Edited version of your written advice

Authorisation Number: 1012697904946

Ruling

Subject: residency, permanent establishment, source and assessability of income and withholding obligations

Question 1

Is Overseas Co a foreign resident for the purposes of section 995-1 of the Income Tax Assessment Act 1997 (ITAA 1997)?

Answer

Yes

Question 2

Is Overseas Co a resident of an overseas country for the purposes of that country's Double Tax Agreement (DTA)?

Answer

Yes

Question 3

Does Overseas Co have a permanent establishment in Australia for the purposes of that overseas country's DTA?

Answer

Yes

Question 4

Does Overseas Co's assessable income include only its ordinary and statutory income derived indirectly or directly from all Australian sources and other ordinary and statutory income that a provision contains in its assessable income on some basis other than having an Australian source in accordance with subsections 6-5(3) and 6-10(5) of the ITAA 1997?

Answer

Yes

Question 5

Are the only payments that will be considered Australian sourced in accordance with sections 6-5 and 6-10 of the ITAA 1997 the payments received by Overseas Co from A Co under a sub-contract between Overseas Co and A Co (referred to either as the Subcontract or the Services Contract) for services provided by Overseas Co in Australia?

Answer

Yes

Question 6

Do the payments received by Overseas Co under the Subcontract constitute royalties in accordance with subsection 6(1) of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

No

Question 7

Does the royalties article of the overseas country's DTA apply to the receipts arising to Overseas Co under the Subcontract?

Answer

No

Question 8

Will the business profits article of the overseas country's DTA apply to Overseas Co in respect of the payments it receives under the Subcontract?

Answer

Yes

Question 9

Is Overseas Co a foreign resident for the purposes of the foreign resident withholding provisions under paragraph 12-315(2)(a) of Schedule 1 to the Taxation Administration Act 1953 (TAA 1953)?

Answer

Yes

Question 10

Will Overseas Co have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from the payments it makes to A Co under the Services Contract?

Answer

No

Question 11

Will the payments made by Overseas Co to A Co under the Services Contract for services provided by A Co to Overseas Co in Australia be subject to a foreign resident withholding obligation under section 12-315 of Schedule 1 to the TAA 1953?

Answer

No

Question 12

Will the payments made by Overseas Co to A Co under the Services Contract be subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953 where A Co has provided its Australian Business Number (ABN) to Overseas Co?

Answer

No

Question 13

Will Overseas Co have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from the payments made by it to X Co under the X Co Agreement, taking into account the application of section 12-300 of Schedule 1 to the TAA 1953, section 128B of the ITAA 1936, subsection 17(4) of the International Tax Agreement Act 1953 (ITAA 1953) and the exclusion to the royalties article of the overseas country's DTA?

Answer

No

Question 14

Is Overseas Co required to withhold an amount from the payments made to X Co under the X Co Agreement for the purposes of section 12-315 of Schedule 1 to the TAA 1953?

Answer

No

Question 15

Will the payments made by Overseas Co to X Co under the X Co Agreement be subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953?

Answer

No

Question 16

Will Overseas Co have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from the payments made by it to Y Co under the Y Co Agreement, taking into account the application of section 12-300 to Schedule 1 to the TAA 1953, section 128B of the ITAA 1936, subsection 17(4) of the ITAA 1953 and the exclusion to the royalties article of the overseas country's DTA?

Answer

No

Question 17

Is Overseas Co required to withhold an amount from the payments made by it to Y Co under the Y Co Agreement for the purposes of section 12-315 of Schedule 1 to the TAA 1953?

Answer

No

Question 18

Are the payments made by Overseas Co to Y Co under the Y Co Agreement subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953?

Answer

No

This ruling applies for the following period:

A number of income years.

The scheme commenced:

During the 2013 income year.

Relevant facts and circumstances

Overseas Co

1. Overseas Co is the operating entity of Overseas Group.

2. Overseas Co is a company incorporated in an overseas country.

3. Overseas Co is treated as a tax resident of the overseas country and its effective place of management is in that overseas country.

A Co

4. A Co is a member of Overseas Group.

5. A Co is an Australian incorporated company with an Australian resident director and a presence in Australia. However, A Co's key management and commercial decisions are made by the overseas Board of its overseas holding company.

6. A Co is treated as a resident of the overseas country.

7. The Commissioner has also ruled that A Co is a resident of Australia for Australian tax purposes.

X Co

8. X Co's address is in an overseas country.

9. X Co is treated as a tax resident of that overseas country.

10. X Co is a member of Overseas Group.

11. The Commissioner has also ruled that X Co is a foreign resident for Australian tax purposes.

12. X Co owns substantial equipment (the X Co Equipment) and leases the X Co Equipment to members of Overseas Group.

13. Other than the physical presence of the X Co Equipment in Australia for more than 12 months, X Co has no other presence in Australia.

14. The Commissioner has ruled that X Co has a deemed permanent establishment in Australia for the purposes of the overseas country's DTA.

Y Co

15. Y Co's address is in an overseas country.

16. Y Co owns substantial equipment (the Y Co Equipment) and leases the Y Co Equipment to members of Overseas Group.

17. Other than the physical presence of the Y Co Equipment in Australia for more than 12 months, Y Co has no other presence in Australia.

18. The Commissioner has ruled that Y Co has a deemed permanent establishment in Australia for the purposes of the overseas country's DTA.

The Contract

19. A Co entered into the Contract with a third party contractor (Main Contractor) to provide certain services in Australia.

