McDERMOTT INDUSTRIES (AUST) PTY LTD v FC of TJudges:
RD Nicholson J
MEDIA NEUTRAL CITATION:
 FCA 1044
RD Nicholson J
This is an ``appeal'' relating to the disallowance of a notice of objection against an amended assessment of income tax in respect of the years of income ended 31 March 1994, 31 March 1995 and 31 March 1997. The applicant (``MIA'') had contended that the amounts of taxable income as assessed in those years should be reduced by the amounts of $25 235 365, $15 749 917 and $2 266 496 respectively being charter fees paid by the MIA to Chartering Company Singapore Pte Ltd (``CCS'').
McDermott Industries (Aust) Pty Ltd v FC of T 2003 ATC 4410, Lee J held that the proceeding is a competent proceeding although there had been a single notice of objection lodged in respect of the three amended assessments and the respondent (``the Commissioner'') had responded with a single notice of disallowance.
Findings of fact
3. The circumstances in which the issues relevant to the resolution of the appeal arise are not in dispute and are as follows.
4. MIA is a body corporate incorporated pursuant to the Corporations Law in New South Wales and is a resident of Australia. At all material times it has carried on business in Australia as an offshore marine construction and engineering contractor. In carrying on that business, between 1 April 1993 and 31 March 1997, MIA chartered vessels (``the vessels'') bareboat from CCS pursuant to lease agreements (``the lease agreements'') and used those vessels in Australia.
5. CCS is a body corporate incorporated in Singapore and, at all material times, has been resident there. It carried on a vessel chartering business in Singapore. It did not possess an office, staff or other facilities in Australia and did not carry on a business in Australia (aside from whatever is the effect of the use by MIA of its vessels in Australia).
6. The lease agreements in respect of the vessels were either in terms of a Master Bareboat Charter Agreement dated 1 April 1993 or Barge Bareboat Charter Agreements bearing various dates. Neither contained a requirement that the vessel be engaged in Australia. The former contained a provision (art 3) requiring that upon delivery the vessel should be certified for all - ocean service. The latter provided for delivery of the vessel in Singapore and required it would not operate outside territorial waters in the applicable insurance policy.
7. Pursuant to the lease agreements, between 1 April 1993 and 22 May 1996, MIA paid charter fees (``the charter fees'') to CCS in respect of the vessels chartered from CCS, as follows:
Period Amount 1/4/1993 -- 31/3/1994 $25,235,365 1/4/1994 -- 31/3/1995 $15,749,917 1/4/1995 -- 31/3/1996 $844,586 1/4/1996 -- 22/5/1996 $1,421,910 ----------- $43,251,778
MIA did not deduct or remit to the Commissioner any amounts by way of withholding tax from the charter fees.
8. In each of the 1994, 1995, 1996 and 1997 income years, MIA claimed deductions (``the deductions'') in respect of the charter fees it had paid to CCS. It is common ground that the charter fees constituted payment for the use of, or for the right to use, industrial or commercial equipment and therefore constituted ``royalties'' within the definition of royalties in s 6(1) of the Income Tax Assessment Act 1936 (Cth) (``the Assessment Act'').
9. On 8 March 1999, the Commissioner issued amended assessments (``the amended assessments'') to MIA in respect of the 1993/1994, 1994/1995 and 1996/1997 income years, disallowing the deductions. No disallowance occurred in relation to the 1995/1996 year because, as there was a loss in that year, the relevant portion of the loss representing the royalty expenses was carried forward into the 1996/1997 year.
10. By a notice dated 31 August 1999 (``the objection'') served on the Commissioner, MIA objected to the amended assessments pursuant to s 175A of the Assessment Act and Pt IVC of the Taxation Administration Act 1953 (Cth).
11. By a notice of decision on objection, accompanied by reasons for decision, dated 19 December 2001, the Commissioner disallowed the objection.
Issues on the appeal
12. The principal issue arising on the appeal is whether pursuant to the par 3(b) of art 4 of the Agreement Between the Government of the Commonwealth of Australia and the Government of the Republic of Singapore for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income, 11 February 1969, entered into force 4 June 1969 (as amended by the Protocol of 16 October 1989, entered into force 5 January 1990) (``the Singapore Agreement'') CCS is deemed at the material times to have had a ``permanent establishment'' and to have carried on a trade or business through that permanent establishment in Australia because substantial equipment was being used in Australia by, for, or under contract with CCS. It is not in contest that the vessels comprise ``substantial equipment''. The question is therefore whether, by reason only of the charter to the applicant and the receipt of the charter fees, the vessels were in the relevant period ``being used in [Australia] by... or under contract with'' CCS. The issue is consequently one involving the interpretation of the word ``use'' in art 4(3)(b) of the Singapore Agreement.
