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Edited version of your written advice

Authorisation Number: 1012830401859

Date of advice: 30 June 2015

Ruling

Subject: Sovereign immunity

Question

Will the Australian Taxation Office (ATO) impose liability to income tax or withholding tax on the non-resident entity on interest income and capital gains derived from its Australian investments in respect of:

Answer

No.

This ruling applies for the following periods:

Year ending 30 June 2016

Year ending 30 June 2017

Year ending 30 June 2018

Year ending 30 June 2019

Year ending 30 June 2020

The scheme commences on:

1 July 2015

Relevant facts and circumstances

1. The non-resident entity is a separate entity of a foreign state.

2. The authorised capital and other property of the non-resident entity are at all times owned by the resident state.

3. The non-resident entity invests funds for the purposes of funding governmental functions.

4. The non-resident entity proposes to invest in Australian bank deposits and Australian Government debt securities.

5. The non-resident entity will derive interest income as well as gains from the disposal of the investments.

6. The non-resident entity has no rights or interests in the issuers of the investment.

Relevant legislative provisions

Income Tax Assessment Act 1936 section 128B

Income Tax Assessment Act 1997 subsection 6-5(3)

Income Tax Assessment Act 1997 subsection 6-10(5)

Reasons for decision

Unless an exemption or exclusion applies, a non-resident taxpayer that derives Australian sourced income will generally be liable to pay income tax on that income.

Subsections 6-5(3) and 6-10(5) of the Income Tax Assessment Act 1997 (ITAA 1997) includes in the assessable income both ordinary income and statutory income sourced in Australia.

Additionally, dividend, interest and royalty income derived by a foreign resident is liable for withholding tax under section 128B of the Income Tax Assessment Act 1936 (ITAA 1936).

While the taxation legislation does not provide an exemption or exclusion for foreign governments, liability to income tax and withholding tax may not be imposed on foreign governments or entities of foreign governments under the common law doctrine of sovereign immunity.

Sovereign immunity background

The Foreign States Immunities Act 1985 (Immunities Act) is an Australian Commonwealth Act which reflects a more restrictive view of the common law doctrine of sovereign immunity.

The ATO follows the principles delineated in the Immunities Act which represents Australia's restrictive approach when considering sovereign immunity claims to taxation matters.

Pursuant to this approach, an entity claiming sovereign immunity must satisfy three conditions:

If these three conditions are satisfied, it has been the long-standing practice of the ATO to not impose the entity's liability to income tax and withholding tax in respect of ordinary income and statutory income on the basis that the entity has satisfied the common law doctrine of sovereign immunity.

Condition 1: a 'foreign state' or 'separate entity' of a foreign state

A claim for sovereign immunity may only be made by a 'foreign state' (section 9 of the Immunities Act).

A foreign state is defined in section 3 of the Immunities Act to be a country outside of Australia that is either:

Sovereign immunity also extends to a 'separate entity' of a foreign state pursuant to section 22 of the Immunities Act.

A separate entity of a foreign state is defined in section 3 of the Immunities Act to be a natural person, body corporate or corporation sole that:

The lower court decision of the PT Garuda Case (PT Garuda Indonesia Ltd v. Australian Competition and Consumer Commission [2011] FCAFC 52) considered when an entity may be an agency or instrumentality of the foreign state. The court decided (at paragraph 128), that the correct approach is to consider, on the whole of the evidence, whether the person is acting for, or being used by, the foreign state as its means to achieve some purpose or end of that state in the relevant circumstances.

As the non-resident entity is a separate entity of a foreign state as defined in section 3 of the Immunities Act, this condition is satisfied.

Condition 2: monies are and will remain government monies

In line with the principle that sovereign immunity applies to foreign states performing only governmental functions, an entity claiming sovereign immunity must establish that the monies being invested in the scheme are and will remain government monies.

The authorised capital and other property of the non-resident entity are at all times owned by the resident state. The non-resident entity invests funds for the purposes of funding governmental functions.

The monies, and income derived from the monies are therefore government monies that remain government monies, satisfying this condition.

Condition 3: commercial transaction

As noted above, under ATO ID 2002/45, a foreign government does not enjoy sovereign immunity in so far as the activity concerns a commercial transaction.

As suggested by the High Court in the PT Garuda Case (at paragraph 5), the necessity for sovereign immunity to be excluded from commercial transactions came about as a result of governments increasingly becoming engaged in various commercial activities and that immunity of governments involved in commercial activities was inconsistent with international law and it was undesirable.

As a result, Australia accepts that foreign states performing only governmental functions, rather than undertaking commercial transactions, may claim sovereign immunity.

This approach is consistent with the decision of the British House of Lords in I Congreso del Partido [1981] 2 All ER 1064, where it was held that activities of a trading, commercial or other private law character were not governmental functions.

Whether an operation or activity is a commercial transaction will depend on the facts of each particular case. As stated in ATO ID 2002/45, as a guide, a commercial transaction is generally an activity concerned with the trading of goods and services, such as buying, selling, bartering and transportation, and includes the carrying on of a business.

ATOID 2002/45 also states that generally income derived by a foreign government or any other body exercising governmental functions from interest bearing investments or investments in equities is generally not considered to be income derived from a commercial operation or activity.

The non-resident entity proposes to invest in Australian bank deposits and Australian Government debt securities. The non-resident entity will derive interest income as well as gains from the disposal of the investments. The non-resident entity has no rights or interests in the issuers of the investment.

Therefore it is considered that the investments do not give rise to participation in any commercial activity and the investments made by the non-resident entity are non-commercial in nature.

Conclusion

As the conditions for sovereign immunity are satisfied, the ATO will not impose liability to income tax or withholding tax on the non-resident entity in respect of:

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