Guide to completing Schedule 25A
Guide to completing Schedule 25A
International transactions - Schedule 25A
This guide will help you decide whether you are required to lodge Schedule 25A and if so, will help you complete the necessary information.
Why use this guide?
Use this guide to:
- determine whether your international transactions or relationships require you to complete Schedule 25A
- identify which sections of Schedule 25A you need to complete
- identify what information is required for each label.
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Individuals are not required to complete Schedule 25A.
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When we refer to 'you' in this guide we are referring to the entity required to complete the tax return or Schedule 25A.
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Note:
This guide does not take into account the effect of:
- the repeal of the foreign investment fund provisions
- changes to the controlled foreign company provisions
- changes to transferor trust provisions
which take effect from 1 July 2010.
Determine if Schedule 25A is required
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A downloadable flowchart has been developed to help you determine if Schedule 25A is required (PDF, 132KB).
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Section A of Schedule 25A refers to related-party international dealings.
Answer these three questions:
- a) Is the resident company/entity trading in a foreign country through a permanent establishment or branch?
b) Is the non-resident company/entity trading in Australia through a permanent establishment or branch?
- Does a relationship exist with a non-resident entity that participates directly or indirectly in your management, control or capital?
- Does a relationship exist with a non-resident entity where you directly or indirectly participate in the management, control or capital of that non-resident entity?
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If you have answered No to question 1, 2 and 3 then you are not required to complete section A of Schedule 25A, however you may still be required to answer section B.
If you have answered Yes to any question regarding international related parties then you are required to answer further questions in Schedule 25A.
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If you have engaged in transactions with international related parties then you may need to complete section A of Schedule 25A.
Section A of Schedule 25A considers four categories of transactions and dealings - tangible property, intangible property, services and other transactions.
A transaction is considered to have occurred if you have supplied or acquired any of the items listed above.
There need not be any consideration passing between the parties for a transaction to qualify for the schedule. If a supply or acquisition has occurred it should be treated as such.
Determine here the aggregate amount of transactions or dealings with international related parties.
This includes the total value of all dealings, whether on revenue or capital account, and includes the balance of any loans or borrowings outstanding with international related parties.
If the aggregate amount of the dealings or transactions is greater than $1 million you are required to complete section A.
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If you answered Yes on a partnership, trust, company or fund tax return to a question indicating that the aggregate amount of your transactions or dealings with international related parties was greater than $1 million, complete section A of Schedule 25A and lodge it with the appropriate tax return.
If you answered No to having dealings with international related parties greater then $1 million you are not required to complete section A of Schedule 25A. However if you have an overseas branch or a direct or indirect interest in a foreign trust, foreign company, controlled foreign entity, transferor trust, foreign investment fund or foreign life policy, then you are still required to complete section B of Schedule 25A.
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Section B of Schedule 25A refers to foreign investment entities and income
If you have an overseas branch or a direct or indirect interest in a foreign trust, foreign company, controlled foreign entity, transferor trust, foreign investment fund or foreign life policy then you are required to complete section B of Schedule 25A. There is no minimum monetary threshold.
Not all questions on section B are compulsory.
These prima facie rules must be balanced with the fact that you have correctly answered the appropriate questions on your tax return. If you are required to complete Schedule 25A based on the questions in this guide you should indicate this on your return and complete the attribution income labels where appropriate.
Complete section A
If you answered Yes on a partnership, trust, company or fund tax return to a question indicating that the aggregate amount of your transactions or dealings with international related parties was greater than $1 million, complete section A of Schedule 25A and lodge it with the appropriate tax return.
The aggregate amount of the dealings is the total amount of all dealings, whether on revenue or capital account, and includes the balance of any loans or borrowings outstanding with international related parties.
You should attempt to answer all items. There may be items that don't apply to your particular circumstances. If an item or part of an item does not apply, leave it blank.
Item 1 - business activity and locations
Record at this item your three main business activities with international related parties by total dollar value (excluding loans).
For each of the three main business activities you must:
- use the relevant business industry code that best describes the business activity in connection to the related party international dealings
- record the total dollar value against the industry code
- record up to three main foreign location codes against the industry code and total value relating to that industry code.
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Refer to:
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You are not expected to conduct a detailed financial analysis to answer this question - a reasonable estimate is sufficient though more detail is required for the following questions. If you had fewer than three business activities or any of those dealings in fewer than three locations, list only those that apply.
In the first column at A, F and K list the appropriate industry codes that describe the three main business activities giving rise to, or underlying, the dealings carried out with international related parties. List these codes in descending order of total dollar value.
In the second column at B, G and L provide the value of the activities with international related parties for each of the industry codes. The value of the activities is the total dollar value for all locations grouped against each industry code (excluding loans).
List the foreign location code in descending order of dollar value. This should be recorded at labels C, D, E, H, I, J, M, N and O.
Further instructions and examples:
Item 2 - business purchases and sales
This item requires you to record and group the purchases and sales or expenditure and revenue of related-party international dealings.
There are two columns on the schedule that represent inflows and outflows:
Column A - purchases/expenditure (outflows)
Column B - sales/revenue (inflows)
The item requires you to categorise the outflows and inflows into the following classifications.
Item 2a - tangible property
Labels A and B - stock in trade and raw materials
Labels C and D - all other tangible property
Item 2b - royalties, rent and intangible property
Labels E and F - royalties
Labels G and H - rent other than royalties
Labels I and J - all other intangible property
Item 2c - services
Labels K and L - management, financial, administrative, marketing, training
Labels M and N - technical, construction
Labels O and P - research and development
Labels Q and R - other
Item 2d - other
Labels A and B - interest, discounts
Labels C and D - insurance
Labels E and F - all other payments, expenses, sales and revenue not included elsewhere.
Item 2e - loans - interest bearing
This part of item 2 is concerned with identifying the gross amounts of loans and advances between international related parties for which an interest component is being charged.
The terms 'loans' and 'advances' are intended to be applied broadly in accordance with commercial and accounting practices (a rigorous application of the debt-equity test is not necessary).
Where you have borrowed amounts or received advances from international related parties, add all the opening balances of these borrowed amounts and advances and write the sum at G. Add all the closing balances for these borrowed amounts and advances and enter this amount at H.
Where you have lent or advanced amounts to international related parties, add the opening balances of these lent or advanced amounts and enter the total at I. Add the closing balances of the lent or advanced amounts and enter the total at J.
Example of item 2e
Item 2f - loans - interest free
This part of item 2 is concerned with identifying the gross amounts of loans and advances between international related parties for which no interest component is being charged.
The terms 'loans' and 'advances' are intended to be applied broadly, and to include quasi-equity loans in which no amount of interest was paid or accrued during the year. The terms are not intended to include trade debtors and creditors that fall within ordinary commercial dealings.
However, where trade debtors or creditors that are international related parties are allowed or given terms significantly more generous than those allowed to, or given by, comparable arm's length parties, those trade debts or credits may constitute interest-free loans or advances. In completing this item, consider the terms of trade that are arm's length in your own particular circumstances.
Where you have borrowed amounts or received advances from international related parties, add all the opening balances of these borrowed amounts and advances and write the sum at K. Add all the closing balances for these borrowed amounts and advances and enter this amount at L.
Where you have lent or advanced amounts to international related parties, add the opening balances of these lent or advanced amounts and enter that total at M. Add the closing balances of the lent or advanced amounts and enter the total at N.
Item 3 - transactions - no consideration
The item seeks to clarify whether any dealings with international parties involved non-monetary consideration or no consideration.
Non-monetary consideration
Has any non-monetary consideration been received or given in any dealings with international related parties? Examples could be services, transferring property or any other similar dealings. It may also be a barter, swap, bonus or discount.
At 3a enter Y or N at label B.
Example of item 3a
No consideration
Has there been any provision of services, transfer of assets or any similar dealings with any related international related parties for which you received or paid no consideration?
At 3b enter Y or N at label C.
Example of item 3b
Item 4 - transfer pricing documentation
The Australian Taxation Office (ATO) advocates through various guides a four-step process that links the arm's length principle, questions of comparability and the transfer pricing methodologies.
There is a business risk of a transfer pricing review if you do not have proper processes to determine arm's length prices and cannot demonstrate to us the methods used to determine the prices. The arm's length principle involves comparing what a business has done and what a truly independent party would have done in the same or similar circumstances.
Item 4 requires estimates of the percentages of the total dollar value of the related-party international dealings (reported at 2a to 2d only) for which you have written documentation to support step 1 and step 2 for item 4a and step 3 for item 4b.
Note: documentation is only one factor in determining whether to commence an audit. We will also consider the quantum of the related-party transactions and the commerciality (for instance, the level of profitability). We might choose not to audit a business which has a low dollar value of related-party transactions that appear to be at arm's length prices, even though the business recorded code '1' for item 4a and 4b, because the business did not maintain contemporaneous documentation.
Transfer pricing - the four-step process
The selection of the most appropriate arm's length pricing methods for your related-party international dealings is described in step 2 of Taxation Ruling TR 98/11 - Income tax: documentation and practical issues associated with setting and reviewing transfer pricing in international dealings.
We recommend you maintain documented records that support your international dealings in determining that the arm's length principle has been applied.
The type of documentation required in international dealings is discussed below and described in step 1 of Taxation Ruling TR 98/11- Income tax: documentation and practical issues associated with setting and reviewing transfer pricing in international dealings.
Documentation should take the form of a file maintained with details such as:
- a description of the business and the business model
- how transactions with international related parties fit in with your business model
- how your international dealings are affected by industry, economic conditions or other influences
- whether you are undertaking any business strategy that influences your decision making, such as a market penetration strategy. This detail is commonly found in a functional analysis report.
The file should also contain specific documentation to support the transfer pricing methodology selected and indicate that it reflects an arm's length approach. Specific documentation could include price lists, budgets, studies, plans and projections, correspondence, working papers and agreements with related parties that reflect how you set and recorded prices.
At 4a enter the approximate percentage of your dealings (reported in item 2a to 2d) with international related parties for which you hold written pricing documentation. Enter the relevant code from the table below at F.
The application of the most appropriate arm's length pricing methods to those dealings is described in step 3 of Taxation Ruling TR 98/11.
Added to the documentation file should be records on what action has been taken to confirm and test that the price you have set and recorded reflects an arm's length outcome, for example, doing a benchmark study.
Further examples could include:
- general comparison of your company's profit result with ATO or Australian Bureau of Statistics data for the type of business you carry on (although by itself, that data is generally not sufficient to ascertain an arm's length price)
- using an outside advisor to review profit level indicators and confirm that they reflect acceptable arm's length methods.
At 4b enter the approximate percentage of your dealings (reported in item 2a to 2d) with international related parties for which you have supported the arm's length outcome with pricing tests, industry comparisons and other benchmark studies. Enter the relevant code from the table below at G.
Note: total dollar value of related-party dealings should not be netted off.
Percentage
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Code
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0%
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1
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1% to less than 25%
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2
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25% to less than 50%
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3
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50% to less than 75%
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4
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75% to less than 100%
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5
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100%
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6
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For further information on this topic refer to:
Schedule 25A instructions 2010
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NAT 2639-6.2010
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International transfer pricing: applying the arm's length principle
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NAT 2726-04.2005
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International transfer pricing: introduction to concepts and risk assessment
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NAT 2725-04.2005
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International transfer pricing: a simplified approach to documentation and risk assessment for small to medium businesses
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NAT 12032-03.2005
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Item 5 - arm's length pricing methods - revenue
From your total dealings identified in items 2a to 2d, list the four principal methods that you used in establishing or reviewing the appropriate arm's length pricing or consideration with international related parties that are revenue in nature.