Relevant provisions of the Assessment Act
13. In the relevant periods the following provisions of the Assessment Act were applicable and relevant.
14. ``Royalty'' or ``royalties'' was defined to 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 the case may be, as consideration for (relevantly) ``(b) the use of, or the right to use, any industrial, commercial or scientific equipment'': s 6(1).
15. Deductions were allowable in the accordance with the long-standing principle expressed in s 51(1) that:
``All losses and outgoings to the extent to which they are incurred in gaining or producing the assessable income, or are necessarily incurred in carrying on a business for the purpose of gaining or producing such income, shall be allowable deductions except to the extent to which they are losses or outgoings of capital, or of a capital, private or domestic nature, or are incurred in relation to the gaining or production of exempt income.''
16. A liability to withholding tax arose upon a resident in accordance with the provisions of s 128B. Relevantly, it was provided by s 128B(2B) that, subject to s 128B(3), such liability arose where income was derived by a non-resident (par (a)) and consisted of a royalty (par (b)) that:
- (i) is paid to the non-resident by a person to whom [the] section applies and is not an outgoing wholly incurred by that person in carrying on business in a foreign country at or through a
ATC 4826permanent establishment of that person in that country; or
- (ii) is paid to the non-resident by a person who, or by person each of whom, is not a resident and is, or is in part, an outgoing incurred by that person or those persons in carrying on business in Australia at or through a permanent establishment of that person or those person in Australia.''
It is not in issue that the excluding effect of s 128B(3) did not apply here. Section 128B(5A) provided that ``a person who derives income to which [the] section applies that consists of a royalty is liable to pay income tax upon that income at the rate declared by Parliament in respect of income to which [the] subsection applies''.
17. However, in s 221YL(2G) it was provided:
``(2G) If a royalty is payable by a person, including the Commonwealth, a State or an authority of the Commonwealth or of a State (the `royalty payer' ) to another person, or to other persons jointly, and:
- (a) that other person, or one or more of those other persons, is or are shown, in relation to the transaction to which the royalty relates, in any book, document or record in the possession of or kept or maintained on behalf of the royalty payer, as having an address outside Australia; or
- (b) the royalty payer is authorised to pay the royalty, either to the person or persons to whom it is payable or to another person or persons, at a place outside Australia;
the royalty payer must, subject to this section and to section 221YM, before or at the time when the royalty is paid by the royalty payer, make a deduction from the royalty of an amount determined in accordance with the regulations.''
That requirement for deduction was subject to the further provision in s 221YL(3) that a person was not required to make a deduction from a royalty under the section if withholding tax is not payable in respect of the royalty. Section 221YL(3A) further limited the deduction to an amount which did not exceed the withholding tax payable in respect of the royalty.
18. In addition, s 221YRA(1A) provided that if a person had not made a deduction from a royalty as required by s 221YL(2G) and had not paid any withholding tax, then, subject to subs (2), the royalty was not an allowable deduction. Subsection (2) provided that where any royalty would, but for subs (1A), be an allowable deduction in respect of a year of income and the withholding tax payable in respect of the royalty was paid, the royalty thereupon became an allowable deduction in respect of that year of income.
19. At all relevant times reg 137A of the Income Tax Regulations 1936 provided that the amount to be deducted was the amount calculated at the rate provided for in an applicable international tax agreement; otherwise it was 30%.
The International Tax Agreements Act
20. Section 4 of the International Tax Agreements Act 1953 (Cth) (``the International Tax Agreements Act'') provided that the Assessment Act was incorporated in and read as one with it. Additionally it provided that the provisions of the former had effect notwithstanding anything inconsistent with the provisions in the Assessment Act (save in two respects not relevant here) or in an Act imposing Australian tax.
21. Section 7 and s 7A gave the force of law to the Singapore Agreement.
22. With respect to withholding tax on royalties, s 17A provided relevantly:
``17A(1) Where a provision of an agreement limits the amount of Australian tax payable in respect of a dividend or a royalty, being a dividend or a royalty in respect of which withholding tax is payable, and the amount of that withholding tax exceeds the limit specified in the agreement, the liability of the taxpayer for the withholding tax shall be reduced by an amount equal to the amount of the excess.
- (a) a provision ( `basic royalty provision' ) of an agreement is covered by either of the following subparagraphs:
- (i) paragraph 1 or 2 of Article 12 of the Chinese agreement;
- (ii) a corresponding provision of 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 Chinese Agreement
23. The Chinese Agreement referred to in s 17A(4)(a) of the International Tax Agreements Act is a reference to the Agreement between the Government of Australia and the Government of the People's Republic of China for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income, 17 November 1988, entered into force 28 December 1990. Relevantly, art 12 provided as follows in relation to royalties:
``1. Royalties which arise in a Contracting State and which are beneficially owned by a resident of the other Contracting State may be taxed in that other State.
