House of Representatives

Income Tax (International Agreements) Amendment Bill 1980

Income Tax (International Agreements) Amendment Act 1980

Second Reading Speech

By the Treasurer, the Hon. John Howard, M.P.

This Bill will provide legislative authority for the entry into force of new comprehensive double taxation Agreements with the Philippines and Switzerland and of a Protocol to amend the double taxation Agreement between Australia and the United Kingdom.

The Protocol with the United Kingdom is necessary because of changes in the income tax law of that country concerning, firstly, the taxation of company profits and dividends and, secondly, the taxation of employment income derived abroad or by persons not domiciled in the United Kingdom.

Neither the Agreements nor the Protocol can enter into force until all necessary constitutional processes are completed by Australia and the other country. For Australia, this Bill will, when assented to, complete the processes required of us.

Before I outline the main features of the Protocol and the new Agreements, I think there are some points about double taxation agreements generally that I might usefully make.

Double taxation agreements have as their principal purpose the elimination of international double taxation.

This involves the apportionment, by one means or another, of the relevant taxation revenue between the contracting countries.

There are various ways of doing this.

For example, by agreement some types of income become taxable only in the country of residence and other types only in the country of source.

The country of source may agree to limit its tax on some items of income and, where it is agreed that both countries may tax particular income, the country of residence of the taxpayer agrees to allow relief against its tax in recognition of the payment of tax to the other country.

Against the taxation revenue forgone by a country in wholly or partially giving up its tax on certain items of income there has to be offset the gains to its revenue resulting from revenue given up by the other country on other items of income. If, as is usually the case, there is some net loss of revenue for one or other of the countries, this is, as emphasised by bodies such as the United Nations and the O.E.C.D., to be seen in the light of the favourable impact that these agreements have on trade and investment flows, and on the improvement of more general relationships between countries.

And, as is sometimes overlooked, where a country in which income originates agrees to reduce its rate of tax on income, the taxpayer's country of residence will also be levying tax on the income with credit for the reduced tax of the country of origin.

The precise way in which taxing rights are allocated between countries is, of course, a matter of negotiation. The process of negotiation has naturally led to some varying outcomes in the comprehensive agreements now being brought before Parliament. However, each of them accords in essential respects with the position that Australian Governments have taken over the years in relation to double taxation agreements.

Both of the new comprehensive Agreements provide for the country of source to limit its withholding tax on dividends.

Under the Philippines Agreement, the limit in the Philippines is to be 15 per cent on dividends paid to Australian companies which are freed from Australian tax on foreign dividends by the rebate of tax allowed here on intercorporate distributions. The practical effect is that the limitation will apply to dividends paid to any Australian company. Australia is to limit its tax on dividends paid to Philippines companies entitled to relief from Philippine tax on inter- corporate dividends to 15 per cent. In other cases, the limit no each country is to be 25 per cent.

In the absence of an Agreement the Philippines would withhold 15 per cent for company shareholders and 30 per cent for individuals. We would charge the withholding rate of 30 per cent in all cases.

Under the Swiss Agreement, the tax limit on dividends is 15 per cent for both countries, a substantial reduction from the rate of 35 per cent chargeable under the Swiss taxation law.

Both Agreements are also to limit each country's tax on interest and royalties paid to residents of the other.

Under the Philippines Agreement the general limits are to be 15 per cent for interest and 25 per cent for royalties. However the Philippines will further limit - to 10 per cent - its tax on interest paid to Australian residents on bonds or similar obligations issued by Philippines companies. And, as an incentive measure, it will limit to 15 per cent its tax on royalties paid to an Australian resident by a Philippines enterprise engaged in preferred areas of activities in the Philippines.

Australia's withholding tax rate on interest is 10 per cent and will not, therefore, be affected by these arrangements. We do not have a withholding rate for royalties paid overseas. These are taxed on the ordinary assessment basis. Without an Agreement, Philippines tax would be payable at the general withholding rate of 15 per cent on interest paid to Australian companies and 30 per cent on interest paid to individuals. On royalties it would be payable at the withholding rate of 35 per cent for companies and 30 per cent for individuals.