List only those methods used in column A at labels H, J, L, and N in descending order of total dollar value. If you did not use any of these methods leave item 5 blank.
For a brief summary select the relevant method.
These methods are explained in detail in Taxation Ruling TR 97/20 - Income tax: arm's length transfer pricing methodologies for international dealings, and Taxation Ruling TR 1999/1 - Income tax: international transfer pricing for intra-group services. It is recommended that you read these rulings before completing item 5.
In column B select what percentage represents the total dollar value of your dealings (items 2a to 2d) to which you applied that method. Use the table below to reflect the correct percentage code. Use the labels I, K, M, O for your answer.
Note: total dollar value of related-party dealings should not have income and expenses netted off.
Percentage
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Code
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0%
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1
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1% to less than 25%
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2
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25% to less than 50%
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3
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50% to less than 75%
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4
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75% to less than 100%
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5
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100%
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6
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Item 6 - arm's length pricing - non revenue
This item is concerned with any non-revenue dealings that have occurred between you and an international related party. These dealings are those that you would have included at items 2a to 2d, but not those which concern trading stock in the ordinary course of business.
Item 6a
During the income year, did you have any related-party international dealings of a non-revenue (capital) nature referred to in items 2a to 2d in which:
- you acquired an interest in an asset or
- a capital gains tax event occurred (including disposal).
The words acquired, capital gains tax event, CGT event, disposal and asset are used in this item within the context of Part 3-1 of the Income Tax Assessment Act 1997 (ITAA 1997). This item does not refer to trading stock held in the ordinary course of business.
This item requires either Y for yes or N for no. If you print N for no at item 6a, disregard items 6b and 6c and go to item 7.
Item 6b
Where you have acquired capital assets from, or have disposed of capital assets to international related parties, use the correct pricing method code to indicate the four principal methods you used for pricing those acquisitions or disposals.
Record the methods you used by placing the appropriate codes at label Q in descending order of total dollar value, starting at the left hand side.
Item 6c
This item requires you to identify the percentage of your related-party international dealings that are capital in nature.
Use the codes in the table below to show the total international related-party acquisitions and disposals of capital assets as a percentage of the total value of related-party international dealings of both a revenue and non-revenue (or capital) nature. Print the code at R.
Total of related-party acquisitions and disposals as a percentage of the total of related-party dealings - items 2a to 2d only
Percentage
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Code
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0%
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1
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1% to less than 25%
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2
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25% to less than 50%
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3
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50% to less than 75%
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4
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75% to less than 100%
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5
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100%
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6
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You can estimate the percentage provided the estimate is objectively and rationally determined using, for example, a sampling technique based on accepted statistical methods. Keep your working papers that relate to item 6c.
Item 7 - non-resident management
In this item you are asked to advise whether any non-resident has participated in your capital, management or control in this year.
Print Y for yes or N for no at S.
Item 8 - international related parties
In this item you are asked to show the number of international related parties with which you had any dealings during the year.
Write the number at label T.
Complete section B
You must complete section B if you have an overseas branch or a direct or indirect interest in a foreign trust, foreign company, controlled foreign entity, transferor trust, foreign investment fund or foreign life policy.
The requirement to complete section B should correspond with the need to answer yes to any of the following:
- item 24 of the Company tax return 2010
- S or T at item 22 of the Partnership tax return 2010
- S or T at item 22 of the Trust tax return 2010
- C at item 17 of the Fund income tax return 2010.
If section B is required, item 11 and items 13 to 18 (which are all yes and no questions) must all be answered. Leave other items blank if they do not apply.
For the purposes of section B:
Item 9 asks for details on the number of controlled foreign companies (CFCs) and controlled foreign trusts (CFTs) in which you had either a direct or indirect interest at the start and end of the accounting period.
You need to determine whether the CFCs and CFTs are residents of listed countries, section 404 countries or unlisted countries.
At labels A, B, and C record the total number of CFCs and CFTs at the start of the entity's accounting period under each category of:
- listed countries
- section 404 countries
- unlisted countries.
At labels D, E, and F record the total number of CFCs and CFTs at the end of the entity's accounting period and list under each category of:
- listed countries
- section 404 countries
- unlisted countries.
Example of item 9
This item deals with attributable income that is assessable under sections 456, 457 or 459A of the Income Tax Assessment Act 1936 (ITAA 1936) for controlled foreign companies (CFCs) and controlled foreign trusts (CFTs).
There is special relief from double taxation under section 456A of the ITAA 1936 to ensure there is no attribution under section 456 where the CFC or CFT is a resident of a listed country in which foreign tax is payable under an accruals taxation law of that country.
This question draws on the statistical attribution income labels required to be completed in the ITR around attributed foreign income and net foreign income.
Subsection 456(1) of the ITAA 1936
Where a CFC or CFT has attributable income for a statutory accounting period for an attributable taxpayer, the taxpayer's attribution percentage of the attributable income is included in their assessable income of the income year in which the end of the statutory accounting period occurs.
Enter at G, H, I, attributable income that was included in your assessable income against the requested groups.
Enter the combined total at J.
Example of attributable income
Section 457 of the ITAA 1936
Where a CFC or CFT ceases to be resident in an unlisted country and becomes resident of a listed country or Australia, then the attributable taxpayer's assessable income of the income year in which the residence-change occurs is calculated using the formula:
attribution percent x adjusted distributable profits
Enter at K the amount calculated in accordance with the above formula.
Section 459A of the ITAA 1936
This is an integrity measure to ensure that the attribution of income under any of sections 456 to 459 will not be avoided through the use of interposed Australian trusts or Australian partnerships in conjunction with a CFC or CFT.
The amount is calculated using the formula:
Attribution percentage x interest/entitlement x section 456 to 459A amount
Where an amount is included in assessable income because an attributable taxpayer has an interest in a CFT, the amount attributed may have already been liable to Australian tax. There are special rules to prevent this double taxation. Refer to Division 9 of Part X of the ITAA 1936 for more information.
Enter at N the amounts of attributable income calculated under section 459A.
Non-assessable non-exempt income is not taken into account in working out your taxable income for an income year.
Neither is it taken into account in working out your tax loss for an income year or in working out how much of a prior year tax loss is deductible in an income year.
Some expenses relating to the derivation of some non-assessable non-exempt income are deductible.
Report foreign non-assessable non-exempt income under sections 23AH, 23AI, 23AJ, and 23AK of the ITAA 1936 at Item 11. If there is no non-assessable non-exempt income for some sections, leave those labels blank.
Section 23AH of the ITAA 1936
If you, as an Australian resident company, have a permanent establishment in a listed or unlisted country, section 23AH may treat that active foreign branch income earned through the permanent establishment as non-assessable non-exempt.
An Australian resident company includes any foreign owned company incorporated in Australia.
In addition, under subsections 23AH(3) and (4) of the ITAA 1936, any foreign capital gains and losses are disregarded.
If you have a capital gain or loss from a capital gains tax event involving an asset:
- that was used wholly or mainly for the purpose of producing foreign income in carrying on a business at or through a permanent establishment in a listed country or an unlisted country, and
- that is not taxable Australian property,
then the gains and losses are disregarded.
There are some important exceptions to these prima facie rules:
- If the foreign permanent establishment is in an unlisted country:
- Any tainted income derived by the branch will not be non-assessable non-exempt under section 23AH of the ITAA 1936 unless the branch passes the active income test.
- Capital gains or losses from capital gains tax events happening to tainted assets will not be disregarded.
- If the foreign permanent establishment is in a listed country:
- any tainted income derived by the branch, which is also eligible designated concession income, will not be non-assessable non-exempt under section 23AH of the ITAA 1936 unless the branch passes the active income test
- capital gains from capital gains tax events happening to tainted assets will not be disregarded if the gain is eligible designated concession income
- capital losses from capital gains tax events happening to tainted assets will not be disregarded if the loss would have been eligible designated concession income if it were a gain.
Enter at O and P the amount of foreign non-assessable non-exempt income under section 23AH of the ITAA 1936 for listed countries and unlisted countries.
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For more information refer to Foreign income return form guide.
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Section 23AI of the ITAA 1936
If you, as an attributable taxpayer have been paid a dividend out of a controlled foreign company's (CFC) income or profits that have been previously subject to tax on attribution, then section 23AI of the ITAA 1936 may treat the dividend as non-assessable non-exempt income. Therefore double taxation is avoided.
For a dividend to be treated as non-assessable non-exempt under section 23AI of the ITAA 1936, several requirements must be satisfied:
- There needs to be an 'attribution account entity' and it must make an 'attribution account payment' - that is a company (that is not a Part X Australian resident), a partnership or a trust that makes a payment to the attributable taxpayer.
- An 'attribution debit' must arise for the attribution account entity making the payment - the amount of the debit cannot exceed the attribution surplus. Attribution accounts operate in a similar way to that of a franking account.
Corresponding exemptions are available for:
- distributions paid out of profits that have previously been attributed under the foreign investment fund rules(section 23AK of the ITAA 1936)
- trust income that has previously been subject to attribution under the transferor trust rules (subsection 99B(2) of the ITAA 1936).
Enter at Q, R, and S the amounts paid out of attributed CFC income from listed countries, section 404 countries, and unlisted countries.
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For more information refer to Foreign income return form guide.
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Section 23AJ of the ITAA 1936
If you:
- are an Australian resident company (including any foreign owned company incorporated in Australia)
- have been paid a non-portfolio dividend.
then you may be entitled to receive tax concessions under section 23AJ of the ITAA 1936.
Certain non-portfolio dividends from foreign countries are not assessable. A non-portfolio dividend paid to a resident company by a non-resident company is non-assessable non-exempt income under section 23AJ of the ITAA 1936. It does not matter which foreign country the company paying the dividend is resident in.
A non-portfolio dividend is defined in section 317 of the ITAA 1936 as a dividend which is paid to a company that has a voting interest amounting to at least 10% of the voting power of the company paying the dividend.
Only a company can qualify for the section 23AJ exemption. The exemption does not apply if the resident receives the dividend in the capacity of a trustee or partner. The exemption is not available to individuals.
Section 23AJ of the ITAA 1936 does not apply to a dividend to the extent that the dividend is non-assessable non-exempt income under section 23AI or section 23AK. Dividends exempt under section 23AJ are not treated as attributable income and are also excluded from the active income test.
Enter at T, U and V the amounts of non-portfolio foreign dividends you have received from listed countries, section 404 countries and unlisted countries.
Section 23AK of the ITAA 1936
If you, as an attributable taxpayer have been paid a dividend out of a foreign investment fund's income or profits that have been previously subject to tax on attribution, then section 23AK of the ITAA 1936 may treat the dividend as non-assessable non-exempt income.
To ensure that the income is not subject to double tax, once under the foreign investment fund rules and again when a distribution is made from that income, section 23AK of the ITAA 1936 provides that a distribution received from a foreign investment fund will be non-assessable and non-exempt in your hands to the extent that it has been paid from previously attributed income.
For a dividend to be treated as non-assessable non-exempt under section 23AK of the ITAA 1936, several requirements must be satisfied:
- a 'foreign investment fund attribution account payment' must be made to the attributable taxpayer,
- the payment must be made by a 'foreign investment fund attribution account entity' - a company (that is not a Part X Australian resident), a partnership, a trust or a foreign life policy,
- an 'attribution debit' must arise for the foreign investment fund attribution account entity making the payment - the amount of the debit cannot exceed the attribution surplus. Attribution accounts operate in a similar way to that of the franking account.
