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Edited version of your private ruling
Authorisation Number: 1012554263104
Ruling
Subject: Income Tax - Double tax agreements
Question
Is the entity a 'financial institution' within the meaning of Article 11(3)(b) of the Convention between the Government of Australia and the Government of the United Kingdom of Great Britain and Northern Ireland for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and on Capital Gains [2003] ATS 22 (UK Convention)?
Answer
Yes
This ruling applies for the following periods:
For the period 1 January 2014 to 31 December 2014
For the period 1 January 2015 to 31 December 2015
For the period 1 January 2016 to 31 December 2016
The scheme commences on:
During the period 1 January 2014 to 31 December 2014
Relevant facts and circumstances
The entity funds its balance sheet through diverse sources.
The entity has broken down its business activities into two categories: spread activities and non-spread activities.
The entity has stated that the spread activities it undertakes falls within the meaning of spread activities as outlined in paragraph 15 of Taxation Ruling 2005/5: Income tax: ascertaining the right to tax United States (US) and United Kingdom (UK) resident financial institutions under the US and the UK Taxation Conventions in respect of interest income arising in Australia (TR 2005/5).
The entity is a non-resident of Australia.
The entity does not have a permanent establishment in Australia under domestic law or the UK Convention.
Interest is derived by the entity from transactions that are entered into with unrelated parties, which are Australian resident borrowers. The entity deals with them independently on a commercial basis.
The entity is neither a 'corporate treasury' nor a member of a corporate group performing financial services for purposes of Article 11(3)(b) of the UK Convention.
The entity is not entering into back to back transactions or other arrangement that is economically equivalent and intended to have a similar effect to back-to-back loans under Article 11(4) of the UK Convention.
Relevant legislative provisions
Article 11(3)(b) of the Convention between the Government of Australia and the Government of the United Kingdom of Great Britain and Northern Ireland for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and on Capital Gains [2003] ATS 22
Reasons for decision
Article 11(3)(b) of the UK Convention provides:
the interest is derived by a financial institution which is unrelated to and dealing wholly independently with the payer. For the purposes of this Article, the term 'financial institution' means a bank or other enterprise substantially deriving its profits by raising debt finance in the financial markets or by taking deposits at interest and using those funds in carrying on a business of providing finance. (emphasis added)
Paragraph 15 of TR 2005/5 outlines when an entity that is not a bank will be considered a financial institution and what constitutes spread activities. Paragraph 15 of TR 2005/5 provides:
15. 'Other enterprises' are those residents of the US or UK that are not classified as banks. This means that these enterprises must 'substantially derive their profits' by 'raising debt finance in the financial markets' or by 'taking deposits at interest' and 'using those funds in carrying on a business of providing finance'. Collectively, these activities are referred to as 'spread activities' in this Ruling.
As the entity has stated that it undertakes spread activities it will be a 'financial institution' within the meaning of Article 11(3)(b) of the UK Convention if it substantially derives its profits from spread activities.
Substantially deriving its profits from spread activities
Paragraphs 26 and 27 of TR 2005/5 provide that:
26. The term 'substantially deriving its profits' means that the activities of raising debt finance in the financial markets or taking deposits at interest and using those funds in carrying on a business of providing finance, needs to comprise the UK resident's main business activity.
27. These activities constitute the main business activity of the UK resident if such activity is the main contributor to the overall profit of the UK resident. 'Profit' in this context can be measured according to a range of acceptable accounting indicators, including gross profit, net operating income or operating profit. It should also be measured on the same accounting basis over a reasonable period to ascertain whether the spread activity is consistently the main activity of the enterprise.
It is apparent from the above that 'substantially deriving its profits' requires that the spread activities of the entity needs to be main contributor to the profit of the entity.
A comparison of the margin of the spread and the non-spread activities for the relevant periods to profits (loss) before tax indicates that the spread activities will continue to be the main contributor to the before tax profit or loss of the entity.
In view of the above, it is reasonable to conclude that the entity would satisfy the requirement that it substantially derives its profits from its spread activities for the period of the ruling. It would follow that the entity would be a 'financial institution' within the meaning of Article 11(3)(b) of the UK Convention over this period.
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