20. At the completion of the Contract, the Main Contractor will take ownership of what is produced by A Co's services.

21. The entire scope of the work to be performed by A Co under the Contract however, is subcontracted to Overseas Co under a sub-contract (referred to as either the Subcontract or the Services Contract).

22. All activities performed by A Co will be supervised by Overseas Co.

23. The duration of A Co's and Overseas Co's respective work is expected to exceed twelve months.

The Subcontract/Services Contract

24. A Co and Overseas Co entered into the Subcontract (or alternatively referred to as the Services Contract) under which:

• A Co will receive payments to provide certain services to Overseas Co (referred to as payments under the Services Contract); and

• Overseas Co will receive payments to provide certain services to A Co (referred to as payments under the Subcontract).

25. A Co will include its ABN on the invoices it raises to Overseas Co in respect of the payments to be made by Overseas Co to A Co under the Services Contract.

26. Where possible, Overseas Co will perform its activities under the Subcontract outside Australia, in the overseas country of which it is a tax resident. Only those activities which are required to be performed in Australia will be performed in Australia.

27. The Commissioner has ruled that the payments from A Co to Overseas Co under the Subcontract are not royalties for Australian tax purposes.

The X Co Agreement

28. In order to undertake work in Australia, Overseas Co entered into the X Co Agreement with X Co to lease the X Co Equipment from X Co.

29. The X Co Agreement was negotiated and executed in the overseas country.

30. The X Co Equipment will be in Australia for more than 12 months.

31. During this time, Overseas Co will be responsible for any maintenance activities in respect of the X Co Equipment.

32. The Commissioner has ruled that the payments from Overseas Co to X Co under the X Co Agreement are royalties for Australian tax purposes.

33. The Commissioner has also ruled that the royalty payments received by X Co under the X Co Agreement are deemed to be Australian sourced.

The Y Co Agreement

34. In order to undertake work in Australia, Overseas Co entered into the Y Co Agreement with Y Co to lease the Y Co Equipment from Y Co.

35. The Y Co Agreement was negotiated and executed in the overseas country.

36. The Y Co Equipment will be in Australia for more than 12 months.

37. During this time, Overseas Co will be responsible for any maintenance activities in respect of the Y Co Equipment.

38. The Commissioner has ruled that the payments from Overseas Co to Y Co under the Y Co Agreement are royalties for Australian tax purposes.

39. The Commissioner has also ruled that the royalty payments received by Y Co under the Y Co Agreement are deemed to be Australian sourced.

Relevant legislative provisions

Subsection 6(1) of the ITAA 1936.

Subsection 128B(2B) of the ITAA 1936.

Subsection 6-5(3) of the ITAA 1997.

Subsection 6-10(5) of the ITAA 1997.

Section 995-1 of the ITAA 1997.

Section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953.

Section 12-280 of Schedule 1 to the TAA 1953.

Section 12-300 of Schedule 1 to the TAA 1953.

Section 12-315 of Schedule 1 to the TAA 1953.

Subsection 17A(4) of the ITAA 1953.

Reasons for decision

Question 1

Is Overseas Co a foreign resident for the purposes of section 995-1 of the ITAA 1997?

Summary

Yes. Overseas Co is a foreign resident for the purposes of section 995-1 of the ITAA 1997.

Detailed reasoning

Subsection 995-1(1) of the ITAA 1997 provides that 'foreign resident' means a person who is not a resident of Australia for the purposes of the ITAA 1936.

For the purposes of the ITAA 1936, paragraph 6(1)(b) of the ITAA 1936 defines a 'resident of Australia', in respect of a company, as a company which is incorporated in Australia, or which, not being incorporated in Australia carries on a 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.

Overseas Co is a company incorporated in an overseas country. Furthermore, Overseas Co's effective place of control and its business is carried on in that overseas country, and it is wholly owned by a resident company of that overseas country.

Overseas Co does not therefore meet the definition of 'resident of Australia' under paragraph 6(1)(b) of the ITAA 1936, and as such, is a 'foreign resident' for the purposes of section 995-1 of the ITAA 1997.

Question 2

Is Overseas Co a resident of an overseas country for the purposes of that country's DTA?

Summary

Yes. Overseas Co is a resident of an overseas country for the purposes of that country's DTA.

Detailed reasoning

Question 1 above confirms that Overseas Co is not a resident of Australia for Australian tax purposes and that it is in fact a foreign resident for Australian tax purposes.

As such, Overseas Co does not satisfy the definition of a resident of Australia for the purposes of the overseas country's DTA.

As the overseas country's DTA provides that a person is a resident of the overseas country, if the person is a resident of that overseas country for the purposes of its tax, Overseas Co is treated as a tax resident of that overseas country for the purposes of its DTA.

Question 3

Does Overseas Co have a permanent establishment in Australia for the purposes of that overseas country's DTA?

Summary

Yes. Overseas Co has a permanent establishment in Australia for the purposes of that overseas country's DTA.

Detailed reasoning

An entity can be deemed to have a permanent establishment under the overseas country's DTA.

Overseas Co meets the criteria to have a deemed permanent establishment in Australia.

Overseas Co therefore has a permanent establishment in Australia for the purposes of the overseas country's DTA.

Question 4

Does Overseas Co's assessable income include only its ordinary and statutory income derived indirectly or directly from all Australian sources and other ordinary and statutory income that a provision contains in its assessable income on some basis other than having an Australian source in accordance with subsections 6-5(3) and 6-10(5) of the ITAA 1997?

