House of Representatives

Income Tax Assessment Bill (No. 2) 1971

Income Tax Assessment Act (No. 2) 1971

Income Tax (Withholding Tax Recoupment) Bill 1971

Income Tax (Withholding Tax Recoupment) Act 1971

Income Tax (Bearer Debentures) Bill 1971

Income Tax (Bearer Debentures) Act 1971

Explanatory Memorandum.

(Circulated by the Treasurer, the Hon. B.M. Snedden)

Notes on Clauses

INCOME TAX ASSESSMENT BILL (No. 2) 1971

Clause 1: Short title and citation.

This clause formally provides for the short title and citation of the Amending Act and of the Principal Act as amended.

Clause 2: Commencement.

Section 5(1A.) of the Acts Interpretation Act 1901-1966 provides that, unless the contrary intention appears, every act shall come into operation on the twenty-eighth day after the day on which the Act receives the Royal Assent. By this clause it is proposed that the Income Tax Assessment Act (No. 2) 1971 shall come into operation on the day on which it receives the Royal Assent.

Clause 12, which is explained later, provides that the proposed exemptions will apply to loans contracted for after the date of commencement.

Clause 3: Parts.

Section 5 of the Principal Act lists the Parts and Divisions into which the Principal Act is divided, together with the sections included in each. Clause 3 will effect an amendment to the list consequential upon the amendments proposed by clauses 5 and 11.

Clause 4: Interpretation.

This clause proposes that a definition of 'debenture' be inserted in section 6(1.) of the Principal Act. The definition, which will not alter the practical effect of the present law, is in line with the definition used in the Companies Acts, the term being defined to include debenture stock, bonds, notes (such as convertible notes) and any other securities of a company, whether constituting a charge on the assets of the company or not.

Clause 5: Division not to apply to certain interest.

Under section 126 of Division 11 of Part III of the Principal Act tax (at a special rate, currently 41.65066 per cent) is levied on interest paid by companies on bearer debentures, the names and addresses of the holders of which are not supplied to the Commissioner. By this clause it is proposed to insert a new section - section 125 - in the Principal Act, the effect of which will be to exempt such interest from section 126 tax if the interest qualifies for exemption from tax under either of the two new sections - 128F and 128G - proposed to be inserted for withholding tax purposes in the Principal Act by clause 11 of this Bill. That is, eligible interest will be free from both withholding tax and tax under Division 11.

Clause 6: Interest paid by a company on bearer debentures.

This clause proposes the amendment of section 126 of the Principal Act by substituting new sub-sections (1.) and (2.) for the existing sub-sections (1.) and (2.). Under the existing sub-section (1.) of section 126, a flat rate of tax - approximately 41.7 per cent - is applied to all interest on bearer debentures subject to tax under this section. As indicated earlier, it is proposed to apply a reduced rate of tax of 10 per cent to interest on certain bearer debentures raised overseas where the interest remains subject to section 126 tax. The existing sub-section (2.) of section 126 authorises a company to deduct from interest payments to a holder of bearer debentures the proportionate amount of tax paid under the section.

Sub-sections (1.) and (2.) are to be altered in consequence of the adoption of the two differing rates of tax, to enable the appropriate amount of tax to be imposed and to be deducted by the company paying the interest.

Two changes of a technical nature to sub-section (1.) are also proposed. Firstly, the provisions by which the rate of tax applicable under section 126 is established will be removed from the Principal Act to the Income Tax (Bearer Debentures) Act 1971. Secondly, to remove any possible doubt, where a company deducts the tax payable under section 126 from the interest it pays on bearer debentures, it is being made clear that the tax is payable on the gross amount of the interest before such deduction.

Clause 7: Assessments of tax.

This clause will repeal section 128 of the Principal Act and insert a new section in its place. The repeal is a technical change consequent upon the removal to the Income Tax (Bearer Debentures) Bill of the provisions by which the amount of tax under section 126 is fixed. The existing section 128 sets out how the rate of tax under section 126 is to be determined in a case where there is a change in general rates of tax between the date of payment of the interest and the date when an assessment of the tax under section 126 is made. Provisions having the same effect as existing section 128 will be included in the Income Tax (Bearer Debentures) Bill. The new section 128 is a machinery provision which will enable the one assessment to be made under section 126 in respect of interest paid to a number of debenture holders.

Clause 8: Interpretation.

This clause will amend section 128A(1.) of the Principal Act to insert definitions of a number of terms used in Division 11A of Part III, which is the Division concerned with withholding tax on dividends and interest paid to non-residents. Notes on each of the defined terms being inserted by paragraph (a) of the clause are as follows -

`associated persons': this proposed definition will be relevant in determining whether an entity is an Australian entity (proposed section 128J(2.)(b) and 128J(3.)(b)), and in determining whether there is substantial Australian participation in an enterprise (proposed section 128K(3.)). In each case a question may arise as to the extent to which interests and rights are concentrated in one or more hands, and for this purpose associated persons are to be treated as one person. The term is to be defined to mean persons who in the Commissioner's opinion are so associated, related or connected that it is reasonable to assume that, in relation to the entity or enterprise concerned, they will act as one. The Commissioner's opinion on this matter is, by virtue of new section 128P proposed to be inserted by clause 11 of the Bill, subject to rights of objection by the taxpayer and reference to a Taxation Board of Review, which may substitute its own opinion for that of the Commissioner.
`bearer debenture': this term is defined mainly for the purposes of proposed section 128F which will provide for an exemption from tax for interest on publicly or widely offered bearer debentures on conditions difference from those applicable to the exemption under proposed section 128G in respect of interest on other borrowings. This definition will restrict the term to what might broadly be labelled pure bearer debentures, excluding debentures that are, or could be, converted into registered debentures.
`dividend':this definition is included in the existing legislation and is not being changed. It is not relevant to the subject matter of the Bills discussed in this memorandum.
`enterprise':by confining the term to a business or other industrial or commercial undertaking, this definition will have the effect, when linked with the operative provisions of the proposed legislation, of excluding from the exemption under proposed section 128G interest on loans raised for other purposes, such as for private or domestic use.
`entity':this is a term used to facilitate drafting and is designed to allow the persons or bodies mentioned, including those without legal personality (such as a partnership or a joint venture), to qualify as 'Australian entities' for the purposes of the proposed exemption under section 128G. A new definition of 'joint venture' is proposed, (see below), while 'partnership' will have the meaning given to it by section 6 of the Principal Act, i.e., an association of persons (not including a company) carrying on business as partners or in receipt of income jointly.
`interest':this term is defined in much the same way as in the existing legislation to include an amount in the nature of interest but not an amount, being a profit on the disposal of specified Commonwealth securities that do not bear interest, which is brought to tax by section 26C of the Principal Act. As, by reason of section 3 of Act No. 70 of 1968, section 26C no longer specifically deems such a profit to be interest, the definition of the term is being re-expressed without, however, altering its practical application.
`joint venture': this term is being defined as an enterprise carried on by two or more persons in common otherwise than as partners. This term is used in the definition of 'entity', so that persons carrying on a joint venture may, if there is requisite Australian ownership and control, come within the proposed legislation.
`non-resident':the definition of this term is not being changed.