2. Such royalties may be taxed in the Contracting State in which they arise, and according to the laws of that Contracting State, but the tax so charged shall not exceed 10 per cent of the gross amount of the royalties.
3. The term `royalties' in this Article means payments or credits, whether periodical or not, and however described or computed, to the extent to which they are made as consideration for:
- (b) the use of, or the right to use, any industrial, commercial or scientific equipment;
The Singapore Agreement
24. The Singapore Agreement in art 2.1(b)(vi) relevantly defined ``Australia'' to include ``any area outside the territorial limits of the Commonwealth and the said Territories in respect of which there is for the time being in force a law of the Commonwealth or of a State or part of the Commonwealth or of a Territory aforesaid dealing with the exploitation of any of the natural resources of the seabed and sub-soil of the continental shelf''.
25. Article 4 of the Singapore Agreement relevantly provided as follows in respect of the concept of ``permanent establishment'':
``(1) For the purposes of this Agreement, the term `permanent establishment', in relation to an enterprise, means a fixed place of business through which the business of the enterprise is wholly or partly carried on.
(2) The term `permanent establishment' includes but is not limited to-
- (a) a place of management;
- (b) a branch;
- (c) an office;
- (d) a store or other sales outlet;
- (e) a factory;
- (f) a workshop;
- (g) a warehouse except where it is used solely for any of the purposes mentioned in paragraph (4);
- (h) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources; and
- (i) a building site, or a construction, installation or assembly project, but only where such site or project or any combination of them continues for a period aggregating more than 6 months within any 12-month period.
(3) An enterprise of a Contracting State shall be deemed to have a permanent establishment and to carry on trade or business through that permanent establishment in the other Contracting State if-
- (b) substantial equipment is being used in that other State by, for or under contract with the enterprise.
The phrase ``enterprise of a Contracting State'' derived its meaning from art 3.5 where it was defined to mean an Australian or Singapore enterprise, and that in turn was defined as ``an industrial or commercial enterprise (including a mining, agricultural, pastoral, forestry or plantation enterprise)'' carried on by an Australian or Singapore resident respectively.
26. Article 5 established the principle that ``the profits of an enterprise of one of the Contracting States shall be taxable only in that State unless the enterprise carries on business in
ATC 4828the other Contracting State through a permanent establishment situated therein''. It further established that if the enterprise so carried on business, its profits may be taxed in the other State but only so much of them as is attributed to that permanent establishment.
27. Article 10 of the Singapore Agreement relevantly provided the following in respect of royalties:
``1. The Australian tax on royalties derived by a Singapore resident who is beneficially entitled to the royalties shall not exceed 10 per centum of the gross amount of the royalties.
2. The Singapore tax on royalties derived by an Australian resident who is beneficially entitled to the royalties shall not exceed 10 per centum of the gross amount of royalties.
3. In this Article `royalties' means payments or credits, whether periodical or not, and however described or computed, to the extent to which they are received as consideration for-
- (a) the use of, or the right to use, any-
- (ii) industrial, commercial or scientific equipment;
but does not include royalties or other payments in respect of the operation of mines or quarries or of the exploration of natural resources or payments to the extent to which they are received as consideration for the use of, or the right to use, motion picture films, tapes for use in connection with radio broadcasting or films or video tapes for use in connection with television.
4. Paragraphs 1 and 2 of this Article shall not apply if the resident of one of the Contracting States who is beneficially entitled to the royalties has in the other Contracting State a permanent establishment and the information, right or property giving rise to the royalties is effectively connected with a trade or business carried on through that permanent establishment. In any such case, the provisions of Article 5 shall apply.
28. The purposes of the Singapore Agreement were set out in its title and in its preamble. They were to avoid double taxation and prevent fiscal evasion with respect to taxes on income.
29. MIA contends that under the Singapore Agreement it was not obliged to deduct royalty withholding tax from the charter fees paid by it. It claims therefore to be entitled to the benefit of the deductions for those fees. There is no issue concerning the satisfaction by it of the requirements of s 51(1) of the Assessment Act if it can overcome the hurdles said to be posed by the s 128B and s 221YL. The basis upon which MIA submits it was under no obligation to make the deductions of withholding tax is that CCS, being the entity beneficially entitled to royalties, had in Australia a permanent establishment and the right or property giving rise to the royalties was effectively connected with the trade or business carried on through that permanent establishment. This is claimed on the basis that CCS had substantial equipment being used in Australia by or under contract with CCS (see art 4(3) of the Singapore Agreement). On MIA's case, the royalty stream would attract tax on a net profits basis under art 5 of the Singapore Agreement read in conjunction with art 10.4.
30. The Commissioner contends that MIA is disentitled from claiming those deductions because it ought to have but failed to deduct royalty withholding tax when it paid the charter fees. On the Commissioner's case, the royalty stream would attract tax at source pursuant to s 128B of the Assessment Act and in application of art 10(3) of the Singapore Agreement.