Corresponding exemptions are available for:
- dividends paid out of profits that have previously been attributed under the controlled foreign company rules (section 23AI of the ITAA 1936)
- trust income that has previously been subject to attribution under the transferor trust rules (subsection 99B(2) of the ITAA 1936).
Enter at W the amounts paid out of attributed foreign investment fund income.
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For more information refer to Foreign investment funds guide for details.
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Item 12 deals with any capital gains or loss made by you, an Australian resident company, where certain capital gains tax events happen to interests held in a foreign company.
Under Subdivision 768-G of the ITAA 1997, the extent of the reduction is determined by calculating the percentage of the foreign company's assets that were used in the underlying active business. The Subdivision applies to disposals occurring on or after 1 April 2004.
You need to have held a direct voting percentage of 10% or more in the foreign company for a continuous period of at least 12 months in the two years before the capital gains tax event.
If a capital gain was reduced in accordance with Subdivision 768-G write the amount of the reduction at item 12a in box L.
If a capital loss is reduced in accordance with Subdivision 768-G write the amount of the capital loss that may be used or carried forward at item 12b in box G.
Item 13 asks whether you have made any transfers of accumulated profits, accumulated losses, paid-up capital or other assets or reserves from any controlled foreign company or controlled foreign trust in an unlisted country to a related entity in a listed country during the year of income.
Transfer includes sale, acquisition, gift, deed of assignment, declaration of trust or otherwise, with or without consideration - monetary or non-monetary.
Examples of the type of transfers to include are:
- disposal of an asset to a related entity in a listed country, other than trading stock disposed of in the normal course of business
- waiving a debt owed by a related entity in a listed country
- making a loan to a related entity in a listed country
- acquiring a share, a right to acquire a share, or an option to acquire a share in a related entity in a listed country
- making a payment for a call on a share in a related entity in a listed country.
Print either Y for yes or N for no at each of S, T, U, and V.
Item 14 asks whether a transfer of property or services has ever been made or caused to be made to a non-resident trust estate. The item is not restricted to the income year of this tax return.
'Transfer', 'property' and 'services' are defined in section 102AAB of the ITAA 1936. Sections 102AAJ and 102AAK of the ITAA 1936 provide guidance in relation to whether there was a transfer or a deemed transfer of property or services to a non-resident trust estate.
Transfer includes the disposal or provision of property and allowing, conferring, giving, granting, performing or providing services.
Services include any benefit, right, privilege or facility as well as a right or interest in relation to real or personal property.
You must print either Y for yes or N for no at W.
Example for item 14.
Item 15 asks whether you were a beneficiary of a non-resident trust estate at any time during the year of income. You must print either Y for yes or N for no at X.
Item 16 asks whether you had an interest in a non-resident trust estate, or were entitled to acquire an interest in a non-resident trust estate, at any time during the income year. You must print either Y for yes or N for no at Y.
Item 17 asks whether any of the non-resident trust estates for which a yes answer was given at items 14, 15 or 16 is a discretionary trust estate. If you answered yes at W, X or Y, print either Y for yes or N for no at Z. If you answered no at all of W, X and Y, leave Z blank.
Item 18 asks whether you were able to control a non-resident trust estate at any time during the income year.
Print either Y for yes or N for no at A.
This item refers to you having interests in a foreign investment fund or foreign life policy.
If you do, what is the current value of your interests that are exempt under specified sections of Part XI of the ITAA 1936?
The value used should be the most current available at the end of the notional accounting period or else use cost.
If interests exist, the current value at the end of the accounting period needs to be reported from C to U. Show only the principal 10 in descending order of total dollar value. If there were more than 10 exemptions, show the largest 10 based on dollar values. If there were fewer than 10 exemptions, leave the remaining answer blocks blank.
Use the table below to select the interests that qualify for exemptions.
Example of item 19
Exempt under sections of ITAA 1936
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Section
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Interests
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Code
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497
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Interests in a foreign company principally engaged in eligible company activities
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01
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503
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Interests in a foreign bank
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02
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504
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Interests in a foreign holding company of a foreign bank
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03
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506
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Interests in a foreign life insurance company
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04
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507A
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Interests in a foreign holding company of a foreign life insurance company
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05
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509
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Interests in a foreign general insurance company
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06
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509A
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Interests in a foreign holding company of a foreign general insurance company
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07
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511
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Interests in a foreign company engaged in certain activities connected with real property
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08
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511A
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Interests in a foreign holding company of a foreign real property company
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09
|
513
|
Interests in certain USA entities
|
10
|
515
|
Interests of less than $50,000
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11
|
519B
|
Exemption for complying superannuation entities, certain assets of life insurance companies and certain fixed trusts
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12
|
521
|
Interests that are trading stock
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13
|
523
|
Interests in a foreign company principally engaged in several of certain activities
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14
|
523A
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Interests in a foreign holding company of a foreign mixed activity company
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15
|
525
|
Interests not exceeding 10% of the value of all foreign investment fund interests
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16
|
527
|
Certain interests of underwriting members of Lloyd's
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17
|
Permanent establishment or branch
The primary meaning of 'permanent establishment' is a fixed place of business in Australia or overseas other than a storage or display facility.
The most obvious example would be a branch.
If you have a non-independent agent who contracts on your behalf, you may have a permanent establishment in Australia or overseas through which your business is wholly or partly carried on.
Permanent establishment has a statutory meaning under subsection 6(1) of the ITAA 1936 which includes:
- a place where the person is carrying on business through an agent
- a place where the person has, is using or is installing substantial equipment or substantial machinery
- a place where the person is engaged in a construction project
- if the person is engaged in selling goods manufactured, assembled, processed, packed or distributed by a related party, the place where these activities are undertaken.
A permanent establishment generally does not include:
- carrying on business dealings through a bona fide commission agent or broker who acts in the ordinary course of business and receives remuneration at the customary rate
- carrying on business through an agent who does not have, or does not habitually exercise, a general authority to negotiate and conclude contracts on behalf of the person
- carrying on business through an agent whose authority extends to filling orders from a stock of goods or merchandise situated in that country, but who does not regularly exercise that authority
- a place of business maintained by the person solely for the purpose of purchasing goods or merchandise.
Double tax agreements also have their own definition, which may share or extend the statutory meaning.
For the purposes of Schedule 25A, certain items (2a to 2d and 3a to 3b) should be answered on the notional basis that a permanent establishment is a separate but related entity. Any allocation of profits or income and expenditure between the permanent establishment and the taxpayer's other business sites or activities must follow the arm's length principle.
International related parties
International related parties are persons and permanent establishments who are participants in international dealings that can be subject to Division 13 Part III of the ITAA 1936 or the business profits article or associated enterprises article of a relevant double tax agreement. The term includes:
- any overseas entity or person who participates directly or indirectly in the management, control or capital of an Australian company
- any overseas entity in which an Australian company, directly or indirectly participates in the management, control or capital
- any overseas entity in which persons who participate directly or indirectly in its management, control or capital are the same persons who participate directly or indirectly in the management, control or capital of an Australian company
- any non-resident individual who participates directly or indirectly in the management, control or capital of an Australian company
- a permanent establishment and its head office, trusts, partnerships, branch offices and individuals
- two permanent establishments of the same person.
Central management and control
The concept of central management and control focuses on decisions made at the highest levels in the company. These are the decisions that guide and control the company's business activities.
In most cases central management and control is exercised by the board of directors at board meetings.
In such cases, the company's central management and control is normally in Australia if the majority of the board meetings are held in Australia.
However there are situations where the central management and control of a company is exercised by parties other than the board of directors. In such cases, central management and control is generally located where the high-level investment decisions are made.
Participates in capital
Participates in capital usually refers to an equity interest of 10% or greater.
Relationship
A relationship exists when there is participation by one party in the management, control or capital of another. Participation can include a right of participation, the exercise of which is contingent on an agreed event occurring. This definition also extends to the deemed control of management or capital by either party (not just active participation).
Transactions
Transactions or dealings may be the provision or receipt of services, or transactions in which money or property has been sent out of Australia, or received in Australia from an overseas source during the income year. The dealings may also include:
- transferring tangible or intangible property
- providing or receiving services, or providing or receiving loans or financial services.
Related-party international dealings means international transactions, agreements or arrangements between related parties, or between a permanent establishment and its head office, or between two permanent establishments of the same entity. The term includes all transactions between an Australian resident and international related parties.
If money or property is not actually sent out of Australia or received in Australia, but accounting entries are made that have a similar effect to money or property being transferred, this is also taken to be an international transaction.
Tangible property
For the purposes of Schedule 25A, tangible property includes real and personal property. It also includes all property involved in the process of manufacture, including:
- raw materials
- plant and equipment
- trading stock and the finished product
Other tangible property may include:
- acquisitions or disposals of ordinary shares or preference shares
- leasehold interests in land.
You should report the gross purchases or expenditure and gross sales or revenue from international related party dealings or transactions from this source.
Intangible property
For the purposes of Schedule 25A, intangible property covers a wide range of property including industrial and intellectual property, such as:
- literary, artistic and scientific works
- artistic performances and broadcasts
- inventions
- scientific discoveries
- industrial designs and trademarks
- commercial names and business goodwill.
An example of a transaction of this type would be a company in Australia acquiring the Australian rights to use a certain brand name from its overseas parent.
You should report the gross purchases or expenditure and gross sales or revenue from international related party dealings or transactions from this source.
Services
For the purposes of Schedule 25A, services involve gross amounts of purchases or expenditure and sales or revenue from international related party dealings or transactions relating to services.
Services cover any activity of a service oriented nature including:
- agency type services
- warehousing
- printing and editorial services
- public relations
- tolling services
- feasibility studies
- surveys
- training.
Other transactions
Other transactions in item 2d of Schedule 25A include dealings or transactions between international related parties not specifically included at other labels.
Report at labels A, B, C, D of item 2d the gross amounts of other transactions.
At labels E, F of item 2d, what you need to report can vary between net cash flows for interest rate swaps and gross amounts for other financial transactions.
This category includes financial type items which are not loans and which are not easily categorised, such as derivative instruments.
Other transactions in this category include:
- interest
- discounts
- insurance
- lease agreements
- re-purchase agreements
- securities lending arrangements and reimbursements.
Loans should be recorded at items 2e and 2f.
Aggregate amount
For the purposes of Schedule 25A, an aggregate amount involves gross amounts of purchases and sales from international related party dealings or transactions. You cannot offset sales less purchases.
The aggregate amount of the dealings is the total amount of all dealings, whether on revenue or capital account, and includes the balance of any loans or borrowings outstanding with international related parties.
It can be summarised by labels 2a to 2f on Schedule 25A.
The aggregate amount is used to determine the $1 million threshold for Part A.
Transfer pricing case study
Total dollar value
Total dollar value is similar to the meaning given to aggregate amount but does not include the value of any loan balances or borrowings.
It can be summarised by labels 2a to 2d on Schedule 25A.
Transfer pricing case study
Non-monetary consideration
A non-monetary consideration includes providing services, transferring tangible and intangible property or any similar dealings. The dealing may be a barter, swap, bonus or discount, or any type of similar agreement.
Monetary consideration will generally include:
- cash payments
- payment by cheque
- telegraphic and bank-to-bank transfer of funds
- inter-company loan account charges.
Non-monetary consideration therefore includes any consideration other than those involving the exchange of money or funds.
In particular, debt-for-equity swaps and non-monetary settlements of inter-company loan accounts are taken to be non-monetary consideration.
