Explanatory Memorandum
(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)Chapter 1 - Agreement with Romania
Main features of the Agreement
1.1 The Double Tax Agreement (DTA) between Australia and Romania accords substantially with Australia's recent comprehensive DTAs.
1.2 The features of the DTA include:
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- Dual resident individuals (i.e. persons, who are residents of both Australia and Romania according to the domestic law of each country) are, in accordance with specified criteria, to be treated for the purposes of the DTA as being residents of only one country.
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- Income from real property may be taxed in full by the country in which the property is situated. Income from real property for these purposes includes natural resource royalties.
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- Business profits are generally to be taxed only in the country of residence of the recipient unless they are derived by a resident of one country through a branch or other prescribed 'permanent establishment' in the other country, in which case the other country may tax the profits.
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- Profits from the international operations of ships and aircraft are to be taxed only in the country in which the place of effective management of the enterprise is situated.
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- Profits of associated enterprises may be taxed on the basis of dealings at arm's length.
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- Dividends, interest and royalties may generally be taxed in both countries, but there are limits on the tax that the country in which the dividend, interest or royalty is sourced may charge on such income flowing to residents of the other country who are beneficially entitled to that income. These limits are 10% for both interest and royalties. A limit of 5% is payable in the source country on dividends which have been fully taxed at the corporate level and where the dividend recipient is a company that holds directly at least 10% of the capital of the company paying the dividends. A 15% limitation on source country tax applies to all other dividends.
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- Income, profits or gains from the alienation of real property may be taxed in full by the country in which the property is situated. Subject to that rule and other specific rules in relation to business assets and some shares, capital gains are to be taxed in accordance with the domestic law of each country.
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- Income from professional services and other similar activities provided by an individual will generally be taxed only in the country of residence of the recipient. However, remuneration derived by a resident of one country in respect of professional services rendered in the other country may be taxed in the other country, if it is derived through a fixed base of the person concerned in the latter country.
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- Income from dependent personal services , that is, employee's remuneration, will generally be taxable in the country where the services are performed. However, where the services are performed during certain short visits to one country by a resident of the other country, the income will be exempt in the country visited.
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- Directors' fees and similar payments may be taxed in the country of residence of the paying company.
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- Income derived by entertainers and sportspersons may generally be taxed by the country in which the activities are performed.
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- Pensions and annuities may be taxed only in the country of residence of the recipient.
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- Government service remuneration will generally be taxed only in the country that pays the remuneration. However, the remuneration may be taxed in the other country in certain circumstances where the services are rendered in that other country.
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- Income of visiting students will be exempt from tax in the country visited insofar as it consists of payments made from abroad for the purposes of their maintenance or education.
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- Income not expressly mentioned (i.e. income not dealt with by other articles) may generally be taxed in both countries, with the country of residence of the recipient providing double tax relief.
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- Double taxation relief
for income which under the DTA may be taxed by both countries is required to be provided by the country in which the taxpayer is resident under the terms of the DTA as follows:
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- in Australia , by allowing a credit against Australian tax for Romanian tax paid on income derived by a resident of Australia from sources in Romania. In the case of certain dividend payments from a company resident in Romania to a related Australian resident company, the Romanian tax to be credited includes the 'underlying tax' in respect of the profits out of which the dividend was paid; and
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- in Romania , by allowing an exemption from or a deduction against Romanian tax for the Australian tax paid on income derived by a resident of Romania from sources in Australia.
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- In the case of Australia, effect will be given to the double tax relief obligations arising under the DTA by application of the general foreign tax credit provisions of Australia's domestic law, or the relevant exemption provisions of that law where applicable.
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- Consultation and exchange of information between the 2 taxation authorities is authorised by the DTA.
Agreement between Australia and Romania
1.3 This article establishes the scope of the application of the DTA by providing for it to apply to persons (defined to include companies) who are residents of one or both of the countries. It generally precludes extra-territorial application of the DTA.
1.4 The application of the DTA to persons who are dual residents (i.e. residents of both countries) is dealt with in Article 4.
1.5 This article specifies the existing taxes of each country to which the DTA applies. These are, in the case of Australia:
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- the Australian income tax; and
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- the resource rent tax in respect of offshore petroleum projects.
1.6 In the case of Australia, income tax (including that imposed on capital gains) and resource rent tax are covered by the DTA. Sales tax, goods and services tax, fringe benefits tax, wool tax and levies, customs duties, State tax and duties and estate tax and duties are not covered by the DTA. [Subparagraph 1(b)]
1.7 It is specifically stated that the article applies only to taxes imposed under the federal law of Australia. This is to ensure that the DTA does not bind Australian States and Territories and applies only to federal taxes.
1.8 For Romania, the DTA applies to:
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- the tax on income derived by individuals;
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- the tax on profit;
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- the tax on salaries and other similar remuneration;
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- the tax on dividends; and
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- the tax on agricultural income.
Identical or substantially similar taxes
1.9 The application of the DTA will be automatically extended to any identical or substantially similar taxes which are subsequently imposed by either country in addition to, or in place of, the existing taxes. A duty is imposed on Australia and Romania to notify each other within a reasonable time of any substantial changes to their respective laws to which the DTA applies. [Paragraph 2]
Article 3 - General definitions
1.10 As with Australia's other modern taxation agreements, Australia , when used in a geographical sense, is defined to include certain external territories and areas of the continental shelf. By reason of this definition, Australia preserves its taxing rights, for example, over mineral exploration and mining activities carried on by nonresidents on the seabed and subsoil of the relevant continental shelf areas (under section 6AA of the Income Tax Assessment Act 1936 (ITAA 1936), certain sea installations and offshore areas are to be treated as part of Australia). The definition is also relevant to the taxation by Australia and Romania of shipping profits in accordance with Article 8 of the DTA. [Subparagraph 1(b)]
1.11 The definition of 'company' in the DTA accords with Australia's DTA practice. It reflects the fact that Australia's domestic tax law does not specifically use the expression body corporate for tax purposes.
1.12 The Australian tax law treats certain trusts (public unit trusts and public trading trusts) and corporate limited partnerships as companies for income tax purposes. These entities are included as companies for the purposes of the DTA. [Subparagraph 1(e)]
1.13 For the purposes of the DTA, the term 'tax' does not include any amount of penalty or interest imposed under the respective domestic law of the 2 countries. This is important in determining a taxpayer's entitlement to a foreign tax credit under the double tax relief provisions of Article 23 (Methods of elimination of double taxation) of the DTA.
1.14 In the case of a resident of Australia, any penalty or interest component of a liability determined under the domestic taxation law of Romania with respect to income that Romania is entitled to tax under the DTA, would not be a creditable 'Romanian tax' for the purposes of Article 23.2 of the DTA. This is in keeping with the meaning of foreign tax in the ITAA 1936 (subsection 6AB(2) Foreign Income and Foreign Tax). Accordingly, such a penalty or interest liability would be excluded from calculations when determining the Australian resident taxpayer's foreign tax credit entitlement under Article 23.2 (pursuant to Division 18 of Part III of the ITAA 1936 Credits in Respect of Foreign Tax). [Subparagraph 1(g)]
Definition of international traffic
1.15 In this DTA this term is of relevance only for alienation of ships and aircraft (Article 13.3) and wages of crew (Article 15.3).
Terms not specifically defined
1.16 Where a term is not specifically defined within this DTA, that term (unless used in a context that requires otherwise) is to be taken to have the same interpretative meaning as it has under the domestic taxation law of the country applying the DTA at the time of its application, with the meaning it has under the taxation law of the country having precedence over the meaning it may have under other domestic laws.
1.17 If a term is not defined in the DTA, but has an internationally understood meaning in double tax treaties and a meaning under the domestic law the context would normally require that the international meaning be applied. [Paragraph 2]
1.18 This article sets out the basis by which the residential status of a person is to be determined for the purposes of the DTA. Residential status is one of the criteria for determining each country's taxing rights and is a necessary condition for the provision of relief under the DTA. The concept of who is a resident according to each country's taxation law provides the basic test. [Paragraph 1]
1.19 In the Australian context this means that Norfolk Island residents, who are generally subject to Australian tax on Australian source income only, will not be residents of Australia for the purposes of the DTA. Accordingly, Romania will not have to forgo tax in accordance with the DTA on income derived by residents of Norfolk Island from sources in Romania (which will not be subject to Australian tax). [Paragraph 2]
1.20 The article also includes a set of tie-breaker rules for determining how residency is to be allocated to one or other of the countries for the purposes of the DTA if a taxpayer, whether an individual, a company or other entity, qualifies as a dual resident, that is, as a resident under the domestic law of both countries.