31. MIA submits that the construction for which it contends is supported by a consideration of the context and purposes of the Singapore Agreement.
32. MIA's case relies upon the application of par (b) of art 4(3). In the event that it is found art 4(3) applied so as to establish a deemed permanent establishment and a deemed effective connection, then it follows that art 10(4) would have excluded the royalties from Australian tax on royalties under s 128B and allowed taxation to take place on the basis of the application of art 5 and the subjection to tax of the income of the permanent establishment. Consequently there would have been no obligation upon MIA to make any deduction of withholding tax and no basis upon which to refuse the s 51 deductions for royalty payments.
33. It is not in dispute that the vessels satisfied the requirement for ``substantial equipment''. It is to the word ``used'' that the argument is directed. It is said the relevant use is the use in Australia by CCS (as the enterprise of the Contracting State, Singapore) notwithstanding that the vessels were under charter to MIA. The argument is that the usual and ordinary meaning of the word ``use'' encompasses not just immediate physical use by the owner of equipment but also the deployment of that equipment in various ways in order to generate a revenue stream.
34. Support for this contention is sought in reference to
Ryde Municipal Council v Macquarie University (1978) 139 CLR 633. There the question was whether a lessor was using land when it leased the land for commercial use by others. At 638 Gibbs ACJ said:
``A person who owns land may be said to use it for his own purposes notwithstanding that he permits someone else to occupy it, even under a lease. That is almost beyond argument when the owner's purpose is to acquire income. In the ordinarily accepted meaning of the word a building is `used' for the purpose of acquiring income if rents are derived from it, and an owner of premises who leases them is making use of those premises by employing or applying them for purpose of letting:
Commissioner of Income Tax v. Hanover Agencies Ltd.  1 A.C. 681, at p. 689. But that is not the only way in which an owner of land may use it by letting it to someone else. An employer who provides premises in which he requires an employee to live so that the employee may perform more efficiently the duties of his position is in my opinion himself using those premises. That this is so is clear when the employee occupies them under a licence rather than under a lease.''
At 639 he said that ``where use, and not occupation, is in question, I can see no reason to disregard the indirect use which an employer makes of a house by providing it as a residence for the use of his employees''. He concluded that land may be ``used'' by a university, in the ordinary and natural meaning of that word, if the university grants a lease of the land for the purposes of the university. His Honour found no reason to adopt a more restrictive meaning in the context of the relevant statutory provision relating to the university in question.
35. That approach has been followed and applied in other cases. In
Attorney-General (ACT) v Commonwealth of Australia (1990) 26 FCR 82, the Full Court held that land on which a hotel stood was, at the relevant time, used by the Commonwealth although it did not establish it was the sole user or was in occupation of it. The Full Court accepted that the word ``use'' was of wide signification. It was said that even if the land was leased, that would not necessarily preclude it being described as land used by the Commonwealth.
36. In reliance on those authorities in particular MIA submits that the word ``use'' in art 4(3) should bear its ordinary wide signification and that use of equipment here comes within that signification even though the use is deployment pursuant to lease agreements so as to derive a stream of income. Looking at the terms of art 4, it is submitted that there was nothing that would lead to the adoption of a more limited meaning to the word ``used''. On the contrary, MIA submits that the combination of the words ``by, for or under contract with the enterprise'' reinforces the view that the usage referred to is of wide signification as its natural meaning requires.
37. That the natural meaning is apt is said also to be supported by the fact that the word is used in the deeming provision in art 4(3), which is intended to create an addition to the circumstances which will qualify as a permanent establishment. MIA also submits that such approach is supported by the use to which the concept of permanent establishment is put in applying a basis of taxation pursuant to art 5 of the Singapore Agreement.
38. For MIA it is contended that the purpose of the deeming provision in art 4(3) was to expand the scope of the net profits tax under art 5 and correspondingly to retract the scope of the tax on the gross amount of royalties under art 10(3). It is submitted that taxing on a net basis by utilisation of art 5 and the concept of permanent establishment rather that taxing on a gross basis under art 10, advances the avowed purpose of avoiding double taxation. Therefore the context in which art 4(3) falls to be interpreted is as providing the delineation of the boundary between art 5 and art 10. It is submitted that giving the word ``used'' its wide
ATC 4830natural meaning best meets the needs of this context.
39. The alternative way in which MIA relies upon art 4(3) is that the facts here satisfied the requirement of use of substantial equipment in Australia ``under contract'' with CCS. It is submitted that the effect of these words cannot be overcome by the Commissioner. Support is sought in Case No. H 106 (1957) 8 TBRD 484.