Summary

Yes. Overseas Co's assessable income includes only its ordinary and statutory income derived indirectly or directly from all Australian sources and other ordinary and statutory income that a provision contains in its assessable income on some basis other than having an Australian source in accordance with subsections 6-5(3) and 6-10(5) of the ITAA 1997.

Detailed reasoning

Subsection 6-5(3) of the ITAA 1997 provides that:

If you are a foreign resident, your assessable income includes:

(a) the ordinary income you derive directly or indirectly from all Australian sources during the income year; and

(b) other ordinary income that a provision includes in your assessable income for the income year on some basis other than having an Australian source.

Subsection 6-10(5) of the ITAA 1997 further provides that:

If you are a foreign resident, your assessable income includes:

(a) your statutory income from all Australian sources; and

(b) other statutory income that a provision includes in your assessable income on some basis other than having an Australian source.

Question 1 above confirms that Overseas Co is a foreign resident for Australian tax purposes. As such, subsections 6-5(3) and 6-10(5) of the ITAA 1997 apply to Overseas Co such that its assessable income only includes its ordinary and statutory income derived indirectly or directly from all Australian sources and other ordinary and statutory income that a provision contains in its assessable income on some basis other than having an Australian source in accordance with subsections 6-5(3) and 6-10(5) of the ITAA 1997.

Question 5

Are the only payments that will be considered Australian sourced in accordance with sections 6-5 and 6-10 of the ITAA 1997 the payments received by Overseas Co from A Co under the Subcontract for services provided by Overseas Co in Australia?

Summary

Yes. The only payments that will be considered Australian sourced in accordance with sections 6-5 and 6-10 of the ITAA 1997 will be the payments received by Overseas Co from A Co under the Subcontract for services provided by Overseas Co in Australia.

Detailed reasoning

As confirmed above in Question 4, as Overseas Co is a foreign resident for Australian tax purposes, subsections 6-5(3) and 6-10(5) of the ITAA 1997 apply to Overseas Co such that its assessable income includes its ordinary and statutory income derived indirectly or directly from Australian sources (and other ordinary and statutory income that a provision contains in its assessable income on some basis other than having an Australian source).

Overseas Co's ordinary or statutory income will be 'Australian sourced' only if it is derived from a source in Australia.

Determining the source of an item of income is a matter of fact to be determined having regard to the facts and circumstances of each case.

In the present case, the performance of the work under the Subcontract is the relevant or chief act under the contract and therefore forms the substance of the contract between Overseas Co and A Co. As such, the place where the work is undertaken is of particular importance in this case and consequently, is the significant determinant of the source of Overseas Co's income under the Subcontract.

The payments received by Overseas Co under the Subcontract for services performed within Australia have an Australian source based on the significance attributable to the place where the services are actually performed. Therefore, only the payments received by Overseas Co under the Subcontract for services performed within Australia are directly or indirectly sourced in Australia for the purposes of sections 6-5 and 6-10 of the ITAA 1997.

Question 6

Do the payments received by Overseas Co under the Subcontract constitute royalties in accordance with subsection 6(1) of the ITAA 1936?

Summary

No. The payments received by Overseas Co under the Subcontract do not constitute royalties in accordance with subsection 6(1) of the ITAA 1936.

Detailed reasoning

According to subsection 6(1) of the ITAA 1936, 'royalties' include any amount paid or credited, however described or computed, and whether the payment or credit is periodical or not, to the extent to which it is paid or credited, as consideration for (inter alia):

…

(a) the use of, or the right to use, any industrial, commercial or scientific equipment;

(b) the supply of scientific, technical , industrial or commercial knowledge or information; and

(c) the supply of any assistance that is ancillary and subsidiary to, and is furnished as a means of enabling the application or enjoyment of,…any such equipment as is mentioned in paragraph (b) or any such knowledge or information as is mentioned in paragraph (c);…

Taxation Ruling IT 2660 (IT 2660) provides the Commissioner's views on the definition of 'royalty' and 'royalties' in subsection 6(1) of the ITAA 1936.

Payments for services rendered and work done can be distinguished from royalty payments.

In terms of distinguishing elements, a contract for the supply of know-how generally involves the following:

• a 'product' (knowledge, information, technique, formula, skills, process, plan etc.) is already in existence; and

• the right to use the product is what is being transferred to the buyer under the contract (and the seller retains the right to use the product themselves and/or transfer it to others).

A contract to perform services or work however, involves:

• a contractor undertaking to perform services or work which will bring into existence a product;

• the contractor applying their existing knowledge, skill and expertise (not transferring this knowledge, skill or expertise) in bringing the product into existence; and

• the resulting product being owned by the buyer.

Essentially then, the question to be determined in making the distinction between royalties and payments for services rendered is - "Is the contract one for the supply, for use by the 'buyer', of a 'product' which is already in existence, or rather, does the contract require the contractor to apply special skills and knowledge for their own use in order to bring into existence a 'product' for the buyer?" In the first case, a contract for the supply of know-how exists (in which case the payment for such is a royalty as defined by subsection 6(1) of the ITAA 1936). In the second case, the contract is simply for services rendered or work done.

The activities undertaken by Overseas Co for A Co under the Subcontract involve:

• Overseas Co performing services or work to bring into existence a product for A Co (to satisfy A Co's obligations under the Contract with the Main Contractor);

• Overseas Co applying its existing knowledge, skill and expertise in order to bring into existence that product; and

• the Main Contractor ultimately taking ownership of that product at the completion of the Contract.

Overseas Co will not transfer technical knowledge, information, experience or technique necessary for the production of the product to A Co (or ultimately the Main Contractor).