Paragraph (b) of clause 8 proposes to add five new sub-sections - sub-sections (5.) to (9.) - to section 128A of the Principal Act to facilitate the drafting and interpretation of the proposed legislation.

Sub-section (5.) will define what constitutes the raising of a loan and what is meant by the expression 'loan moneys'.

Paragraph (a) of sub-sections (5.) relates to borrowings by the issue of debentures by the issue of debentures and will deem the borrowing of moneys by means of the issue of any number of debentures under the one borrowing operation, to be the raising of one loan.

Paragraph (b) covers situations such as those in which a contract is made for a loan of a stated sum, but drawings of parts of the total amount are made from time to time as the need to use funds arises. In this case, each receipt of moneys will be deemed to be the raising of a separate loan. An effect of this will be that a separate certificate of exemption will need to be sought for each drawing of the loan.

Paragraph (c) will define the loan moneys as being the moneys received by the raising of a loan (in the sense of paragraphs (a) and (b)), less the expenses of borrowing. Proposed sub-section (9.) also contains provision for determining what are 'loan moneys' for purposes of the legislation.

Sub-section (6.) is designed to clarify the meaning of the term 'beneficial interests' in relation to an entity, for the purpose of determining whether the entity is an Australian entity (section 128J) or is one in which there is substantial Australian participation (section 128K).

Paragraph (a) refers to entities being companies or the partners in a partnership and specifies that the beneficial interests are to be measured in relation to capital, profits and income of the company or partnership.

Paragraph (b) relates to an entity being persons carrying on a joint venture. Because of the nature of such ventures, the beneficial interests will be determined in relation to the particular facts of the interests in the enterprise carried on by the joint venturers.

Paragraph (c) covers the case of an entity being the trustees of a trust. In this case beneficial interests for the purposes of these provisions will be the beneficial interests under the trust.

Sub-sections (7.) and (8.) both relate to the use of loan moneys. To attract the exemption under proposed section 128G the loan moneys must be employed for a 'qualifying use'. Sub-section (7.) is, in effect, a definition by exclusion of the term 'use of moneys for the purposes of an enterprise' and this term is being used in sub-section (8.) in defining 'qualifying use'.

Under sub-section (7.), moneys used by an enterprise by way of providing capital for another enterprise or by way of making loans are to be treated as not being used for the purposes of the first-mentioned enterprise. This does not mean that loan moneys used in one of the excluded ways cannot qualify for exemption, but where loan moneys are so used it is necessary to follow the moneys through to the enterprise that does use them for its purposes, i.e., otherwise than in making loans or providing capital.

Paragraph (a) of sub-section (8.) defines 'qualifying use' as use of moneys for the purposes of an enterprise (as that term is used in sub-section (7.)) that is owned by an Australian entity (see notes on section 128J) or is an enterprise in which there is substantial Australian participation (see notes on section 128K). Qualifying use will include use of moneys for the purposes of an enterprise that becomes an enterprise owned by an Australian entity or one in which there is substantial Australian participation only as a result of the subscription of those moneys by an Australian entity as capital for the enterprise.

Paragraph (b) proposes that a qualifying use of loan moneys shall continue until one of the following types of events occurs -

(1)
the enterprise using the funds ceases to be owned by an Australian entity, or ceases to be an enterprise with substantial Australian participation;
(2)
the moneys revert to the entity that made the funds available, for example, by subscription of capital or by way of loan to the entity which owns or participates in the enterprise in which the moneys have been used; or
(3)
the moneys otherwise cease to be used for the purpose of the enterprise, e.g., moneys which have been used for the purposes of the enterprise are on-lent to another enterprise.

In the first case, interest on the overseas borrowing will become liable for special tax under proposed section 128N since the moneys will be being used for the purposes of an enterprise that is not owned by an Australian entity or in which there is not substantial Australian participation. In cases (2) and (3) the question of whether or not special tax will become payable will depend on whether or not the use to which the moneys are subsequently put is a qualifying use.

Sub-section (9) is a tracing provision which is designed to enable loan moneys which have been passed on through various intermediaries, or between entities, or which may revert to the original borrower, and which are thus not, strictly speaking, the original loan moneys, to be treated as though they were the original loan moneys.

Paragraph (a) provides that a reference to particular loan moneys is to be read as including a reference to moneys that, in the opinion of the Commissioner, represent those loan moneys.

Paragraph (b) will provide specific illustrations of cases in which moneys are to be taken as representing the loan moneys. Under it, moneys received in repayment of a loan made out of loan moneys and moneys received back in respect of shares purchased or subscribed for out of loan moneys are to be deemed to represent the loan moneys.

Clause 9: Liability to withholding tax.

This clause, which amends section 128B(3.) of the Principal Act, will have two main effects. One is the withdrawal of a specific exemption from withholding tax which was intended to put in express terms a freedom from tax achieved also by the general provisions of the law. The other is the insertion of the two new exemptions which are the main features of this Bill.