1.21 The tie-breaker rules for individuals apply certain tests, in a descending hierarchy, for determining the residential status (for the purposes of the DTA) of an individual who is a resident of both countries under their respective domestic laws.
1.22 These rules, in order of application, are:
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- if the individual has a permanent home in only one of the countries, the person is deemed to be a resident solely of that country for the purposes of the DTA;
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- if the individual has a permanent home available in both countries or in neither, then their residential status takes into account the person's personal or economic relations (including the person's habitual abode) with Australia and Romania, and the person is deemed to be a resident only of the country for the purposes of the DTA with which they have the closer personal and economic relations; and
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- if the residential status cannot be determined under the above rules, the competent authorities shall consult each other with a view to resolving the matter.
[Paragraph 3]
1.23 Dual residents remain, however, in relation to each country, a resident for the purposes of their domestic law and subject to its tax as such insofar as the DTA allows.
1.24 Where a non-individual (such as a body corporate) is a resident of both countries for their domestic tax purposes, the entity will be deemed to be a resident of the country in which its place of effective management is situated. [Paragraph 4]
Article 5 - Permanent establishment
1.25 Application of various provisions of the DTA (principally Article 7 relating to business profits) is dependent upon whether a person who is a resident of one country carries on business through a 'permanent establishment' in the other, and if so, whether income derived by the person in the other country is attributable or effectively connected with that 'permanent establishment'. The definition of the term 'permanent establishment' which this article embodies, corresponds generally with definitions of the term in Australia's more recent DTAs.
Meaning of permanent establishment
1.26 The primary meaning of the term permanent establishment is expressed as being a fixed place of business through which the business of an enterprise is wholly or partly carried on. A 'permanent establishment' must comply with the following requirements:
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- there must be a place of business;
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- the place of business must be fixed (both in terms of physical location and in terms of time); and
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- the business of the enterprise must be carried on through this fixed place.
[Paragraph 1]
1.27 Other paragraphs of the article elaborate on the meaning of the term by giving examples (by no means intended to be exhaustive) of what may constitute a 'permanent establishment' for example:
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- an office;
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- a workshop; or
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- a mine.
As paragraph 2 of Article 5 is subordinate to paragraph 1 of Article 5, the examples listed will only constitute a 'permanent establishment' if the primary definition in paragraph 1 is satisfied. [Paragraph 2]
Agricultural, farming or forestry activities
1.28 All of Australia's comprehensive DTAs include as a 'permanent establishment' an agricultural, pastoral or forestry property. This reflects Australia's policy of retaining taxing rights over exploitation of Australian land for the purposes of primary production. This approach ensures that the arm's length profits test provided for in Article 7 (Business profits) apply to the determination of profits derived from these activities. This position is also reflected in this DTA. [Subparagraph 2(g)]
Building sites or construction, installation or assembly projects
1.29 Also consistent with Australia's DTA practice, subparagraph 2(h) of the DTA includes building sites or construction, installation or assembly projects which exist for more than 9 months as examples of a 'permanent establishment'. Building sites, construction, installation and assembly projects lasting less than 9 months, which nevertheless meet the requirements for a fixed place of business, will be 'permanent establishments'.
1.30 The term a building site or construction, installation or assembly project covers constructional activities such as excavating or dredging. The term 'building site' can only mean such work as is directly connected with the erection of buildings and similar projects (earth work, masonry, painting, roofing, glazing and plumbing). Planning and supervision are certainly part of the building site if carried out by the construction contractor. However, planning and supervision of work does not represent a building site if carried out by another enterprise (see paragraph 1.35 regarding subparagraph 4(a) of Article 5).
Preparatory and auxiliary activities
1.31 Certain activities are deemed not to give rise to a 'permanent establishment'; for example, use of facilities or maintenance of a stock of goods solely for storage, display or delivery, or preparatory or auxiliary activities.
1.32 Generally these activities are of a preparatory or auxiliary character and are unlikely to give rise to substantial profits. The necessary economic link between the activities of the enterprise and the country in which the activities are carried on does not exist in these circumstances.
1.33 Unlike the OECD Model Tax Convention on Income and Capital (OECD Model), which provides that the listed activities are deemed not to constitute a 'permanent establishment', the DTA incorporates the Australian DTA approach of stating that an enterprise will not be deemed to have a 'permanent establishment' merely by reason of such activities. This is to prevent the situation where enterprises structure their business so that most of their activities fall within the exceptions when viewed as a whole the activities ought to be regarded as a 'permanent establishment'.
1.34 Another feature consistent with Australia's DTA practice is that subparagraph 4(f) of the OECD Model dealing with combinations of the activities in subparagraphs (a) to (e) is not included. Australia does not consider that an enterprise undertaking multiple functions of the kind indicated in subparagraphs (a) to (e) could reasonably be regarded as only engaged in preparatory or auxiliary activities. [Paragraph 3]
Deemed permanent establishments
1.35 Supervisory activities carried on for more than 6 months in connection with a building site or a construction, installation or assembly project are deemed to constitute a 'permanent establishment'. Australia has a reservation to Article 5 of the OECD Model reflecting this position. The rationale for inclusion of this provision is the prevalence of the use in Australia of imported expertise in relation to supervision of such projects. [Subparagraph 4(a)]
1.36 Under subparagraph 4(b) an enterprise is deemed to have a 'permanent establishment' in a State if substantial equipment is being used in that State for more than 6 months by, for or under contract with the enterprise.
1.37 This position reflects in Australia's reservation to the OECD Model and one effect is to further protect Australia's right to tax income from natural resources. Australia's experience is that the 'permanent establishment' provision in the OECD Model may be inadequate to deal with high value activities involved in the development of natural resources, particularly in offshore regions.
1.38 Some examples of substantial equipment would include:
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- large industrial earthmoving equipment or construction equipment used in road building, dam building or powerhouse construction, etc;
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- manufacturing or processing equipment used in a factory;
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- oil and drilling rigs, platforms and other structures used in the petroleum/mining industry; and
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- grain harvesters and other large agricultural machinery.
1.39 For the purposes of the DTA the enterprise is deemed to carry on business through the substantial equipment 'permanent establishment'. [Subparagraph 4(b)]
1.40 Subparagraph 5(a) reflects Australia's DTA practice in relation to a person who acts on behalf of an enterprise of another country of deeming that person to constitute a 'permanent establishment' if that person has and habitually exercises an authority to conclude contracts on behalf of the enterprise. This will apply unless the agent's activities are limited to the purchase of goods or merchandise for the enterprise, or the agent is an 'independent agent' to whom paragraph 6 applies. [Subparagraph 5(a)]
1.41 The inclusion of subparagraph 5(b) is consistent with another of Australia's reservations to the OECD Model. It deals with so-called cost-toll situations, under which a mineral plant, for example, refines minerals at cost, so that the plant operations produce no Australian profits. Title to the refined product remains with the mining consortium and profits on sale are realised mainly outside of Australia.
1.42 Subparagraph 5(b) deems such a plant to be a 'permanent establishment' because the manufacturing or processing activity (which gives the processed minerals their real value) is conducted in Australia, and therefore Australia should have taxing rights over business profits arising from the sale of the processed minerals to the extent that they are attributable to the processing activity carried on in Australia. This subparagraph prevents an enterprise which carries on very substantial manufacturing or processing activities in a country through an intermediary from claiming that it does not have a 'permanent establishment' in that country.
1.43 The inclusion of this subparagraph is insisted upon by Australia in its DTAs and is consistent with Australia's policy of retaining taxing rights over profits from exploitation of its mineral resources. [Subparagraph 5(b)]
1.44 Business carried on through an independent agent does not, of itself, constitute a 'permanent establishment', provided that the independent agent is acting in the ordinary course of that agent's business as such an agent. [Paragraph 6]
1.45 Generally a subsidiary company will not be a 'permanent establishment' of its parent company. A subsidiary, being a separate legal entity, would not usually be carrying on the business of the parent company but rather its own business activities. However a subsidiary company gives rise to a 'permanent establishment' if the subsidiary permits the parent company to operate from its premises such that the tests in paragraph 1 of Article 5 are met, or acts as an agent such that a dependent agent 'permanent establishment' is constituted. [Paragraph 7]
1.46 The principles set down in this article are also to be applied in determining whether a 'permanent establishment' exists in a third country or whether a third country has a 'permanent establishment' in Australia (or in Romania) when applying the source rule contained in:
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- paragraph 6 of Article 11 (Interest); and
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- paragraph 5 of Article 12 (Royalties).