40. The submissions for the Commissioner direct attention to the context in which the word ``used'' or ``use'' appears in the Singapore Agreement rather than to decisions on the meaning of the word ``use'' (as a verb) in the context of domestic legislation. It is submitted that the Singapore Agreement divides income into two broad categories, namely active and passive. It is said that art 5 (business profits), art 7 (operation of ships and aircraft), art 10A (land dealings) and articles 11, 12 and 14 (personal services) deal with income earned actively, while art 4A (land rent and royalties), art 8 (dividends), art 9 (interest), art 10 (royalties) and art 13 (annuities) deal with income earned passively.
41. The submissions then turn to the particular ways in which the verb ``use'' appears in the Singapore Agreement, from which it is said to follow that the verb is used in a way denoting use in an active sense; that is, requiring activity on the part of the entity or person deriving the income in question.
42. Attention is first directed to art 2.1(k)(v) which provides that in the Singapore Agreement, unless the context otherwise requires, the terms ``profits of a Singapore enterprise'' and ``profits of an Australian enterprise'' mean profits of a Singapore enterprise or profits of an Australian enterprise respectively, but do not include-
``(v) payments to the extent to which they are received as consideration for the use of, or the right to use, motion picture films, literary, dramatic, musical or artistic copyrights, films or video tapes for use in connection with television or tapes for use in connection with radio broadcasting;...''
It is submitted that here the ``use'' contemplated is active use in a business activity conducted by the party paying for use, while the recipient receives royalty income, not business profits.
43. Article 4(4) provides that an enterprise shall not be deemed to have a permanent establishment merely by reason of:
``(a) the use of facilities solely for the purpose of storage or display of goods or merchandise belonging to the enterprise.''
Again it is submitted that what is contemplated in this usage is active use by a party carrying on a business of dealing in goods.
44. Article 4A(1) provides that income from real property may be taxed in the Contracting State in which the real property is situated. Sub- article (4) extends the application of that and another sub-article to ``income from real property used for the performance of professional services''. Again it is submitted that this is an active use because it refers to a services rather than an investment income use.
45. Article 7(5) extends the territorial scope of the Singapore Agreement to ``structures used in connection with the exploration for or exploitation of natural resources''. It is said this is referrable to a use by a party actively engaged in exploration rather than a use by any lessor of the structure.
46. Article 10.3(a), corresponding to art 2.1(k)(v), defines ``royalty'' to mean consideration for ``the use of, or the right to use'' various items of intellectual property or to forbear totally or partially from such use or right. It is submitted that the owner of the intellectual property is not contemplated as ``using'' the property by licensing it, but rather the licensee who obtains the relevant ``use'' of the property is contemplated as actively using it in its business activities.
47. The Commissioner accepts that it cannot be said these references to ``use'' in the Singapore Agreement other than in art 4(3)(b) mandate a conclusion as to what ``used'' means in that paragraph. However, it is submitted that there is an element of consistency in the usage of the verb ``use'' in the Singapore Agreement in favour of it being understood as use by the person to whom the property or right is made available and not a use by the person making the property available. Therefore it is said that the word ``used'' as it appears in art 4(3)(b) should be construed as referrable to a usage by a grantee; that is, so as to exclude usage by the grantor such as that accepted in the domestic context at issue in Ryde. It is said that there
ATC 4831would need to be something quite clearly referrable to art 4(3)(b) to lead to a different conclusion.
48. For the Commissioner it is then submitted that anomalies would arise from adoption of MIA's interpretation. It is said that the interpretation supported by MIA would produce a result antithetical to the operation of the whole of the business profits provisions (articles 4, 5 and 6). This is said to result from the fact that the State where the equipment was located could tax the owner of the equipment on the net leasing income notwithstanding that the owner had no operating business presence in that State. This is said to be entirely at odds with each of the other clauses and paragraphs of art 4 which either include or exclude activities and representations of the enterprise according to the degree of business activity conducted. Accordingly it is contended it would be an anomalous and improbable construction of art 4(3)(b) that, alone of all the putative permanent establishments, it treated the concept of permanent establishment as extending to the ownership and receipt of rent from substantial equipment. On the other hand, the interpretation supported by the Commissioner would, it is submitted, be consistent with the tenor of the rest of the active income and permanent establishment provisions of the Singapore Agreement, and so should be preferred.
49. The Commissioner submits that a further anomalous outcome of the adoption of the interpretation proposed by MIA would arise in relation to art 10.3(a)(ii). That provision contains the definition of ``royalties'' for the purpose of art 10. It is submitted that if MIA's interpretation is accepted, this provision would be confined in its operation to insubstantial equipment. This is because the effect of the adoption of that interpretation would mean that use of substantial equipment, having established a permanent establishment, would result in the taxation of income from that source under those rules and not as royalties under art 10. Consequently, it is said, the MIA interpretation would leave no significant operation for art 10.3(a)(ii), which is an improbable result.
