Explanatory Memorandum
(Circulated by authority of the Treasurer, the Hon. Frank Crean, M.P.)AGREEMENT WITH FEDERAL REPUBLIC OF GERMANY.
NOTES ON ARTICLES
By and large, the agreement corresponds with other such agreements to which Australia is a party. Like those, it limits the tax that the country of source may charge on some types of income and reserves to one or other country the sole right to tax other types. It also contains the usual provisions to the effect that where both countries may levy tax on income the country of residence, if it taxes, is to give credit for the tax of the country of source.
Article 1 - Persons covered by the agreement.
This article provides, in effect, that the agreement will apply to persons (which term includes companies) who are residents of either Australia or the Federal Republic.
The term "resident of a Contracting State" and the question of persons who are residents of both countries (i.e., dual residents) are dealt with in article 4 below.
This article specifies the existing taxes of each country to which the agreement will apply. It also provides that the agreement will apply to any identical or substantially similar taxes which may subsequently be imposed by either country in addition to, or in place of, the existing taxes.
This article defines a number of the terms used in the agreement. Definitions of some other terms are contained in the articles to which they relate and terms not defined in the agreement are to have the meaning which they have under the taxation law of the country applying the agreement.
It will be noted that, as in Australia's other recent double taxation agreements, "Australia" is defined as including external territories (other than Papua New Guinea) and areas of the continental shelf. One purpose of the definition is to enable Australia to retain taxing rights in relation to the latter areas, particularly as regards mineral exploration and mining activities. The definition also has relevance to Australia's right to tax shipping and airline profits under article 8 of the agreement.
This article sets out the basis on which, in cases of difficulty, the residential status of a person is to be determined for the purposes of the agreement. It provides rules for determining how residency is to be allocated to one or other of the countries for the purposes of the agreement where a taxpayer - whether an individual, a company or other entity - is regarded as a resident under each country's domestic law. (Residential status is one of the criteria for determining taxing rights, and the provision of relief, under the agreement.)
Article 5 - Permanent establishment.
The application of various provisions of the agreement (principally article 7) is dependent upon whether a resident of one country has a "permanent establishment" in the other, or whether income the person derives in the other country is effectively connected with a "permanent establishment" located there. The article defines the term for the purposes of the agreement. Its primary meaning in paragraph (1) is that of a fixed place of business in which the business of an enterprise is wholly or partly carried on. The other paragraphs elaborate on and refine the general definition by giving examples of what constitutes a permanent establishment and defining the circumstances in which a resident of one country shall, or shall not, be deemed to have a permanent establishment in the other.
Article 6 - Income from real property.
This article provides that income from real property, including royalties and similar payments in respect of the exploitation of mines, quarries or other natural resources, may be taxed in the country of source - this being the country in which the property is situated. The scope of the article is extended by paragraph 2 of the protocol to cover also income from a lease of land (see page 14 of these notes).
Income to which this article applies is specifically excluded from the scope of article 7 (by paragraph (4) of that article) and is therefore taxable in the country of source regardless of whether or not the recipient has a permanent establishment in that country.
This article sets out the general basis of taxation of business profits derived by a resident of one country from sources in the other. Broadly, for a country to be able to tax the profits of an enterprise resident in the other country, that enterprise must carry on business in the first country through a permanent establishment situated therein.
Article 7 has practical effect comparable with corresponding articles in Australia's other double taxation agreements. As with those agreements, the article provides an "arm's length" basis for ascertaining the amount of profits fairly attributable to a permanent establishment.
Paragraphs 4 and 5 of the protocol also relate to this article and contain provisions that are normally found in the article itself. For example, paragraph 4(a) of the protocol preserves the application of the special provisions of each country's law relating to income from general insurance. (See Division 15 of Part III of the Assessment Act.)
Article 8 - Shipping and aircraft.