[Paragraph 8]
Article 6 - Income from real property
Where income from real property is taxable
1.47 This article provides that the income of a resident of one country from real property situated in the other country may be taxed by the other country. Thus, income from real property in Australia will be subject to Australian tax laws. [Paragraph 1]
1.48 Income from real property is effectively defined as extending, in the case of Australia , to:
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- the direct use, letting or use in any other form of real property and any other interest in or over land (including exploration and mining rights); and
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- royalties and other payments relating to the exploration for or exploitation of mines or quarries or other natural resources or rights in relation thereto.
1.49 In the case of Romania, real property is generally defined as immovable property and includes:
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- property accessory to immovable property;
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- livestock and equipment used in agriculture and forestry;
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- rights to which the provisions of the general law respecting landed property apply; and
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- lease and usufruct of immovable property and rights to variable or fixed payments either as consideration for or in respect of the exploitation of, or the right to explore for or exploit, mineral deposits, oil or gas wells, quarries or other places of extraction or exploitation of natural resources.
[Paragraphs 2 and 4]
1.50 Ships and aircraft shall not be regarded as real property. [Paragraph 2]
1.51 Under Australian law the situation of an interest in land, such as a lease, is not necessarily where the underlying property is situated there may not necessarily be a situs. Paragraph 3 puts the situation of the interest or right beyond doubt. [Paragraph 3]
Ownership of shares or other corporate rights
1.52 Where the ownership of shares or other corporate rights in a company entitles the owner of such shares or corporate rights to use real property held by the company in a country, income from such rights may be taxed by that country. The operation of paragraph 5 extends to income derived by an enterprise from a right to use referred to in that paragraph and to income from such a right that is used for the performance of independent personal services. [Paragraphs 5 and 7]
Real property of an enterprise and of persons performing independent personal services
1.53 The operation of this article extends to income derived from the use or exploitation of real property of an enterprise and income derived from real property that is used for the performance of independent personal services.
1.54 Accordingly, application of this article (when read with Articles 7 and 14) to such income ensures that the country in which the real property is situated may impose tax on the income derived from that property by:
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- an enterprise of the other country; or
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- an independent professional person resident in that other country,
irrespective of whether or not that income is attributable to a 'permanent establishment' of such an enterprise, or 'fixed base' of such a person, situated in the firstmentioned country. [Paragraph 6]
1.55 This article is concerned with the taxation of business profits derived by an enterprise that is a resident of one country from sources in the other country.
1.56 The taxing of these profits depends on whether they are attributable to the carrying on of a business through a 'permanent establishment' in the other country. If a resident of one country carries on business through a 'permanent establishment' (as defined in Article 5) in the other country, the country in which the 'permanent establishment' is situated may tax the profits of the enterprise that are attributable to that 'permanent establishment'.
1.57 If an enterprise which is a resident of one country carries on business in the other country other than through a 'permanent establishment' in that other country, the general principle of the article is that the enterprise will not be liable to tax in the other country on its business profits (but see the explanation in paragraphs 1.61 and 1.62 concerning paragraph 6 of the article). [Paragraph 1]
Determination of business profits
1.58 Profits of a 'permanent establishment' are to be determined for the purposes of the article on the basis of arm's length dealing. The provisions in the DTA correspond to international practice and the comparable provisions in Australia's other DTAs. [Paragraphs 2 and 3]
1.59 No profits are to be attributed to a 'permanent establishment' merely because it purchases goods or merchandise for the enterprise. Accordingly, profits of a 'permanent establishment' will not be increased by adding to them any profits attributable to the purchasing activities undertaken for the head office. It follows, of course, that any expenses incurred by the 'permanent establishment' in respect of those purchasing activities will not be deductible in determining the taxable profits of the 'permanent establishment'. [Paragraph 4]
1.60 This article allows for the application of the domestic law of the country in which the profits are sourced (e.g. Australia's Division 13 of the ITAA 1936) where, due to inadequate information, the correct amount of profits attributable on the arm's length principle basis to a 'permanent establishment' cannot be determined or can only be ascertained with extreme difficulty. [Paragraph 5]
Income or gains dealt with under other articles
1.61 Where income or gains are otherwise specifically dealt with under other articles of the DTA the effect of those particular articles is not overridden by this article.
1.62 This provision lays down the general rule of interpretation that categories of income or gains which are the subject of other articles of the DTA (e.g. shipping, dividends, interest, royalties and alienation of property) are to be treated in accordance with the terms of those articles and as outside the scope of this article (except where otherwise provided e.g. by Article 10.5 where the income is effectively connected to a 'permanent establishment'). [Paragraph 6]
1.63 Each country has the right to continue to apply any provisions in its domestic law relating to the taxation of income from insurance. However, if the relevant law in force in either country at the date of signature of the DTA is varied (otherwise than in minor respects so as not to affect its general character), the countries must consult with each other with a view to agreeing to any amendment of this paragraph that may be appropriate. An effect of this paragraph is to preserve, in the case of Australia, the application of Division 15 of Part III of the ITAA 1936 (Insurance with non-residents). [Paragraph 7]
1.64 The principles of this article will apply to business profits derived by a resident of one of the countries (directly or through one or more interposed trust estates) as a beneficiary of a trust estate. [Paragraph 8]
Example 1.1
In accordance with this article, Australia has the right to tax a share of business profits, originally derived by a trustee of a trust estate (other than a trust estate that is treated as a company for tax purposes) from the carrying on of a business through a 'permanent establishment' in Australia, to which a resident of Romania is beneficially entitled under the trust estate. Paragraph 8 ensures that such business profits will be subject to tax in Australia where, in accordance with the principles set out in Article 5, the trustee of the relevant trust estate has a 'permanent establishment' in Australia in relation to that business.
Article 8 - Ships and aircraft
1.65 The main effect of this article is that the right to tax profits from the operation of ships or aircraft in international traffic, including profits derived from participation in a pool service or other profit sharing arrangement, is generally reserved to the country in which the place of effective management of the enterprise is situated. [Paragraphs 1 and 4]
1.66 However, the article reflects Australian treaty policy to reserve to the source country the right to tax profits from internal traffic, profits from other coastal and continental shelf activities including non-transport shipping and aircraft activities within its own waters.
1.67 Thus, the term transport is not used in the title of the article, as the article applies to survey ships, oil drilling ships, etc. where transport is not necessarily involved. [Paragraph 2]
1.68 If the place of effective management of a shipping enterprise is aboard a ship, then it shall be deemed to be situated in the country in which the home harbour of the ship is situated, or if there is no such home harbour, in the country of which the operator of the ship is a resident. [Paragraph 3]
1.69 By reason of the definition of 'Contracting State' contained in Article 3 and the terms of paragraph 5 of this article, any shipments by sea or air from a place in Australia (including the continental shelf areas and external territories) for discharge at another place in or for return to that place in Australia, is to be treated as constituting internal traffic. [Paragraph 5]
Example 1.2
Profits derived from a shipment of goods taken on board (during the course of an international voyage between a place in Romania and Sydney) at Perth for delivery to Melbourne, would be profits from internal traffic. As such, 5% of the amount paid in respect of the internal traffic carriage would be deemed to be taxable income of the operator for Australian tax purposes pursuant to Division 12 of Part III of the ITAA 1936.
Article 9 - Associated enterprises
1.70 This article deals with associated enterprises (parent and subsidiary companies and companies under common control). It authorises the re-allocation of profits between related enterprises in Australia and Romania on an arm's length basis where the commercial or financial arrangements between the enterprises differ from those that might be expected to operate between independent enterprises dealing wholly at arm's length with one another.