50. The Commissioner therefore contends that CCS did not have a permanent establishment in Australia, and MIA was not relieved of withholding tax by s 17A(4) of the International Tax Agreements Act and it should be denied a deduction by s 221YRA of the Assessment Act.
Principles of interpretation
51. The interpretation of the Singapore Agreement is governed by the principles most recently expressed by the High Court in
Applicant A v Minister for Immigration and Ethnic Affairs (1997) 190 CLR 225 at 254-255 by McHugh J. His Honour said that in Australia treaties are interpreted in accordance with the requirements of the Vienna Convention on the Law of Treaties (23 May 1969, entered into force 22 January 1974), including the general rule of interpretation in art 31. This requires that primacy be given to the written text of a treaty but that the context, object and purpose of the treaty also be considered. ``The ordinary meaning of the words are not to be determined in a vacuum removed from the context of the treaty or its object or purpose'': McHugh J at 253. The Court should therefore focus its attention on the ``four corners of the actual text'' in discerning the actual meaning of the text. The interpretation should be more liberal than would be adopted if the Court was required to construe exclusively domestic legislation. Lack of precision in the treaty, if encountered, may be understood as the necessary price paid for multinational political comity.
FC of T v Lamesa Holdings BV 97 ATC 4752; (1997) 77 FCR 597 the Full Court (Burchett, Hill and Emmett JJ) considered the principles applicable to interpretation of a double tax agreement, in that case the Netherlands-Australia Agreement. The Full Court accepted that it is now too late for any distinction to be drawn between the principles of interpretation applicable to double tax treaties on the one hand and those applicable to other international treaties on the other:
Thiel v FC of T 90 ATC 4717; (1990) 171 CLR 338. It accepted that the principles to be adopted are clearly set out in the judgment of McHugh J in Applicant A. In relation to liberality of construction, the Full Court said that cases such as
Cooper Brookes (Wollongong) Pty Ltd v FC of T 81 ATC 4292; (1981) 147 CLR 297 suggest that interpretation of municipal tax law should not involve the application of narrow legalistic principles.
53. In Lamesa the Full Court (at ATC 4757; FCR 603) accepted (obiter) that had there been
ATC 4832some decision of an appropriate Dutch court interpreting a treaty with identical or similar language, then evidence of such a decision might have been admitted. In this present proceeding no evidence of any relevant decision of a court of Singapore has been adduced. Counsel of both parties have also informed the Court that they have not been able to locate any authorities of any Court on the point in issue.
54. The interpretation of terms of the treaty in issue should be done by examining the context, object and purpose of the treaty as a single combined operation: Applicant A at 253-255. The use of headings in the following reasoning is not intended to signify any lack of holistic approach to the issue of interpretation.
The term in issue: ``used''
55. Here the term in issue is ``used''. The verb ``use'' includes making ``use of (a thing), esp. for a particular end or purpose; utilize, turn to account'': The New Shorter Oxford English Dictionary (Clarendon Press, Oxford, 1993) at 3531. This primary meaning carries with it both the notion of using something for a purpose and using something in the sense of turning something to account. Therefore the word itself is open to both the interpretation contended for by MIA (the passive sense) and the interpretation contended for by the Commissioner (the active sense). In other words, the approach on which MIA relies (followed in Ryde in relation to a domestic statute) is within the compass of the word considered independently of the context and the purpose of the Singapore Agreement. The approach on which the Commissioner relies is open if it is correct that the context and purpose of the Singapore Agreement negate what the Commissioner characterises as the passive sense of the word ``used''.
56. I agree with the submission made in reply by MIA that the Singapore Agreement itself does not divide income into two categories of ``active'' and ``passive''. What the Agreement does is to deal with different categories of income in distinct articles of the Agreement. I therefore do not consider that there is in that approach any contextual implication for the active/passive characterisation of the word ``used''.
57. Nevertheless, I agree with the Commissioner's submissions that the reference to consideration for the ``use'' in art 2.1(k)(v) and art 10.3 can only be understood as a reference to (active) use by a grantee and not to (passive) use by a grantor, for if the latter was the case there would not be any need for consideration to flow. The reference to consideration necessarily brings with it usage by another party than the grantor. It is relevant, however, to state that the reference there to industrial, commercial or scientific equipment is not qualified (as in art 4(3)(b)) by requiring the relevant equipment to be used ``by, for or under contract'' with the grantor enterprise.
58. The reference to ``use'' in art 4(4) is necessarily a reference to the enterprise of the Contracting State carrying on the activity of the use of facilities in the requisite way. That must be the case for the provision to have its effect of precluding that activity from being a permanent establishment.
