The Government has just released draft legislation for public comment, on the proposed foreign resident capital gains withholding tax. The draft legislation can be viewed here.
The Tax and Superannuation Laws Amendment (2015 Measures No. 5) Bill 2015 proposes to introduce from 1 July 2016 a non-final 10% withholding tax when certain Australian assets (real property related or connected with a permanent establishment) are sold by a foreign resident.
Why are the changes being introduced?
The purpose of the regime is to assist in the collection of foreign residents’ capital gains tax (CGT) liabilities. The explanatory memorandum notes that while foreign residents are subject to CGT on any capital gains they make from the disposal of such Australian assets, compliance with these requirements is extremely low. It also notes that compliance action by the Australian Taxation Office is difficult to undertake.
What is the current state of play?
Foreign residents are required to lodge tax returns if they have derived Australian assessable income, including a capital gain. Where the Commissioner is aware that a foreign resident has a tax liability, he may be able to issue an income tax assessment.
However, the ability of the Commissioner to enforce an assessment against a foreign resident, depends on the circumstances, and importantly, whether the taxpayer is present in Australia or has other investments in Australia. The Commissioner has some other options, including obtaining a freezing order against other Australian assets, or issuing a section 255 notice (to a person in control of a non-resident’s money, which means the Commissioner needs to do this before the money has left the country). The most notable example is the ATO’s unsuccessful attempt to freeze TPG Capital’s funds following the sale of Myer; the money was already gone within hours. You can see the limitations the Commissioner faces with these options!
There is currently no specific withholding regime for capital gains and related property transactions.
What is proposed
The draft legislation imposes a 10% non-final withholding obligation on the purchasers of certain Australian assets where the purchaser has reason to believe the vendor is a foreign resident.
The mechanics of this mean that a purchaser is required to pay 10% of the purchase price to the Commissioner. This amount may be withheld from the payment the purchaser makes to the vendor. While the draft legislation deals with many of the issues raised in the initial consultation process, it remains to be seen how the new regime will be implemented in practice.
What Australian ‘assets’?
The obligation will particularly apply to transactions involving Australian taxable real property, indirect Australian real property interests, and options or rights to acquire property or interests, as well as assets of a foreigner’s permanent establishment.
Assets excluded from this obligation include residential property that is valued less than $2.5 million, arrangements conducted on the stock exchange, and arrangements that are already under an existing withholding arrangement. Vacant land is not eligible for the exemption.
Who is a ‘foreign resident’ for these purposes?
A vendor is a foreign resident if:
- the purchaser has reason to believe the vendor is a foreign resident (knowledge condition);
- they have not made a declaration that they are an Australian resident or are carrying on a business through an Australian permanent establishment; and
- where the asset is membership interests, for example, shares in a company, the seller has not declared that the interests are not indirect Australian real property interests.
How will a purchaser have ‘knowledge’ that the vendor is a foreign resident?
For a purchaser to have knowledge, the purchaser must have specific knowledge that the seller is a foreign resident. Therefore, if the purchaser reasonably believes that the seller is a foreign resident, the knowledge condition is satisfied. For example, a reasonable belief can arise when a seller is likely to live overseas.
The knowledge condition can also be satisfied if the purchaser does not reasonably believe the seller is an Australian resident because the seller has an address outside Australia or the purchaser is required to provide a financial benefit such as payments to a place outside Australia.
Purchasers not comfortable applying the knowledge condition may instead seek a vendor declaration that confirms that a vendor is not a relevant foreign resident. Practically, we think that the use of a declaration will be frequently relied on by purchasers. It will be very difficult for purchasers to decide whether a vendor is an Australian resident, as this is often difficult for a vendor to conclude anyway!
The new regime is proposed to apply to acquisitions which occur under contracts entered into on or after 1 July 2016.
This proposal was first introduced by the Government in November 2013, and a discussion paper was released in October 2014. Submissions close on Friday 7 August.
If you have any questions about residency and investing, we are more than happy to assist.