House of Representatives

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon. P.J. Keating, M.P.)

MAIN FEATURES

The double taxation agreements are designed to avoid double taxation of income flowing between Australia and the respective treaty partners and to prevent fiscal evasion of taxes covered by the agreements. The agreement with China will complement an existing taxation agreement between the two countries relating to airline profits. Double taxation is avoided under the comprehensive agreements by allocating taxing rights between the contracting countries in relation to certain categories of income and by setting out how relief from double taxation is to be provided where income may be taxed by both countries. The basis provided by each agreement for allocating taxing rights and providing double taxation relief is substantially similar to that adopted in Australia's other modern comprehensive double taxation agreements.

Under the terms of the agreements:

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Income from real property (which includes natural resources royalties) may be taxed in full by the country in which the property is situated.

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Business profits are to be taxed only in the country of residence of the recipient unless they are derived by a resident of one country through a branch or other "permanent establishment" in the other country; in that case, the other country may tax the profits attributable to that branch or other prescribed "permanent establishment", and in the case of the Sri Lankan and Fijian agreements profits attributable to related sales or business activities.

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Profits from the international operations of ships and aircraft are generally taxed only in the country of residence of the operator. Each agreement allows the other country to tax, at normal domestic rates, profits from the operations of ships or aircraft confined solely to places within that other country. The Sri Lankan agreement also provides reduced taxing rights to the other country over profits from other shipping operations in that country. (In relation to China the existing airline profits agreement between the two countries will continue to govern the taxation of profits from the operation of aircraft).

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Dividends, interest and royalties may be taxed in the country of source, but there are general limits on the tax that the source country may charge on such income flowing to residents of the other country. For the Chinese and Sri Lankan agreements these limits are 15 per cent for dividends and 10 per cent for interest and royalties. A 20 per cent limit applies for dividends, 10 per cent for interest and 15 per cent for royalties in the agreement with Fiji.

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Income or gains from the alienation of real property may be taxed in full by the country in which the property is situated. Subject to that rule and other specific rules in relation to business assets and some shares, capital gains are to be taxed in accordance with the domestic law of each country.

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Income from professional services and other similar activities will generally be taxed only in the country of residence of the recipient.

However, the other country may also tax the income where it is attributable to activities performed from a fixed base of the recipient in the other country; if the recipient is present in that other country for a period or periods of broadly 6 months or more; or, in the case of the Fijian agreement, if the remuneration exceeds $A8000 or its Fijian dollar equivalent in a year of income and is paid by a resident of or a permanent establishment in the other country.

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Income from dependent personal services, that is, employees' remuneration, will generally be taxable in the country where the services are performed.

However, under the Chinese and Sri Lankan agreements the income will be exempt in the country where the services are performed if the income is derived during a short visit or visits (of broadly less than 6 months); the remuneration is paid by, or on behalf of, an employer who is not a resident of the country visited, and, the remuneration is not an expense of a permanent establishment or a fixed base which the employer has in the country visited; for the Fijian agreement, the income will be exempt in the country in which the services are performed if it is derived during a short visit or visits not exceeding in the aggregate 90 days and the income is taxed by the country of residence of the employee.

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Government officials will generally be taxed only in their home country.

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Directors' fees and similar payments may be taxed in the country of residence of the paying company.

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Income derived by public entertainers from their activities as such is generally to be taxed by the country in which the activities are performed. However, each of the agreements provide for an exemption where the activity is, in the case of the Chinese Agreement, conducted under a cultural exchange plan between the respective governments, or, in the case of the Sri Lankan and Fijian agreements, funded out of public funds of the other country.

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Pensions will generally be taxed only in the country of residence of the recipient, except for certain Government service pensions, which are taxable only in the country from which the pension is paid.

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Students resident in one country who are temporarily present in the other country solely for the purpose of their education will be exempt from tax in the country visited in respect of payments made from abroad for the purposes of their maintenance or education. The agreements with China and Fiji extend a similar exemption to trainees.

