House of Representatives

Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)

General outline and financial impact

What do we mean by double taxation?

Australia's Double Taxation Agreements (DTAs) are primarily concerned with relieving juridical double taxation, which can be described broadly as subjecting the same income derived by a taxpayer during the same period of time to comparable taxes under the taxation laws of 2 different countries.

Why are DTAs necessary?

Relief from double taxation is desirable because of the harmful effects double taxation can have on the expansion of trade and the movement of capital and people between countries. A DTA supplements the unilateral double tax relief provisions in the respective treaty partner countries' domestic law and clarifies the taxation position of income flows between them.

How do the DTAs work?

The DTAs allocate to the country of source, sometimes at limited rates, a taxing right over various income, profits or gains. It is accepted that both countries possess the right to tax the income of their own residents under their own domestic laws and as such, the DTA wording will not always explicitly restate this rule.

However, where the country of residence is to be given the sole taxing right over certain types of income, profits or gains, this sole right is usually represented by the words shall be taxable only in that country . The agreement also provides that where income, profits or gains may be taxed in both countries, the country of residence (if it taxes) is to allow double tax relief against its own tax for the tax imposed by the country of source. In the case of Australia, effect is given to the relief obligations arising under the DTA by application of the general foreign tax credit system provisions of Australia's domestic law, or relevant exemption provisions of the law where applicable.

What is the purpose of Australia's DTAs?

Australia's DTAs are designed to:

(a)

Prevent double taxation and provide a level of security about the tax rules that will apply to particular international transactions by:-

•

allocating taxing rights between the countries over different categories of income;

•

specifying rules to resolve dual claims in relation to the residential status of a taxpayer and the source of income; and

•

providing, where a taxpayer considers that taxation treatment has not been in accordance with the terms of a DTA, an avenue for the taxpayer to present a case for determination to the relevant taxation authorities.

(b)

Prevent avoidance and evasion of taxes on various forms of income flows between the treaty partners by:

•

providing for the allocation of profits between related parties on an arm's length basis;

•

generally preserving the application of domestic law rules that are designed to address transfer pricing and other international avoidance practices; and

•

providing for exchanges of information between the respective tax authorities.

How is the legislation structured?

DTAs to which Australia is a party appear as Schedules to the International Tax Agreements Act 1953 (the Agreements Act). The Agreements Act gives the force of law in Australia to those DTAs. The provisions of the Income Tax Assessment Act 1936 (ITAA 1936) and the Income Tax Assessment Act 1997 (ITAA 1997) are incorporated into and read as one with the Agreements Act. In any cases of inconsistency, the Agreements Act provisions (including the terms of the DTAs) generally override the ITAA 1936 and the ITAA 1997 provisions.

What will this Bill do?

This Bill will amend the Agreements Act to give the force of law in Australia to the following treaties:

•

the Agreement between the Government of Australia and the Government of the Republic of South Africa for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income ( the South African agreement );

•

a Protocol ( the Malaysian protocol ), amending the Agreement between the Government of Australia and the Government of Malaysia for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income of 20August1980 (the 1980 Agreement);

•

the Agreement between the Government of Australia and the Government of the Slovak Republic for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income ( the Slovak agreement );

•

the Agreement between the Government of Australia and the Government of the Argentine Republic for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income ( the Argentine agreement ).

Who will be affected by the measures in this Bill?

Any taxpayers who, for the purposes of:

•

the South African agreement are residents of Australia or South Africa, and who derive income, profit or gains from Australia or South Africa;

•

the 1980 Malaysian Agreement (including the Malaysian protocol ), are residents of Australia or Malaysia, and who derive income, profit or gains from Australia or Malaysia;

•

the Slovak agreement are residents of Australia or the Slovak Republic, and who derive income, profit or gains from Australia or the Slovak Republic;

•

the Argentine agreement are residents of Australia and Argentina, and who derive income, profit or gains from Australia or Argentina.

In what way does this Bill change the Act?

This Bill will make the following changes to the Agreements Act:

•

it will insert into subsection 3(1) definitions of the South African agreement, the Malaysian protocol, the Slovak agreement and the Argentine agreement ;

•

it will insert new sections 11ZG, 11FA, 11ZH and 11ZI which will give the force of law in Australia to those treaties;

•

it will insert a provision in the Agreements Act which will allow the Commissioner of Taxation (the Commissioner) to amend assessments made before the entry into effect of the Malaysian protocol where those assessments are affected by the retrospective operation of:

-

Article 2 (fees for technical services); or

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Article 9 (allowance of tax credits for tax sparing relief and the underlying tax paid in respect of non-portfolio dividends),

of that Protocol which benefit Australian taxpayers;

•

it will insert a provision in the Agreements Act, which will allow the Commissioner to amend assessments made before the entry into effect of the Argentine agreement where those assessments are affected by the retrospective operation of Article 8 and paragraph 4 of Article 13 concerning airline profits; and

•

it will add the text of each treaty as Schedules 42, 16A, 43 and 44 respectively.

When will these changes take place?