Paragraph (a) of sub-clause (1.) will omit section 128B(3.)(h)(i) from the Principal Act. This provision exempts from withholding tax interest on money lodged at interest outside Australia with an Australian-resident bank. The exempting provision was intended to apply to deposits made by customers with overseas branches of Australian banks in the ordinary course of business. The general provisions of the Principal Act (section 128B(2.)(b)) confer the same freedom from tax as the specific exempting provision was intended to, and the specific provision is therefore redundant. Since the later provision has been viewed as providing an opportunity for the avoidance of withholding tax in other circumstances, it has been repealed.

Paragraph (b) of sub-clause (1.) will have the effect of exempting from withholding tax interest paid in relation to the two types of borrowing which are the main subjects of this Bill, and which are specified in section 128F (broadly, public issues of bearer debentures) and section 128G (broadly, borrowings supporting Australian ownership).

Sub-clause (2.) is connected with the proposed repeal of section 128B(3.)(h)(i). The repeal will not have effect in relation to interest on money lodged at interest outside Australia with a resident bank on or before the date of introduction of this Bill into Parliament, or lodged after that date in pursuance of a contractual obligation entered into with the bank concerned before then.

Clause 10: Certain income not included in assessable income.

The effect of this clause will be to exclude from the assessable income of a person interest which is otherwise subject to withholding tax and which qualifies for exemption under either of the two proposed sections 128F (public issues of bearer debentures) and 128G (borrowings supporting Australian ownership). That is, if the loans fulfil the various tests proposed, the interest will be free of both withholding tax and income tax levied by assessment. (Clause 5 of the Bill will ensure that, if the interest is payable in respect of overseas issues of bearer debentures that meet all the prescribed tests, it will not be exposed to the tax payable under section 126 where the names and addresses of the holders of the debentures are not supplied to the Commissioner.)

Clause 11: Insertion of new sections in Division 11A.

This clause proposes the insertion of new sections 128F to 128R in the Principal Act, as part of the proposals for new exemptions from withholding tax.

Section 128F : Division not to apply to interest on certain bearer debentures.

Section 128F is the provision which will set out the basis on which tax is not to apply to interest on certain publicly or otherwise widely distributed bearer debentures issued overseas by companies that are residents of Australia or that are overseas-resident subsidiaries of Australian resident companies. This exemption will be available irrespective of where ownership and control of the Australian-resident companies rest but the money will be required to be used in a business by a resident in Australia or, if used out of Australia, for purposes connected with an Australian business.

By reason of proposed section 125 (see clause 5) interest which meets the tests of section 128F will be exempt from tax under section 126 of the Principal Act.

Sub-section (1.) of the proposed section 128F specifies certain conditions which must be complied with for the section to have application. The section will apply to interest paid by a company where each of five tests set out in subsequent paragraphs is met. (See also sub-section (6.)).

Paragraph (a) of sub-section (1.) will require that the company be a resident of Australia both at the time the debentures were issued and on the occasion of each interest payment.

Paragraph (b) provides that, for the section to apply, the debentures must be issued outside Australia, the loan be raised outside Australia, and that the loan be raised in a foreign currency.

Paragraph (c) is designed to ensure that the security for the loan comprises bearer debentures throughout the period of the loan. The definition of the term 'bearer debenture' for this purpose has been explained in the notes on clause 8 of the Bill.

Under paragraph (d) the interest must be paid outside Australia in a foreign currency.

Paragraph (e) will have the effect of freeing the interest from tax only if the Commissioner has issued a certificate in respect of the loan. (He will do so in accordance with sub-section (4.), which is explained below.)

Sub-section (2.) will formally provide for Division 11A of Part III (the Division by which liability to withholding tax is established) to be inapplicable to interest to which section 128F applies.

Sub-section (3.) will place the initiative upon a company that has raised a loan by the issue of bearer debentures to apply in writing to the Commissioner for an exemption certificate.

Sub-section (4.) will require the Commissioner to issue a certificate where he is satisfied, having regard to certain facts, that it is reasonable to regard the debentures as having been issued with a view to public subscription or purchase or other wide distribution among investors. The Commissioner must also be satisfied (paragraph (b)) that the money is for use in, or in connexion with, a business carried on in Australia.

Paragraph (a) lists four factors to which the Commissioner is to have regard in deciding whether it is reasonable to regard the debentures as having been issued with a view to public subscription or purchase, or other wide distribution among investors. These are -

under sub-paragraph (i), the arrangements under which the debentures were offered for subscription or subscription and re-sale by initial subscribers;
under sub-paragraph (ii), the ordinary business practices of persons engaged in arranging the loan;
under sub-paragraph (iii), arrangements made to process applications for debentures; and
under sub-paragraph (iv), any circumstances indicating pre-arrangements for the moneys to be lent by persons connected with the borrower or the person who is ultimately to use the loan moneys.

Paragraph (b) of sub-section (4.) will require the Commissioner to be satisfied that the purpose of borrowing overseas was to use the money in an 'Australian business' as that term is defined in the proposed sub-section (7.) of section 128F. Under sub-paragraph (i) the business may be that of the borrower while sub-paragraph (ii) will operate to permit exemption where the Australian resident company which borrows overseas provides the money to some other person for use in the latter's Australian business.

If the Commissioner, after considering the matter, concludes that the various tests set out in the sub-section are met he will be obliged to give to the company a certificate of exemption. If, on the other hand, he considers the tests are not met he is to refuse the application for a certificate, in which event sub-section (5.) will be relevant.

Sub-section (5.) will require the Commissioner, if he refuses the application for an exemption certificate, to serve notice in writing to that effect on the borrowing company. As explained later in relation to proposed section 128P, this notice may be objected to as if it were a notice of an income tax assessment and accordingly the company will have the usual right to have the matter reviewed by a Taxation Board of Review. A Board of Review will have power, should it see fit, to direct the issue of a certificate of exemption.

Sub-section (6.) contains specific tests by which the exemption for interest on publicly and widely-offered bearer debentures may apply to borrowings through an overseas-resident borrowing subsidiary of an Australian resident company.

