Edited version of your written advice

Authorisation Number: 1013008912651

Date of advice: 6 May 2016

Ruling

Subject: Sovereign Immunity

Question

Is non-resident entity C immune from income tax or withholding tax on income derived from its investments into debt instruments under the common law doctrine of sovereign immunity?

Answer

Yes.

This ruling applies for the following periods:

Year ended 31 December 2015

Year ended 31 December 2016

Year ended 31 December 2017

Year ended 31 December 2018

Year ended 31 December 2019

The scheme commenced on:

31 December 2015

Relevant facts and circumstances

Non-resident entity A

1. Non-resident entity A is an agency of a foreign government.

2. Non-resident entity A receives funds for investment purposes from its foreign government.

3. Non-resident entity A's board of directors are all appointed by the foreign government.

4. Any funds received by non-resident entity A, or any income derived by non-resident entity A is ultimately owned by the foreign government. The foreign government is able to recall any monies of non-resident entity A or its subsidiaries at any time. In the event non-resident entity A is liquidated, all monies will flow back to the foreign government.

Non-resident entity B

5. Non-resident entity B is a wholly owned subsidiary of non-resident entity A.

6. Non-resident entity A appoints the directors of non-resident entity B.

7. Non-resident entity B is an investment vehicle for non-resident entity A. It conducts its activities in a manner consistent with the objectives of non-resident entity A.

8. Non-resident entity A is able to recall any monies of non-resident entity B or its subsidiaries and in the event of liquidation or dissolution of non-resident entity B, non-resident entity A will receive the monies.

Non-resident entity C

9. Non-resident entity C is a limited partnership in which non-resident entity B is the sole Limited Partner. Non-resident entity B has rights to 100% of the income and capital of non-resident entity C.

10. Non-resident entity C also has a General Partner. The General Partner provides administrative, management, investment advisory, and investment management services for non-resident entity C for a service fee. The General Partner has no rights to the income or capital of non-resident entity C.

11. Non-resident entity B has the sole right to remove and replace the General Partner of non-resident entity C, as well as the sole right to induct any further Limited Partners into non-resident entity C.

Proposed investments to be held by non-resident entity C

12. It is proposed that non-resident entity C will invest in debt investments.

13. These instruments will be a mixture of private and publicly listed securities and include;

a. Senior debt instruments

b. Junior or subordinated debt instruments

c. Second lien debt instruments

d. Mezzanine debt instruments

e. High yield loan notes

f. Convertible debt instruments

g. Hybrid securities; and

h. Non-voting preference shares.

14. These instruments are intended to be held for the medium to long term, for the purpose of deriving primarily interest income. From time to time capital gains may be derived from the sales of those instruments.

15. The debt instruments will have broad financial covenants, and will not allow non-resident entity C to have any influence or control over the debt issuer's management. The covenants will be typically industry standard and include leverage, compliance with laws, and reporting.

16. Non-resident entity C will not be an original lender for any loans.

17. Non-resident entity C will not negotiate with the debt issuer any terms of the debt instruments it purchases. It will only be purchasing existing debt instruments.

18. Non-resident entity C, or any of its related parties, will not be a lead or joint syndication agent in a loan syndicate, the originator, underwriter, placement agent or similar promoter of any of the debt instruments which non-resident entity C purchases.

19. For any hybrid securities convertible to an equity interest in which non-resident entity C invests, the equity interest on conversion will be below 5% of the ownership, voting, and dividend rights in the issuing entity.

20. Non-resident entity C will not invest in convertible debt instruments in which non-resident entity A, non-resident entity B, or one of their associates has an equity interest.

21. Non-resident entity C as part of holding these investments will not be entitled to a Board seat of the issuing entity nor will be entitled to partake as a member of any investment committees of the issuing entity.

Relevant legislative provisions

Income Tax Assessment Act 1936 section 128B

Income Tax Assessment Act 1997 section 4-1

Income Tax Assessment Act 1997 section 995-1

Reasons for decision

For Australian income tax and withholding tax purposes it is accepted that the doctrine of sovereign immunity applies to a foreign government or an agency of a foreign government that engages in governmental functions. This approach is consistent with the decision of the British House of Lords in the case I Congreso del Partido [1981] 2 All ER 1064 which held that activities of a trading, commercial or other private law character were not governmental functions.