Example item 3a
Where there is no charge or adjustment allocating income or expenditure between the parties for provision of services, transfer of property, or other transactions listed on Schedule 25A by:
- the head office to the permanent establishment, or
- the permanent establishment to the head office or another related international party
this is regarded as being for nil consideration.
Example item 3b
Arm's length principle
The arm's length principle means using the transactional or profit results of independent parties as a guide or benchmark in allocating income or expenses in cross-border transactions with related parties.
It requires understanding what you have done in your business and whether or not your actions compare with what independent parties have done, or would have done, in the same or a similar situation.
The process requires judgment calls by:
- your business, in how you set prices and terms of trade with related parties and how you document this policy to support your position
- the ATO in reviewing the quality of your documentation file.
For more detail on arm's length principle refer to International transfer pricing: applying the arm's length principle (NAT 2726).
Transfer pricing
Transfer pricing occurs when property has been supplied or acquired under an international agreement.
However there are rules in place to make sure that the parties to the transaction were, or are, dealing with each other at arm's length in relation to the supply or acquisition.
In the absence of transfer pricing rules, taxpayers might seek to shift profits out of Australia to jurisdictions that have lower rates of tax. This could be achieved by pricing transactions between Australian residents and related parties overseas at prices that do not reflect the arm's length price for those transactions.
The arm's length principle is the statutory test for pricing related-party international dealings. The principle is incorporated into the associated enterprise article in each of Australia's double tax agreements.
Taxation rulings TR 97/20, TR 1999/1 and NAT 2726 International transfer pricing: applying the arm's length principle explain the operation and suitability of each of the methods mentioned below for particular circumstances.
It is not possible to identify all the circumstances under which the various methods will produce valid results, and a method's appropriateness for any given transaction must be determined from all the circumstances of the dealing. You should use the method that produces the highest practicable degree of comparability.
There are two main groups called traditional transaction methods and transaction profit methods.
Codes 1 to 3 represent the traditional transaction methods and provide the most reliable measure of an arm's length result. Codes 4 to 5 represent the profit methods and codes 6 to 12 are other methods..
Arm's length pricing codes and methodology
The hyperlinks below provide brief summaries of each method, although the list is not exhaustive. The methods may not be appropriate for determining an arm's length price under all circumstances. Other methods, which are not listed below, might also be appropriate.
Listed below are the arm's length pricing codes and methodologies.
Code 1 - Comparable uncontrolled pricing method
Code 2 - Resale price method
Code 3 - Cost-plus method
Code 4 - Profit split method
Code 5 - Transactional net margin method
Code 6 - Marginal costing
Code 7 - Cost-contribution arrangement
Code 8 - Apportionment of costs
Code 9 - Apportionment of income
Code 10 - Fixed percentage mark-up applied to costs
Code 11 - Fixed percentage of resale price
Code 12 - Other arm's length methods
Traditional transfer pricing methodologies
Code 1 - comparable uncontrolled price method
This method compares the price for property or services transferred in a controlled transaction - that is, with a related international party - to the price that is charged for comparable property or services under the same or similar circumstances in an uncontrolled transaction.
Where it is possible to locate comparable uncontrolled transactions, the comparable uncontrolled price method is the most direct and reliable way to apply the arm's length principle. If there is any difference between the prices or the terms of the controlled transaction and the uncontrolled transaction, this may indicate that the dealings of the associated enterprises are not arm's length.
Note that intangible and intellectual property transactions present particular problems with regard to comparability, especially where such property is unique or specialised.
If you use this method but the comparable uncontrolled price is adjusted to allow for particular circumstances of the controlled dealing, you should still record the adjusted price under this code.
Code 2 - resale price method
This method may be appropriate where an enterprise sells a product to a related party who then resells that product to an independent third party.
The resale price is reduced by the arm's length resale price margin and may then be regarded - after adjustments for other costs associated with the original purchase of the product - as an arm's length price of the original transfer of property between the related parties.
Further analysis can be undertaken by reviewing the resale price margin of the reseller in the controlled transaction. This is done by referencing the resale price margin that the same reseller earns on items purchased and sold in comparable uncontrolled transactions. The resale price margin earned by an independent enterprise in comparable uncontrolled transactions may also provide guidance.
Margins are usually measured at gross profit level, however a comparison undertaken at an intermediate level may be more accurate. A comparison at the net profit level falls under a different methodology - the transactional net margin method.
The resale price margin will vary depending on the value added by the reseller. Variables such as functions performed, economic circumstances, assets employed, and risks undertaken should reflect higher margins.
Code 3 - cost-plus method
The cost-plus method begins with the costs incurred by the supplier of property or services in a controlled transaction for property transferred or services provided to a related purchaser. An appropriate arm's length cost-plus mark-up is then added to this cost to make an appropriate profit in light of the functions performed and the market conditions. What is arrived at after adding the arm's length cost-plus mark-up to the above costs may be regarded as an arm's length price of the original controlled transaction.
This method is probably most useful if:
- semi-finished goods that are subject to additional manufacturing or assembly are sold between related parties
- related parties have concluded joint facility agreements or long-term buy-and-supply arrangements
- the controlled transaction is the provision of services.
This method is not suited for high value intangibles.
Further analysis can be undertaken by reviewing the cost plus mark-up of the supplier in the controlled transaction. This is done by referencing the cost plus mark-up that the same supplier earns in comparable uncontrolled transactions. The cost plus mark-up that would have been earned in comparable transactions by an independent enterprise may serve as guidance.
If a fixed percentage mark-up is applied to the relevant cost base without any benchmarking of that percentage against comparable independent dealings, it is not regarded as cost-plus method.
When traditional transaction methods cannot be applied then transactional profit methods may be used. These are methods that examine the profits that arise from particular transactions among associated enterprises. Codes 4 and 5 are transactional profit methods that satisfy the arm's length principle.
Code 4 - profit split method
This method determines the appropriate pricing for transactions by:
- identifying the combined profit or loss from the dealings between the related parties
- splitting that combined profit or loss between the related parties.
The split of profit or loss between the parties must be made on an economically valid basis that approximates the division of profits in an agreement made at arm's length.
Code 5 - transactional net margin method
This pricing method is based on comparisons made at the net profit level between the taxpayer and independent parties in relation to a comparable transaction or dealing.
It examines the net profit margin relative to an appropriate base (eg costs, sales or assets) that a taxpayer realises from a controlled transaction.
Comparisons at the net profit level can be made on a single transaction or in relation to some aggregation of dealings between associated enterprises.
Other transfer pricing methodologies
Code 6 - marginal costing method
Marginal costing applies only the variable production costs to the costs of a product. This method is often used by companies and multinational enterprise groups for internal cost accounting and management control purposes. Its use in setting transfer prices on international dealings between associated enterprises for tax purposes is acceptable only if pricing on the basis of marginal costs represents an arm's length outcome for the transfer of goods or services into the particular market.
Code 7 - cost-contribution arrangement
A cost-contribution arrangement is one where members of a multinational group act in concert for the benefit of each of the participants to:
- produce or provide goods, intangible property or services
- acquire these jointly from a third party
- agree to share the actual costs and risks undertaken.
Each participant bears a fair share of the costs and is entitled to receive a fair share of rewards. The concept is akin to a joint venture or partnership.
To be consistent with the arm's length principle, the contributors must be satisfied that they can obtain an acceptable rate of return within a timeframe that takes into account their financial and business circumstances.
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For more information refer to Taxation Ruling TR 2004/1 - Income tax: international transfer pricing - cost contribution arrangements.
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Code 8 - apportionment of costs
This pricing method apportions the costs associated with a controlled transaction among the associated enterprises. An answer must be found to all transfer pricing problems. However, cases may arise where neither comparable dealings nor data are available to apply to traditional, or profit-based, methods. In these instances, application of an indirect method such as apportionment of costs on the basis of a formula may be applicable.
Code 9 - apportionment of income
This pricing method apportions the income associated with a controlled transaction among the associated enterprises.
As with code 8, this method may be appropriate where there are neither comparable dealings nor data to apply the traditional, or profit-based, methods to the pricing problem.
Code 10 - fixed percentage mark-up applied to costs
This method determines the transfer price for a controlled transaction by applying a fixed percentage mark-up to a relevant cost base where the mark-up is not benchmarked against comparable independent dealings. The absence of benchmarking distinguishes this method from the cost-plus method discussed at code 3.
Code 11 - fixed percentage of resale price
This pricing method determines the transfer price for a controlled transaction as a fixed percentage of the resale price, where the fixed percentage chosen is not benchmarked against the gross margins earned in comparable independent dealings.
The absence of benchmarking distinguishes this method from the resale price method, code 2.
Code 12 - other arm's length methods
Use code 12 if your arm's length method is not represented by codes 1 to 11.
Documentation
Contemporaneous documentation
Documentation is contemporaneous if:
- it is existing or brought into existence either:
- at the time you are developing or implementing any arrangement that might raise transfer pricing issues; or
- when you are reviewing the arrangement before or at the time of preparing the tax returns; and
- it records information relevant to transfer pricing decisions.
The documentation may be in the form of books, records, studies, budgets, plans and projections, analyses, conclusions and other electronic or written materials that record the information.
The initial analysis of your international dealings against the arm's length principle will have been carried out and documented at the time of engaging in the dealings. The review of those international dealings before tax returns are prepared is regarded as prudent business practice.
Where you have not used arm's length consideration in the ordinary course of your related-party international dealings, review prices before preparing the tax return and make any adjustments for taxation purposes. Keep all your documentation in relation to this.
Adequacy of documentation
We do not expect taxpayers to prepare or obtain documents beyond the minimum needed to make a reasonable assessment of whether they have complied with the arm's length principle in setting prices or consideration.
However documentation that is created in the ordinary course of the taxpayer's business and used to establish the prices for international related party dealings - for example, invoices and orders - will not generally be regarded as documentation in relation to the arm's length nature of the dealings. This is because the documents do not produce any evidence or provide any basis for comparison for determining whether prices are established at arm's length.
It is not possible to provide a general checklist of documentation that would be adequate or desirable. We realise that it is necessary to strike an acceptable balance between the need to keep compliance costs to a minimum and our legitimate concern for ensuring the proper amount of Australian tax is paid.
The amount and type of documentation that should be created or obtained over and above that created in the ordinary course of business will depend on the facts and circumstances of each case. The issue is a practical one having regard to what a prudent business person would do in the same circumstances, and taxpayers need to exercise commercial judgment in assessing their own compliance with the arm's length principle.
Pricing methods for capital assets
The pricing methods below may not necessarily provide an arm's length price under all circumstances. The examples below are not exhaustive and the appropriate choice of method must be made on the particular circumstances of the dealings.
Code
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Pricing method
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1
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Nil consideration.
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2
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Cost price refers to the price the seller originally paid for the asset, including ancillary costs such as freight or handling.
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3
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Written-down value refers to a pricing method based on either the taxation 'adjustable value' or accounting residual value.
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4
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Discounted cash flow is a pricing method where the price of an asset is based on the discounted cash flow at the time of acquisition or disposal.
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5
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Director's valuation refers to a pricing method that is based on the directors' opinion of an asset's value, and not on any of the methods listed in codes 1 to 8.
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6
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Independent valuation is a pricing method by which a suitably qualified person, acting at arm's length to both the buyer and seller, assesses the value of an asset.
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7
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Quoted market price refers to a price quoted on a public listed market such as a public stock exchange or commodities market.
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8
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'Other methods' means any other pricing method that is not mentioned in item 6.
