House of Representatives

Explanatory Memorandum

(Circulated by the authority of the Treasurer, the Hon John Dawkins, M.P.)

Exemption for Interest in a Multi-Industry Foreign Company

Overview

An exemption is provided for an interest a taxpayer holds in a foreign company which is principally engaged in multiple activities of a kind that would individually be exempt through either one of Divisions 3,4,5,6,or 7. The opportunity to invest in a multi-industry foreign company without attracting FIF taxation will be provided on a restricted basis through a specific exemption.

Explanation

A taxpayer's interest in a multi-industry foreign company will be exempted under Division 13 provided the foreign company is principally engaged in the aggregate of two or more of the activities approved in:

he active business exemption; or

ne of the specified industry exemptions.

Approved stock exchange

The first condition is that the foreign company in which a taxpayer holds an interest, must be listed on a stock market of any approved stock exchange in Schedule 3. There are 113 approved stock exchanges spread throughout 48 countries. [Paragraph 523(a)]

Taxpayer's shares - quoted on an approved stock exchange

The Australian resident's shares in the foreign company must be of a class that is quoted on a stock market of any approved stock exchange upon which the foreign company is listed.

Where a taxpayer holds shares in a foreign company that are quoted on the stock market of an approved stock exchange and other shares in the same company which are either:

ot quoted on the stock market of any stock exchange, or

uoted on a stock market of a non-approved stock exchange,

only that part of the interest in the foreign company comprising the shares that are quoted on the stock market of an approved stock exchange will be exempt from the FIF measures, provided the other requirements of Division 13 are satisfied. [Paragraph 523(a)]

Trading requirement

In addition, the shares of the foreign company must be 'widely held and actively traded on a regular basis' on a stock market of an approved stock exchange during the period in which the exemption applies to the relevant taxpayer. [Subparagraph 523(b)(i)]

The term 'widely held' does not have the same meaning as the term 'widely distributed' used in section 327A of the Principal Act. It denotes a much wider spread of shareholding than 'widely distributed' which only requires that 20 per cent of the share holders must not hold more than 75 per cent of the share capital.

The requirement that the shares in the foreign company are 'widely held' by the public at large will ensure that the exemption does not apply to foreign companies which are closely held or privately owned companies.

'Widely held' must also be read in connection with the phrase 'actively traded on a regular basis'.

The phrase 'actively traded on a regular basis' is viewed in the context of the trading pattern and volume of the particular stock market. In times of recession the degree of trade required to satisfy this criteria will be considerably less than in a bullish a market.

To satisfy this requirement it will be necessary that for the majority of the time in which the exemption operates in respect of a particular taxpayer there was an active market in the shares of the foreign shares in the foreign multi-industry company on any stock market of an approved stock exchange on which shares in the foreign company were listed.

Foreign company principally engaged in the active carrying on of multi-industry activities

During the period in which the exemption applies to the relevant taxpayer the foreign company must be 'principally engaged in the active carrying on' of two or more activities of a kind that may qualify a taxpayer for exemption from the FIF measures under Divisions 3, 4, 5, 6 or 7. [Subparagraph 523(b)(ii)]

The phrase 'principally engaged in the active carrying on' requires that, during the period in which the exemption applies to the relevant taxpayer:

he foreign company is mainly engaged in two or more of the relevant activities;

he foreign company actually carries on each relevant activity which contributes to the foreign company being principally engaged in the relevant multi-industry activities; and

he foreign company's business in each relevant activity is not dormant.

Multi-industry activities

The relevant multi- industry activities are:

onstruction;

evelopment of real property through capital improvement;

eceipt of rental income from commercial real property owned by the foreign company where the management, maintenance, and security services for the commercial property are principally provided by directors or employees of the foreign company or by a wholly owned subsidiary that is principally engaged in providing those services through its directors or employees;

rovision of management services through directors or employees of the foreign company in relation to real property that it does not own;

cting as agent for the sale or purchase of commercial real property;

eneral insurance business of a kind that the company was authorised under the law of its place of residence to carry on;

ife insurance business of a kind that the company was authorised under the law of its place of residence to carry on;

ligible activities within the meaning of Division 3. [Sub-subparagraphs 523(b)(ii)(A) to (H)]

The phrase 'principally provided' in this context has a similar meaning to the phrase 'principally engaged' in subparagraph 523(b)(ii) discussed above.

Test time

An Australian resident must look at the end of the notional accounting period of the foreign company that ends during his or her year of income to determine if the share that the investor holds in the foreign company satisfies the listing requirement. [Paragraph 523(a)]

The definition of a notional accounting period is set out in section 486. Generally, it is the year of income of the taxpayer unless the taxpayer elects for the accounting period of the company.

However, the following requirements must be satisfied throughout the period in which the taxpayer holds his or her interest in the foreign company:

he foreign company must be principally engaged in the active carrying on of two or more of the multi-industry activities; and

he shares in the foreign company must be widely held and actively traded on a regular basis on a stock market of an approved stock exchange. [Paragraph 523(b)]