1.71 The article would not generally authorise the rewriting of accounts of associated enterprises where it can be satisfactorily demonstrated that the transactions between such enterprises have taken place on normal, open market commercial terms. [Paragraph 1]
1.72 Each country retains the right to apply its domestic law relating to the determination of the tax liability of a person (e.g. Australia's Division 13 of the ITAA 1936) to its own enterprises, provided that such provisions are applied, so far as it is practicable to do so, consistently with the principles of the article. [Paragraph 2]
1.73 Australia's domestic law provisions relating to international profit shifting arrangements were revised in 1981 in order to deal more comprehensively with arrangements under which profits are shifted out of Australia, whether by transfer pricing or other means. The broad scheme of the revised provisions is to impose arm's length standards in relation to international dealings, but where the Commissioner of Taxation (the Commissioner) cannot ascertain the arm's length consideration, it is deemed to be such amount as the Commissioner determines. Paragraph 2 is designed to preserve the application of those domestic law provisions.
1.74 Where a re-allocation of profits is made (either under this article or, by virtue of paragraph 2, under domestic law) so that the profits of an enterprise of one country are adjusted upwards, a form of double taxation would arise if the profits so re-allocated continued to be subject to tax in the hands of an associated enterprise in the other country. To avoid this result, the other country is required to make an appropriate compensatory adjustment to the amount of tax charged on the profits involved to relieve any such double taxation.
1.75 It would generally be necessary for the affected enterprise to apply to the competent authority of the country not initiating the re-allocation of profits for an appropriate compensatory adjustment to reflect the re-allocation of profits made by the other treaty partner country. If necessary, the competent authorities of Australia and Romania will consult with each other to determine the appropriate adjustment. [Paragraph 3]
1.76 This article broadly allows both countries to tax dividends flowing between them but in general limits the rate of tax that the country of source may impose on dividends payable by companies that are residents of that country under its domestic law to residents in the other country who are beneficially entitled to the dividends. [Paragraph 1]
1.77 Under paragraph 2 of Article 10, the rate of withholding tax which Australia or Romania may impose on dividends (paid out of profits which have borne the normal rate of company tax) paid to a resident of the other country which holds directly at least 10% of the capital of the company paying the dividends is limited to 5% of the gross amount of the dividends. However, Australia's domestic law dividend withholding tax (DWT) exemption for franked dividends paid by Australian companies to nonresident shareholders will continue to apply whilst this remains a feature of the domestic law.
1.78 The DTA further provides that Australia will reduce its rate of withholding tax on unfranked dividends from 30% to 15% of the gross amount of the dividends.
1.79 The proviso allows for flexibility if there is a change to either country's general approach to DWT, such as a change to domestic law arrangements for franked dividends flowing overseas. In such a case the 2 countries are obliged to consult to make appropriate amendments to this paragraph. [Paragraph 2]
1.80 The limitation on the tax of the country in which the dividend is sourced does not apply to dividends derived by a resident of the other country who has a 'permanent establishment' or 'fixed base' in the country from which the dividends are derived, if the holding giving rise to the dividends is effectively connected with that 'permanent establishment' or 'fixed base'.
1.81 Where the dividends are so effectively connected, they are to be treated as business profits or income from independent personal services and therefore subject to the full rate of tax applicable in the country in which the dividend is sourced (in accordance with the provisions of Article 7 or Article 14, as the case may be). In practice, however, under changes made to Australia's domestic law with the introduction from 1 July 1987 of a full imputation system of company taxation, such dividends, to the extent that they are franked dividends, remain exempt from Australian tax, while unfranked dividends will be subject to withholding tax at the rate of 15% instead of being taxed by assessment. [Paragraph 5]
Extra-territorial application precluded
1.82 The extra-territorial application by either country of taxing rights over dividend income is precluded by providing, broadly, that one country (the first country) will not tax dividends paid by a company resident solely in the other country, unless:
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- the person deriving the dividends is a resident of the first country; or
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- the shareholding giving rise to the dividends is effectively connected with a 'permanent establishment' or 'fixed base' in the first country.
1.83 An example of the effect of this paragraph is that Australia may not tax dividends paid by a Romanian company to a resident of Romania out of profits derived from Australian sources, otherwise than through a 'permanent establishment' or a 'fixed base'.
1.84 However, the exemption does not apply where the dividend paying company is a resident of both Australia and Romania. This proviso ensures that Australia retains the right to tax dividends paid to a person resident outside of both countries by a company which is a resident of Australia under its domestic law, notwithstanding that the company is deemed to be a resident of Romania for the purposes of the DTA under the dual resident tie-breaker test for companies contained in Article 4. [Paragraph 6]
1.85 Although the Romanian language text of this article uses words which, when literally translated, refer to beneficial ownership , the Romanian Government has indicated it will apply those phrases as meaning beneficially entitled as per the agreed English language text.
1.86 This article provides for interest income to be taxed by both countries but requires the country of source to generally limit its tax to 10% of the gross amount of the interest where a resident of the other country is beneficially entitled to the interest. [Paragraphs 1 and 2]
1.87 The limitation of the source country tax rate to 10% accords with the general rate of interest withholding tax applicable under Australia's domestic law.
1.88 Consistently with Australia's policy on taxation of foreign monetary authorities announced on 5 November 1986, it was agreed to reciprocally exempt from source country taxation investment of official funds by the governments, government monetary institutions or banks performing central banking functions. [Paragraph 3]
1.89 The term interest is defined for the purposes of the article in a way that, in relation to Australia, encompasses items of income such as discounts on securities and payments under certain hire purchase agreements which are treated for Australian tax purposes as interest or amounts in the nature of interest. [Paragraph 4]
Interest effectively treated as business profits
1.90 Interest derived by a resident of one country which is effectively connected to a 'permanent establishment' or 'fixed base' of that person in the other country, will form part of the business profits of that 'permanent establishment' or 'fixed base' and be subject to the provisions of Article 7 (Business profits) or Article 14 (Independent personal services). Accordingly, the 10% tax rate limitation does not apply to such interest in the country in which the interest is sourced. [Paragraph 5]
1.91 Interest source rules are set out in the article. Those rules operate to allow Australia to tax interest to which a resident of Romania is beneficially entitled where the interest is paid by a resident of Australia. Australia may also tax interest paid by a resident of Romania to which another Romanian resident is beneficially entitled if it is an expense incurred by the payer of the interest in carrying on a business in Australia through a 'permanent establishment'.
1.92 However, consistent with Australia's interest withholding tax provisions, an Australian source is not deemed in respect of interest that is an expense incurred by an Australian resident in carrying on a business through a 'permanent establishment' outside Australia. [Paragraph 6]
1.93 This article also contains a general safeguard against payments of excessive interest where a special relationship exists between the persons associated with a loan transaction by restricting the 10% source country tax rate limitation to an amount of interest which might have been expected to have been agreed upon if the parties to the loan agreement were dealing with one another at arm's length . Any excess part of the interest remains taxable according to the domestic law of each country but subject to the other articles of the DTA. [Paragraph 7]
1.94 Although the Romanian language text of this article uses words which, when literally translated, refer to beneficial ownership , the Romanian Government will apply those phrases as meaning beneficially entitled as per the agreed English language text.
1.95 The article in general allows both countries to tax royalty flows but limits the tax of the country of source to 10% of the gross amount of royalties paid or credited to residents of the other country beneficially entitled to the royalties. [Paragraphs 1 and 2]
1.96 The 10% rate limitation is not to apply to natural resource royalties, which, in accordance with Article 6, are to remain taxable in the country of source without limitation of the tax that may be imposed.
1.97 In the absence of a DTA, Australia taxes royalties paid to nonresidents at 30% of the gross royalty.
1.98 The definition of royalties in the DTA largely reflects the definition in Australia's domestic income tax law. The definition encompasses payments for the use of, or the right to use industrial, commercial or scientific equipment. It also includes payments for the supply of scientific, technical, industrial or commercial know-how but not payments for services rendered. Payments made for the right to copy or adapt computer software in a manner which would, without the permission of the copyright owner, constitute an infringement of copyright, also constitute royalty payments. [Paragraph 3]
Payments for the supply of know-how versus payments for services rendered
1.99 It is considered that a German Supreme Court decision (Bundesfinanzhof (No. IR 44/67) of 16 December 1970) provides a definitive test to distinguish between a know-how contract and a contract for services. A know-how contract, it was held, involved the supply by a person of his or her know-how to the paying entity (e.g. teaching a personal expertise), whereas in a contract for services, although it may involve the use of know-how , that know-how is applied by the person in the performance of his or her services.
1.100 Payments for design, engineering or construction of plant or building, feasibility studies, component design and engineering services may generally be regarded as being in respect of a contract for services, unless there is some provision in the contract for imparting techniques and skills to the buyer .