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Listed and unlisted countries
Listed countries
Under Part 1 of Schedule 10 of the Income Tax Regulations 1936, listed countries are those that are considered to have tax systems closely comparable to Australia's. They include Canada, France, Germany, Japan, New Zealand, United Kingdom of Great Britain and Northern Ireland and the United States of America.
Unlisted countries
All other countries are unlisted countries.
Section 404 countries
Under Part 2 of Schedule 10 of the Income Tax Regulations 1936, there were a wide range of countries which were classified as limited-exemption listed countries. These are generally included in the category of unlisted countries but are treated as listed countries in one situation. Where the eligible controlled foreign company is a resident of a listed or section 404 country at the end of the eligible period, a dividend paid to it in the eligible period by a company that is also a resident of a listed country or section 404 country is notional exempt income.
These are unlisted countries that are treated as listed countries for the limited purposes of Part X of the ITAA 1936.
Argentina
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Iceland
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Netherlands
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Spain
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Austria
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India
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New Caledonia
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Sri Lanka
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Bangladesh
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Indonesia
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Norway
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Sweden
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Belgium
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Iran
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Pakistan
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Switzerland
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Brazil
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Ireland
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Papua New Guinea
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Taiwan
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Brunei
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Israel
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Philippines
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Thailand
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Bulgaria
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Italy
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Poland
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Tokelau
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China(except the Hong Kong Special Administrative Region)
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Kenya
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Portugal
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Tonga
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Czech Republic
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Kiribati
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Romania
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Turkey
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Denmark
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Korea, Republic of
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Russian Federation
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Tuvalu
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Fiji
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Luxembourg
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Saudi Arabia
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Vietnam
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Finland
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Malaysia
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Singapore
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Western Samoa
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French Polynesia
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Malta
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Slovak Republic
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Zimbabwe
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Greece
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Mexico
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Solomon Islands
|
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Hungary
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Myanmar
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South Africa
|
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Controlled foreign company
A controlled foreign company is a non-resident company controlled by an Australian entity. Under section 340 of the ITAA 1936 a foreign company is controlled by an Australian entity if one of the three control tests is satisfied:
- strict control test
- assumed controller test
- de facto control test.
Strict control test
A foreign company will be treated as a controlled foreign company under the strict control test if a group of five or fewer Australian '1% entities', together with their associates, owns or is entitled to acquire a control interest of at least 50% in the foreign company.
An Australian 1% entity is an Australian entity that, together with its associates, holds an interest of at least 1% in the foreign company.
An Australian entity is an Australian partnership, an Australian trust, or an entity - other than a partnership or trust - that is a Part X Australian resident. A Part X Australian resident is a resident of Australia who is not treated solely as a resident of another country under a double taxation agreement between Australia and that country.
The associate-inclusive control interest of an entity is the sum of interests held by the entity and its associates in the foreign company. Interests that the entity and its associates are entitled to acquire are also taken into account.
Example of strict control test
Assumed controller test
A foreign company is normally treated as a controlled foreign company under the assumed controller test if a single Australian entity owns, or is entitled to acquire, an associate-inclusive control interest of at least 40%. An entity's associate-inclusive control interest in a foreign company is the sum of the interests held in the company by the entity and the associates of the entity. However, a foreign company is not treated as a controlled foreign company under the assumed controller test if the company is controlled by a party or parties unrelated to the single resident or its associates.
Example of assumed control test
De facto control test
A foreign company will be treated as a controlled foreign company under the de facto control test if a group of five or fewer Australian entities, either alone or with associates, effectively controls the foreign company.
Example of de facto control test
If an Australian entity can control the appointment of directors to a foreign company, the Australian entity will generally be taken to have de facto control of that company.
When is control measured?
The statutory accounting period of a controlled foreign company is a period of 12 months ending 30 June, unless the company elects to use another period. The control test is applied at the end of a company's statutory accounting period to check whether income of that company is to be attributed.
It may also be necessary to measure control when a controlled foreign company pays a dividend to another controlled foreign company or to a controlled foreign trust, or when a controlled foreign company changes residence.
Controlled foreign entity
A controlled foreign entity includes a:
- controlled foreign company (CFC)
- controlled foreign partnership (CFP)
- controlled foreign trust (CFT).
Controlled foreign partnership
A partnership is a controlled foreign partnership at a particular time if:
- the partnership is not an Australian partnership at that time, and
- at least one of the partners is a controlled foreign entity at that time.
Controlled foreign trust
A controlled foreign trust is one that, at a particular time, is not an Australian trust and where:
- there is an eligible transferor in respect of the trust; or
- there is a group of five or fewer Australian 1% entities, the aggregate of whose associate-inclusive control interests in the trust is not less than 50%.
Eligible transferor
Generally, an eligible transferor is an Australian entity or a controlled foreign entity that has transferred property or services in certain specified circumstances to a non-resident trust.
Example of an eligible transferor
Entity A, a controlled foreign entity, transfers $10 million for no consideration to a non-resident trust estate (Transferor trust). Entity A is an eligible transferor because of the transfer.
Attributable taxpayer
Some taxpayers have a significant shareholding in a foreign company. You are considered an attributable taxpayer if you are an Australian resident and:
- you together with your associates hold a 10% or more direct or indirect interest in a controlled foreign company; or
- the foreign company is a controlled foreign company because of the de facto control test and other conditions are met.
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For more information on the meaning of an attributable taxpayer refer to the Foreign income return form guide
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Attributable income
Attributable income is the amount taxed on an accruals basis under controlled foreign company measures. Only certain types of income are included in attributable income.
There are two key factors that indicate whether an item of income will be attributable income under the controlled foreign company rules. These are:
- if the income has been taxed overseas in a way that is not comparable with how it would have been taxed if earned in Australia
- if the income is 'tainted income', which includes passive income, tainted sales income and tainted services income.
If the income satisfies both these requirements it will be attributed under the controlled foreign company rules.
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For more information on attributable income refer to the Foreign income return form guide.
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Tainted income
There are three types of tainted income:
- passive income
- tainted sales income
- tainted services income.
Passive income
Under section 446 of the ITAA 1936, passive income includes certain types of dividend, interest, royalty, annuity and rental income. It also includes gains on the disposal of assets that produce passive income or which are not used solely in carrying on a business.
Tainted sales income
Under section 447 of the ITAA 1936, tainted sales income is income from a controlled foreign company which is gained from the sale of goods purchased from or sold to:
- an associate who is an Australian resident
- an associate who is not an Australian resident but who carries on business in Australia through a permanent establishment.
Tainted services income
Under section 448 of the ITAA 1936, tainted services income is income derived from the provision of services by a controlled foreign company to:
- an Australian resident (except in connection with a foreign permanent establishment of the Australian resident)
- a non-resident in connection with the non-resident's Australian permanent establishment.
Tainted services income also includes income derived from services provided indirectly to Australian residents, subject to certain requirements. Services include any benefit, right or privilege provided under an arrangement for the performance of work or the provision of facilities - for example, performance of technical, managerial or transport work.
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For more information on tainted income refer to the Foreign income return form guide.
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Active income test
The active income test seeks to determine whether the amount of tainted income that an active business has derived is small enough to ensure that no mischief will be caused by exempting it from the controlled foreign company rules. The active income test does this by applying a formula to the company's gross income, which compares the company's gross turnover from tainted sources to its turnover from all other sources:
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Gross tainted turnover
Gross turnover
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The result of this calculation is known as the 'tainted income ratio'.
As long as a controlled foreign company's gross tainted income is less than 5% of its gross turnover from all sources, the active income test will be passed and none of the tainted income will be attributed.
If the company's tainted income ratio is 5% or higher, the active income test is failed and the tainted income may be subject to attribution.
There are also a number of other requirements that must be satisfied before the active income test can be passed. For example, the controlled foreign company must carry on business through a permanent establishment in its country of residence. For further information on these requirements see sections 432 and 433 of the ITAA 1936.
Remember that if a controlled foreign company passes the active income test, the controlled foreign company rules will not apply in most cases.
There are other types of income that can be subject to tax under the controlled foreign company rules irrespective of whether the company passes the active income test. These include income derived under the transferor trust or foreign investment fund rules.
If a controlled foreign company has passed the active income test, it will not generally have any attributable income for that year of income.
Example - active income test example 1
Example - active income test example 2
If a controlled foreign company from an unlisted country has failed the active income test, its attributable income will be income that is adjusted tainted income.
Example - active income test example 3
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For more detailed information, including conditions to be met, the application of the formula and examples refer to the Foreign income return form guide.
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Eligible designated concession income
Normally, amounts derived in a listed country are exempt from accruals taxation. It is assumed that all income derived by a controlled foreign company which is resident in a listed country has been comparably taxed. However, the exemption does not apply for amounts of eligible designated concession income.
An amount is generally treated as designated concession income if it is not comparably taxed in a listed country. In these cases income has either no tax or a reduced amount of tax.
For example, the USA exempts income from certain government bonds from USA tax. Such income falls within the left hand side of the diagram below. If that income is also 'tainted', the controlled foreign company rules would apply to tax that income in Australia. The Income Tax Regulations 1936 contain a list of types of income that have the benefit of 'designated concessions' in the seven listed countries.
The full list of these concessions can be found in Schedule 9 of the Income Tax Regulations 1936. There are only a few specific concessions listed for each of the listed countries which means there are only a limited number of situations in which a controlled foreign company will derive income that is subject to tax under these rules.
Schedule 9 of the Income Tax Regulations 1936 has more information on the different types of eligible designated concession income.
Tainted assets
Tainted assets are defined in section 317 of the ITAA 1936 and include amongst other things, shares, financial instruments and assets that are not used solely in carrying on a business.
Non-portfolio dividends
A non-portfolio dividend is defined in section 317 of the ITAA 1936 as a dividend which is paid to a company which has a 10% or greater voting interest in the company paying the dividend.
Foreign investment fund
Under section 481 of the ITAA 1936 a foreign investment fund is any foreign company or trust which an Australian taxpayer has an interest in. The definition of a foreign investment fund is therefore extremely broad. An interest in a foreign investment fund is:
- a share in a foreign company
- an interest in the corpus or income of a foreign trust.
It also includes an option, convertible note or other instrument that confers an entitlement to acquire such an interest.
An interest in a discretionary trust will not generally be an interest in a foreign investment fund. This is because these types of interests will not normally grant a potential beneficiary any entitlement to corpus or income until such time as the trustee exercises its discretion in the potential beneficiary's favour.
Even if your name does not appear on a share certificate or share register of the foreign company as the legal owner of those shares, you are still considered to have an interest in the foreign investment fund if you have a beneficial interest in that fund.
|
For more information refer to the Foreign investment funds guide.
|
Foreign life insurance policy
Under section 482 of the ITAA 1936 a foreign life insurance policy is a policy which was issued by an entity that is not a resident of Australia. You generally have legal title to a foreign life insurance policy if you have an obligation to pay premiums for that policy.
Attribution account
To keep track of how much of a dividend will be non-assessable and non-exempt, you need to keep attribution accounts for each of your controlled foreign companies or foreign investment funds. The concept is similar to maintaining a franking account.
Subdivision 768-G of ITAA 1997
This Subdivision governs the reduction in capital gains and losses arising from capital gains tax events relating to portfolio investments in active foreign companies.
If:
- a company has a capital gain or capital loss arising from a capital gains tax event which relates to a share in a foreign company, and
- the company holds a direct voting percentage of 10% or more in the foreign company for a certain period before the capital gains tax event happens
then the gain or loss is reduced by a percentage that reflects the degree to which the assets of the foreign company were used in an active business.
