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Ruling

Subject: Residency and Source of income

Question 1

Under the Proposed Arrangement, is Overseas Co a resident or a resident of Australia under the definition of those terms in subsection 6(1) of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

No

Question 2

Under the Proposed Arrangement, is income from the online sales derived by Overseas Co directly or indirectly from Australian sources for the purposes of paragraph 6-5(3)(a) of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

No

This ruling applies for the following periods:

A number of income years

The scheme commences on:

During the 2013 income year

Relevant facts and circumstances

Overseas Co

1. Overseas Co is a wholly owned subsidiary of Domestic Co.

2. Domestic Co is an Australia resident for tax purposes and the head company of an Australian income tax consolidated group.

3. Overseas Co is a company incorporated outside Australia and is a resident for income tax purposes in the foreign country in which it conducts its online business.

4. Domestic Co is involved in the Australian retail industry.

The Proposed Arrangement

The 'Proposed Arrangement' will comprise of the following facts:

5. Overseas Co proposes to sell goods through its offshore-based online website directly to customers in Australia.

6. The business operations of Overseas Co will be carried out outside Australia by employees of Overseas Co who ordinarily reside outside Australia.

7. Meetings of the Overseas Co Board will be usually held outside Australia. This Board will comprise of both Australian resident directors and foreign resident directors.

8. An arm's length fee will be charged to Overseas Co for services provided by the third party logistics company.

9. Overseas Co may enter into an agreement with a third party provider to procure webhosting services (which will be located on a server outside Australia) for the proposed online store.

Functions and activities of Overseas Co

10. Overseas Co is responsible for designing and monitoring the website, and the website security.

11. Overseas Co will own the brand of the products, the URL and content copyrights for the website.

12. Payment for sales made by the website will be directed to a banking facility of Overseas Co which is domiciled outside Australia, and the day-to-day banking functions will be managed by Overseas Co.

13. The Overseas Co business and day-to-day management will be headquartered outside Australia.

14. Overseas Co will also be responsible for the strategic direction and functions of the business, including the setting of various quality standards, advertising and resourcing.

15. No business operations of the online venture, through Overseas Co, will be undertaken in Australia. Overseas II Co, a company incorporated outside Australia and a sister company of Overseas Co will provide certain services to Overseas Co.

16. Certain support functions may be provided by Domestic Co to Overseas Co. All actions provided to Overseas Co will be governed by arm's length agreements with appropriate fee structures.

Online Store Terms and Conditions

The pro-forma online store contractual terms and conditions (the Terms) provide, inter alia, that:

17. By placing an order the customer acknowledges that they agree to be bound by the Terms.

18. The customer agrees that a legally binding contract is formed in the country where Overseas Co conducts its online business at the time that the order confirmation is sent by Overseas Co to the customer.

19. All prices for products quoted on the online website are in Australian dollars.

20. Title and risk of loss in the products ordered passes to the customer on the date and time of delivery of those products to Overseas Co' nominated delivery agent in the country of export.

21. The Terms and any contract arising under the Terms are governed by and construed under the laws of the country where Overseas Co conducts its online business.

Relevant legislative provisions

Income Tax Assessment Act 1936 Subsection 6(1)

Income Tax Assessment Act 1997 Section 6-5

Reasons for decision

Question 1

Under the Proposed Arrangement, is Overseas Co a resident or a resident of Australia under the definition of those terms in subsection 6(1) of the ITAA 1936?

Summary

Overseas Co is not a 'resident' or 'resident of Australia' under the definition of those terms in subsection 6(1) of the ITAA 1936.

Detailed reasoning

22. Subsection 995-1(1) of the ITAA 1997 provides that a person (which includes a company) is an 'Australian resident' if that person is a resident of Australia for the purposes of the ITAA 1936.

23. Paragraph (b) of the definition of 'resident' or 'resident of Australia' in subsection 6(1) of the ITAA 1936 (the definition) states that a company is a 'resident' or 'resident of Australia' if it is:

· incorporated in Australia; or

· if it is not incorporated in Australia, it carries on business in Australia and has either:

· its central management and control in Australia; or

· its voting power controlled by shareholders who are residents of Australia.

24. Overseas is a company incorporated outside Australia, therefore the first statutory test is not satisfied by Overseas Co.

25. Analysis in relation to the second statutory test of the definition is set out below.

Carrying on business in Australia

26. Taxation Ruling TR 2004/ (TR 2004/15) ¹ provides the Commissioner's views on whether a company, not incorporated in Australia, is a resident of Australia under the second statutory test in paragraph (b) of the definition.

27. Paragraph 9 of TR 2004/15 states that the question of where business is carried on is one of fact. It requires a consideration of where the activities of the company are carried on and is dependent on the facts and circumstances of a case. However, the Commissioner's approach to this factual determination is to draw a distinction between a company with operational activities (for example trading, service provision, manufacturing or mining activities) and a company which is more passive in its dealings.