1.101 In cases where both know-how and services are supplied under the same contract, if the contract does not separately provide for payments in respect of know-how and services, an apportionment of the 2 elements of the contract may be possible.
1.102 Payments for services rendered are to be treated under Article 7 (Business profits) or Article 15 (Independent personal services).
1.103 Consistently with Australian tax treaty practice, subparagraph 3(h) expressly treats as a royalty, amounts paid or credited in respect of forbearance to grant to third persons, rights to use property covered by the royalty article. This is designed to prevent arrangements along the lines of those contained in
Aktiebolaget Volvo v. Federal Commissioner of Taxation
(1978)
8 ATR 747
;
78 ATC 4316
, where instead of amounts being payable for the exclusive right to use the property they were made for the undertaking that the right to use the property will not be granted to anyone else, not being subject to tax as a royalty payment under the terms of Article 12.
[Subparagraph 3(h)]
Other royalties effectively treated as business profits
1.104 As in the case of interest income, it is specified that the 10% tax rate limitation is not to apply to royalties effectively connected with a 'permanent establishment' or 'fixed base' in the country in which the income is sourced such income being subject to full taxation under either Article 7 or Article 14 as the case may be. [Paragraph 4]
1.105 The royalties source rule provided for in the DTA effectively corresponds in the case of Australia with the deemed source rule contained in section 6C (Source of royalty income derived by a nonresident) of the ITAA 1936 for royalties paid to nonresidents of Australia. It broadly mirrors the source rule for interest income contained in paragraph 5 of Article 11 (Interest). [Paragraph 5]
1.106 If royalties flow between the payer and the person beneficially entitled to the royalties as the result of a special relationship between them, the 10% source country tax rate limitation will apply only to the extent that the royalties are not excessive. Any excess part of the royalty remains taxable according to the domestic law of each country but subject to the other articles of this DTA.
1.107 A special relationship is generally taken to exist where royalties are paid to an individual by an associate or legal person who is directly or indirectly controlled by an individual or associated legal person or to a subordinate, or a group having a common interest with them. It covers those relationships that exist by way of blood or marriage and in general any community of interest. [Paragraph 6]
1.108 Although the Romanian language text of this article uses words which, when literally translated, refer to beneficial ownership , the Romanian Government has indicated it will apply those phrases as meaning beneficially entitled as per the agreed English language text.
Article 13 - Income, profits or gains from the alienation of property
1.109 This article allocates between the respective countries taxing rights in relation to income, profits or gains arising from the alienation of real property (as defined in Article 6) and other items of property.
1.110 The reference to 'income, profits or gains' in this article is designed to put beyond doubt that a gain from the alienation of property which in Australia is income or a profit under ordinary concepts, will be subject to tax in accordance with this article, rather than the Business profits article (Article 7), together with relevant capital gains.
1.111 Income, profits or gains from the alienation of real property may be taxed by the country in which the property is situated. [Paragraph 1]
1.112 Paragraph 2 deals with income, profits or gains arising from the alienation of property (other than real property covered by paragraph 1) forming part of the business assets of a 'permanent establishment' of an enterprise or pertaining to a 'fixed base' used for performing independent personal services. It also applies where the 'permanent establishment' itself (alone or with the whole enterprise) or the fixed base is alienated. Such income or gains may be taxed in the country in which the 'permanent establishment' or 'fixed base' is situated. This corresponds to the rules for taxation of business profits and income from independent personal services contained in Articles 7 and 14 respectively. [Paragraph 2]
1.113 Income, profits or gains from the disposal of ships or aircraft operated in international traffic, or of associated property (other than real property covered by paragraph 1) are taxable only in the country in which the place of effective management of the enterprise alienating those ships or aircraft are situated. This rule corresponds to the operation of Article 8 in relation to profits from the international operation of ships or aircraft in international traffic. [Paragraph 3]
Shares and other interests in land-rich entities
1.114 Paragraph 4 applies to situations involving the alienation of shares or other interests in companies, and other entities, whose assets consist principally of real property (as defined in Article 6) which is situated in the other country (again, in the terms of Article 6). Such income or gains may be taxed by the country in which the real property is situated. This paragraph complements paragraph 1 of this article and is designed to cover arrangements involving the effective alienation of incorporated real property, or like arrangements.
1.115 This is to be the case whether the real property is held directly or indirectly through a chain of interposed entities. While not limited to chains of companies, or even chains of entities only some of which are companies, the example of chains of companies is used to make clear that the corporate veil should be lifted in examining direct or indirect ownership.
1.116 This provision responds to the tax planning opportunities exposed by the decision of the Full Federal Court in the
Commissioner of Taxation v. Lamesa Holdings BV
(1997)
77 FCR 597
. It is designed to protect Australian taxing rights over income, profits or gains on the alienation or effective alienation of Australian real property (as defined) despite the presence of interposed bodies corporate or other entities.
[Paragraph 4]
1.117 The article contains a sweep-up provision in relation to capital gains which enables each country to tax, according to its domestic law, any gains of a capital nature derived by its own residents or by a resident of the other country from the alienation of any property not specified in the preceding paragraphs of the article. It thus preserves the application of Australia's domestic law relating to the taxation of capital gains in relation to the alienation of such property. [Paragraph 5]
1.118 The term 'real property' is to be defined for the purposes of this article as it is under Article 6. Where the property is situated is determined in accordance with paragraph 3 of Article 6. [Paragraphs 6 and 7]
1.119 As indicated earlier, income, profits or gains from the alienation of property that fall within the scope of this article are not affected by the 'business profits' provisions of Article 7. In the event that the operation of this article should result in an item of income or gain being subjected to tax in both countries, the country of which the person deriving the income or gain is a resident (as determined in accordance with Article 4) would be obliged by Article 22 (Source of income) and Article 23 (Methods of elimination of double taxation) to provide double tax relief for the tax imposed by the other country.
Article 14 - Independent personal services
1.120 Under this article income derived by an individual in respect of professional services or other independent activities of a similar character will be subject to tax in the country in which the services or activities are performed only if the recipient has a 'fixed base' regularly available in that other country for the purposes of performing his or her activities.
1.121 If this condition is met, the country in which the services or activities are performed will be able to tax so much of the income as is attributable to the activities exercised from that 'fixed base'. [Paragraph 1]
1.122 If the above test is not met, the income will be taxed only in the country of residence of the recipient.
1.123 Remuneration derived as an employee and income derived by public entertainers are the subject of other articles of the DTA and are not covered by this article.
Article 15 - Dependent personal services
1.124 This article generally provides the basis upon which the remuneration of visiting employees is to be taxed. The provisions of this article do not apply, however, in respect of income that is dealt with separately in:
- •
- Article 16 (Directors' fees);
- •
- Article 18 (Pensions and annuities);
- •
- Article 19 (Government service); and
- •
- Article 23 (Students)
of the DTA.
1.125 Generally, salaries, wages and similar remuneration derived by a resident of one country from an employment exercised in the other country will be liable to tax in that other country. However, subject to specified conditions, there is a conventional provision for exemption from tax in the country being visited where visits of only a short-term nature are involved. [Paragraph 1]
1.126 The conditions for this exemption are that:
- •
- the visit or visits does not exceed, in the aggregate, 183 days in any 12 month period commencing or ending in the fiscal year concerned of the visited country;
- •
- the remuneration is paid by, or on behalf of, an employer who is not a resident of the country being visited; and
- •
- the remuneration is not deductible in determining taxable profits of a 'permanent establishment' or a 'fixed base' which the employer has in the country being visited.
1.127 Where all of these conditions are met, the remuneration so derived will be liable to tax only in the country of residence of the recipient. [Paragraph 2]
1.128 Where a short-term visit exemption is not applicable, remuneration derived by a resident of Australia from employment in Romania may be taxed in Romania. However, the article does not allocate sole taxing rights to Romania in that situation.
1.129 Accordingly, Australia would also be entitled to tax that remuneration in accordance with the general rule of the Income Tax Assessment Act 1997 (ITAA 1997) that a resident of Australia remains subject to tax on worldwide income. In common, however, with other situations where the DTA allows both countries to tax a category of income, Australia would be required in this situation (pursuant to Article 23), as the country in which the income recipient is resident for tax purposes, to relieve the double taxation that would otherwise occur.