As such, payments to Overseas Co under the Subcontract constitute payments for services rendered or work done.

Accordingly, the payments received by Overseas Co under the Subcontract do not constitute royalties in accordance with subsection 6(1) of the ITAA 1936.

Question 7

Does the royalties article of the overseas country's DTA apply to the receipts arising to Overseas Co under the Subcontract?

Summary

No. The royalties article of the overseas country's DTA will not apply to the receipts arising to Overseas Co under the Subcontract.

Detailed reasoning

'Royalties' is a defined term under the overseas country's DTA.

IT 2660 provides not only the Commissioner's views on the definition of 'royalty' and 'royalties' for the purposes of subsection 6(1) of the ITAA 1936, but also for various double tax agreements in the Schedules in the ITAA 1953. As such, the same considerations and features as discussed above for the purposes of the taxation law definition of 'royalty', equally apply to the overseas country's DTA's definition.

As stated above, payments received by Overseas Co under the Subcontract constitute payments for services rendered or work done, and such activities will not involve the imparting or communicating of Overseas Co's specialist skills, knowledge or expertise. Rather, the activities Overseas Co undertakes to perform under the Subcontract involve the use of Overseas Co's existing knowledge, skill and expertise in order to perform work or services for A Co.

Payments to Overseas Co under the Subcontract are considered to be payments for services provided or work done and therefore do not constitute royalties under the overseas country's DTA. As such, the royalties article of the overseas country's DTA does not apply to the receipts arising to Overseas Co under the Subcontract.

Question 8

Will the business profits article of the overseas country's DTA apply to Overseas Co in respect of the payments it receives under the Subcontract?

Summary

Yes. The business profits article of the overseas country's DTA will apply to Overseas Co in respect of the payments it receives under the Subcontract.

Detailed reasoning

As the payments received by Overseas Co under the Subcontract constitute business profits, the business profits article of the overseas country's DTA will apply to Overseas Co in respect of those payments, thereby attributing taxing rights to Australia on such payments to the extent that they are attributable to Overseas Co's permanent establishment in Australia.

Question 9

Is Overseas Co a foreign resident for the purposes of the foreign resident withholding provisions under paragraph 12-315(2)(a) of Schedule 1 to the TAA 1953?

Summary

Yes. Overseas Co is a foreign resident for the purposes of the foreign resident withholding provisions under paragraph 12-315(2)(a) of Schedule 1 to the TAA 1953.

Detailed reasoning

Question 1 above confirms that Overseas Co is a foreign resident for Australian tax purposes, including for the purposes of paragraph 12-315(2)(a) of Schedule 1 to the TAA 1953. As such, Overseas Co is a foreign resident for the purposes of the foreign resident withholding provisions under paragraph 12-315(2)(a) of Schedule 1 to the TAA 1953.

Question 10

Will Overseas Co have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from the payments it makes to A Co under the Services Contract?

Summary

No. Overseas Co will not have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from the payments it makes to A Co under the Services Contract.

Detailed reasoning

Section 12-280 of Schedule 1 to the TAA 1953 deals with royalty payments to overseas persons and a payer's associated withholding obligation.

The Commissioner has ruled that the payments from Overseas Co to A Co under the Services Contract are not royalties for Australian tax purposes, therefore section 12-280 of Schedule 1 to the TAA 1953 does not apply to the payments made by Overseas Co to A Co under the Services Contract. Accordingly, Overseas Co will not have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from any such payments.

Question 11

Will the payments made by Overseas Co to A Co under the Services Contract for services provided by A Co to Overseas Co in Australia be subject to a foreign resident withholding obligation under section 12-315 of Schedule 1 to the TAA 1953?

Summary

No. The payments made by Overseas Co to A Co under the Services Contract for services provided by A Co to Overseas Co in Australia will not be subject to a foreign resident withholding obligation under section 12-315 of Schedule 1 to the TAA 1953.

Detailed reasoning

Section 12-315 of Schedule 1 to the TAA 1953 deals with a payer's withholding obligation in respect of payments made to foreign residents.

The Commissioner has ruled that A Co is an Australian resident for Australian tax purposes, including for the purposes of section 12-315 of Schedule 1 to the TAA 1953. As such, the payments made by Overseas Co to A Co under the Services Contract for services provided by A Co to Overseas Co in Australia will not be subject to a foreign resident withholding obligation under section 12-315 of Schedule 1 to the TAA 1953.

Question 12

Will the payments made by Overseas Co to A Co under the Services Contract be subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953 where A Co has provided its ABN to Overseas Co?

Summary

No. The payments made by Overseas Co to A Co under the Services Contract will not be subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953 where A Co has provided its ABN to Overseas Co.

Detailed reasoning

Subsection 12-190(1) of Part 2-5 of Schedule 1 to the TAA 1953 requires a payer to withhold an amount from a payment it makes to another entity if the payment is for a supply made (or proposed to be made) by that other entity to the payer in the course or furtherance of an enterprise carried on in Australia by the other entity, and an exception in section 12-190 does not apply.

Subsection 12-190(2) of Part 2-5 of Schedule 1 to the TAA 1953 provides such an exception where the other entity gives the payer an invoice for the supply quoting the other entity's ABN or the payer has some other document relating to the supply on which the other entity's ABN is quoted (paragraphs 12-190(2)(a) and (b) respectively).

Supply made in the course or furtherance of an enterprise carried on in Australia

Section 995-1 of the ITAA 1997 provides that 'enterprise' has the meaning given by section 9-20 of the A New Tax System (Goods and Services Tax) Act 1999 (the GST Act).