The limit on the tax on royalties under the Philippines Agreement will, of course, only affect Australian tax on royalties paid to the Philippines where our tax on the ordinary assessment basis on the profit element in the royalties would have been greater than the agreed limit.

If nothing were done to avoid the situation, the action of the Philippines in providing an "incentive" reduction in its tax on some royalties would simply result in a reduction of the credit oa be allowed by Australia against the Australian tax on the royalties. In other words, Australia would pick up the tax forgone by the Philippines, thus nullifying the incentive. To avoid that result, in taxing Australian recipients of the royalties Australia is, as a so-called "tax sparing" measure, to give credit for Philippines tax equal to 20 per cent of the royalties instead of the 15 per cent actually paid.

These special arrangements are appropriate in an Agreement with a developing country, such as the Philippines, in a sector of the world in which Australia has vital interests of more than one kind.

The rules under the Swiss Agreement are more conventional. The tax of the country of source is to be limited to 10 per cent for both interest and royalties. While this will not affect Australia's tax on interest flowing to Switzerland it will require Switzerland to reduce its tax on interest from its general rate of 35 per cent. Switzerland does not generally tax royalties paid to non-residents but the limit of 10 per cent would apply if it were to tax such income in the future.

Both Agreements contain measures for the formal relief of double taxation of income that may be taxed by both countries. The country of residence of the taxpayer is obliged to provide the necessary relief.

So far as Australian residents are concerned, income which is taxed in full in the country of source will be exempt from our tax while income that is taxed at reduced rates in the country of source - dividends, interest and royalties - will be taxed here with credit being allowed for the tax of the country of source. Dividends received from abroad by Australian companies will, however, remain tax-free here.

Turning now to the United Kingdom Protocol, I observe that it amends the existing Agreement in two respects.

Since the United Kingdom Agreement was signed the United Kingdom has changed its law to allow part of the tax paid by a United Kingdom company on its profits as a credit in the assessment of individual United Kingdom shareholders. While, under a special provision in United Kingdom law, the credit is allowable to most individual Australian resident shareholders in United Kingdom companies, it has proved unsatisfactory to apply earlier arrangements made with the United Kingdom in the context of a quite different tax system in that country. Accordingly, the Protocol will give all Australian resident individual shareholders a structured entitlement to the British tax credit. This will apply in respect of dividends paid on or after 6 April 1977.

Like their United Kingdom counterparts, Australian shareholders will be subject to United Kingdom tax on the sum of the dividend and the related credit, but the British tax will be limited to 15 per cent of that sum. Correspondingly, the sum of the dividend and the credit will also be subject to Australian tax, with credit being allowed for the limited United Kingdom tax against the Australian tax so payable. The new arrangements will generally be to the advantage of Australian shareholders concerned but, where this would not be so, the Bill contains "no-detriment" provisions for dividends paid up to the date of signature of the Protocol.

I should add that the Protocol does not require the United Kingdom to allow tax credits in respect of dividends paid to Australian company shareholders. Because of the rebate on intercorporate distributions these dividends are, of course, effectively free of Australian tax.

The other change made by the United Kingdom Protocol concerns post- agreement changes in the United Kingdom income tax law relating to the taxation of some foreign earnings of persons resident in the United Kingdom and earnings derived in the United Kingdom by Australian residents not domiciled in the United Kingdom. Before the changes, the income was taxable in one or other country, but the changes have resulted in it being, in varying degrees, completely tax free.

The Protocol will correct this quite unintended and unwarranted situation, with effect in Australia from 1 July 1980.

A memorandum containing much more detailed explanations of technical aspects of the Bill and of the Agreements is being made availabep to honourable members.

I commend the Bill to the House.