1.130 Although that article provides for the double tax relief to be provided by Australia to be in the form of the grant of a credit against the Australian tax for the Romanian tax paid, the exemption with progression method of providing double tax relief in relation to employment income derived in the situation described would normally be applicable in practice pursuant to the foreign service income provisions of section 23AG of the ITAA 1936. This method takes into account the foreign earnings when calculating the Australian tax on other assessable income the person has derived.
Employment on a ship or aircraft
1.131 Income from an employment exercised aboard a ship or aircraft operated in international traffic may be taxed in the country in which the place of effective management of the enterprise is situated. [Paragraph 3]
1.132 Under this article, remuneration derived by a resident of one country in the capacity of a director of a company which is a resident of the other country may be taxed in the latter country.
Article 17 - Entertainers and sportspersons
1.133 By this article, income derived by visiting entertainers (which has a reasonably wide meaning in international tax treaty usage) and sportspersons from their personal activities as such may generally be taxed in the country in which the activities are exercised, irrespective of the duration of the visit. The words income derived by entertainers...from their personal activities as such... extend the application of this article to income generated from promotional and associated kinds of activities engaged in by the entertainer or sportsperson while present in the visited country. [Paragraph 1]
1.134 There is a safeguard provision included in this article which is designed to ensure that income in respect of personal activities exercised by an entertainer or sportsperson, whether received:
- •
- by the entertainer or sportsperson; or
- •
- by another person, for example, a separate enterprise which formally provides the entertainer's or sportsperson's services,
is taxed in the country in which the entertainer or sportsperson performs, whether or not that other person has a 'permanent establishment' or 'fixed base' in that country. [Paragraph 2]
Official cultural or sports exchange program
1.135 A special rule is provided for entertainers and sportspersons whose visit to the other country is within the framework of a cultural or sports exchange program agreed to by the Governments of Australia and Romania and which is carried out other than for the purpose of profit. In such instances the country of residence will have the sole right of taxation over income derived by entertainers and sportsperson. [Paragraph 3]
Article 18 - Pensions and annuities
1.136 Pensions and annuities (the term 'annuity' as used in this article is defined in paragraph 2) are taxable only by the country in which the recipient is resident. The article extends to government pensions, and pension and annuity payments made to dependants, for example a widow, widower, or children, of the person in respect of whom the pension or annuity entitlement accrued where, upon that person's death, such entitlement has passed to that person's dependants. [Paragraphs 1 and 2]
Alimony and maintenance payments
1.137 The taxing right in respect of alimony and other maintenance payments is allocated solely to the country of residence of the payer, not the recipient. The purpose of this paragraph is to remove any possibility of double taxation of such payments arising by reason of the treatment accorded such payments under the respective domestic laws. In Australia, those payments will generally be exempt from tax in the hands of the recipient and non-deductible to the payer. [Paragraph 3]
Article 19 - Government service
1.138 Salary and wage type income, other than government service pensions or annuities, paid to an individual for services rendered to a government (including a State, local authority or administrative-territorial unit) of one of the countries, is to be taxed only in that country. However, such remuneration will be taxable only in the other country if:
- •
- the services are rendered in that other country; and
- •
- the recipient is a resident of that other country for the purposes of that country's tax, who is either:
- -
- a citizen of that country; or
- -
- did not become a resident of that other country solely for the purpose of rendering the services.
[Paragraph 1]
1.139 Remuneration for services rendered in connection with a trade or business carried on by any governmental authority referred to in paragraph 1 of the article is excluded from the scope of this article. Such remuneration will remain subject to the provisions of Article 15 (Dependent personal services) or Article 16 (Directors' fees), as with employees or directors of any other trade or business. [Paragraph 2]
1.140 This article applies to students temporarily present in one of the countries for a period not exceeding 7 years solely for the purpose of their education if the students are, or immediately before the visit were, resident in the other country. In these circumstances, payments from abroad received by the students solely for their maintenance or education will be exempt from tax in the country visited, even though they may qualify as a resident of the country visited during the period of their visit, and therefore might be taxable but for this article.
1.141 The exemption from tax provided by the visited country is treated as extending to maintenance payments received by the student that are made for maintenance of dependent family members who have accompanied the student to the visited country.
1.142 Where, however, a student from Romania who is visiting Australia solely for educational purposes undertakes:
- •
- some part time work with a local employer; or
- •
- during a semester break undertakes work with a local employer,
the income earned by that student as a consequence of that employment may, as provided for in Article 15, be subject to tax in Australia. In this situation the payments received from abroad for the student's maintenance or education will not however be taken into account in determining the tax payable on the employment income that is subject to tax in Australia. No Australian tax would be payable on the employment income, however, if the student qualifies as a resident of Australia during the visit and the taxable income of the student does not exceed the tax-free threshold applicable to residents.
Article 21 - Income not expressly mentioned
1.143 This article provides rules for the allocation between the 2 countries of taxing rights to items of income not expressly mentioned in the preceding articles of the DTA. The scope of the article is not confined to such items of income arising in one of the countries it extends also to income from sources in a third country.
1.144 Broadly, such income derived by a resident of one country is to be taxed only in his or her country of residence unless it is derived from sources in the other country, in which case the income may also be taxed in the other country. Where this occurs, the country of residence of the recipient of the income would be obliged by Article 23 (Methods of elimination of double taxation) to provide double taxation relief. [Paragraphs 1 and 2]
1.145 This article does not apply to income (other than income from real property as defined in Article 6.2) where the right or property in respect of which the income is paid is effectively connected with a 'permanent establishment' or 'fixed base' which a resident of one country has in the other country. In such a case, Article 7 (Business profits) or Article 14 (Independent personal services), as the case may be, will apply. [Paragraph 3]
1.146 Paragraph 1 of this article effectively deems income, profits or gains derived by a resident of one country which, under the DTA, may be taxed in the other country to have a source in the latter country for the purposes of the DTA and the domestic income tax law of the respective countries. It therefore avoids any difficulties arising under domestic law source rules in respect of, for example, the exercise by Australia of the taxing rights allocated to Australia by the DTA over income derived by residents of Romania. [Paragraph 1]
1.147 Paragraph 2 is also designed to ensure that where an item of income, profits or gains is taxable in both countries, double taxation relief will be given by the income recipient's country of residence (pursuant to Article 23) for tax levied by the other country as prescribed under the DTA. In this way, income derived by a resident of Australia, which is taxable by Romania under the DTA, will be treated as being foreign income for the purposes of the ITAA 1936, including the foreign tax credit provisions of that Act. [Paragraph 2]
Article 23 - Methods of elimination of double taxation
1.148 Double taxation does not arise in respect of income flowing between the 2 countries where the terms of the DTA provide either:
- •
- for the income to be taxed only in one country; or
- •
- where the domestic taxation law of one of the countries exempts the income from its tax.
1.149 It is necessary, however, to prescribe a method for relieving double taxation for other classes of income which, under the terms of the DTA, remain subject to tax in both countries. In accordance with international practice, Australia's DTAs provide for double tax relief to be provided by the country of residence of the taxpayer by way of a credit basis of relief against its tax for the tax of the country of source of the income. This article also reflects that approach.
1.150 Australia's general foreign tax credit system, together with the terms of this article and of the DTA generally, will form the basis of Australia's arrangements for relieving a resident of Australia from double taxation on income arising from sources in Romania. As in the case of Australia's other DTAs, the source of income rules specified by Article 22 for the purposes of the DTA will also apply for those purposes.
1.151 Accordingly, effect is to be given to the tax credit relief obligation imposed on Australia by paragraph 2 of this article by application of the general foreign tax credit provisions (Division 18 of Part III) of the ITAA 1936. This will include the allowance of underlying tax credit relief in respect of dividends paid by Romanian resident companies that are related to Australian resident companies, including for unlimited tiers of related companies, in accordance with the relevant provisions of the ITAA 1936.
1.152 Notwithstanding the credit basis of relief provided for by paragraph 2 of this article, the exemption with progression method of relief will be applicable, as appropriate, in relation to salary and wages and like remuneration derived by a resident of Australia during a continuous period of foreign service (as defined in subsection 23AG(7) of the ITAA 1936) in Romania. Other foreign source income exemptions in Australia's domestic law will also continue to be applicable in respect of relevant Romanian source income. [Paragraph 1]
1.153 Romania is required to allow its residents an exemption from its tax on income, profits or gains derived by them which in accordance with the provisions of the DTA are taxable in Australia. However Romania may, in calculating the amount of tax on the remaining income of a Romanian resident, take into account the exempted income, profits or gains.