59. Article 4A(4) must be understood in the context of art 4A. It establishes the principle that income from real property may be taxed in the Contracting State in which the real property is situated. That principle is extended by sub- article (4) to income from real property of an enterprise and to income from real property ``used'' for the performance of professional services. Necessarily for the purposes of the article the income must derive from use (that is, by the owner itself actually occupying the land or by leasing it to a tenant) by the owner enterprise in order to form part of its income from real property.
60. Article 7(5) appears in an article the principal purpose of which is to provide that profits derived from the operation of ships or aircraft by a resident of one of the Contracting States shall be taxable only in that State. Whether the concept of ``operation'' extends to passive operation is not an issue addressed in the submissions. The reference to ``used'' in par (5) is necessarily a reference to the person carrying on exploration and so is entirely responsive to its particular context.
61. In respect of the Commissioner's contention that there would be an anomaly in the royalty provision in art 10.3(a)(ii) being operable only in relation to insubstantial equipment, I do not think that is an anomaly attributable to the interpretation that MIA proposes. It derives from the language used in the Singapore Agreement in art 4(3)(b) and in art 10.3(a)(ii). The former refers to ``substantial
ATC 4833equipment'' and the latter to ``industrial, commercial or scientific equipment.'' Whatever interpretation was given to the former paragraph could only be applicable to substantial equipment.
62. In the result I agree with the Commissioner that there is nothing in the references to ``use'' elsewhere in the Singapore Agreement that mandates a particular interpretation of ``used'' in art 4(3)(b). However I do not agree with the Commissioner that such references are supportive of the construction for which he contends. Rather, I regard those references as all especially responsive to the particular context of the issues which they are addressing. Therefore I do not consider they carry with them even a general persuasiveness requiring consistency because they each relate to their particular circumstances.
The terms of the article itself
63. The critical art 4, as the submissions for the Commissioner contend, must be understood in the context of art 5 and art 6. The function of art 4 is to define the concept of ``permanent establishment''. Article 5 establishes the principle applicable to the business profits of an enterprise, using the concept of permanent establishment to make an exception to the rule that such profits are taxable only in the Contracting State in which the enterprise is located. Where the business of that enterprise is carried on in the other Contracting State through a permanent establishment situated there, such profits as are attributable to that permanent establishment (and only such) may be taxed in the State in which the permanent establishment is situated. Article 6 addresses the taxability of business profits where an enterprise of one of the Contracting States or a person from it participates directly or indirectly in the management, control or capital of an enterprise of the other Contracting State.
64. The provision in art 4(3) containing the alternative deeming provisions relates to the circumstances in which a permanent establishment and the carrying on of trade or business through it is to be deemed. It immediately follows the inclusive definition of ``permanent establishment'' in art 4(2). Included in that definition, without limitation, are a place of management; a branch; an office; a store or other sales outlet; a factory; a workshop; a warehouse except where it is used solely for certain purposes; a mine, an oil or gas well, a quarry or any other place of extraction of natural resources; and a building site, or a construction, installation or assembly project operative for 6 months in any 12-month period. Approaching art 4(3)(b) in that context, the reference to the use of substantial equipment by, for or under contract with the enterprise is seen to focus upon the fact of usage of that equipment giving rise to the circumstance where the deeming of the existence of a permanent establishment is apt. Each of the instances of permanent establishment listed in art 4(2) involve the significant presence of the enterprise of the Contracting State (here Singapore) in the other Contracting State. The deeming provision in art 4(3) therefore appears in a context in which it would be expected to provide for a similar type of presence.
65. Article 4 in the form under consideration here was introduced to the Singapore Agreement by the Protocol. Prior to that the deeming provision in art 4(3) applied where:
``(b) substantial equipment is in that other Contracting State being used or installed by, for or under contract with the enterprise.''
There is nothing in the Second Reading Speech of the Minister who introduced the amendment to the International Tax Agreements Act to give effect to the Protocol which appears to assist either side of the argument here. Neither party has submitted that any assistance can be gained from that source on the issue of interpretation.
66. I do not consider the exclusionary provision in art 4(4) offers any assistance to the issue of interpretation. The reference to ``use'' in art 4(4)(a) is not qualified, as is art 4(3)(b), by reference to ``by, for or under contract with the enterprise''.
67. The other deeming provision in art 4(5) expressly addresses activities by a person acting in one of the Contracting States on behalf of an enterprise of the other Contracting State, other than as an agent of independent status. It is the activity of the person in the other Contracting State which creates the circumstances which may give rise to the deeming. That is particular to that paragraph and does not in my view carry any contextual lesson for the construction of art 4(3).