Under this article the right to tax profits from the operation of ships or aircraft in international traffic, including profits received through participation in a pool service, in a joint transport operating organisation or in an international operating agency, is reserved to the country of residence of the operator. However, any profits derived by a resident of one country from internal traffic in the other country may be taxed in that other country. In such cases, the tax shall not exceed 5 per cent of the net amount paid or payable in respect of carriage in internal operations. By reason of the definition of "Australia" in article 3 and the terms of paragraph (4) of article 8, any shipments from a place in Australia to another place in Australia, its continental shelf or external territories are to be treated as forming part of internal traffic.
Article 9 - Associated enterprises.
This is a conventional provision which authorises the re-allocation, on an arm's length basis, of profits between associated enterprises where the commercial or financial arrangements between them differ from those that might be expected to exist between independent enterprises.
The broad scheme of this article is to limit to 15 per cent of the gross amount of dividends the tax imposed by the country of source on dividends payable by companies resident in that country to shareholders resident in the other country. This is in line with Australia's other comprehensive agreements. Under this article, Australian withholding tax on dividends paid to residents of the Federal Republic of Germany will be at the rate of 15 per cent, rather than at the general rate of 30 per cent. Correspondingly, withholding tax of the Federal Republic of Germany on dividends paid to Australian residents will be reduced from the general rate of 25.75 per cent to 15 per cent. However, the operation of this article is modified by the provisions of paragraph 6 of the protocol to the agreement. In short, paragraph 6 of the protocol (which is discussed in more detail later), provides that the Federal Republic of Germany may, consistently with all its recently concluded agreements, impose tax at the rate of 25.75 per cent where the Australian recipient of the dividends is a company which owns 25 per cent or more of the company paying them.
Paragraph (4) of article 10 ensures that the country of source will remain free to impose its normal rate of tax where the holding giving rise to the dividends is effectively connected with a permanent establishment that the recipient has in that country.
This article requires the country of source generally to limit its tax on interest income derived by residents of the other country to 10 per cent of the gross amount of the interest. The 10 per cent limitation accords with the Australian interest withholding tax rate of 10 per cent but requires the Federal Republic of Germany to reduce its withholding tax from its present level of 25.75 per cent.
The 10 per cent limitation does not apply where the person deriving the interest has in the country of source a permanent establishment with which the indebtedness giving rise to the interest is effectively connected. The article contains a general safeguard (paragraph (5)) against payments of excessive interest - in cases where there is a special relationship between the persons associated with a loan transaction - by restricting the 10 per cent tax limitation in such cases to an amount of interest which might be expected to have been agreed upon by persons dealing at arm's length.
In Australia, gross royalties as reduced by allowable expenses are, in the absence of an agreement, taxed by assessment at ordinary rates of tax. In the Federal Republic of Germany, gross royalties are normally subject to a withholding tax of 25.75 per cent. This article requires the country of source generally to limit its tax on royalties derived by residents of the other country to 10 per cent of the gross royalties. The 10 per cent limitation is not to apply to natural resource royalties, which, in accordance with article 6, are to remain taxable in the country of source without limitation of the tax that may be imposed.
There are other cases in which the limitation on the tax of the country of source is not to apply in respect of royalties. One is where the asset giving rise to the royalties is effectively connected with a permanent establishment which the recipient has in the country of source. The other is where the royalties are paid by a person not independent of the payee. In the latter case the limitation will not apply to any amount of royalty that is in excess of what might be expected to have been agreed upon by independent persons acting at arm's length.
Article 13 - Income from professional services or similar independent activities.
At present, an individual resident in Australia or in the Federal Republic of Germany may be taxed in the other country on remuneration derived from the performance in that country of professional services or other similar independent activities. This article provides that such remuneration will continue to be subject to tax in the country in which the services are performed if the recipient has a fixed base regularly available to him in that country for the purposes of performing his activities, and the remuneration is attributable to that base. If the tests mentioned are not met the remuneration will be taxed only in the country of residence.