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Professors and teachers are specifically covered by the agreements with China and Fiji, which provide for remuneration derived by professors or teachers during visits to the other country of up to two years duration for the purpose of teaching or carrying out advanced study or research at an educational institution to generally be taxed only in the country of residence of the recipient.

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Dual residents (i.e. persons who are resident of both countries to an agreement according to the domestic taxation laws of those countries) are, in accordance with specified criteria, to be treated for the purposes of the respective agreements as being residents of only one country.

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Associated enterprises may be taxed on the basis of dealings at arm's length.

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Exchange of information and consultation between the taxation authorities of Australia and the respective countries is authorised.

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Double taxation relief is to be allowed by the country of residence where it taxes income, profits or gains which, under an agreement, may also be taxed in the other country, as follows:

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in Australia, by allowance of a credit against Australian tax on income, profits or gains derived by a resident of Australia from sources in the agreement country for the tax paid in that other country. In the case of a dividend payment from a company resident in the relevant agreement country to a related Australian resident company, the tax to be credited by Australia includes the "underlying" tax paid in respect of the profits out of which the dividend is paid.

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in the agreement country (China, Sri Lanka or Fiji), generally by the allowance of a credit against that country's tax for the Australian tax paid on income, profit or gains derived by residents of that country from sources in Australia, including "underlying" tax credit in the case of China and Sri Lanka for a dividend payment by an Australian resident company to a related company resident in the agreement country.

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Tax Sparinq credit relief is to be provided by Australia in relation to income derived by a resident of Australia from each of the agreement countries which has benefited from certain development tax incentives of the other country. Broadly, therefore, Australia is to allow as a credit against the Australian tax payable on income derived in the respective agreement countries an amount of tax forgone by those countries on that income under the specified or nominated development incentives as if that tax had been paid.

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For dividends and interest subject to the specified Chinese development incentives, the tax sparing relief is to apply as if Chinese tax at the relevant treaty source country tax limit rates of 15 per cent and 10 per cent respectively had applied. For royalties subject to those incentives, tax sparing relief will apply on the basis of a deemed Chinese tax rate of 15 per cent of the gross amount of the royalties (compared with the treaty rate limit of 10 per cent), for as long as China's general domestic rate of tax on royalties is not reduced below that rate.

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For dividends, royalties and interest subject to the specified Sri Lankan and Fijian development incentives, tax sparing relief is to apply as if the Sri Lankan or Fijian tax payable but for the relevant development incentive was subject to the source country tax rate limit applicable under the agreement in relation to such income.

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In the case of China and Fiji the relevant development incentives are specified in the agreement and there is provision to nominate incentives of a substantially similar character from time to time in letters to be exchanged for this purpose between the Treasurer and the authorised representative of the other country. In the case of Sri Lanka, provision is made for incentives to be nominated from time to time in letters exchanged between the Treasurer of Australia and the Minister of Finance and Planning of Sri Lanka.

Each agreement will enter into force when diplomatic notes are exchanged between Australia and the agreement country advising each other that the last of the constitutional processes necessary to give the agreement the force of law in the respective countries has been completed.

Upon entering into force, the agreements with China, Sri Lanka and Fiji will have effect:-

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in Australia, for withholding tax purposes in respect of income derived on or after 1 January (for the Fijian agreement) and on or after 1 July (for the Chinese and Sri Lankan agreements) in the calendar year following that in which the relevant agreement enters into force. For all other Australian taxes covered by each agreement, it will first have effect in respect of income (including profits and gains) of the income year beginning on or after 1 July in the calendar year following that in which the agreement enters into force.

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in China, for all Chinese taxes (including tax withheld at source) in respect of income (including profits and gains) of taxable years beginning on or after 1 January next following the year in which the agreement enters into force.

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in Sri Lanka, for all Sri Lankan taxes in respect of income (including profits and gains) assessable for any year of assessment beginning on or after 1 April in the calendar year next following that in which the agreement enters into force.

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in Fiji, for all Fijian taxes in respect of income, profits or gains derived during any income year beginning on or after 1 January in the calendar year following that in which the agreement enters into force.

Notes on the clauses of the Bill are given below. These are followed by a more detailed explanation of the articles of each double taxation agreement.