If an Australian company borrows through an overseas borrowing subsidiary, the interest on the borrowing is paid by the overseas subsidiary to foreign investors, and there are no Australian income tax consequences at that point because the transaction is one between non-residents. However, the loan moneys raised by an issue of bearer debentures by the overseas subsidiary will be lent to the Australian parent, which will in turn pay interest to the subsidiary to put it in funds to meet its interest commitments to the foreign holders of the bearer debentures issued by the subsidiary. In the absence of a specific provision, the interest paid from the Australian parent company to its subsidiary would be liable to withholding tax. Sub-section (6.) is designed to exempt that interest from withholding tax if the loan raised by the subsidiary satisfies all the tests already mentioned in relation to proposed section 128F(1.) and 128F(4.) (that is, in brief, it is a bearer debenture issued abroad to the public), and if the subsidiary's only business is to borrow money for its parent without making a profit.

Paragraphs (a) to (e) set out certain tests that must be met before the interest may qualify for exemption. They are -

(a)
the foreign non-resident subsidiary is wholly owned and controlled by the Australian resident parent;
(b)
the only business of the subsidiary is to borrow for the parent;
(c)
the subsidiary raises a loan overseas in a foreign currency by the issue of debentures outside Australia;
(d)
the interest on the debentures is payable outside Australia in a foreign currency; and
(e)
the subsidiary lends the money to the parent without taking a profit.

If these prerequisites are met, the loan raised by the subsidiary will be treated for purposes of section 128F as if it had been raised by the parent (paragraph (f)); as if the interest paid by the parent to the subsidiary were interest on bearer debentures paid outside Australia in a foreign currency (paragraph (g)); and as if the moneys received by the parent from the subsidiary were the loan moneys received by the issue of the bearer debentures (paragraph (h)). If, on these assumptions being made, the loan raised by the subsidiary meets the tests outlined in sections 128F(1.) and 128F(4.), the interest paid by the parent to the subsidiary will not be subject to withholding tax.

Sub-section (7.) in effect defines what is meant by the expression 'the use of moneys in an Australian business'. Under it, moneys will be regarded as for such use where they are -

(a)
for use in Australia by a person who is a resident of Australia for the purposes of a business carried on, or to be carried on, by that person wholly or partly in Australia, or to establish, acquire, or obtain an interest in such a business; or
(b)
for use outside Australia by a resident of Australia for purposes connected with the Australian operations of a business carried on by the resident wholly or partly in Australia.

Section 128G : Division not to apply to interest on certain loans.

This section will exempt from tax interest paid on loans borrowed overseas by Australian entities where the moneys are to be used to support Australian ownership and control, i.e., they are for use in an enterprise owned by an Australian entity (section 128J) or an enterprise in which there is substantial Australian participation (section 128K).

Sub-section (1.) specifies that the proposed section is to apply to interest in respect of a loan which complies with stated conditions -

under paragraph (a), the loan must have been raised outside Australia;
under paragraph (b), if the loan was raised by the issue of bearer debentures (e.g., a private issue of bearer debentures that did not meet the tests for exemption set out in proposed section 128F) the debentures must have been issued outside Australia by a company, the loan raised in a foreign currency, and the interest paid outside Australia in a foreign currency; and
under paragraph (c), the Commissioner must have issued a certificate under section 128H in respect of the loan.

Sub-section (2.) will provide exemption from withholding tax for interest to which section 128G applies.

Section 128H : Issue of certificates.

Section 128H will contain the rules for the issue of a certificate for the purposes of the exemption under section 128G. Broadly stated, the Commissioner will be required to issue a certificate if he is satisfied that the borrower was an Australian entity shortly before the loan was raised, and that the loan moneys are for use in an enterprise owned by an Australian entity, or in an enterprise in which there is substantial Australian participation. If the loan is passed through some other entities before reaching the enterprise which uses the funds, each of the interposed entities will need to be an Australian entity. Section 128J will set out what is meant by 'Australian entity' while section 128K will say what is meant by substantial Australian participation in an enterprise.

Sub-section (1.) of section 128H will place the initiative for seeking a certificate upon the entity that has borrowed from overseas. The application will need to be in writing.

Sub-section (2.) sets out four points about which the Commissioner will need to be satisfied before issuing a certificate.

Under paragraph (a) the borrower who initially raised the funds overseas must have been an Australian entity for a period of sixty days that ended on the sixtieth day before the loan contract was made or, as the case may be, subscriptions for securities were invited. The object of determining whether the borrower was an Australian entity during a period ending two months before the loan is made, is to enable borrowers to plan a borrowing in advance in the knowledge that they will be able to meet this test.

As explained later, proposed sub-section (4.) will empower the Commissioner, at the request of the borrower, to vary this period if special circumstances warrant the status of the entity being determined as at a different period.

Paragraph (b), which must be read with proposed sub-section (3.), will require the Commissioner to be satisfied that the loan moneys have been employed only for a qualifying use and are intended to be employed only for such a use, or for making moneys available to some other entity for a qualifying use. An effect of the latter alternative will be to permit a financial intermediary which is an Australian entity to borrow funds overseas to on-lend them for use by another Australian entity. By reason of the proposed sub-section (8.) of section 128A, a use of money will be a qualifying use if it is use of the money for purposes of an enterprise owned by an Australian entity or an enterprise in which there is substantial Australian participation.

Paragraph (c) of sub-section (2.) will require the commissioner to be satisfied that where the funds from overseas are lent, or are to be lent, for use in an enterprise which falls short of being owned by an Australian entity, but in which there is substantial Australian participation, the amount to be so lent in support of the Australian interests concerned does not exceed their fair share, having regard to the extent of Australian interest in the enterprise. In the absence of some provision to this effect it would be possible for all the funds which might be needed to finance an enterprise in which an Australian entity owned, say, only a 20 per cent interest, to be borrowed through the Australian entity, free of withholding tax.

Paragraph (d) will have the effect of requiring every entity interposed between the original borrower from overseas and the actual user of the funds, to be an Australian entity during a period of sixty days ending on the sixtieth day before the day on which it receives the loan moneys which it passes on. This is a similar test to that mentioned earlier in relation to the initial borrower (paragraph (a)) and again the reference period may, under sub-section (4.), be varied by the Commissioner at the request of the applicant.

If the Commissioner is satisfied that the tests of paragraphs (a) to (d) are met he is to give the entity that borrowed overseas a certificate accordingly. if not satisfied, he will be required to refuse the application and notify the applicant in writing (under sub-section (6.) of proposed section 128H).