Example of Subdivision 768-G of ITAA 1997
Capital gains tax events
The concession under Subdivision 768-G of the ITAA 1997 applies to the following capital gains tax events:
A1 - disposal of a capital gains tax asset - section 104-10 of the ITAA 1997
B1 - use and enjoyment before title passes - section 104-15
C2 - cancellation, surrender and similar endings - section 104-25
E1 - creating a trust over a capital gains tax asset - section 104-55
E2 - transferring a capital gains tax asset to a trust - section 104-60
G3 - liquidator declares shares worthless - section 104-145
J1 - company stops being member of wholly owned group after rollover -section 104-175
K4 - capital gains tax asset starts being trading stock - section 104-220
K6 - pre-capital gains tax shares or trust interest - section 104-230
K10 - foreign exchange realisation gain - item 1 of the table in subsection 775-70 (1) and section 104-260
K11 - foreign exchange realisation loss - item 1 of the table in subsection 775-75 (1) and section 104-265.
Underlying active business
Section 768-510 of the ITAA 1997 defines active foreign business asset percentage.
The underlying active business that a foreign company has is determined by calculating the value of active foreign business assets held by that company as a percentage of the value of all of its assets.
The valuation may be done by either the market value method or the book value method.
Market value method
The percentage will be calculated under section 768-520 of the ITAA 1997 if:
- the holding company has made a choice under subsection 768-515(1)
- there is evidence of market value at the appropriate time.
Book value method
The percentage will be calculated under section 768-525 of the ITAA 1997 if:
- the holding company has made a choice under subsection 768-515(2)
- there are recognised company accounts for the appropriate period.
If the taxpayer company does not make this valuation, the default rule is that any capital gain will be taxable and any loss non-deductible.
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For more information refer to the Foreign income return form guide.
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Extent of the reduction
The extent of a reduction is calculated using the underlying active foreign business percentage.
If the percentage is less than 10%, any capital gain is taxable and any loss can be deducted or carried forward.
If the percentage is 90% or more, any capital gain or loss is ignored.
Foreign company assets
Section 768-540 of the ITAA 1997 determines the active foreign business assets of a foreign company.
An active foreign business asset is:
- an asset used or held for use by the company in the course of carrying on a business
- goodwill
- a share.
Assets excluded from this definition include:
- an asset that is taxable Australian property
- membership interest in an Australian resident company
- a financial instrument
- an interest in a trust or partnership
- a life insurance policy
- cash
- an asset used to derive passive investment income.
Non-resident trust estate
A non-resident trust estate is one that meets both of the following conditions during a full year of income:
- none of the trustees of the trust estate were resident in Australia
- the central management and control of the trust estate was not carried out in Australia.
The residency tests for individuals and companies are used to determine whether a trustee was a resident of Australia.
Entitled to acquire
An entity is entitled to acquire anything that the entity is absolutely or contingently entitled to acquire, whether because of any constituent document of a company, the exercise of any right or option or for any other reason.
Example of entitled to acquire.
If a company issues a shareholder an option to acquire shares, the shareholder is entitled to acquire the shares.
Attribution percent x adjusted distributable profits
The attribution percentage is the sum of the direct and indirect interests that you, an attributable taxpayer, hold in the controlled foreign company. The interests of associates are not included in this calculation.
Example of attribution percentage
Adjusted distributable profits relates to the amount that would be the controlled foreign company's distributable profits at the time where the company changes residence from an unlisted country to a listed country or changes residence from an unlisted country to Australia.
Refer to section 457 of the ITAA 1936 for more information.
Attribution percent x interest/entitlement x section 456 to 459A amount
The attribution percentage is the sum of the direct and indirect interests that you, an attributable taxpayer, hold in the controlled foreign company. The interests of associates are not included.
Example of attribution percentage
- Attribution percentage means the attributable taxpayer's attribution percentage for the controlled foreign company or controlled foreign trust
- Interest/entitlement means the percentage of the net income of the Australian partnership or the Australian trust represented by the sum of the direct and indirect interests or present entitlements of the controlled foreign company or controlled foreign trust
- Section 456 to 459A amount means amounts calculated under those sections.
Example:
- AustCo owns 100% of CFC1
- CFC1 is a partner of AustPa and has a 50% right to the partnership's income and capital
- AustPa owns 100% of CFC2
- $200 Attributable income from CFC2 is included in income of AustPa
Formula:
AP
|
x
|
Interest/entitlement
|
x
|
Section 456 to 459A amount
|
Aust Co
|
|
100%
|
x
|
50%
|
|
$200
|
Aust Co would be assessable on $100
Refer to Division 9 of Part X of the ITAA 1936 for more information.
Discretionary trust estate
Under section 102AAB of the ITAA 1936, discretionary trust estate means a trust estate where the distribution of income or corpus to beneficiaries is made at the discretion of the trustee.
A discretionary beneficiary has no interest in the trust property or income until the trustee exercises its discretion in favour of the beneficiary. A discretionary beneficiary only has the right to be considered when the trustee is exercising this discretion.
Control in relation to a trust estate
Under section 102AAG of the ITAA 1936, for the purposes of the transferor trust provisions, an entity is regarded as controlling a trust estate if:
a. the entity (or its associates) had the power to obtain the beneficial enjoyment of the corpus or income of the trust estate
b. the entity (or its associates) was able to control the application of the corpus or income of the trust estate
c. the entity (or its associates) was capable under a scheme of gaining the enjoyment or control referred to in paragraph (a) or (b)
d. a trustee of the trust estate was accustomed or under an obligation or might reasonably be expected to act in accordance with the directions, instructions or wishes of the entity (or its associates)
e. the entity (or its associates) was able to remove or appoint any of the trustees of the trust estate.
Notional accounting period
See Part XI of the ITAA 1936.
A notional accounting period is the period used to determine the attributable income of a FIF or a foreign life assurance policy.
Notional accounting period of a foreign life policy
Under section 487 of the ITAA 1936 the notional accounting period of a foreign life policy is each 12 months period ending on 30 June.
If the cash surrender values of your interest in a foreign life policy are available on a day during the same month in each calendar year ('the relevant day'), you can elect that the notional accounting period of the foreign life policy be determined under subsection 487(5).
For example, if the relevant day is in February, you may elect that the accounting period begins in March (the month after the first relevant day) and ends at the end of February in the following year (in which the next relevant day occurs).
Notional accounting period of a foreign investment fund
Under section 486 of the ITAA 1936 the notional accounting period of a foreign investment fund is each period that is a year of income of the taxpayer.
Important: you must return attributable income from the foreign investment fund for the notional accounting period which ends in your income year.
If the period for which a foreign investment fund prepares its accounts is different from your income year, and this period is not more than 12 months, you may elect for the notional accounting period of the foreign investment fund to coincide with the period for which the accounts of the fund are prepared. This election cannot be revoked for as long as you have the foreign investment fund interest (subsections 486(3) and (4)).
Example of notional accounting period
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For more information and examples refer to the Foreign investment funds guide.
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Interests in a foreign investment fund or foreign life policy
Under section 483 of the ITAA 1936 an interest in a foreign investment fund that is a foreign company means a share in the company other than an eligible finance share within the meaning of section 327 (Part X of the ITAA 1936), or an option, convertible note, or other instrument that confers an entitlement to acquire such a share.
Where the foreign investment fund is a foreign trust, it is:
- an interest in the corpus or income of the trust (including, in the case of a unit trust, an interest constituted by a unit in the unit trust)
- an option, convertible note, or other instrument that confers an entitlement to acquire an interest referred to above.
A person has an interest in a foreign life policy if the person has the legal title to the policy.
A foreign life policy is a life insurance policy which was issued by an entity that was not a resident of Australia at any time during the year of income.
What income has been comparably taxed?
Amounts are generally only taken into account if they are not taxed in full in Australia or comparably taxed in a listed country.
The controlled foreign company rules make assumptions about whether or not income has been comparably taxed. Seven countries have been identified as having a tax system that is comparable with Australia's. These countries are listed in Part 1 of Schedule 10 of the Income Tax Regulations 1936 and are known as listed countries. It is assumed that all income derived by a controlled foreign company resident in a listed country has been comparably taxed, subject to an important exception: 'eligible designated concession income'. The seven countries are:
- Canada
- France
- Germany
- Japan
- New Zealand
- United Kingdom and Northern Ireland
- United States of America.
It is further assumed that all income derived by a controlled foreign company that is resident in any other country (an 'unlisted country') has not been comparably taxed.
There are a number of provisions in the ITAA 1936 and the ITAA 1997 that treat foreign income received by an Australian resident as either exempt or non-assessable and non-exempt.
Both exempt income and non-assessable non-exempt income are relieved from Australian tax. There are some differences however in the way exempt income and non-assessable non-exempt income are treated. These are outlined below:
Exempt income
This must be offset against losses.
Expenses relating to the earning of exempt income are not allowable deductions.
Non-assessable non-exempt income
There is no need to offset against losses.
Some expenses relating to the derivation of non-assessable non-exempt income are deductible.
Under section 23AH of the ITAA 1936, income earned from a permanent establishment in a foreign country by an Australian resident company may be treated as non-assessable non-exempt. This also includes capital gains and losses from capital gains tax events.
Dividends declared by a controlled foreign company to a resident taxpayer may be non-assessable non-exempt income under section 23AI of the ITAA 1936. This is only to the extent that the dividend is paid from profits which the taxpayer has previously paid tax on under the controlled foreign company rules. Similarly, certain non-portfolio dividends received from a foreign company are generally non-assessable non-exempt income in terms of section 23AJ.
Income which has been previously attributed to an attributable taxpayer under the transferor trust rules may be non-assessable non-exempt income when later received by a beneficiary.
Income distributed by a foreign investment fund or foreign life policy to a resident taxpayer may be non-assessable non-exempt income under section 23AK of the ITAA 1936. This is only to the extent to which you have previously paid tax on that interest under the foreign investment fund rules.
A taxpayer who is a non-resident of Australia for income tax purposes and operates through a permanent establishment in Australia that receives an amount of dividend, interest or royalty income on which withholding tax is payable, has generally met its final tax liability on that income in Australia. Section 128D of the ITAA 1936 provides that those amounts on which withholding tax is payable are exempt from tax and shall not be included in assessable income under subsection 6-5(3) of the ITAA 1997.
However, franked dividends received by a non-resident are non-assessable non-exempt income in accordance with section 128D of the ITAA 1936, notwithstanding that they are not subject to withholding tax.
Controlled foreign company rules
The controlled foreign company rules are contained in Part X of the ITAA 1936 and are designed to tax Australian resident shareholders who control foreign companies on 'tainted' income earned by the foreign companies.
Australian residents are required to include the tainted income in their assessable income in the same income year that the tainted income was derived by the foreign companies.
Tainted income is income which is mobile and able to be readily diverted to low tax jurisdictions, such as dividends, interest, some royalties and some income from intra-group transactions.
Foreign investment fund rules
The foreign investment fund rules are contained in Part XI of the ITAA 1936. They are designed to ensure that Australian taxpayers do not enjoy deferral benefits by accumulating income offshore. They compliment the controlled foreign company rules and the transferor trust rules by assessing foreign income accumulated in non-resident companies and trusts which are not subject to those other rules.
The rules have a very broad application and apply to taxpayers who are pursuing genuine investment opportunities offshore, as well as those who are pursuing tax minimisation strategies.
The rules tax Australian investors on any increase in the value of their foreign investments each year. The rules also apply to interests in some foreign life policies held by Australian residents.
Exemptions from the foreign investment fund rules
As the definition of a foreign investment fund is very broad, there are many exemptions that exclude certain taxpayers with a foreign investment fund interest. These taxpayers are not required to include any foreign investment fund income in their assessable income.