In determining whether the doctrine of sovereign immunity applies to exempt Australian sourced income and gains from Australian income tax and/or withholding tax, it is necessary to establish the following:

1. that the person making the investment (and therefore deriving the income) is a foreign government or an agency of a foreign government,

2. that the moneys invested are and will remain government moneys, and

3. that the income or gain is being derived from a non-commercial activity.

If these three conditions are satisfied, then the income or gains will not be subject to Australian income tax and/or withholding tax.

Condition 1: that the person making the investment (and therefore deriving the income) is a foreign government or agency of a foreign government

Non-resident entity A is an agency of a foreign government because;

• it was established and funded by the foreign government,

• its board of directors is appointed by the foreign government, and

• all of its funds, and all income it derives is beneficially owned by the foreign government.

Non-resident entity B is a wholly owned subsidiary of non-resident entity A. It acts only as an investment vehicle for non-resident entity A. Its board of directors is appointed by non-resident entity A and it is required to conduct its activities in a manner consistent with the objectives of non-resident entity A. It therefore also satisfies this condition.

Non-resident entity C is a limited partnership where non-resident entity B is the sole Limited Partner. Non-resident entity C is subject to non-resident entity B's supervision. It is an agency of a foreign government because;

• Non-resident entity B, which has been determined to be an agency of a foreign government, has rights to 100% of both the capital and income of non-resident entity C.

• The General Partner of non-resident entity C is only entitled to a fee for the services it provides in administering and managing non-resident entity C's investment portfolio. It has no rights to income or capital of non-resident entity C.

• No other non-resident entity may be admitted to non-resident entity C as a Limited Partner without the express consent of non-resident entity B.

• Non-resident entity B has the right to remove or change the General Partner.

• The money invested is ultimately sourced from non-resident entity A, which is funded by a foreign government. Any monies earned is able to be recalled by the foreign government, and on liquidation, all monies will ultimately flow back to the foreign government.

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, a non-resident entity claiming sovereign immunity must establish that the monies being invested are and will remain government monies.

The monies that are invested by non-resident entity C, are and will remain government monies. The funds used for investment are provided to non-resident entity C by a foreign government via non-resident entities A and B, who may request a withdrawal of funds at any time for the foreign government's purposes.

Condition 3: Non-commercial transaction

Income derived by a foreign government or by 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. However, in relation to the holding of shares in a company, or units in a unit trust, the extent of the relevant holding may give rise to questions as to whether it constitutes a commercial activity including the carrying on of a business. For foreign government bodies deriving income from interest bearing investments, the nature of the activities may be such as to constitute a money-lending business and thus a commercial activity.

In determining whether non-resident entity C's investments constitute non-commercial activity, it is necessary to consider the nature of its investments including the extent of its holdings, and the degree of its actual or potential influence in respect of the financial, operating and policy decisions of any entity related to the investments.

Are non-resident entity C's investments commercial transactions?

Non-resident entity C is proposing to invest in a variety of debt instruments issued by infrastructure entities, including hybrid securities.

The factors relevant to determining whether these proposed investments are reflective of a commercial transaction are as follows:

• The investments are to be held for the medium to long term primarily to derive interest income.

• Where a debt instrument is convertible to an equity interest, non-resident entity C will hold less than 5% of the ownership, dividend, or voting rights in the issuer of the security.

• No security owned by non-resident entity C will entitle or lead non-resident entity C to a board seat of the issuer of the security nor entitle non-resident entity C to partake as a member of any Investment Committees.

• Non-resident entity C's investments will be confined to entities in which non-resident entity C's related parties or its associates do not have an equity or hybrid interest.

• Any protection rights non-resident entity C has with respect to its debt investments are only standard investor protection rights and do not give any rights to managing or influencing the debt issuer's business.

• Non-resident entity C is not in the business of money-lending as it will not be an original lender and does not negotiate the terms of the debt instruments it purchases. It merely acquires instruments where the material terms and conditions are already fixed, and within the parameters set by its investment guidelines.

The above factors indicate that non-resident entity C's proposed investments into debt instruments will be passive investments, and therefore non-commercial activities, satisfying this condition.

Conclusion

As the three conditions have been satisfied, non-resident entity C will be immune from income tax or withholding tax with respect to income derived from its investments into debt instruments under the common law doctrine of sovereign immunity.

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