Australian Tax Alert – 30 May 2013
The 2013-14 Australian budget announced on 14 May 2013 contained a number of reforms that will impact offshore investment in Australian Real Estate. Specifically, the Government has proposed measures to ‘protect the corporate tax base from erosion and loopholes’ by tightening and improving the effectiveness of the thin capitalisation rules and by improving the integrity of the foreign resident capital gains tax (CGT) regime.
The thin capitalisation rules seek to limit the amount of tax-deductible debt that can be allocated to the Australian operations of foreign and Australian multinationals. The maximum allowable debt is the greater of the safe harbour amount, worldwide gearing amount and the arm’s length debt amount.
Under the proposed new measures the safe harbour debt limit for general entities (non-financial entities) will be reduced from 3:1 to 1.5:1 on a debt to equity basis (i.e. from 75% to 60% on a debt to total adjusted assets basis). Similarly, the proposed new measures will reduce the worldwide gearing amount from 120% of the group’s global gearing level to 100%.
Further, inbound investors will now have access to the worldwide gearing test which was previously restricted to outbound investors.
The government has also retained the arm’s length debt test for taxpayers whose gearing levels are above the relevant safe harbour limits or worldwide gearing ratio. The test will however be referred to the Board of Taxation to undertake consultation on ways to make it more effective by reducing compliance costs and making it easier to administer.
The de minimis exemption threshold has increased from AUD 250,000 in debt deductions to AUD 2 million in an effort to reduce compliance costs and ensure small businesses continue to be excluded from the thin capitalisation regime (likely to be applied on an associate inclusive basis).
The changes will apply for income years commencing on or after 1 July 2014, with no grandfathering of existing investment structures. This will mean that foreign investors may need to undertake restructuring in order to restrict or mitigate adverse consequences associated with the denial of interest deductions.
Taxation of gains made by non-residents on Australian real property
To ensure that indirect Australian real property interests are taxable if disposed of by a foreign resident, the government has made two technical amendments to the ‘principal asset test’ (which compares the value of land and non-land assets to determine whether a disposal of interests in an entity is subject to CGT).
Under the proposed new measures, dealings (e.g. receivables) between members of the same consolidated group will be ignored to prevent multiple counting that would otherwise inflate the proportion of non-land assets. The proposed measures do not make mention of non-consolidated entities however it remains to be seen whether the measures will ultimately take this into account. Further, mining information, goodwill and other intangibles will now be treated as part of the mining rights to which they relate.
These new measures will apply with effect from 7:30pm (AEST) 14 May 2013. Further details of these measures are subject to consultation by the Government.
Withholding tax regime for foreign residents disposing of taxable Australian property
From 1 July 2016 the government will introduce a 10% non-final withholding tax levied on the gross proceeds payable to foreign residents on disposal of certain taxable Australian property.
Effectively the 10% withholding tax rate implies that one third of the proceeds received represents a capital gain and it is not clear at this stage whether the foreign resident vendor will be able to request a variation in the rate applied.
This measure will not apply to residential property transactions under AUD 2.5 million or to disposals by Australian residents.
Additional details regarding the new withholding tax regime are subject to further consultation by the Government however it is anticipated that the new regime will impact on the timing of tax payments and increase funding costs for foreign residents.