There are many exemptions from the foreign investment fund measures and three global exemptions from the rules entirely.
The global exemptions are:
- the small investor exemption for individual taxpayers with total foreign investment fund and foreign life policy interests, including the interests of associates, of $50,000 or less
- a temporary resident exemption which exempts temporary residents from the foreign investment fund measures from the 2006-07 income year
- a balanced portfolio exemption for taxpayers who have a number of foreign investment fund interests. If more than 90% of these interests are exempt under other exemptions, then the remainder of the foreign investment fund portfolio is exempt (the threshold was 95% before 1 July 2003).
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Refer to the Foreign investment funds guide for more details regarding exemptions.
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Transferor trust rules
The transferor trust rules are contained in Division 6AAA of the ITAA 1936. They are similar to the controlled foreign company rules and cover the accumulation of income in low tax jurisdictions.
While the controlled foreign company rules apply to interests in foreign companies, the transferor trust rules apply to interests in non-resident trusts. The transferor trust rules are arguably more severe in their application than the controlled foreign company rules. Their relative harshness is the result of a number of distinguishing factors peculiar to trusts, including their high degree of flexibility, historical use of arrangements for avoiding Australian tax, and the practical difficulties in establishing the existence and particulars of trust arrangements, especially blind trust arrangements.
The aim of the transferor trust rules is to attribute income earned by a non-resident trust to an Australian taxpayer. That is, to tax an Australian taxpayer on income earned by such a trust.
Without the transferor trust rules, there would not be an Australian taxpayer who could be assessed on the trust's income. The trustee of the trust would not be an Australian entity and in many cases no beneficiary would be presently entitled to the income of the trust.
The transferor trust rules therefore tax every Australian taxpayer who has transferred property or services to the non-resident trust. Such an entity is known as an 'attributable taxpayer' in relation to the trust.
Foreign company
A foreign company is a company that is not resident in Australia, according to the definition of a 'resident of Australia' in subsection 6(1) of the ITAA 1936 and the residency provisions of any relevant double taxation agreement.
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The second requirement in respect of the relevant double taxation agreement does not apply for the purpose of subdivision 768-G of the ITAA 1997.
|
Foreign trust
A trust estate is a foreign trust estate if it:
- is not an Australian trust, an Australian superannuation fund, a complying approved deposit fund or a pooled superannuation trust, and
- did not result from
- a will, a codicil or a court order that varied or modified a will or a codicil, or
- intestacy or a court order that varied or modified the application of the law relating to the distribution of the estates of persons who die without leaving a will (subsection 481(3)).
Change of residence of a controlled foreign company from an unlisted country to Australia
The attributable taxpayers in relation to a controlled foreign company are taxed under section 457 of the ITAA 1936 on the amount that relates to the period until the change of residence.
If a controlled foreign company changes residence from an unlisted country to Australia, a resident taxpayer who is an attributable taxpayer of the controlled foreign company is taxable on the taxpayer's attribution percentage of the adjusted distributable profits of the controlled foreign company.
The amount of distributable profits that is taxable to a resident taxpayer includes the adjusted tainted income of the controlled foreign company (excluding non-portfolio dividends) less any expenses relating to that adjusted tainted income.
Example of change of residence to Australia
Change of residence of a controlled foreign company from an unlisted country to a listed country
The attributable taxpayers in relation to a controlled foreign company are taxed under section 457 of the ITAA 1936 on the amount that relates to the period until the change of residence.
If a controlled foreign company changes residence from an unlisted country to a listed country, a resident attributable taxpayer has to include in its assessable income a share of the adjusted distributable profits of the controlled foreign company.
The amount to be included is worked out in the same way as the amount that arises where a controlled foreign company from an unlisted country becomes a resident of Australia. However, a further adjustment is made to the controlled foreign company's distributable profits. The controlled foreign company is treated as having disposed of all of its tainted assets for their market value at the time it changed residence. Accordingly, the distributable profits also include a net profit arising on the deemed disposal of those assets.
Example of change of residence to a listed country
Summary of items on various tax returns for Schedule 25A
Conditions
|
Section A
|
Section B
|
Aggregate amount greater than 1million
|
yes
|
n/a
|
Aggregate amount less than $1million
|
no
|
n/a
|
Complete section A if you answered yes to any of the following:
|
- item 23 of the company tax return 2010 (NAT 0656)
|
yes
|
n/a
|
- label W item 29 of the partnership tax return 2010 (NAT 0659
|
yes
|
n/a
|
- label W item 29 of the trust tax return 2010 (NAT 0660
|
yes
|
n/a
|
- label B item 17 of the fund income tax return 2010 (NAT 71287)
|
yes
|
n/a
|
Complete section B if you answered yes to any of the following:
|
- item 24 of the company tax return 2010
|
n/a
|
yes
|
- label S or T item 22 of the partnership tax return 2010
|
n/a
|
yes
|
- label S or T item 22 of the trust tax return 2010
|
n/a
|
yes
|
- label C item 17 of the fund income tax return 2010
|
n/a
|
yes
|
Item 1 example 1
An Australian manufacturing and holding company has three subsidiaries located in Thailand, Singapore and Indonesia. The following international business activities occurred during the year:
- The Thai subsidiary manufactured household appliances that were purchased by the Australian parent company for wholesale distribution. The value of these purchases was $50,000.
- The Singapore subsidiary manufactured electrical components for distribution in Australia and South-East Asia. During the year, the Australian parent company purchased finished components for re-sale and also carried out product design projects on behalf of this subsidiary. The value of the products purchased was $900,000 and the value of the design work carried out by the Australian parent company was $40,000.
- Dealings that the Australian parent company had with the Indonesian subsidiary consisted only of a loan to that subsidiary and the receipt of interest on the loan. The value of the loan was $250,000 and $25,000 interest was received. The loan was to enable the Indonesian subsidiary to undertake market research in Indonesia.
Select the code for the Australian parent company's underlying international businesses as follows:
- Thailand (location code THA): household appliance wholesaling - that is, purchase of finished goods from its subsidiary for wholesale distribution - industry code 34940.
- Singapore (location code SGP): product design services - industry code 69230. Purchase of finished goods from its subsidiary for resale - industry code 34940.
- Indonesia (location code IDN): in this instance the business activity giving rise to, or underlying, the loan was market research and the most appropriate industry code is market research service - industry code 69500.
The Australian parent company completes item 1 as follows:
A
|
34940
|
B
|
950,000
|
C
|
SGP
|
D
|
THA
|
E
|
F
|
69230
|
G
|
40,000
|
H
|
SGP
|
I
|
|
J
|
K
|
69500
|
L
|
25,000
|
M
|
IDN
|
N
|
|
O
|
The company writes the interest amount at L. The loan is not included in the total value for this industry code.
As there is no other market research activity with international related parties, the interest is the only amount written at this label.
Item 1 example 2
An Australian parent company has subsidiaries in New Zealand (location code NZL), Thailand (location code THA) and the United States of America (location code USA).
The company has three identifiable divisions:
- chemical products manufacturing - industry code 18990. The related-party dealings by this division total $120,000 across all three locations.
- agricultural chemicals wholesaling - industry code 33230. The related-party dealings by this division total $200,000 across all three locations.
- mining and oilfield services - industry code 10900. The related-party dealings by this division total $700,000 across all three locations.
International transactions between the Australian parent and its foreign subsidiaries can be reasonably attributed to the divisions' business activities.
Use the 2010 business industry codes at A, F and K and the appropriate foreign location codes at C to O.
A
|
10900
|
B
|
700,000
|
C
|
NZL
|
D
|
THA
|
E
|
USA
|
F
|
33230
|
G
|
200,000
|
H
|
USA
|
I
|
NZL
|
J
|
THA
|
K
|
18990
|
L
|
120,000
|
M
|
THA
|
N
|
NZL
|
O
|
USA
|
Item 1 example 3
An Australian company carries out a food manufacturing business - industry code 11990 - through a permanent establishment in New Zealand (location code NZL).
The company's head office in Australia carries out research in the Asia-Pacific markets for food and confectionery - industry code 69500. This information is used in its New Zealand business.
Head office makes a monthly charge of $200,000 to the New Zealand business for the marketing service. For this year, the head office has made 12 such monthly charges.
The company completes item 1 as follows:
A
|
69500
|
B
|
2,400,000
|
C
|
NZL
|
D
|
|
E
|
|
F
|
|
G
|
|
H
|
|
I
|
|
J
|
|
K
|
|
L
|
|
M
|
|
N
|
|
O
|
|
Item 2e example
An Australian company has several affiliates, which are related parties, in foreign countries. At the start of the financial year the company's balance sheet showed $182,678 owing to the affiliates by the company, and $53,250 owing by the affiliates to the company.
At the end of the financial year, $86,782 was owed to the affiliates by the company, and $245,354 was owed by the affiliates to the company. Item 2e would be completed as follows:
|
|
Opening balance
|
|
Closing balance
|
G
|
182,678
|
H
|
86,782
|
I
|
53,250
|
J
|
245,354
|
Item 3a example
A taxpayer purchased trading stock for $20 million from an international related party.
If, rather than paying for the trading stock with a funds transfer to the related party's loan account, the decision was made to settle the debt by any of the following:
- forgiving royalties that would otherwise be payable by the international related party
- transferring title in a fixed asset
- agreeing to a discount on specified future transactions
the appropriate response to this item is Y for yes at B.
However, where individual debts between two parties are aggregated or netted and the net balance settled monetarily, this is not classed as a non-monetary consideration.
As mentioned earlier, for the purposes of Schedule 25A, a permanent establishment is to be treated as a separate party from its head office or other related parties. Consequently, where non-monetary consideration passes between a permanent establishment and its head office in return for the provision of services or other transactions listed on Schedule 25A, the appropriate answer to item 3a is Y for yes at B.
Item 3b example
An Australian parent company manufactures trading stock that it sells to a foreign subsidiary for resale. The Australian parent develops a new product, which requires considerable training of the foreign subsidiary's staff to on-sell the new product.
The Australian parent provides this training, but does not charge the subsidiary. The Australian company should print Y for yes at C.
Item 9 example
If an entity had five listed country controlled foreign companies at the start of the year and nil at the end of the year, and no unlisted country controlled foreign companies at either the year's start or end, write 05 at A.
Leave all other labels at item 9 blank.
Item 14 example
An Australian resident transfers $10 million to a non-resident trust.
They must print Y at W for item 14.
Item 19 example
A taxpayer has the following foreign investment fund interests:
- investment valued at $65,000 in a foreign company engaged in eligible activities that is exempt under section 497 of the ITAA 1936
- investment valued at $100,000 in a foreign life assurance company that is exempt under section 506 of the ITAA 1936.
This taxpayer completes item 19 as follows:
B
|
0 4
|
C
|
100,000
|
D
|
0 1
|
E
|
65,000
|
Transfer pricing case study
The Australian company XYZ Pty Ltd has its head office in Australia and is parent company to several wholly owned subsidiaries overseas. XYZ Pty Ltd also has a permanent establishment in Hong Kong.
Subsidiaries and permanent establishments qualify as international related parties.
During the year XYZ Pty Ltd had related-party dealings with its international related parties, the subsidiaries and the permanent establishment. These dealings included both capital and revenue transactions. Some of the dealings were transacted at arm's length prices, ensured by implementing and following various arm's length pricing methods, while other dealings were not.
The following related-party dealings, shown in Australian dollars, occurred during the year and are grouped under the headings in item 2 of the schedule.