Subsection 9-20(1) of the GST Act's definition of 'enterprise' includes an activity, or series of activities done in the form of a business.

A Co's activities are in the form of a business carried on in Australia. As such, A Co is carrying on an enterprise in Australia.

Supplies from A Co to Overseas Co made under the Services Contract are made in the course or furtherance of A Co's enterprise carried on in Australia.

Exception

As A Co will quote its ABN on invoices raised to Overseas Co for these services it provides in Australia under the Services Contract, the exception in paragraph 12-190(2)(a) of Part 2-5 of Schedule 1 to the TAA 1953 will apply.

Accordingly, Overseas Co will not be required to withhold an amount from payments made by Overseas Co to A Co under the Services Contract for services provided by A Co in Australia where A Co provides its ABN to Overseas Co.

Question 13

Will Overseas Co have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from the payments made by it to X Co under the X Co Agreement, taking into account the application of section 12-300 of Schedule 1 to the TAA 1953, section 128B of the ITAA 1936, subsection 17(4) of the International Tax Agreement Act 1953 (ITAA 1953) and the exclusion to the royalties article of the overseas country's DTA?

Summary

No. Overseas Co will not have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from the payments made by it to X Co under the X Co Agreement, taking into account the application of section 12-300 of Schedule 1 to the TAA 1953, section 128B of the ITAA 1936, subsection 17(4) of the ITAA 1953 and the exclusion to the royalties article of the overseas country's DTA.

Detailed reasoning

Section 12-280 of Schedule 1 to the TAA 1953 deals with royalty payments to overseas persons and a payer's associated withholding obligation.

Paragraph 12-280(a) of Schedule 1 to the TAA 1953 provides that an entity must withhold an amount from royalty it pays to an entity if the recipient has an address outside Australia.

The Commissioner has ruled that the payments from Overseas Co to X Co under the X Co Agreement are royalties for Australian tax purposes, this includes for the purposes of section 12-280 of Schedule 1 to the TAA 1953. Furthermore, X Co's address is outside Australia.

Section 12-280 of Schedule 1 to the TAA 1953 therefore applies to the payments made by Overseas Co to X Co under the X Co Agreement, and Overseas Co has a prima facie obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from any such payments.

However, section 12-300 of Schedule 1 to the TAA 1953 provides limits on amounts withheld under Subdivision 12-F. Paragraph 12-300(a) of Schedule 1 to the TAA 1953 states that an entity is not required to withhold an amount from a royalty if no withholding tax is payable in respect of the royalty. The Note to section 12-300 of Schedule 1 to the TAA 1953 explains that section 128B of the ITAA 1936 deals with withholding tax liability.

Withholding tax liability

Subparagraph 128B(2B)(b)(ii) of the ITAA 1936 is the relevant provision in this case, and provides that section 128B applies (and a withholding tax liability exists) to income that is derived by a non-resident during the 1994 or a later income year and consists of a royalty that:

is paid to the non-resident by a person who…is not a resident and is, or is in part, an outgoing incurred by that person…in carrying on a business in Australia at or through a permanent establishment of that person…in Australia.

As such, a withholding tax liability will arise to Overseas Co under paragraph 128B(2B)(2)(b) of the ITAA 1936 if:

• the payments made by Overseas Co to X Co under the X Co Agreement are 'royalties';

• Overseas Co and X Co are 'non-residents';

• Overseas Co has a permanent establishment in Australia; and

• Overseas Co incurs the payments to X Co in carrying on a business in Australia at or through that permanent establishment.

Royalties

As stated above, the Commissioner has ruled that the payments from Overseas Co to X Co under the X Co Agreement are royalties for Australian tax purposes, this includes for the purposes of section 128B of the ITAA 1936.

Non-resident

Subsection 6(1) of the ITAA 1936 defines 'non-resident' as a person who is not a resident of Australia. The Commissioner has ruled that X Co is a foreign resident for Australian tax purposes, this includes for the purposes of being a 'non-resident' under section 128B of the ITAA 1936.

Question 1 above confirms that Overseas Co is also a foreign resident for Australian tax purposes, including for the purposes of being a 'non-resident' under section 128B of the ITAA 1936.

Permanent establishment in Australia

Subsection 6(1) of the ITAA 1936 defines 'permanent establishment' as:

…a place at or through which the person carries on any business and…includes:

…

(b) a place where the person has, is using or is installing substantial equipment or substantial machinery;…

Taxation Ruling TR 2002/5 (TR 2002/5) confirms that the definition of permanent establishment in subsection 6(1) of the ITAA 1936 also applies for the purposes of Schedule 1 to the TAA 1953.

Overseas Co satisfies the definition of permanent establishment in Australia for the purposes of paragraph 6(1)(b) and subparagraph 128B(2B)(b)(ii) of the ITAA 1936.

Incurred in carrying on a business in Australia at or through that permanent establishment

Despite having satisfied the subsection 6(1) definition of permanent establishment, it does not automatically follow that Overseas Co is carrying on a business in Australia at or through that permanent establishment.

Whether or not a person is carrying on a business in Australia is a question of fact and degree in each case.

Taxation Ruling TR 97/11 (TR 97/11) provides indicators to consider in answering this question.

No one indicator is decisive and the indicators must be considered in combination and as a whole. Whether a business is being carried on depends on the general impression gained from looking at all the factors and whether the operations have a 'commercial flavour'.