Each of the treaties will enter into force on the last of the dates on which the treaty partners exchange notes through the diplomatic channel advising each other that all domestic requirements necessary to give the respective treaties the force of law in the respective countries have been completed.

When the treaties enter into force, from what date will they have effect?

The South African agreement will have effect:

In Australia:

•

for withholding tax on dividends, interest and royalties, on or after 1January next following that in which the DTA enters into force; and

•

for other Australian taxes covered by the DTA, in respect of income, profits or gains of any year of income beginning on or after 1July in the calendar year next following that in which it enters into force.

In South Africa:

•

for taxes withheld at source from amounts paid or credited, on or after 1January next following the date on which the DTA enters into force; and

•

for other South African taxes covered by the DTA, in respect of years of assessment beginning on or after 1January next following that in which it enters into force.

The Malaysian protocol will have effect:

In Australia:

•

subject to sub-paragraph 1(a)(ii) of Article 10 of the Protocol, for the purposes of Article 9 of the Protocol (relating to tax sparing relief and underlying tax credits) in respect of tax on income of any year of income beginning on or after 1July1987;

•

to the extent that Article 9 of the Protocol has application in respect of Malaysian tax forgone in accordance with section 35 or 37 of the Promotion of Investments Act 1986 of Malaysia, in respect of tax on income of any year of income beginning on or after 1July1985;

•

for the purposes of sub-paragraph (c) of Article 2 of the Protocol, (relating to fees for technical services) in respect of tax on income of any year of income beginning on or after 1July1993; and

•

in any other case, in relation to income of any year of income beginning on or after 1July in the calendar year next following that in which the Protocol enters into force.

In Malaysia:

•

for the purposes of Article 9 of the Protocol, in respect of tax for any year of assessment beginning on or after 1January1988;

•

in the case of sub-paragraph (c) of Article 2 of the Protocol, in respect of tax for any year of assessment beginning on or after 1January1994; and

•

in any other case, in respect of tax for any year of assessment beginning on or after 1January in the second calendar year following the calendar year in which the Protocol enters into force.

The Slovak agreement will have effect:

In Australia:

•

for withholding tax on dividends, interest and royalties, on or after 1January in the calendar year following the year in which the DTA enters into force; and

•

for other Australian taxes covered by the DTA imposed on income, profits or gains of any year of income beginning on or after 1July in the calendar year next following the year in which the DTA enters into force.

In the Slovak Republic:

•

for tax withheld at source, on amounts derived on or after 1January in the calendar year following the year in which the DTA enters into force; and

•

for other Slovak taxes covered by the DTA chargeable for the taxable years (income years) beginning on or after 1January in the calendar year next following that in which the DTA enters into force.

The Argentine agreement will have effect:

In Australia:

•

for withholding tax on dividends, interest and royalties, on or after 1January in the calendar year next following that in which the DTA enters into force; and

•

for other Australian taxes covered by the DTA, in respect of income, profits or gains of any year of income beginning on or after 1July in the calendar year next following that in which the DTA enters into force.

In the Argentine Republic:

•

for all taxes withheld at source, on income derived on or after 1January in the calendar year next following that in which the DTA enters into force; and

•

for other Argentine taxes covered by the DTA, in respect of tax chargeable for any tax year beginning on or after 1January in the calendar year next following that in which the DTA enters into force.

In both Australia and the Argentine Republic:

•

for income, profits or gains from the operation of aircraft, in respect of tax on such income, profits or gains of any year of income beginning on or after 27September1988 (being the date from which direct air services operated between Australia and Argentina).

The financial impact of this Bill

The South African agreement, the Slovak agreement and the Argentine agreement

The new comprehensive DTAs contained in this Bill generally accord with Australia's other modern comprehensive DTAs and are not expected to have a significant effect on revenue.

The Malaysian protocol

As with DTAs generally, it is not possible to quantify with any degree of precision the likely revenue effect of the Protocol. Much will depend on the balance of income flows that will be affected and other factors. For example, the tax likely to be forgone by the Australian Revenue by the continuation to the 1991-1992 income year of tax sparing credits for the Malaysian tax incentives will be dependent on such things as the amount of the Malaysian tax reduction or exemption applicable in respect of the particular income, the quantum of that income, and the number of taxpayers affected, none of which can be determined with any degree of certainty.

In relation to the fees for technical services provision, it is unlikely there will be a cost to the Australian Revenue because in most cases the affected Australian residents will continue to be liable to tax in Australia (most of them do not have a permanent establishment in Malaysia) on the fees for technical services that they provide to Malaysian residents.

Subject to the above qualifications, an annual cost to Australia's Revenue of around $1 to 2million is estimated.

Compliance costs

No significant additional compliance costs will result from the entry into force of the respective treaties.

Summary of Regulation Impact Statements (RIS)

The South African Agreement

Impact: Low.

Main points: A DTA with South Africa is likely to have an impact on Australian residents with business, investment or employment interests in South Africa.

Financial impact: Minor.

Assessment of benefits

•

Nil withholding tax will be imposed by either Australia or South Africa on dividends flowing from subsidiary companies to parent companies in the other country, if they are fully franked and if the parent holds at least 10% of the capital of the subsidiary. In any other case, the rate will be 15%.

