful consideration, therefore, will be required in that regard to prevent the potential of double taxation.