Overseas Co's activities performed in Australia will be performed at or through Overseas Co's permanent establishment and:

• will be undertaken in a business-like manner (with the intent to engage in these activities as a business);

• will be of a commercial character;

• will be carried out in a similar manner to that of the ordinary trade of its overall businesses;

• will have an element of permanency to the extent that the activities will be carried on for over 12 months;

• will be on a significant scale based on the scope and extent of the work to be performed; and

• are best described as business activities.

Viewed as a whole, Overseas Co's activities in Australia will constitute carrying on a business at or through Overseas Co's permanent establishment in Australia.

Finally, the payments Overseas Co makes to X Co under the X Co Agreement will be incurred in carrying on a business in Australia at or through that permanent establishment.

As the requirements of subparagraph 128B(2B)(2)(b)(ii) of the ITAA 1936 are satisfied, Overseas Co will, prima facie, have a withholding tax liability in respect of such payments.

Excluded royalties

Despite this prima facie liability however, section 128B of the ITAA 1936 does not apply to excluded royalties.

Subsection 17A(4) of the ITAA 1953 provides that:

If:

(a) a provision ('basic royalty provision') of an agreement is covered by either of the following paragraphs:

i. paragraph 1 or 2 of Article 12 of the Chinese agreement;

ii. a corresponding provision in another agreement; and

(b) another provision of the agreement expressly excludes particular royalties ('excluded royalties') from the scope of the basic royalty provision;

section 128B of the Assessment Act (which deals with liability for withholding tax) does not apply to the excluded royalties.

The exclusion to the royalties article of the overseas country's DTA corresponds to paragraphs (1) and (2) of Article 12 of the Chinese Agreement referred to in subparagraph 17A(4)(a)(i) of the ITAA 1953, operating to expressly exclude particular royalties.

This exclusion will apply to payments made by Overseas Co to X Co if:

• X Co (as the person beneficially entitled to the royalties) carries on a business through a permanent establishment in Australia;

• the payments made by Overseas Co to X Co arise in Australia; and

• the asset giving rise to the royalties under the X Co Agreement is effectively connected to X Co's permanent establishment.

The Commissioner has ruled that X Co has a permanent establishment in Australia for the purposes of the overseas country's DTA. X Co is also deemed to be carrying on a business through that permanent establishment for the overseas country's DTA purposes.

The Commissioner has also ruled that the royalty payments received by X Co under the X Co Agreement are Australian sourced - and therefore arise in Australia.

The asset giving rise to the royalties paid to X Co under the X Co Agreement is effectively connected to X Co's permanent establishment in Australia.

As such, the exclusion to the royalties article in the overseas country's DTA will apply to make the payments from Overseas Co to X Co under the X Co Agreement 'excluded royalties'. Subsection 17A(4) of the ITAA 1953 will therefore operate to remove such payments from the scope of section 128B of the ITAA 1936.

Conclusion

This means that Overseas Co will ultimately not have a withholding tax liability under paragraph 128B(2B)(2)(b) of the ITAA 1936 in respect of payments made to X Co under the X Co Agreement.

As such, paragraph 12-300(a) of Schedule 1 to the TAA 1953 will apply and Overseas Co is not required to withhold an amount from the royalties paid to X Co under the X Co Agreement.

This means that Overseas Co will not have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 in respect of payments made by it to X Co under the X Co Agreement.

Question 14

Is Overseas Co required to withhold an amount from the payments made to X Co under the X Co Agreement for the purposes of section 12-315 of Schedule 1 to the TAA 1953?

Answer

No. Overseas Co is not required to withhold an amount from the payments made to X Co under the X Co Agreement for the purposes of section 12-315 of Schedule 1 to the TAA 1953.

Detailed reasoning

Section 12-315 of Schedule 1 to the TAA 1953 deals with a payer's withholding obligation in respect of payments made to foreign residents.

Subsection 12-315(1) of Schedule 1 to the TAA 1953 provides that:

An entity (the payer) that carries on an enterprise must withhold an amount from a payment it makes to another entity…in the course or furtherance of the enterprise if:

(a) the entity receiving the payment…is an entity covered by subsection (2); and

(b) the payment is of a kind set out in the regulations; and

(c) the payment is not:…

iii. a royalty;…

and

(d) the entity receiving the payment is not covered by an exemption in force under subsection 12-319(1)…

The Commissioner has ruled that the payments from Overseas Co to X Co under the X Co Agreement are royalties for Australian tax purposes, this includes for the purposes of section 12-315 of Schedule 1 to the TAA 1953.

Accordingly, the payments from Overseas Co to X Co under the X Co Agreement are specifically excluded from the operation of section 12-315 of Schedule 1 to the TAA 1953, and Overseas Co will not be required to withhold an amount from such payments for the purposes of section 12-315 of Schedule 1 to the TAA 1953.

Question 15

Will the payments made by Overseas Co to X Co under the X Co Agreement be subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953?

Summary

No. The payments made by Overseas Co to X Co under the X Co Agreement will not be subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953.

Detailed reasoning

As stated above, subsection 12-190(1) of Part 2-5 of Schedule 1 to the TAA 1953 requires a payer to withhold an amount from a payment it makes to another entity if the payment is for a supply made (or proposed to be made) by that other entity to the payer in the course or furtherance of an enterprise carried on in Australia by the other entity, and an exception in section 12-190 does not apply.

Supply made in the course or furtherance of an enterprise carried on in Australia

Subsection 12-190(1) of Part 2-5 of Schedule 1 to the TAA 1953 makes clear that section 12-190 only applies to payments made for supplies made in the course or furtherance of an enterprise carried on in Australia.