The nature of Overseas Co's business activities

26. Paragraph 10 of TR 2004/15 states:

For the purposes of the second statutory test, a company that has major operational activities relative to the whole of its business carries on business wherever those activities take place … Operational activities include major trading …

27. Paragraph 41 of TR 2004/15 further states:

While it is clear that mere trading is not sufficient on its own to satisfy the second statutory test, and that [centre management and control] can be relevant to determining where the business is being carried on, it is considered that major operational activities which are the essence of a company's income earning activities and which are carried out with a high degree of autonomy would be sufficient to constitute the carrying on of business in Australia where those activities occur in Australia.

28. As stated above, Overseas Co will be responsible for operating the online business and managing any enterprise risks associated with the business.

Location of Overseas Co's business activities

29. Based on information provided by Overseas Co, its business activities are indicative of Overseas Co having major operational activities outside Australia in respect of its online business under the Proposed Arrangement, relative to its whole business.

Conclusion

30. Applying TR 2004/15 to the nature and location of Overseas Co's operational activities, Overseas Co does not carry on business in Australia.

31. As Overseas Co does not carry on a business in Australia, there is no need to further consider the remaining limbs of the residency test in paragraph (b) of the definition.

32. The Commissioner considers that, under the Proposed Arrangement, Overseas Co will not be a 'resident' or a 'resident of Australia' as defined in subsection 6(1) of the ITAA 1936.

Question 2

Under the Proposed Arrangement, is income from online sales derived by Overseas Co directly or indirectly from Australian sources for the purposes of paragraph 6-5(3)(a) of the ITAA 1997?

Summary

Income derived from online sales by Overseas Co under the Proposed Arrangement is not directly or indirectly from Australian sources for the purposes of paragraph 6-5(3)(a) of the ITAA 1997.

Detailed reasoning

33. Subsection 6-5(2) of the ITAA 1997 provides that the assessable income of a resident taxpayer includes the ordinary income derived by the taxpayer directly or indirectly from all sources, whether in or out of Australia, during the income year. Under paragraph 6-5(3)(a) of the ITAA 1997, the assessable income of a non-resident taxpayer includes ordinary income derived directly or indirectly from all Australian sources during the income year.

34. On the basis that Overseas Co is not a resident of Australia under subsection 6(1) of the ITAA 1936 (as established in Question 1 above), Overseas Co will be taxed on income directly or indirectly sourced in Australia for the purposes of paragraph 6-5(3)(a) of the ITAA 1997.

Nature of the test to determine source

35. Taxation Determination TD 2011/24 ²(TD 2011/24) explains the nature of the test to be applied to determine the source of an item of income.

36. A number of court cases have also considered the question of source of income. Matters the courts have considered include the place where a contract is entered into, the place where a contract is negotiated, the place of payment, the place where a service is performed and the place where business operations are carried on.

Where the contracts are executed

37. The Terms are governed by and construed under the laws of the foreign country.

38. The general rule in the foreign country as to the parties entering a contract is that acceptance of an offer takes effect when (and where) notice is received by the offeror.

39. Under this general rule, the contract to purchase is complete when Overseas Co's acceptance of the offer to purchase is received by the offeror and the contract between Overseas Co and its Australian customer is made in Australia where the acceptance is received.

40. The foreign legislation on electronic contracts supports the existing principles in stating that, in the absence of any other agreement, receipt will take place when and where acceptance of an offer is received.

41. The Terms expressly provide however that the contract is formed in the foreign country at a particular time following certain undertakings being completed by both parties. Consequently, subject to the completion of these undertaking by the parties, the place where the contract is entered into is not in Australia.

Elements of a business transaction

42. Notwithstanding where the contracts are made is one factor in ascertaining the source of the income of Overseas Co, the place where contracts are made is not always determinative of the issue of source of income.

43. The courts have considered not just the place where the contract is made, but also:

· the elements of the business transaction(s) having regard to the substance and practical realities of the situation; and

· the place at which business activities are carried out, including the place where decisions are made and actions are taken that culminate in the execution and performance of a contract.

44. The activities of the online business conducted by Overseas Co in transactions involving the sale of goods include overall strategic and planning activities, management and contracting with customers.

The location of business activities

45. Based on the information provided by Overseas Co, the Commissioner's view is that the place in which the business activities are carried out is not in Australia.

Wares or Stock in Trade

46. The location of wares or stock in trade may also be relevant in determining the source of a taxpayer's income and whether apportionment of income is required.

47. In the present case, the wares (the goods) are located outside Australia, and the location of the contracts, are considered not to be in Australia. Therefore, both these matters point to the source of the income being outside Australia. Hence, in the present case, the question of any apportionment of dual source to Australia does not arise.

Conclusion(s)

48. Based on the facts provided by Overseas Co, it is the Commissioner's view that the income derived by Overseas Co under the Proposed Arrangement is not directly or indirectly sourced in Australia for the purpose of paragraph 6-5(3)(a) of the ITAA 1997.

49. Accordingly, Overseas Co's income from the online business under the Proposed Arrangement does not constitute assessable income under paragraph 6-5(3)(a) of the ITAA 1997 as:

· Overseas Co is a not a resident or resident of Australia for income tax purposes under subsection 6(1) of the ITAA 1936; and

· the income derived by Overseas Co under the Proposed Arrangement is not directly or indirectly sourced in Australia for the purpose of paragraph 6-5(3)(a) of the ITAA 1997.

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