Sub-section (3.) is intended to cover cases such as those in which funds borrowed abroad are placed temporarily in a bank account, or temporarily used in the short term money market, before being put to a qualifying use. In such cases the Commissioner is to be authorised to disregard the temporary deposit or investment.

Sub-section (4.) will provide some flexibility for applicants where, by reason of special circumstances that exist in the particular case, some other period should be substituted for the periods mentioned in paragraphs (a) or (d) of proposed section 128H(2.). For example, the company which borrows overseas may not have been in existence for the period specified in paragraph (a).

Sub-section (5.) is a measure designed to guard against possible exploitation of the proposed exemption. In the absence of this provision, financial institutions having access to funds from various sources could so arrange their borrowing and lending that little or no withholding tax would be payable on funds they borrow from abroad, and this could occur even though the practices they adopted enabled money to be lent to entities that were not Australian entities. The sub-section will authorise the Commissioner to refuse an application for an exemption certificate where special arrangements of this kind are entered into.

Sub-section (6.) will require the Commissioner to advise the applicant in writing if, for any reason, he refuses an application made under the section. As mentioned elsewhere in this memorandum a Taxation Board of Review may re-consider the Commissioner's refusal to give a certificate and if it, in its own judgment, considers one should be given may direct accordingly.

Section 128J : Australian entities.

This provision is central to the proposed exemption from tax to be conferred by section 128G. Broadly stated, that section, when read with proposed section 128H, will confer exemption only where the entity borrowing overseas is an Australian entity and the money is to be used in an enterprise owned by an Australian entity or an enterprise in which there is substantial Australian participation. By proposed section 128K an enterprise will have substantial Australian participation if there exists the extent of interest in it of Australian entities specified in that section.

As individual ordinarily resident in Australia will be an Australian entity. So too will the Commonwealth, a State and a Commonwealth or State authority. A company having a share capital will be an Australian entity if, broadly stated, at least 60 per cent of the rights of ownership attaching to its shares, and at least 60 per cent of its voting power, is held by Australian entities. That is, however, subject to the qualification that no one person who is not an Australian entity has more than 20 per cent of the ownership or control rights in respect of the company. A company that is itself an Australian entity by these tests will be regarded as an Australian entity for the purposes of determining whether another company in which it holds shares is an Australian entity. Section 128J also contains provisions for determining whether other entities are Australian entities.

Sub-section (1.) of proposed section 128J will specify that certain entities are in all circumstances Australian entities for the purposes of Division 11A -

under paragraph (a), the Commonwealth, a State, a Commonwealth or State authority and the trustees of a fund established by such entities are always to be regarded as Australian entities.
under paragraph (b), a natural person who is ordinarily resident in Australia is always to be an Australian entity.

Sub-section (2.) will set out the general principle to be followed, subject to the rest of the section, in determining whether an entity other than an entity referred to in sub-section (1.) is an Australian entity. To be an Australian entity, a company will also need to be a resident of Australia for income tax purposes.

Paragraph (a) will require that Australian entities have 'substantially preponderant' ownership and control of the entity. 'Ownership' for this purpose is to be determined on the basis of beneficial interests in relation to the entity (see notes on proposed sub-section (6.) of section 128A) while the question of the extent of a person's 'control' in relation to an entity will be determined on the basis of the extent to which he has an independent right to participate, directly or indirectly, in the control of the entity.

Paragraph (b) will add a further test that ownership and control rights in relation to the entity must not be concentrated to a significant extent in one non-Australian entity. For this purpose 'associated persons' (see notes on the definition of this term as proposed to be inserted in section 128A(1.)) are to be treated as one person.

Sub-section (3.) will oblige the Commissioner, when applying the general principles of sub-section (2.) to a company with a share capital, to treat the company as an Australian entity if it is a resident of Australia for income tax purposes and, in broad terms -

(a)
other Australian entities have 60 per cent or more of its ownership and control;
(b)
no one non-Australian entity (treating associated persons as one) has 20 per cent or more of its ownership and control; and
(c)
no non-Australian entity has rights over the appointment of directors, otherwise than by virtue of voting rights in respect of shares.

Paragraph (a) will set out how to measure whether a resident company with a share capital has sufficient Australian ownership and control to be an Australian entity. The company will qualify as an Australian entity if beneficial interests in capital, in distributions on a liquidation or a reduction of capital and in dividends, and rights to vote at meetings, are vested to the extent of not less than 60 per cent in persons who are themselves Australian entities. Voting rights are to be counted only if they are rights which the person may exercise according to his own judgment.

Paragraph (b) will elucidate the further general requirement that no person who is not an Australian entity should have a significant interest in the entity if it is to be an Australian entity. It is to be provided that no such person (treating associated persons as one) shall have an interest of more than 20 per cent in any of the ownership factors mentioned in paragraph (a), nor shall he be entitled to more than 20 per cent of voting rights in the company.

Paragraph (c) will add the requirement that a person who is not an Australian entity must not, otherwise than by virtue of voting rights in respect of shares, have rights over the appointment of directors or rights to be a director.

Sub-section (4.) will have the effect that shares beneficially owned by an Australian entity and which can be redeemed by the company are to be disregarded in calculating the various ownership and control factors.

Sub-section (5.) relates to the determination of whether an entity other than those mentioned in sub-sections (1.) and (3.), is an Australian entity. The sub-section will require the Commissioner, in applying the general principal of sub-section (2.), to have regard to the percentage and other requirements set out in sub-sections (3.) and (4.) of the section.

Sub-section (6.) will provide a means whereby the general principles of preceding sub-sections can be applied to the circumstances of cases which possess special or difficult features. It proposes that the Commissioner may treat an entity as an Australian entity even though it may not, or does not, fully comply with the preceding provisions of the section, or if there is a difficulty in applying those provisions or there are other special circumstances relating to the entity. The sub-section could apply, for example, in the application of the section to trusts, including charitable trusts, to companies limited by guarantee, and to mutual life assurance companies.

Sub-section (7.) will authorise the Commissioner to treat an entity that technically complies with the requirements of the section as not being an Australian entity if, having regard to the general effect of the provisions and to the special circumstances of the entity, he considers it would be inappropriate to regard it as an Australian entity.