1.154 In the case of Australian taxes paid on interest, dividends and royalties which are also subject to tax in Romania, Romania is required to allow its residents a deduction for them. The deduction is of an amount equal to the Australian tax paid and is made against the Romanian tax payable on the same income, subject to that deduction not exceeding an amount which bears to the total Romanian tax payable the same ratio as the income concerned bears to the total income. [Paragraph 2]
Article 24 - Mutual agreement procedure
1.155 One of the purposes of this article is to provide for consultation between the competent authorities of the 2 countries with a view to reaching a satisfactory solution where a person is able to demonstrate actual or potential imposition of taxation contrary to the provisions of the DTA.
1.156 A person wishing to use this procedure must present a case to the competent authority of the country of which the person is a resident within 3 years of the first notification of the action which the taxpayer considers gives rise to taxation not in accordance with the DTA. [Paragraph 1]
1.157 If, on consideration by the competent authorities, a solution is reached, it may be implemented irrespective of any time limits imposed by the domestic tax law of the relevant country. [Paragraph 2]
1.158 The article also authorises consultation between the competent authorities of the 2 countries for the purpose of resolving any difficulties regarding the interpretation or application of the DTA and to give effect to it. [Paragraphs 3 and 4]
Article 25 - Exchange of information
1.159 This article authorises and limits the exchange of information by the 2 competent authorities to information necessary for the carrying out of the DTA or for the administration of domestic laws concerning the taxes to which the DTA applies. [Paragraph 1]
1.160 The limitation placed on the kind of information authorised to be exchanged means that information access requests relating to taxes not within the coverage provided by Article 2 (Taxes covered), for example, goods and services tax, are not within the scope of the article.
1.161 The purposes for which the exchanged information may be used and the persons to whom it may be disclosed are restricted consistently with Australia's other DTAs. Any information received by a country shall be treated as secret in the same manner as information obtained under the domestic law of that country. [Paragraph 1]
1.162 An exchange of information that would disclose any trade, business, industrial, commercial or professional secret or trade process or which would be contrary to public policy is not permitted by the article. [Paragraph 2]
Article 26 - Members of diplomatic missions and consular posts
1.163 The purpose of this article is to ensure that the provisions of the DTA do not result in members of diplomatic missions and consular posts receiving less favourable treatment than that to which they are entitled in accordance with international conventions. Such persons are entitled, for example, to certain fiscal privileges under the Diplomatic (Privileges and Immunities) Act 1967 and the Consular (Privileges and Immunities) Act 1972 which reflect Australia's international diplomatic and consular obligations.
1.164 This article provides for the entry into force of the DTA. This will be on the last date on which notes are exchanged notifying that the last of the domestic processes to give the DTA the force of law in the respective countries has been completed. In Australia, enactment of the legislation giving the force of law in Australia to the DTA along with tabling the treaty in Parliament are prerequisites to the exchange of diplomatic notes.
Date of application for Australian withholding taxes
1.165 Once it enters into force, the DTA will apply in Australia to withholding taxes in respect of income derived on or after 1 January in the calendar year next following that in which the DTA enters into force.
Date of application for other Australian taxes
1.166 In Australia the DTA will first apply to other Australian taxes on income, profits or gains of the Australian year of income beginning on or after 1 July in the calendar year next following the calendar year in which the DTA enters into force.
Substituted accounting periods
1.167 Where a taxpayer has adopted an accounting period ending on a date other than 30 June, the accounting period that has been substituted for the year of income beginning on 1 July of the calendar year next following that in which the DTA enters into force will be the relevant year of income for the purposes of the application of other Australian tax.
Date of application in Romania
1.168 In Romania, the DTA will first apply to all taxes on income, profits and gains for the taxable period starting from 1 January of the calendar year following that in which the DTA enters into force.
1.169 The DTA is to continue in effect indefinitely. However, either country may give written notice of termination of the DTA through the diplomatic channel on or before 30 June in any calendar year beginning after the expiration of 5 years from the date of its entry into force.
1.170 In the event of either country terminating the DTA, the DTA would cease to be effective in Australia for the purposes of withholding tax in respect of income derived by a nonresident on or after 1 January in the calendar year next following that in which the notice of termination is given.
1.171 For other Australian tax, it would cease to be effective in relation to income, profits or gains of any year of income beginning on or after 1 July in the calendar year next following that in which the notice of termination is given.
1.172 The DTA would correspondingly cease to be effective in Romania for all taxes on income, profits and gains for the taxable period starting from 1 January of the calendar year following that in which the notice of termination is given.
Protocol to the DTA
1.173 The Protocol provides that if Australia should negotiate a Non-discrimination Article in a subsequent DTA with another country which is given effect to under the International Tax Agreements Act 1953 , then Australia will enter into negotiations with a view to providing Romania the same treatment as is provided for in that other DTA.
REGULATION IMPACT STATEMENT
Specification of policy objective
1.174 The 2 key objectives of the Australia-Romania DTA are to:
- •
- promote closer economic cooperation between Australia and Romania by eliminating possible barriers to trade and investment caused by the overlapping taxing jurisdictions of the 2 countries. A DTA would provide a reasonable element of legal and fiscal certainty within which cross-border trade and investment can be carried on; and
- •
- create a framework through which the tax administrations of Australia and Romania can prevent international fiscal evasion.
Background
1.175 Australian tax treaties are usually based on the OECD Model with some influences from the United Nations' Model Double Taxation Convention between Developed and Developing Countries (UN Model). In addition, both countries propose variations to reflect their economic interests and legal circumstances.
1.176 A DTA reduces or eliminates double taxation caused by the overlapping taxing jurisdictions because treaty partners agree (in certain situations) to limit taxing rights over various types of income. The countries also agree on the methods of reducing double taxation where both countries have a right to tax. For example, a DTA contains a standard tax treaty provision that neither country will tax business profits derived by residents of the other country unless the business activities in the taxing country are substantial enough to constitute a permanent establishment and the income is attributable to a permanent establishment (Article 7).
1.177 In negotiating the sharing of taxing rights, Australia seeks an appropriate balance between source and residence country taxing rights. Generally the allocation of taxing rights under a DTA is similar to international practice as set out in the OECD Model, but, consistent with Australian practice, there are a number of instances where it leans more towards source country taxing rights: the definition of 'permanent establishment' is wider in some respects than the OECD Model, and the Business Profits, Ships and Aircraft, Royalties, Income, Profits or Gains from the Alienation of Property and Income Not Expressly Mentioned Articles also give greater recognition to source country taxing rights.
1.178 In addition, a DTA provides an agreed basis for determining whether the income returned or expenses claimed on related party dealings by members of a multinational group operating in both countries can be regarded as acceptable (Articles 7 and 9). This is an example of how a DTA is used to address international profit shifting.
1.179 To prevent fiscal evasion, a DTA includes an exchange of information facility. The 2 tax administrations can also use the mutual agreement procedures to develop a common interpretation and resolve differences of application of the DTA. There is also provision for residents of either country to instigate a mutual agreement procedure.
Australia's trade and investment relationship with Romania [F1]
1.180 So far as Australia is concerned, the main impact of a DTA will be on Australian enterprises investing in and trading with Romania.
1.181 Romania is Australia's largest export market in Central Europe. It is ranked 19th among our export destinations. In 1998-1999, Australian exports to Romania totalled A$75 million, the main items being raw materials such as coal, iron ore and other ores. Romania is ranked 77th among our import sources. In 1998-1999 imports amounted to A$8.5 million, the main items being footwear and clothing.
1.182 An Investment Promotion and Protection Agreement (signed in 1994) and a bilateral Trade and Economic Cooperation Agreement (signed in 1995) have been put in place. The Romanian-Australian Joint Governmental Commission provides a valuable opportunity for Australian Government officials and business representatives to enhance commercial cooperation between Australia and Romania.
Identification of implementation options
1.183 The implementation options for achieving the policy objectives are:
- •
- no further action rely on existing unilateral measures; or
- •
- conclude the DTA.
