Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting
On 26 September 2018, Australia ratified the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting (the Multilateral Instrument) by depositing its Instrument of Ratification, Acceptance or Approval with the Organisation for Economic Cooperation and Development in Paris. The Multilateral Instrument entered into force for Australia on 1 January 2019. The Multilateral Instrument is a multilateral treaty that enables jurisdictions to swiftly modify their bilateral tax treaties to implement measures designed to better address multinational tax avoidance. These measures were developed as part of the OECD/G20 Base Erosion and Profit Shifting (BEPS) project. Australia signed the Multilateral Instrument on 7 June 2017. For a bilateral tax treaty to be modified by the Multilateral Instrument, both treaty partners need to have:
- signed and ratified the Multilateral Instrument (that is, the Multilateral Instrument needs to have entered into force for both treaty partners); and
- identified that particular bilateral tax treaty as a treaty to be covered by the Multilateral Instrument.
Based on the completion of these processes by Australia and its treaty partners, the Multilateral Instrument has now modified a number of Australia's bilateral tax treaties. The dates on which the Multilateral Instrument has modified Australia's bilateral tax treaties are at Income Tax Treaties. It is expected that further Australian bilateral treaties will be modified over time as other countries complete these processes. Further information on the Multilateral Instrument, its Explanatory Statement and Australia's final adoption positions are available on the OECD's website.
Main features of the Multilateral Instrument and Australia's final adoption provisions
The extent to which the Multilateral Instrument will modify Australia's bilateral tax treaties will depend on the final adoption positions taken by other countries.
Article 3 – Transparent entities (optional article)
Treaty benefits will be granted for income derived through fiscally transparent entities, such as partnerships or trusts, but only where one of the two countries treats the income as income of one of its residents under its domestic law. These rules will not prevent either country from taxing its own residents. Australia has adopted Article 3 but is preserving existing corresponding bilateral detailed rules where appropriate.
Article 4 — Dual resident entities (optional article)
Most treaties use an entity's place of effective management as the key tiebreaker test to determine a dual resident's country of tax residence for treaty purposes. This test will be expanded to include other factors and authorise the two tax administrations to agree on a single country of residence. Australia has adopted Article 4 but not the rule that would allow the two tax administrations to grant treaty benefits in the absence of such an agreement.
Article 5 – Application of methods for elimination of double taxation (optional article)
Three options will ensure that countries relieve double taxation by crediting foreign tax against domestic tax rather than by exempting foreign income from domestic tax. Australia has not adopted Article 5 because all of its treaties apply the credit method in relieving double taxation for Australian residents. Australia has also not adopted the provisions that would prevent other countries from applying their chosen positions under Article 5.
Article 6 – Purpose of a covered tax agreement (mandatory article)
A new treaty preamble will clarify that tax treaties are not intended to create opportunities for non-taxation or reduced taxation through tax evasion or avoidance, including through treaty-shopping arrangements. Australia has adopted Article 6, including the optional text indicating a desire to further develop its economic relationships with other Parties and enhance cooperation in tax matters.
Article 7 – Prevention of treaty abuse (mandatory article)
New anti-abuse rules will enable tax administrations to deny treaty benefits in certain circumstances: the Principal Purpose Test (PPT) and the Simplified Limitation on Benefits (S-LOB) rule. Adopting the PPT is mandatory. The S-LOB is a supplementary and optional rule. Australia has adopted Article 7 and only the PPT, including the discretion not to apply the PPT in certain circumstances.
Article 8 – Dividend transfer transactions (optional article)
Shares will be required to be held for 365 days before dividends payable in respect of those shares become eligible for reduced tax rates applicable to non-portfolio intercorporate dividends under tax treaties. This holding period will be added to treaties that do not already include a minimum holding period and replace existing holding periods in treaties that do.
Australia has adopted Article 8 without reservation.
Article 9 – Capital gains from alienation of shares or interests of entities deriving their value principally from immovable property (optional article)
Countries will be able to tax capital gains derived by foreign residents from the disposal of shares or other interests in 'land-rich' entities (where the underlying property is located in that country) if the entity was land-rich at any time during the 365 days preceding the disposal. Australia has adopted Article 9 but will preserve existing bilateral rules that apply to the disposal of comparable interests (non-share interests) in land-rich entities.