Sub-section (8.) will specify that the special circumstances to which the Commissioner may have regard in applying sub-sections (6.) and (7.) include options or other rights to receive or acquire shares or other rights or interests (under paragraph (a)), and abnormal arrangements designed to secure exemption from withholding tax (under paragraph (b)).

Under sub-section (9.), it will depend on the facts at the time whether an entity is an Australian entity at that time.

Section 128K : Meaning of Australian participation in an enterprise.

Section 128K spells out what is meant by a substantial Australian participation in an enterprise. As explained earlier in relation to proposed sub-section 128A(8.), a qualifying use of moneys includes use for the purposes of an enterprise that is, or will as a result of the use become, an enterprise in which there is substantial Australian participation.

Sub-section (1.) of section 128K is designed to express the general principle that an enterprise is one in which there is substantial Australian participation if there is substantial participation by an Australian entity or entities in the ownership and control of the enterprise and if the extent and concentration of that participation represent an effective Australian influence in the carrying on of the enterprise.

Sub-section (2.) will give more precision to that principle in relation to an enterprise carried on by a company having a share capital. As in the somewhat similar provisions of proposed sub-section (3.) of section 128J the measurement of Australian participation will be based on rights in respect of paid-up capital, capital distributions, dividends and voting power.

Under sub-section (2.) an enterprise will be one in which there is substantial participation if, subject to the balance of the section, the beneficial interests in those ownership and control factors (as outlined in paragraphs (a), (b) and (c)) are vested to the extent of not less than -

20 per cent in one Australian entity (paragraph (d));
30 per cent in not more than 5 Australian entities (paragraph (e)); or
40 per cent in any number of Australian entities (paragraph (f)).

Sub-section (3.) will require that for the purposes of sub-section (2.), associated Australian entities will be treated as one.

Proposed sub-sections (4.), (5.), (6.), (7.), (8.) and (9.) are similar in wording and practical effect to the comparable sub-sections (4.) to (9.) of proposed section 128J, with the exception that the latter are concerned with the determination of what is an Australian entity, whereas the former relate to the determination of whether there is substantial Australian participation in an enterprise.

Section 128L : Treatment of two or more enterprises as one.

This section is designed as a safeguard against arrangements whereby an enterprise might be artificially divided into two or more enterprises in order to obtain an exemption under the provisions proposed by this Bill that would not have been available in the absence of those arrangements. For example, an enterprise owned by a company in which Australian entities owned only 10 per cent of the shares would not be eligible for exemption under proposed section 128G. Without this section it would be possible to obtain exemption under section 128G by arranging matters, without altering the level of Australian participation in the total enterprise, so that the Australian interests would be represented by a 60 per cent shareholding in a separate company formed to own part of the total enterprise.

Paragraph (a) of section 128L provides that the section may operate where two or more enterprises are employed to carry out different stages in the process of manufacture and sale of goods, or the operations of two or more enterprises are related in some other way.

Paragraph (b) provides that, for the section to operate, the Commissioner must be of the opinion that the respective interests, in the enterprises concerned, of Australian entities and non-Australian entities have been arranged so as to qualify for an exemption that would not have been obtainable if those arrangements had not been made.

Where paragraphs (a) and (b) apply, the Commissioner will be authorised to treat the enterprises concerned as one enterprise.

Section 128M : Certain banks to be treated as Australian entities and Australian residents.

By this section it is proposed that a company which, at the date of Royal Assent and at future relevant times, is authorised by the Banking Act 1959-1967 to carry on banking business in Australia, but is not a prescribed bank for purposes of section 25 of that Act, is to be treated for limited purposes as an Australian entity. Such a company will be regarded as an Australian entity in respect of overseas borrowings made by it, but not for the purposes of determining whether another entity in which it has an interest is an Australian entity or whether an enterprise in which it has an interest is one in which there is a substantial Australian participation. A company falling within this provision will also be regarded as an Australian resident for the purposes of section 128F relating to borrowings by Australian residents by means of bearer debentures.

Section 128N : Special tax payable in respect of exempt interest in certain circumstances.

As indicated previously, where a certificate is issued by the Commissioner under section 128H, interest on the overseas borrowings concerned that would otherwise be subject to withholding tax will be exempt, during the whole of the period of the borrowing, from withholding tax and tax by assessment. If the borrowing was made by the issue of bearer debentures, the interest will be similarly exempt from tax under section 126 so long as the test in paragraph (b) of section 128G(1.) continues to be met. Since the proposed exemption will have been taken into account by the overseas lender and the Australian borrower in settling the terms of the borrowing, it is not practicable to make the overseas lender liable for withholding tax if, e.g., as a result of subsequent changes in the use to which the loan moneys are put in Australia, exemption of the interest from tax is no longer available. Where interest becomes non-exempt in such circumstances it is proposed by section 128N to provide for the borrower to be liable for a tax equal to the withholding tax that, but for the exemption, would have been payable in respect of any part of the loan moneys that is not put to a qualifying use. The liability will apply in relation to interest for any period during which loan moneys were not so used.

Sub-section (1.) of section 128N will define two terms that are used in the section.

`Period of disqualification' is defined, broadly as a period, not including a temporary period referred to in sub-section (4.) of the section (see notes on that sub-section), during which the whole or a part of the loan moneys has not been put to a qualifying use.
Paragraph (a) of the definition provides that a period (being the whole or a part of a financial year) during which all or a part of the loan moneys are not put to a qualifying use - i.e., in broad terms, used for the purposes of an enterprise owned by an Australian entity or in which Australian entities substantially participate - is a period of disqualification. This could arise, for example, where the enterprise using the borrowed moneys is owned by an entity the shareholding interests in which change so that it is no longer an Australian entity.
Paragraph (b) of the definition refers to cases in which loan moneys have been on-lent to an enterprise in which there is substantial Australian participation. In such cases, loan moneys used for the purposes of such an enterprise are treated as being put to a qualifying use only to the extent that the moneys on-lent to the enterprise do not exceed the share of any funds required for the purposes of the enterprise that the participating Australian entities could reasonably be called upon to provide. This paragraph will apply where, due to a reduction in the extent of Australian participation in an enterprise (which nevertheless remains an enterprise in which there is substantial Australian participation) the amount of the loan moneys being used for the purposes of the enterprise exceeds the amount that would be an appropriate contribution to the funds of the enterprise in relation to the reduced Australian participation. In this event, paragraph (b) provides that the period during which the loan moneys being used for the purposes of the enterprise exceed the appropriate Australian contribution will be a period of disqualification.
'The relevant part' of the loan moneys is defined as the amount thereof that is not being put to a qualifying use (paragraph (a)) or the amount by which the loan moneys on-lent to an enterprise in which there is substantial Australian participation exceed the contributions to the funds of the enterprise appropriate to the level of Australian participation (paragraph (b)). If any of the interest on the overseas borrowings would have been exempt from withholding tax apart from the exemption proposed under section 128G - e.g., interest on borrowings from an overseas lender such as a pension fund or charity - the 'relevant part' is to be reduced to the extent that the Commissioner considers reasonable in all of the circumstances.