Based on subsection 9-20(1) of the GST Act's definition of 'enterprise' (as outlined above), X Co cannot be considered to be carrying on an enterprise in Australia.

This is because X Co's operations in Australia are limited to only a passive lease of the X Co Equipment. X Co's business is carried on in the overseas country in which it is a incorporated, and accordingly the X Co Agreement was negotiated and executed in that overseas country. No activities are carried out in Australia by X Co in respect of its lease of the X Co Equipment to Overseas Co (i.e. all maintenance of the X Co Equipment is undertaken by Overseas Co) and X Co's only activity is to receive rental receipts from Overseas Co in respect of the X Co Agreement. Furthermore, X Co has no presence in Australia. Finally, the mere presence of the X Co Equipment in Australia is not sufficient to determine that X Co is carrying on an enterprise in Australia.

As such, the payments made by Overseas Co to X Co under the X Co Agreement will not be subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953 as they do not come within the ambit of the provision itself.

Question 16

Will Overseas Co have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from the payments made by it to Y Co under the Y Co Agreement, taking into account the application of section 12-300 to Schedule 1 to the TAA 1953, section 128B of the ITAA 1936, subsection 17(4) of the ITAA 1953 and the exclusion to the royalties article of the overseas country's DTA?

Summary

No. Overseas Co will not have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from the payments made by it to Y Co under the Y Co Agreement, taking into account the application of section 12-300 to Schedule 1 to the TAA 1953, section 128B of the ITAA 1936, subsection 17(4) of the ITAA 1953 and the exclusion to the royalties article of the overseas country's DTA.

Detailed reasoning

As stated above, section 12-280 of Schedule 1 to the TAA 1953 deals with royalty payments to overseas persons and a payer's associated withholding obligation.

Paragraph 12-280(a) of Schedule 1 to the TAA 1953 provides that an entity must withhold an amount from royalty it pays to an entity if the recipient has an address outside Australia.

The Commissioner has ruled that the payments from Overseas Co to Y Co under the Y Co Agreement are royalties for Australian tax purposes, this includes for the purposes of section 12-280 of Schedule 1 to the TAA 1953. Furthermore, Y Co's address is outside Australia.

Section 12-280 of Schedule 1 to the TAA 1953 therefore applies to the payments made by Overseas Co to Y Co under the Y Co Agreement, and Overseas Co has a prima facie obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 from any such payments.

However, section 12-300 of Schedule 1 to the TAA 1953 provides limits on amounts withheld under Subdivision 12-F. Paragraph 12-300(a) of Schedule 1 to the TAA 1953 states that an entity is not required to withhold an amount from a royalty if no withholding tax is payable in respect of the royalty. The Note to section 12-300 of Schedule 1 to the TAA 1953 explains that section 128B of the ITAA 1936 deals with withholding tax liability.

Withholding tax liability

Subparagraph 128B(2B)(b)(ii) of the ITAA 1936 is the relevant provision in this case, and provides that section 128B applies (and a withholding tax liability exists) to income that is derived by a non-resident during the 1994 or a later income year and consists of a royalty that:

is paid to the non-resident by a person who…is not a resident and is, or is in part, an outgoing incurred by that person…in carrying on a business in Australia at or through a permanent establishment of that person…in Australia.

As such, a withholding tax liability will arise to Overseas Co under paragraph 128B(2B)(2)(b) of the ITAA 1936 if:

• the payments made by Overseas Co to Y Co under the Y Co Agreement are 'royalties';

• Overseas Co and Y Co are 'non-residents';

• Overseas Co has a permanent establishment in Australia; and

• Overseas Co incurs the payments to Y Co in carrying on a business in Australia at or through that permanent establishment.

Royalties

As stated above, the Commissioner has ruled that the payments from Overseas Co to Y Co under the Y Co Agreement are royalties for Australian tax purposes, this includes for the purposes of section 128B of the ITAA 1936.

Non-resident

Subsection 6(1) of the ITAA 1936 defines 'non-resident' as a person who is not a resident of Australia. The Commissioner has ruled that Y Co is a foreign resident for Australian tax purposes, this includes for the purposes of being a 'non-resident' under section 128B of the ITAA 1936.

Question 1 above confirms that Overseas Co is also a foreign resident for Australian tax purposes, including for the purposes of being a 'non-resident' under section 128B of the ITAA 1936.

Permanent establishment in Australia

Question 13 above confirms that Overseas Co has a permanent establishment in Australia for the purposes of paragraph 6(1)(b) and subparagraph 128B(2B)(b)(ii) of the ITAA 1936.

Incurred in carrying on a business in Australia at or through that permanent establishment

It has been determined at Question 13 above that certain of Overseas Co's activities will constitute carrying on a business at or through Overseas Co's permanent establishment in Australia.

The Y Co Equipment hired from Y Co is used in undertaking such activities. Accordingly, the payments made by Overseas Co to Y Co under the Y Co Agreement will be incurred in carrying on a business in Australia at or through that permanent establishment.

As the requirements of subparagraph 128B(2B)(2)(b)(ii) of the ITAA 1936 are satisfied, Overseas Co will, prima facie, have a withholding tax liability in respect of such payments.

Excluded royalties

Despite this prima facie liability however, section 128B of the ITAA 1936 does not apply to excluded royalties.

Subsection 17A(4) of the ITAA 1953 provides that:

If:

(a) a provision ('basic royalty provision') of an agreement is covered by either of the following paragraphs:

i. paragraph 1 or 2 of Article 12 of the Chinese agreement;

ii. a corresponding provision in another agreement; and

(b) another provision of the agreement expressly excludes particular royalties ('excluded royalties') from the scope of the basic royalty provision;

section 128B of the Assessment Act (which deals with liability for withholding tax) does not apply to the excluded royalties.

