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Foreign companies being treated as Australian tax residents - ATO ruling on Australian corporate tax residency

A company may be incorporated outside Australia but if its central management and control (“CMC”) takes place in Australia, it may be treated as subject to Australian corporate tax. 

Foreign directors who “rubber stamp” company decisions made in Australia risk triggering Australian corporate tax residency, in accordance with a recent Australian Taxation Office (ATO) Ruling regarding the CMC test.  It is critical that overseas directors are informed and actively involved in high-level decision making and governance matters in order to prevent the company inadvertently being deemed an Australian tax resident and subject to the Australian tax system.  That may give rise to significant and costly failures to comply with the Australian tax law.

Taxation Ruling TR 2018/5 (“Ruling”), released by the ATO in light of the judgment of the High Court of Australia in Bywater1reveals a stricter interpretation of the corporate tax residency rules than has been adopted by the Commissioner of Taxation in the past.  The Ruling is accompanied by draft Practical Compliance Guideline PCG 2018/D3, which is intended to assist taxpayers in complying with the new interpretations affecting corporate tax residency.

One of the tests for determining if a company incorporated outside Australia is treated as a resident of Australia for tax purposes is that the company carries on business in Australia and has its CMC in Australia.

The Ruling sets out the Commissioner’s new view on the above test.  If a company carries on business (whether or not in Australia) and has its CMC in Australia, it will be taken to carry on business in Australia.  It is not, in the Commissioner’s view, necessary for any part of the actual trading or investment operations to take place in Australia.  This is because the CMC of a business is considered factually part of carrying on that business. 

The Ruling overturns the Commissioner’s approach as expressed in now withdrawn TR 2004/15, in which the Commissioner rejected the view that the mere exercise of CMC would itself constitute the carrying on of the business.

Importantly, the Ruling states that identifying who exercises CMC is a question of fact that cannot be determined solely by identifying who has the legal power or authority to control and direct a company.  While ordinarily a company’s directors will exercise its CMC, the Commissioner states that there is no presumption that the directors will always exercise a company’s CMC.  Where a person who has legal power or authority to control and direct a company does not use it because they habitually follow or mechanically implement decisions made by non-directors, the CMC is unlikely to be exercised by the directors.

Careful consideration should therefore be given to the role and operation of foreign boards.  They should ensure that there is adequate and carefully drafted documentation that demonstrates that the foreign directors are the “real” high-level decision makers (for example, in terms of developing general policies and guiding the direction of operations and the types of transactions entered into).  This could be critical in the event of any ATO review or audit.

The Ruling and draft PCG suggest an expansion in the scope of the CMC test for tax residency and have the potential to treat a number of foreign incorporated companies as Australian tax residents. 

If you wish to discuss how these issues may impact on your business, please contact Brett Cowell or Daniel Marateo.

1     Bywater Investments Ltd v Commissioner of Taxation, Hua Wang Bank Berhad v Commissioner of Taxation [2016] HCA 45.

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