Sub-section (2.) of section 128N is the operative provision by which it is proposed that special tax will be imposed.

Paragraphs (a), (b) and (c) set out the conditions for the application of the sub-section. Under paragraph (a) it will be necessary that the loan be one in respect of which a certificate has been issued under proposed section 128H. Accordingly, the special tax under section 128N will not be payable in respect of interest that has been exempted under section 128F in the case of publicly or otherwise widely distributed issues of bearer debentures.

Paragraph (b) of sub-section (2.) contains the condition that interest on the loan concerned be payable in respect of a period of disqualification, that is, that interest must have accrued in relation to that period. The condition in paragraph (c) will mean that special tax can only be payable if this interest, or any of it, was exempted from withholding tax or section 126 tax by reason of sections 128G and 128H.

Where paragraphs (a), (b) and (c) apply, the borrower or borrowers who raised the overseas loan are to be liable to pay special tax, proposed to be imposed by the Income Tax (Withholding Tax Recoupment) Bill 1971, on the interest applicable to the relevant part of the loan moneys that has become payable in respect of the period of disqualification. The Bill does not give the borrower or borrowers a statutory right to recoup the tax from the lenders.

Sub-section (3.) provides for the possibility that different rates of interest may be payable in respect of different portions of the one loan and proposes that, if special tax becomes payable in respect of a part of that loan, the taxable part is to be deemed to comprise portions to which each interest rate is applicable in the same proportions as in the whole of the loan. In effect, the weighted average rate of interest on the whole loan will be used in assessing the amount of interest applicable to the relevant part on which special tax will be imposed.

Sub-section (4.) will authorise the Commissioner to disregard, for the purposes of the definition of 'period of disqualification', any temporary delay in putting loan moneys to a qualifying use or any temporary failure of an entity to qualify as an Australian entity or of an enterprise to qualify as one in which there is substantial Australian participation. Accordingly any period that is reasonably required in order to make arrangements for putting loan moneys to a qualifying use will not be treated as a period of disqualification, nor will short periods during which, as a result of fluctuations in shareholdings, an entity temporarily fails to qualify as an Australian entity, be treated as periods of disqualification.

Sub-section (5.) is a machinery provision and will require that the notice of assessment of special tax is to be addressed to the person or persons liable to pay the tax at an address ascertained in accordance with provisions for that purpose in the income tax Regulations.

Sub-section (6.) refers to the further tax, corresponding with the additional tax for late payment of withholding tax, proposed to be imposed by clause (6.)(b) of the Income Tax (Withholding Tax Recoupment) Bill 1971. (See notes on that Bill later in this memorandum). This sub-section authorises the Commissioner to remit the whole or part of the further tax if he considers the circumstances of a case justify such a course. This is in line with a similar power to remit the additional tax for late payment of withholding tax given to the Commissioner under section 221YN(5.) of the Principal Act.

Section 128P : Reviews and appeals

This section will provide a means whereby a refusal by the Commissioner of an application for a certificate under section 128F or section 128H may be tested before an independent tribunal. As explained earlier, the exemptions provided under proposed sections 128F and 128G are available only where the Commissioner issues a certificate under section 128F or section 128H as the case may be.

Where the Commissioner refuses an application for a certificate he is required, by section 128F(5.) or section 128H(6.) to give the applicant written notice that the application has been refused.

Sub-section (1.) of section 128P in broad terms provides that the remedies provided by Division 2 of Part V of the Principal Act for taxpayers dissatisfied with income tax assessments, are also to be available to an applicant dissatisfied with a refusal by the Commissioner of an application for a certificate.

By virtue of this sub-section, an applicant who is dissatisfied with the refusal of his application for a certificate may, within 60 days after service of the notice of refusal lodge with the Commissioner an objection in writing against the refusal stating fully and in detail the grounds on which he relies. The objection must be considered by the Commissioner who may disallow it, or allow it, and must then give notice in writing of his decision on the objection.

An applicant who is dissatisfied with a decision on an objection made by him will have a right, within 60 days after service on him of notice of the decision, to request that it be referred to a Board of Review for review or that his objection be treated as an appeal and forwarded to the High Court or the Supreme Court of a State.

For the purposes of reviewing decisions of the Commissioner, the Board of Review is, by section 193 of the Principal Act, given the powers and functions of the Commissioner. As mentioned in the explanations of proposed sections 128F and 128H, the issue or refusal of a certificate depends on whether or not the Commissioner is satisfied as to certain matters. Since the Board is given the powers and functions of the Commissioner, it may independently decide whether or not it is satisfied as to the matters concerned and, in accordance with sub-section (2.) of proposed section 128P, may either confirm the refusal of the application or direct the issue of a certificate. Where a Board of Review confirms the Commissioner's refusal to issue a certificate, the applicant has the right of appeal to the High Court on any question of law involved in the Board's decision.

Section 128Q : Power of Commissioner to obtain information.

The proposed section 128Q is designed to ensure that the provisions of section 264 of the Principal Act will apply to authorise the Commissioner to obtain such information and evidence as he may require in the administration of the provisions to be inserted in the Principal Act by the Bill.

Section 128R : Informal arrangements.