•

A source country tax rate limit of 10% will generally apply for both countries in the case of interest and royalties.

•

The DTA recognises the creditability of the South African secondary company tax, and accordingly provides credits for underlying taxes, where applicable, in respect of dividends derived by Australian companies from South African companies.

•

The DTA will also assist in making clear the taxation arrangements for pensions and annuities and for individual Australians working in South Africa, either independently as consultants, or as employees.

•

The DTA will assist the bilateral relationship by adding to the existing network of commercial treaties between the 2 countries.

Policy objective: The objective is to promote closer economic cooperation between Australia and other countries by eliminating possible barriers to trade and investment. The DTA will reduce or eliminate double taxation of income flows between the treaty partner countries caused by overlapping tax jurisdictions. The DTA will also establish greater legal and fiscal certainty within which cross-border trade and investment can be carried on and promoted.

Another objective is to create a framework for exchange of information and cooperation between the respective tax administrations as a means of combating international tax avoidance and evasion.

The RIS was tabled in Parliament on 11August1999.

The Malaysian Protocol

Impact: Low.

Main points: The Malaysian Protocol will impact on Australian residents doing business with Malaysia, including principally:

•

Australian residents supplying consultancy services and technology and know-how to Malaysian residents;

•

Australian residents investing in, lending to and receiving royalty income from Malaysia.

Financial impact: Minor.

Assessment of benefits: Australian residents who are in receipt of fees for technical services paid by Malaysian residents will benefit because such fees will no longer be double taxed.

Clarification of which Malaysian development tax incentives qualify for tax sparing and the extension of those provisions will reduce costs for Australian investors who have taken advantage of Malaysia's development incentives.

Policy objective: The Protocol overcomes the double taxation situation currently facing Australian residents who are in receipt of fees for technical services paid by Malaysian residents. The Protocol will also update the existing DTA in a number of respect to bring it into line with Australia's current law and treaty policies and practices.

The RIS was tabled in Parliament on 11August1999.

The Slovak Agreement

Impact: Low.

Main points: A DTA with the Slovak Republic is likely to have an impact on Australian residents with business, investment or employment interests in the Slovak Republic.

Financial impact: Minor.

Assessment of benefits:

•

The dividend withholding tax rate imposed by Australia and the Slovak Republic shall be reduced to 15% of the gross amount of dividends paid by a company which is a resident of one Contracting State, to a resident of the other Contracting State who is beneficially entitled to those dividends.

•

A source country tax rate limit of 10% will generally apply for both countries in the case of interest and royalties.

•

The DTA will also assist in making clear the taxation arrangements for individual Australians working in the Slovak Republic, either independently as consultants, or as employees.

•

The DTA will assist the bilateral relationship by adding to the existing network of commercial treaties between the 2 countries.

Policy objective: The objective is to promote closer economic cooperation between Australia and other countries by eliminating possible barriers to trade and investment. The DTA will reduce or eliminate double taxation of income flows between the treaty partner countries caused by overlapping tax jurisdictions. The DTA will also establish greater legal and fiscal certainty within which cross-border trade and investment can be carried on and promoted.

Another objective is to create a framework for exchange of information and cooperation between the respective tax administrations as a means of combating international tax avoidance and evasion.

The Argentine Agreement

Impact: Low.

Main points: A DTA with the Argentine Republic is likely to have an impact on Australian residents with business, investment or employment interests in the Argentine Republic.

Financial impact: Minor.

Assessment of benefits:

•

Most Argentine royalty withholding taxes will fall from 24%to 10% or 15%, thereby making Australian suppliers of technology and capital more competitive.

•

The DTA will limit taxation of dividends paid to Australian shareholders.

•

In particular, the mining industry should benefit from the provisions contained in the new DTA.

•

The treaty will also assist in making clear the taxation arrangements for individual Australians working in Argentina, either independently as consultants, or as employees. Income from professional services and other similar activities provided by an individual will generally be taxed only in the country in which the recipient is resident for tax purposes except in certain circumstances where the services are rendered in the other country.

•

Although the DTA permits Argentina to impose a contractors' withholding tax on payments of technical services fees by Argentine residents, the DTA reduces the Argentine (monetary) rates from its domestic rates of 18% to 27% of gross payments to 10% of net fees.

•

A most favoured nation clause of the DTA ensures that if Argentina were to subsequently enter into another treaty with a third party with more favourable tax rates for dividends, interest, royalties or contractors' withholding taxes, the corresponding tax rate in the DTA would automatically be reduced to coincide with the greater of the lower rate or the set minimum limit.

Policy objective: The objective is to promote closer economic cooperation between Australia and other countries by eliminating possible barriers to trade and investment. The DTA will reduce or eliminate double taxation of income flows between the treaty partner countries caused by overlapping tax jurisdictions. The DTA will also establish greater legal and fiscal certainty within which cross-border trade and investment can be carried on and promoted.

Another objective is to create a framework for exchange of information and cooperation between the respective tax administrations as a means of combating international tax avoidance and evasion.