Remuneration derived as an employee and income derived by public entertainers are the subject of other articles of the agreement and will not be covered by this article.
Article 14 - Income from an employment.
This article sets out the basis for taxing remuneration derived by visiting employees. A resident of one country will generally be taxed in the other country on salaries, wages, etc. from an employment where the services are rendered during a visit to the other country but, subject to specified conditions, there is a conventional exemption from this rule for short-term visitors which, where it applies, provides an exemption from the tax of the country being visited.
The article also provides that income from an employment exercised on ships or aircraft operated in international traffic may be taxed in the country of residence of the operator.
This article relates to remuneration received by a resident of one country in his capacity as a member of the board of directors of a company which is a resident of the other country. To avoid difficulties in such cases of ascertaining in which country a director's services are performed, and his remuneration is to be taxed, the article provides that the remuneration may be taxed in the country of residence of the company.
Article 16 - Public entertainers.
This article provides that income derived by visiting entertainers (including athletes) from their personal activities as such may be taxed by the country in which the activities are exercised, no matter how short their visit to that country.
The article also contains a safeguard against attempts by entertainers to circumvent its general purpose by, e.g., having fees paid to a separate enterprise which the performer controls, and which arranges the provision of his services.
Article 17 - Governmental remuneration.
This article provides for a reciprocal exemption from tax by each country in respect of remuneration of government (including local government) employees of the other country. The article is subject to the provisos, however, that exemption will not apply where the services are rendered in connection with a trade or business carried on by the government or where, in broad terms, the employee is a citizen of, or normally resides in, the country where he performs his governmental duties for the other country. In the latter case the remuneration is to be taxed only by the country in which the services are performed.
Article 18 - Pensions and annuities.
This article, like corresponding articles in Australia's other agreements, provides that pensions and annuities may be taxed only by the recipient's country of residence.
Article 19 - Visiting professors, teachers, and students.
This article applies in respect of professors or teachers resident in one country who visit the other country for a period of not more than two years for the purpose of advanced study or research or of teaching at an educational institution. In these circumstances, the remuneration of the professor or teacher for his teaching, study or research work is to be exempt from tax in the country visited, although it will remain taxable in the home country.
The article also applies to students resident in one of the countries who are temporarily present in the other country solely for the purposes of their education. A student meeting these tests will be exempt from the tax of the country visited in respect of payments made to him from abroad for the purposes of his maintenance or education.
Article 20 - Income of dual residents.
This article relates to individuals and companies that are residents both of Australia and the Federal Republic of Germany under the general income tax laws of both countries.
For the purposes of the agreement, the residential status of such a person is established by application of the rules set out in article 4, and article 20 reserves to the country to which the person's residence is allotted the sole right to tax income from sources in that country or from a third country.
This article provides for the taxing of capital represented by real property and other business property. It is relevant only for, and has been included at the request of, the Federal Republic of Germany which levies a "net worth" tax. As Australia does not impose any comparable taxes, the article has no application in this country. In effect, the article merely provides that the Federal Republic of Germany may continue to apply its capital worth tax to certain property located there and ships and aircraft owned there.
Article 22 - Double taxation relief.
Double taxation does not arise in respect of income flowing between the two countries where the terms of the agreement provide for the income to be taxed only in one country or the other, or where the domestic taxation law of one of the countries exempts the income from its tax. It is necessary, however, to prescribe a method for relieving double taxation in respect of other classes of income which remain subject to tax in both countries. Australia's other double taxation agreements provide a credit basis for the relief of double taxation in these cases - the country of residence gives credit against its tax for tax of the country of source - and the same basis has been adopted in this agreement.