Option 1: No further action rely on existing unilateral measures
1.184 If nothing was done (i.e. the DTA was not concluded) it could be argued that many of the above policy objectives will nevertheless be achieved. Many of the policy objectives have already been met to a significant extent through the internal tax laws of both the Romanian and Australian Governments. For example, unilateral enactment of foreign source income measures by Australia already provides substantial relief from juridical double taxation. Likewise, it can be argued that Australian law already permits exchange of information with the Romanian tax administration.
1.185 The internationally accepted approach to meeting the above policy objectives is to conclude a bilateral DTA. [F2] A DTA regulates the way the 2 countries will reduce double taxation, by agreeing to restrict their taxing rights in accordance with its terms. A DTA would also record important bilateral undertakings in relation to exchange of information.
1.186 For business and investors generally a DTA has the advantage of providing some degree of legal and fiscal certainty unlike domestic laws which can be amended unilaterally.
1.187 As mentioned earlier, the DTA would be largely based on the OECD Model and the UN Model, with some mutually agreed variations reflecting the economic, legal and cultural interest of the 2 countries.
Assessment of impacts (costs and benefits) of each option
1.188 A DTA with Romania is likely to have an impact on:
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- Australian residents doing business with Romania, including principally:
[F3]
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- Australian residents investing directly in Romania (either by way of a subsidiary or a branch);
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- Australian banks lending to Romanian borrowers;
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- Australian residents supplying technology and know-how to Romanian residents; and
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- Australian residents exporting to Romania;
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- Australian employees working in Romania;
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- people receiving pensions from the other country (although the number of cross border pension payments is understood to be minimal);
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- the Australian Government; and
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- the ATO.
Option 1: No further action rely on existing unilateral measures
1.189 As this option represents a continuance of the current position, it would be expected that the administration and compliance costs of this option would be minimal. Revenue costs would also be expected to be very small.
1.190 On the other hand, even though both countries have unilaterally introduced measures to prevent double taxation of cross-border investments, this option will not resolve all areas of difference. For example, even if both countries had very similar mechanisms for allowing credit for foreign tax paid, differences could arise over fundamental matters such as the source of income and residence of taxpayers. Furthermore, this option does not protect against further unilateral changes to the internal laws and does not limit source country taxing of, for example, dividends, interest and royalties.
1.191 In addition, investors are concerned that unilateral tax laws do not provide the longer term certainty desirable for making substantial long term investments offshore. This is because the Governments of either State can vary key tax conditions unilaterally. Similarly, so far as the tax administrations are concerned, unilateral rules do not provide a dependable long term framework for information exchange.
1.192 The negotiation and enactment of this DTA will cost approximately $120,000. Most of these costs will be borne by the ATO, although other agencies, such as Treasury, the Department of Foreign Affairs and Trade and the Australian Government Solicitor, will bear some of these costs. There will also be an unquantified cost in terms of Parliamentary time and drafting resources in enacting the proposed DTA.
1.193 There is a maintenance cost to the ATO associated with DTAs in terms of dealing with enquiries, mutual agreement procedures and advance pricing agreements, and OECD representation. In some cases arrangements have emerged to exploit aspects of DTAs which have required significant administrative attention. Of course it is unknown whether such arrangements will emerge in relation to this particular DTA. There is therefore an unquantified cost in administering a DTA. There will also be minor implementation costs to the ATO relating to changes in withholding tax rates.
1.194 The DTA is not expected to result in increased compliance costs for taxpayers.
1.195 There might be some reduction in Australian Government revenue from taxation of Romanian investments and other business activities in Australia (e.g. the DTA restricts source country taxation of certain items of income). On the other hand, limitation of Romanian taxation rights in circumstances where Australia may have given credit for Romanian taxation may lead to increased Australian tax revenue. Given the modest investment and trade relationship between our 2 countries, the revenue cost is not expected to be significant.
1.196 It should also be recognised that the limitations agreed to by the 2 Contracting States, will place limits on their policy flexibility in relation to cross-border taxation. However because Australia already has a substantial treaty network, the cost of the proposed DTA in terms of reduced policy flexibility will only be marginal.
Option 1: No further action rely on existing unilateral measures
1.197 This option represents the status quo. By adopting this option there would be no need for further action and resources could be devoted to other issues. In the domestic context the 2 Governments would be free to act without being restricted by treaty obligations.
1.198 A DTA with Romania would have the following broad effects:
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- Where Australians invest directly in Romania, Romania would not generally be able to tax an Australian resident unless the resident carries on business through a permanent establishment in Romania. A DTA would, to some extent, establish a basis for allocation of profits to that permanent establishment. A DTA would establish specific rules for taxation of shipping profits and income from real property.
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- Likewise for Australians investing through a Romanian subsidiary, a DTA would set out an internationally accepted framework for dealing with parent-subsidiary transactions and other transactions between associated enterprises. In this regard, a DTA clearly offers superior protection to the domestic rules of the 2 countries because it would provide for mutual agreement to be reached between the 2 taxing authorities.
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- To some extent, the rules embodied in a DTA would reduce the risks for Australians investing in Romania (and vice versa) because a DTA records agreement between the 2 Governments on a framework for taxation of cross-border investments.
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- Furthermore, it is only in the context of a DTA [F4] that Romania will agree to limit domestic withholding taxes on dividends, interest and royalties (Australia reduces royalty and certain dividend withholding taxes under its DTAs).
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- A DTA would reduce Romanian taxation on interest and royalties thereby making Australian suppliers of capital and technology more competitive. Reduction in source country taxation would also be likely to result in timing advantages for such investors, because source country taxation is generally imposed at the time the income is derived, whereas residents are generally taxed by assessment on income derived during a financial year after the end of that financial year. The Australian revenue might also benefit to the extent that greater after tax profits are remitted to Australia and subject to Australian tax. Of course there are similar advantages in relation to Romanian investment in Australia. Again a DTA would assist Australian investors by increasing the certainty of the taxation rules applying to cross-border investment.
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- Commodity exporters would be assisted in some respects because of the way a DTA would restrict the circumstances in which Australians trading with Romania are be taxed by requiring the existence of a permanent establishment in Romania before Romanian taxation could take place. However, in practice this benefit would not be great because Romania's domestic taxing rules adopt a similar approach.
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- A DTA would also assist in making clear the taxation arrangements for individual Australians working in Romania, either independently as consultants or as employees. Income from professional services and other similar activities provided by an individual would generally be taxed only in the country in which the recipient is resident for tax purposes. However, remuneration derived by a resident of one country in respect of professional services rendered in the other country might be taxed in the latter country where the services are attributable to a fixed base of the person concerned in that country.
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- Employees' remuneration would generally be taxable in the country where the services are performed. However, where the services are performed during certain short visits to one country by a resident of the other country, the income would generally be exempt in the country visited.
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- There are important impacts on the countries which are party to a DTA. As mentioned the revenue impact for the Australian Government is not expected to be significant. A DTA would assist the bilateral relationship by adding to the existing network of commercial treaties between the 2 countries. As mentioned, a DTA would also promote greater cooperation between taxation authorities to prevent fiscal evasion and tax avoidance.
Consultation
1.199 Information on the DTA has been provided to the States and Territories through the Commonwealth-State Standing Committee on Treaties' Schedule of Treaty Action.
1.200 The ATO recently established an Advisory Panel of private sector representatives and tax practitioners to review draft treaties. The DTA was submitted to this Panel in February 1998.
1.201 The DTA will be considered by the Parliamentary Joint Standing Committee on Treaties which will provide for public consultation in its hearings.
1.202 The Treasury and the ATO monitor DTAs, as part of the whole taxation system, on an ongoing basis. In addition, the ATO has consultative arrangements in place to obtain feedback from professional and small business associations and through other taxpayer consultation forums.
Conclusion and recommended option
1.203 Present unilateral arrangements for elimination of double taxation go much of the way to satisfying the policy objectives of this measure. However, while these arrangements provide some measure of protection against double taxation, it is clear a DTA will further reduce the possibility of double taxation, especially in relation to associated enterprises. By establishing an internationally accepted framework for the taxation of cross-border transactions it will also reduce investor risk. In addition, a DTA will also reduce source country withholding taxes on dividends, interest and royalties. A DTA is unlikely to result in increased compliance costs for business.
1.204 There will be benefits to both Australia and Romania in terms of improved bilateral relationships and information exchange. On the other hand, the DTA will reduce the governments' policy flexibility.
1.205 On balance, the benefits of the proposed DTA outweigh the costs. Option 2 is therefore recommended as the preferred option.