68. It is necessary, therefore, to come back to precise terms of art 4(3)(b). I have formed the following views on the elements of that paragraph:
- (1) Where substantial equipment is being used in the other State (here Australia) ``by... the enterprise'' of the Contracting State, that enterprise will necessarily be active in the other State unless the word ``used'' refers to the passive sense identified in a case such as Ryde. No such identification is apt, however, for two reasons. The first is the fact that it is a permanent establishment which is being deemed and, understood in the context of art 4(2), it is unlikely passive usage would be intended unless made clear by the terms of the deeming provision. The second is the effect of the words ``for or under contract with the enterprise''. There is no necessity for the implication of a passive interpretation where the text specifically provides for these two forms of engagement other than by the enterprise of the Contracting State itself.
- (2) Where substantial equipment is being used in the other State ``for... the enterprise'' there is necessarily an involvement on behalf of the enterprise of the Contracting State. No reliance is placed on the word ``for'' by MIA.
- (3) Where the substantial equipment is being used in the other State ``under contract with the enterprise'' it is necessary not only that the usage takes place in the other State but, in accordance with the paragraph, the substantial equipment ``is being used in that other State... under contract with the enterprise''. Reference to the relevant contracts here, the lease agreements, shows that they do not contain any contractual requirement for the usage to take place in the other State (Australia) (cf Explanatory Memorandum to the Income Tax International Agreements Bill 1953 (Cth) at p 54 relating to the provision in its former wording). There is therefore no establishment of a nexus with the other State and no foundation at all akin to the foundation needed to consistently satisfy the concept of permanent establishment. The position may arguably be different if the lease agreements had required the usage to be in Australia, but that is not the position here.
69. The circumstances in Case No. H 106 need consideration in relation to this view. There an American company appointed an English company under an agreement to be its sole distributor in Australia and New Zealand. The English company was granted a licence to manufacture the product ready for sale in those countries and to sell and distribute the product in those territories. For that purpose the English company was granted the full and exclusive licence to use in Australia and New Zealand certain trade marks, trade names and licences relating to the product. The American company agreed to lend the English company certain machinery, apparatus or equipment which the English company deemed necessary for the manufacture of the product. A substantially similar agreement was concluded subsequently with respect to another product but it did not provide for any machinery.
70. The Board held the American company was engaged in trade in Australia through a permanent establishment so that it was assessable on the whole of its income from sources in Australia. The term ``permanent establishment'' as there in issue relevantly meant a branch, agency, management or fixed place of business and included a factory, workshop, mine, oil-well, office or agricultural or pastoral property, ``or the use or installation of substantial equipment or machinery by, for or under contract with, an enterprise or resident of one of the Contracting States''. The Board Chairman, Mr A Fletcher (at 486) and Members, Mr JF McCaffrey (at 488) and Mr HH Autcliff (at 489) relied on the above quoted words of extension in the definition of permanent establishment to reach their decision. None of them considered the effect of the words ``by, for or under contract with''. Importantly those words of extension did not contain a requirement that the substantial equipment ``is being used in that other State... under contract'' as art 4(3)(b) provides. What was required in Case No. H 106 was a use or installation of the substantial equipment or machinery by, for or under contract with ``an enterprise or resident of one of the Contracting States''. In my view Case No. H 106 must be distinguished from the present proceeding because it was decided on words importantly different to those here in issue.
71. Therefore I consider that, subject to consideration of consistency with the purpose
ATC 4835of the Singapore Agreement, the Commissioner was correct to conclude that CCS did not have a deemed permanent establishment in Australia.
Consistency with purpose of agreement
72. It is still necessary, as part of the holistic approach sanctioned in Applicant A, to consider whether the view of the meaning of art 4(3)(b) which has emerged so far is one which can be reached in the context of the object and purpose of the Singapore Agreement. In Lamesa at ATC 4760; FCR 607 the Full Court said that there will be cases, the Thiel case being one of them, where resort to the purpose of the double tax treaty to be found in the words ``for the avoidance of double taxation with respect to taxes on income'' may throw light on the interpretation to be adopted with respect to a particular article but Lamesa was not one of them. That is the position here. If art 4(3)(b) is interpreted in the way contended for by the Commissioner then art 10 would apply so that taxation would occur on the basis of application to royalties. If art 4(3)(b) is interpreted in the way contended for by MIA then art 5 would apply and the taxation would occur on the basis of the application to the profits of the enterprise attributable to the permanent establishment. There is therefore also no room for application of the further purpose of preventing fiscal evasion.
73. It follows from the fact that CCS did not have a deemed permanent establishment in Australia, that MIA was not relieved from paying withholding tax pursuant to s 17A(4) of the International Tax Agreements Act and was not entitled to a deduction pursuant to s 221YRA of the Assessment Act. The appeal against the disallowance of the notice of objection against the amended assessment should therefore be dismissed.
THE COURT ORDERS THAT:
1. The applicant's ``appeal'' against the disallowance of its notice of objection against an amended assessment of income tax in respect of the years of income ended 31 March 1994, 31 March 1995 and 31 March 1997 be dismissed.
2. Counsel be heard as to costs.
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