When the Income Tax Assessment Act and the Income Tax (International Agreements) Act (as amended by the present Bill) are read together the measures that will operate to relieve double taxation of income derived from the Federal Republic of Germany by Australian residents are as follows. Australia will allow credit for the tax on dividends derived by individuals from the Federal Republic of Germany and on interest and royalties derived by individuals and companies in respect of which the tax of that country is limited to 10 per cent by articles 11 and 12. (See the notes above concerning clause 5 of the Bill.) Other income of Australian residents that is taxed in the Federal Republic will continue to qualify for exemption from Australian tax under section 23(q) of the Income Tax Assessment Act, while section 46 of that Act will continue to free from Australian tax dividends derived by Australian resident companies. In these cases, since there will be no Australian tax payable, there will be no question of allowance of credits.
For its part, the Federal Republic of Germany will, depending on the class of income concerned and on other circumstances, either allow its residents a credit for Australian tax on Australian-source income or will exempt the income from tax. More information about this aspect is contained in the notes relating to paragraph 10(d) of the protocol (page 16 of these notes).
Article 23 - Consultations between taxation authorities.
One of the purposes of this article is to provide for the taxation authorities of both countries to consult with a view to reaching a satisfactory solution where a taxpayer is able to demonstrate that he has been, or will be, subjected to taxation contrary to the provisions of the agreement.
The other object of the article is to authorise consultation between the authorities for the purpose of implementing the agreement and assuring its consistent interpretation and application.
Article 24 - Exchange of information.
This article authorises the usual exchange between the two taxation authorities of information necessary for carrying out the provisions of the agreement, or for the prevention of fraud, or in relation to provisions of the respective tax laws directed against avoidance of tax. The restrictions which it contains in relation to the information which may be exchanged, the purposes for which this information may be used and the persons to whom it may be disclosed are along the lines of Australia's other double taxation agreements.
The article does not permit the exchange of information that would disclose any trade, business, industrial, commercial or professional secret or trade process or which would be contrary to public policy.
Article 25 - Diplomatic and consular officials.
The purpose of this article is to ensure that members of diplomatic and consular posts will, under the provisions of the agreement, receive no less favourable treatment than that to which they are entitled in accordance with international law. In Australia, fiscal privileges are conferred on such persons by the Diplomatic (Privileges and Immunities) Act and the Consular (Privileges and Immunities) Act.
The article contains a safeguard, however, to ensure that the agreement will not confer any unintended taxation benefits by providing that where, in accordance with international law, such persons are not subject to tax in the receiving State, the right to tax is reserved to the sending State.
Article 26 - Extension to Land Berlin.
This article relates to the special status of Berlin. The purpose of this article (which is a standard feature of the Federal Republic's double taxation agreements) is to apply the agreement in relation to West Berlin in the same way that it applies to the Federal Republic.
Article 27 - Extension to territories.
The purpose of this article is to provide for extension of the agreement, either as it stands or with modifications, to any territory for whose international relations Australia is responsible. Any extension would be on conditions which might be agreed between Australia and the Federal Republic of Germany.
Article 28 - Entry into force.
This article provides for the entry into force of the agreement. It provides for formal ratification of the agreement by the Government of each country and for the agreement to enter into force on the 30th day after the exchange of instruments of ratification. As mentioned earlier in this memorandum it is proposed that there will be a notification inserted in the Gazette of the day on which the agreement will enter into force.
Once it enters into force, the agreement will in general have effect for purposes of Australian tax as from 1 July 1971, although where a taxpayer has adopted an accounting period ending on a date other than 30 June, the beginning of the accounting period that has been substituted for the year ending on 30 June 1972 will be the date from which the agreement takes effect. In the Federal Republic of Germany, the agreement will have effect for withholding tax on dividends, interest and royalties as from 1 July 1971 but otherwise it will apply as regards taxes levied for the 1971 calendar year and for subsequent assessment periods.
This article declares that the agreement is to continue in effect indefinitely but either country may give written notice of termination on or before 30 June in any calendar year. In that event, the agreement would cease to apply to the fiscal year commencing in the calendar year following the year in which the notice is given.