Article 10 - Anti-abuse rule for permanent establishments situated in third jurisdictions (optional article)
Treaty benefits will be denied where an entity that is a resident of one country derives 'passive' income from the other country through a permanent establishment located in a third country, and that income is both exempt in the entity's home country and subject to reduced taxation in the third country. Australia has not adopted Article 10.
Article 11 - Application of tax agreements to restrict a Party's right to tax its own residents (optional article)
A tax treaty will not generally restrict a country's right to tax its own residents. This rule will replace existing bilateral rules that give effect to this principle, some of which have more limited application. Australia has adopted Article 11 without reservation.
Article 12 – Artificial avoidance of permanent establishment status through commissionnaire arrangements and similar strategies (optional article)
Where an intermediary plays the principal role in concluding substantively finalised business contracts in a country on behalf of a foreign enterprise, that arrangement will constitute a 'permanent establishment' of the foreign enterprise in that country. Genuine independent agency arrangements will not be affected. Australia has not adopted Article 12. Australia will consider adopting these rules bilaterally, however, in future treaty negotiations to enable bilateral clarification of their application in practice. Pending this, the Multinational Anti-avoidance Law will continue to safeguard Australian revenue from egregious tax avoidance arrangements that rely on a 'book offshore' model.
Article 13 – Artificial avoidance of permanent establishment status through the specific activity exemptions (optional article)
Most tax treaties include a list of exceptions to the definition of permanent establishment where a place of business is used solely for specifically listed activities such as warehousing or purchasing goods. Only genuine preparatory or auxiliary activities will be excluded from the definition of permanent establishment. In addition, related entities will be prevented from fragmenting their activities in order to qualify for this exclusion. Australia has adopted Article 13 but is preserving existing corresponding bilateral rules.
Article 14 – Splitting-up of contracts (optional article)
Most tax treaties include rules that deem building or construction projects that exceed a specified time period (e.g. 12 months) to constitute a permanent establishment. Related entities will be prevented from avoiding the application of the specified time period by splitting building or construction-related contracts into several parts. Australia has adopted Article 14 but is preserving existing bilateral rules that deem a permanent establishment to exist in relation to offshore natural resource activities.
Article 15 – Definition of a person closely related to an enterprise (optional article)
A 'person closely related to an enterprise' will be defined for the purpose of establishing whether or not a permanent establishment exists under articles 12, 13 and 14. Australia has adopted Article 15 without reservation.
Article 16 – Mutual agreement procedure (mandatory article)
New rules will ensure the consistent and proper implementation of tax treaties, including the resolution of disputes regarding their interpretation or application. This will provide taxpayers with a more effective tax treaty-based dispute resolution procedure. Australia has adopted Article 16 without reservation.
Article 17 – Corresponding adjustments (mandatory article)
Transfer pricing adjustments can result in double taxation when one country makes an adjustment to an entity's profits and the other country does not make a compensating adjustment to the profits of the relevant related entity. A country will be required to make a downward adjustment to the profits of a resident entity, as a result of an upward adjustment by the other country to the profits of an associated entity which is a resident of that other country (provided both countries agree that the upward adjustment is justified). Australia has adopted Article 17 but is preserving existing corresponding bilateral rules.
Articles 18-26 – Arbitration (optional article)
Taxpayers will be able to refer Mutual Agreement Procedure disputes that remain unresolved after two years to independent and binding arbitration. Australia has adopted independent and binding arbitration subject to the following conditions:
- Disputes which have been the subject of a decision by a court or administrative tribunal will not be eligible for arbitration, or will cause an existing arbitration process to terminate;
- Breaches of confidentiality by taxpayers or their advisors will terminate the arbitration process; and
- Disputes involving the application of either Part IVA of the Income Tax Assessment Act 1936 or section 67 of the Fringe Benefits Tax Assessment Act 1986 will be excluded from the scope of arbitration