Taxpayers need to consider avoiding “tie-breakers” in the event of an Australian multinational group that operates in a country subject to the Multilateral Instrument (MLI).
The MLI—that is, the “Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting”—is a multilateral treaty that enables countries to modify tax treaties without the ordinary ratification process.
With respect to Australia, the MLI entered into force on 1 January 2019, and over time is expected to apply to 32 of the 45 countries with which Australia has tax treaties. Japan, New Zealand, and the UK are three of the countries where the modifications have already commenced, with withholding taxes being affected from 1 January 2019 and other taxes from 1 July 2019.
Prior to the MLI, a company that was a resident of Australia and the treaty partner jurisdiction under their respective laws would apply the treaty tie-breaker. In most treaties—including those with New Zealand and the UK—this required the company to assess the location of the place of its effective management.
Under the MLI, many (but not all) of Australia’s treaties will be modified so that the residency of a company for the purposes of the treaty must be determined by the mutual agreement of the competent authorities of the treaty partners. Until such an agreement is reached between the competent authorities, no treaty benefits are available to the company.
Given the increased focus on the residency of foreign subsidiaries following the finalisation of PCG 2018/9 on the residency test, it is essential that multinational groups understand where foreign subsidiaries could be considered to be Australian residents because central management and control is found in Australia, and seek competent authority relief when the MLI is in effect.
When the competent authorities determine that the foreign company is an Australian tax resident for the purpose of the treaty, this will lead to the complication of branch taxation outcomes. Adverse tax consequences can also arise in the foreign jurisdiction because the company usually remains a resident of that jurisdiction for its domestic purposes. Alternatively, when the competent authorities determine residency is not in Australia, the company will in most cases be a prescribed dual resident, and double taxation of foreign income can follow.
What can be done to address the “no win” tie-breaker situation? As a starting point, Australia’s residency rules for companies need to be modernised so that foreign companies carrying on active businesses exclusively outside of Australia are not considered to be Australian resident companies. Only once that problem is fixed can the modifications of the MLI can be sensibly applied.
Read an August 2019 report prepared by the KPMG member firm in Australia
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