The exclusion to the royalties article of the overseas country's DTA corresponds to paragraphs (1) and (2) of Article 12 of the Chinese Agreement referred to in subparagraph 17A(4)(a)(i) of the ITAA 1953, operating to expressly exclude particular royalties.

This exclusion will apply to payments made by Overseas Co to Y Co if:

• Y Co (as the person beneficially entitled to the royalties) carries on a business through a permanent establishment in Australia;

• the payments made by Overseas Co to Y Co arise in Australia; and

• the asset giving rise to the royalties under the Y Co Agreement is effectively connected to Y Co's permanent establishment.

The Commissioner has ruled that Y Co has a permanent establishment in Australia for the purposes of the overseas country's DTA. Y Co is also deemed to be carrying on a business through that permanent establishment for the overseas country's DTA purposes.

The Commissioner has also ruled that the royalty payments received by Y Co under the Y Co Agreement are Australian sourced - and therefore arise in Australia.

The asset giving rise to the royalties paid to Y Co under the Y Co Agreement is effectively connected to Y Co's permanent establishment in Australia.

As such, the exclusion to the royalties article in the overseas country's DTA will apply to make the payments from Overseas Co to Y Co under the Y Co Agreement 'excluded royalties'. Subsection 17A(4) of the ITAA 1953 will therefore operate to remove such payments from the scope of section 128B of the ITAA 1936.

Conclusion

This means that Overseas Co will ultimately not have a withholding tax liability under paragraph 128B(2B)(2)(b) of the ITAA 1936 in respect of payments made to Y Co under the Y Co Agreement.

As such, paragraph 12-300(a) of Schedule 1 to the TAA 1953 will apply and Overseas Co is not required to withhold an amount from the royalties paid to Y Co under the Y Co Agreement.

This means that Overseas Co will not have an obligation to withhold an amount in accordance with section 12-280 of Schedule 1 to the TAA 1953 in respect of payments made by it to Y Co under the Y Co Agreement.

Question 17

Is Overseas Co required to withhold an amount from the payments made by it to Y Co under the Y Co Agreement for the purposes of section 12-315 of Schedule 1 to the TAA 1953?

Summary

No. Overseas Co is not required to withhold an amount from the payments made by it to Y Co under the Y Co Agreement for the purposes of section 12-315 of Schedule 1 to the TAA 1953.

Detailed reasoning

Section 12-315 of Schedule 1 to the TAA 1953 deals with a payer's withholding obligation in respect of payments made to foreign residents.

Subsection 12-315(1) of Schedule 1 to the TAA 1953 provides that:

An entity (the payer) that carries on an enterprise must withhold an amount from a payment it makes to another entity…in the course or furtherance of the enterprise if:

(a) the entity receiving the payment…is an entity covered by subsection (2); and

(b) the payment is of a kind set out in the regulations; and

(c) the payment is not:…

iii. a royalty;…

and

(d) the entity receiving the payment is not covered by an exemption in force under subsection 12-319(1)…

As stated above, the Commissioner has ruled that the payments from Overseas Co to Y Co under the Y Co Agreement are royalties for Australian tax purposes, this includes for the purposes of section 12-315 of Schedule 1 to the TAA 1953.

Accordingly, the payments from Overseas Co to Y Co under the Y Co Agreement are specifically excluded from the operation of section 12-315 of Schedule 1 to the TAA 1953, and Overseas Co will not be required to withhold an amount from such payments for the purposes of section 12-315 of Schedule 1 to the TAA 1953.

Question 18

Are the payments made by Overseas Co to Y Co under the Y Co Agreement subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953?

Summary

No. The payments made by Overseas Co to Y Co under the Y Co Agreement are not subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953.

Detailed reasoning

As stated above, subsection 12-190(1) of Part 2-5 of Schedule 1 to the TAA 1953 requires a payer to withhold an amount from a payment it makes to another entity if the payment is for a supply made (or proposed to be made) by that other entity to the payer in the course or furtherance of an enterprise carried on in Australia by the other entity, and an exception in section 12-190 does not apply.

Supply made in the course or furtherance of an enterprise carried on in Australia

Subsection 12-190(1) of Part 2-5 of Schedule 1 to the TAA 1953 makes clear that section 12-190 only applies to payments made for supplies made in the course or furtherance of an enterprise carried on in Australia.

Based on subsection 9-20(1) of the GST Act's definition of 'enterprise' (as outlined above), Y Co cannot be considered to be carrying on an enterprise in Australia.

This is because Y Co's operations in Australia are limited to only a passive lease of the Y Co Equipment. Y Co's business is carried on in the overseas country in which it is a incorporated, and accordingly the Y Co Agreement was negotiated and executed in that overseas country. No activities are carried out in Australia by Y Co in respect of its lease of the Y Co Equipment to Overseas Co (i.e. all maintenance of the Y Co Equipment is undertaken by Overseas Co) and Y Co's only activity is to receive rental receipts from Overseas Co in respect of the Y Co Agreement. Furthermore, Y Co has no presence in Australia. Finally, the mere presence of the Y Co Equipment in Australia is not sufficient to determine that Y Co is carrying on an enterprise in Australia.

As such, the payments made by Overseas Co to Y Co under the Y Co Agreement will not be subject to withholding under section 12-190 of Part 2-5 of Schedule 1 to the TAA 1953 as they do not come within the ambit of the provision itself.

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