Stock in trade and raw materials
- Stock in trade was sold to subsidiaries for $146,450. All sales were priced at bona fide arm's length prices, of which 50% were based on comparable uncontrolled pricing and 50% based on the cost-plus method.
- For the comparable uncontrolled pricing dealings, the method for pricing was selected, applied and documented as discussed in the introduction to item 4 regarding transfer pricing.
- For the cost-plus dealings, the pricing method was selected and documented for all the dealings, but written documentation on the application of the method was kept for only one-quarter of all these dealings.
- Raw materials were purchased from subsidiaries for $178,750. Of this total dollar amount, 60% was priced on comparable uncontrolled prices and the remaining 40% was invoiced at a price XYZ Pty Ltd considered reasonable.
- For all comparable uncontrolled pricing dealings, the method was selected, applied and documented as discussed in the introduction to item 4 regarding transfer pricing.
- Stock in trade was transferred to the Hong Kong permanent establishment which then on-sold it to third parties in Hong Kong.
- XYZ Pty Ltd's internal transfer price for the stock transferred from Australia to Hong Kong was $60,000.
- The arm's length transfer price for the stock was $70,000.
- For taxation purposes, XYZ Pty Ltd selected, applied and documented a bona fide comparable uncontrolled price method. The arm's length price was reflected in the taxable income by an adjustment at item 7 and reconciled to taxable income or loss on XYZ Pty Ltd's tax return.
- Raw materials were transferred from the permanent establishment at an internal company invoice price of $45,000.
- No adjustment was considered or made to taxable income.
Other tangible property
- Shares in a listed company were sold to a subsidiary for $23,345, this being the quoted share price at the time. This method was selected, applied and documented as discussed in the introduction to the notes to item 4 regarding transfer pricing.
- Machinery was purchased by a subsidiary and transferred to XYZ Pty Ltd for $18,850. This was the actual price paid by the subsidiary, including handling charges. This method was also selected, applied and documented as discussed in the notes to item 4 regarding transfer pricing.
Royalties
- The subsidiaries used trademarks owned by XYZ Pty Ltd but did not pay royalties.
Other intangible property
- XYZ Pty Ltd sold a trademark to a subsidiary. This was a 'once-only' occurrence and was invoiced at cost plus a nominal mark-up. The amount invoiced was $17,800.
Management and marketing fees
- XYZ Pty Ltd performed management services for its subsidiaries, and charged them cost plus 5%.
- The amount invoiced was $16,000.
- For taxation purposes XYZ Pty Ltd selected, applied and documented a bona fide comparable uncontrolled pricing method of $21,700.
- This arm's length price was reflected in the taxable income by an adjustment at item 7 reconciliation to taxable income or loss on XYZ Pty Ltd's tax return.
- Training was provided for the sales staff of one subsidiary. No amount was invoiced for this service but, in exchange, the subsidiary completed a specific research project for XYZ Pty Ltd.
- XYZ Pty Ltd provided ongoing administrative services for the Hong Kong permanent establishment and invoiced these for internal accounting purposes at cost, being $10,200. XYZ Pty Ltd did not use any pricing method.
Technical and construction
- XYZ Pty Ltd provided ongoing technical services regarding manufacturing processes to a subsidiary, and invoiced those services at rates equivalent to prices for similar services performed for arm's length customers. The process was not analysed in detail, neither was it documented. The amount invoiced was $12,650.
Research and development
- XYZ Pty Ltd maintained a research and development (R&D) division and incurred R&D expenditure on behalf of all subsidiaries and its own activities. Subsidiaries paid their own share of the total annual cost, and no mark-up was included in the invoiced price. The total amount was $24,600.
Loans
- During the year, XYZ Pty Ltd approved the interest-bearing loan of $450,000 to a subsidiary.
Summary of the dealings
The percentage is calculated as 68.1% ($387,595 divided by $569,345). The appropriate code from the table below at item 4a is entered at F item 4a - that is, code 4.
Suggested answer to item 4b
The percentage of the related-party dealings for which there is written documentation to support the application of arm's length pricing methods is calculated as follows:
- The total dollar value of related-party dealings is determined as $569,345, based on the amounts shown at items 2a to 2d.
- The total dollar value of the dealings for which supporting documentation as to application is held, is determined as follows:
The percentage is calculated as 58.4% being $332,676 divided by $569,345. The appropriate code from the table below at item 4a is entered at G item 4b - that is, code 4.
Percentage
|
Code
|
0%
|
1
|
1% to less than 25%
|
2
|
25% to less than 50%
|
3
|
50% to less than 75%
|
4
|
75% to less than 100%
|
5
|
100%
|
6
|
Suggested answer to item 5
This item asks you about revenue dealings in items 2a to 2d. Item 6 asks you about capital dealings.
The revenue items in this example are all those items mentioned except the shares in the listed company, which were sold to a subsidiary, the machinery purchased by the subsidiary and transferred to XYZ Pty Ltd, and the trademark sold to the subsidiary.
The value of the revenue dealings was $509,350:
($569,345 - ($23,345 + $18,850 + $17,800))
The value of the capital dealings was $59,995:
($23,345 + $18,850 + $17,800)
The two arm's length pricing methods used in items 2a to 2d were the comparable uncontrolled pricing method (code 1), and the cost-plus method (code 3).
The percentages of total dollar value of revenue that each method covers from related-party dealings identified in items 2a to 2d are calculated as follows:
Enter the appropriate codes for these percentages from the table below at item 5.
Percentage
|
Code
|
0%
|
1
|
1% to less than 25%
|
2
|
25% to less than 50%
|
3
|
50% to less than 75%
|
4
|
75% to less than 100%
|
5
|
100%
|
6
|
Comparable uncontrolled price: $272,175 53.4%
($73,225 + $107,250 + $70,000 + $21,700)
Cost plus: $73,225 14.4%
The appropriate answer for item 5 is:
Suggested answer to item 6
This item concerns related-party dealings of a capital nature. These dealings are:
sale of shares to a subsidiary
|
$23,345
|
purchase of machinery
|
$18,850
|
sale of a trademark to a subsidiary
|
$17,800
|
Total
|
$59,995
|
Suggested answer to item 6a
The purchase of machinery, sale of shares and sale of the trademark to subsidiaries will all be capital gains tax events within the context of Division 104 of the ITAA 1997, and so the appropriate response to this item is Y for yes at P.
Suggested answer to item 6b
This item asks for the four principal methods used for pricing the capital dealings. In this example only three methods were used:
The appropriate answer to item 6b is:
Q 7 2 8
Suggested answer to item 6c
This item asks for the percentage of related-party dealings of a capital nature - by value - compared with the total dollar value of all related-party dealings, both capital and revenue.
In this example, the total of all related-party dealings is $569,345.
The dealings of a capital nature which are capital gains tax events in terms of Division 104 are:
sale of shares
|
$23,345
|
sale of the trademark
|
$17,800
|
purchase of machinery
|
$18,850
|
Total
|
$59,995
|
As a percentage: $59,995 / $569,345 = 10.5%
The appropriate code from table below for item 6c is code 2.
Percentage
|
Code
|
0%
|
1
|
1% to less than 25%
|
2
|
25% to less than 50%
|
3
|
50% to less than 75%
|
4
|
75% to less than 100%
|
5
|
100%
|
6
|
The appropriate answer for item 6c is:
Strict control test example
Assumed controller test example
Attributable income example
For the 2009 income year a Controlled Foreign Company (CFC) has:
Attributable income
|
$100,000
|
(Amount taxed on an accrual basis under CFC measures)
|
|
Attributable taxpayer owns 60% of the CFC
|
|
Taxpayer's share of attributable income
|
$60,000
|
Active income test example 1
China Co is a foreign company that is 100% owned by an Australian entity. China Co derives $15 million from the manufacture and sale of cars by China Co's employees. China Co does not have any attributable income because none of its income is tainted income.
Active income test example 2
UK Co is a resident of a listed country, an 'open-ended investment company' under UK law and 100% owned by an Australian entity. UK Co derives $1 million rental income from an unrelated party from property located in another country. The rental income is not taxed in the UK or in any other listed country. UK Co does not derive any other income. The de minimis test and the active income test will not be satisfied. The income will be 'adjusted tainted income' and will be 'eligible designated concession income'. UK Co has attributable income of $1 million.
Active income test example 3
Bermuda Co is a resident of an unlisted country and is 100% owned by an Australian entity. Bermuda Co derives $1 million from various portfolio investments in foreign shares and term deposits. Bermuda Co has attributable income of $1 million as all of its income is 'adjusted tainted income'.
Subdivision 768-G of ITAA 1997 example
For the past two years, an Australian company has owned 100% of an overseas company that manufactures and sells shoes. All the assets of the overseas company are active business assets. The Australian company has now sold 40% of the shares in the overseas company and has made a capital gain. The capital gain is reduced to nil.
Attribution percentage example
Peter, a resident of Australia, owns 80% of Bermuda Limited, a company which is resident in Bermuda. Bermuda Limited fails the active income test for the relevant year of income as it has a tainted income ratio of 100%. The attribution percentage is 80%.
Notional accounting period example
Gary acquires an interest in a foreign investment fund on 1 March 2009. The fund prepares its annual accounts for the accounting period 1 April to 3 March and Gary elects to align the notional accounting period with the accounting period of the fund.
He needs to include attributable income from the foreign investment fund for the period 1 March 2009 (the date of acquisition) to 31 March 2009 (the end of the elected notional period) in his tax return for the income year ended 30 June 2009. This is because the notional accounting period of the fund ended during the income year for which Gary is lodging his tax return.
If the foreign investment fund prepared its annual accounts for the accounting period 1 January to 31 December each year and Gary elected to align the notional accounting period with the accounting period of the fund, he would have to include attributable income from the fund for the period 1 March 2009 (the date of acquisition) to 31 December 2009 (the end of the elected notional accounting period) in his return for the income year ended 30 June 2010 as that is the income year in which the notional accounting period ended.
Change of residence to Australia example
AustCo owns 75% of a controlled foreign company that is resident in an unlisted country (CFC1). The controlled foreign company becomes a resident of Australia on 30 September. CFC1 has a statutory accounting period of 1 July to 30 June. For the period 1 July to 30 September, CFC1 earned the following income:
Portfolio dividends
|
$10,000
|
Non-portfolio dividends
|
$15,000
|
Tainted interest income
|
$12,000
|
Tainted services income
|
$23,000
|
|
|
$60,000
|
CFC1's adjusted tainted income is $45,000. It incurs expenses of $5,000 in earning the adjusted tainted income.
CFC1's adjusted distributable profits are $40,000.
Therefore the amount attributable to AustCo under section 457 is 75% x $40,000 = $30,000.
Change of residence to a listed country example
AustCo owns 75% of CFC1, a controlled foreign company that is resident in an unlisted country. CFC1 becomes a resident of a listed country on 30 September. CFC1 has a statutory accounting period of 1 July to 30 June. For the period 1 July to 30 September, CFC1 earned the following amounts of income:
Portfolio dividends
|
$10,000
|
Non-portfolio dividends
|
$15,000
|
Tainted interest income
|
$12,000
|
Tainted services income
|
$23,000
|
|
|
$60,000
|
CFC1's adjusted tainted income is $45,000. It incurs expenses of $5,000 in earning the adjusted tainted income. The net profit (deemed) arising on CFC1's tainted assets at 30 September is $100,000.
CFC1's adjusted distributable profits are $140,000.
Therefore the amount attributable to AustCo under section 457 is 75% x $140,000 = $105,000.
Last Modified: Tuesday, 21 February 2012
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