This section will authorise the Commissioner to have regard to arrangements, understandings and practices whether or not they have legal force. Its purpose is to enable the Commissioner to take any such arrangements into account where they are relevant to basic features of the proposed exemption provisions (e.g., the provisions relating to ownership and control of entities) even though the arrangements may not have legal force.

Clause 12: Application of amendments.

This clause specifies the commencing date for the application of the proposed new sections 128F and 128G of the Principal Act. As explained in the notes on clause 2, the Income Tax Assessment Act (No. 2) 1971 will come into operation on the day on which it receives the Royal Assent. Broadly stated, the exemptions proposed by sections 128F and 128G will be available only in respect of interest on loans contracted on or after the date of Royal Assent.

Sub-clause (1.) relates to interest on debentures and provides, in effect, that exemption under section 128F or 128G will be available in respect of debentures issued on or after the date of Royal Assent except where issued after that date in response to an invitation to subscribe made before that date. As mentioned in the notes on proposed new section 128A(5.), the issue of a number of debentures in one borrowing operation is to be treated as the raising of one loan. Sub-clause (1.) will avoid the possibility of exemption being available for interest on some, but not all, debentures issued in the one borrowing operation and on the same terms and conditions.

Sub-clause (2.) refers to borrowings otherwise than by the issue of debentures and provides that exemption will be available under the proposed new section 128G in respect of interest on loans made on or after the date of Royal Assent, except where a loan is made after that date in pursuance of a contract entered into before that date. This exclusion, which is similar to that in sub-clause (1.), is related to the provision in proposed new section 128A(5.)(b) that each receipt of moneys under a contract is to be treated as a separate loan.

INCOME TAX (WITHHOLDING TAX RECOUPMENT) BILL 1971

The broad purpose of this Bill is to impose a tax of 10 per cent in cases where a borrowing initially meets the tests for exemption under the scheme for borrowings for enterprises owned by Australian entities, or in which there is substantial Australian participation, but which subsequently does not satisfy those tests. For example, the company that is using the money borrowed abroad may cease to be one in which there is a 60 per cent Australian interest. In broad effect, the tax is in substitution for the withholding tax that, but for the proposed amendments to the Income Tax Assessment Act, would have been payable in these circumstances.

Clauses 1 to 4

Clauses 1 to 4 are formal provisions. Conformably with clause 2 of the Income Tax Assessment Bill (No. 2) 1971, clause 2 of this Bill will make the measure operative from the date of Royal Assent.

Clause 5: Imposition of tax.

As explained earlier in these notes, proposed section 128N (being inserted in the Assessment Act by clause 11 of the Income Tax Assessment Bill (No. 2) 1971) will lay down the circumstances in which the 'substitute' withholding tax will be levied. This clause will formally impose the tax to be levied by reason of section 128N.

Clause 6: Amount of tax.

By paragraph (a), the rate of tax under section 128N is to be 10 per cent, which is the same as the rate of withholding tax on interest (see Income Tax (Non-resident Dividends and Interest) Act 1967) and the rate of tax under the Income Tax (Bearer Debentures) Bill 1971 on certain interest on particular overseas issues of bearer debentures.

Paragraph (b) will impose a further tax based on the tax determined under paragraph (a). The broad practical effect of paragraph (b) is to provide for a payment equivalent to an additional tax for late payment of withholding tax. Should the tax imposed by paragraph (a) become payable in any case, it will be a case where, had the interest remained subject to tax (normally withholding tax), the person paying the interest overseas would have been liable to pay, under section 221YN(4.) of the Assessment Act, an additional tax by way of penalty for late payment at the rate of 10 per cent per annum calculated from the twenty-first day following the month in which the interest was paid to the day on which the withholding tax deducted was remitted to the Commissioner. In these circumstances the broad object of paragraph (b) is to leave the payer of the interest in no better position than he would have been in had the interest on which the special tax becomes payable never met the tests for exemption.

As is usual with statutorily imposed additional tax by way of penalty (Cf. sections 207, 221YN and 226 of the Assessment Act) sub-section (6.) of the proposed section 128N being inserted in the Assessment Act will authorise the Commissioner to remit, either wholly or in part, the tax payable under paragraph (b).

INCOME TAX (BEARER DEBENTURES) BILL 1971

The purpose of this bill is to declare the rates of tax payable under section 126 of the Assessment Act on interest paid by a company on bearer debentures where the names and addresses of the holders of the debentures are not provided by the company concerned to the Commissioner of Taxation.

Clauses 1 to 4

Clauses 1 to 4 are formal provisions. Like clause 2 of the Income Tax Assessment Bill (No. 2) 1971, clause 2 of this Bill will bring the proposed Act into operation on the day on which it receives the Royal Assent.

Clause 5: Imposition of tax.

This clause will formally impose the tax payable under section 126 of the Assessment Act on bearer debenture interest paid to persons whose identity is not revealed. As explained in the notes on clause 6 of the Income Tax Assessment Bill (No. 2) 1971, provisions by which the rate of tax under section 126 is determined are currently found in section 126 itself.

Clause 6: Rate of tax.

Two rates of tax are to be levied by this clause on interest to which section 126 applies.

By paragraph (a) the rate of tax will be 10 per cent. This rate will apply to interest on certain overseas-issued bearer debentures where all the tests for the proposed exemption of the interest from tax are not met. The issues to which the 10 per cent rate will apply are those where-

(a)
the borrowing company is a resident of Australia;
(b)
the debentures are issued outside Australia in connexion with a loan raised outside Australia in a foreign currency;
(c)
the debentures are 'bearer debentures' (see proposed definition being inserted by clause 8 of the Income Tax Assessment Bill (No. 2) 1971); and
(d)
the interest is paid outside Australia in a foreign currency.

Paragraph (b) will continue the present rate of tax under section 126 in relation to other cases. The current rate of tax is that applicable under the Income Tax Act 1970 in relation to a taxable income of $16,786, i.e., 41.65066 per cent. The paragraph also contains, in its closing words, provisions which are now found in section 128 of the Assessment Act and which operate, in cases where the general rates of tax are changed, to fix the rate of tax as that applicable when the interest is paid, rather than the rate of tax which may subsequently be declared as applicable for the year concerned. Clause 7 of the Income Tax Assessment Bill (No. 2) 1971 will amend section 128.


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