Edited version of your private ruling

Authorisation Number: 1012498729605

Ruling

Subject: International - royalty withholding tax

Question and answer

1. Are you required to withhold royalty withholding tax on the payments you make to the overseas company in relation to the resale of the overseas company's software?

No.

2. Are you required to withhold royalty withholding tax on the fees you pay to the overseas company for the use of documents, materials, templates and methodologies (products developed by the overseas company) that you use in providing the training courses and other services on behalf of the overseas company?

Yes.

This ruling applies for the following periods

1 July 2011 to 30 June 2014

Relevant facts and circumstances

This ruling is based on the facts stated in the description of the scheme that is set out below. If your circumstances are materially different from these facts, this ruling has no effect and you cannot rely on it. The fact sheet has more information about relying on your private ruling.

The Australian company purchases software from an Overseas company and markets and resells the software to its clients in Australia.

The Australian Company collects the income from the sale of the software to its customers and pays it on to the Overseas Company after they have taken out their sale commission fee.

In the agreement between the Australian company and the Overseas company (the parties), under the agreement, it is stated that;

Nothing herein shall be construed as creating any agency, partnership, or other form of joint enterprise between the reseller [Australian company] and Overseas [Overseas company].

The agreement between the parties implies:

i) The Software is sold as part of a separate package.

ii) The end-user is granted a licence to use the software.

iii) The property in the carrying medium with the copy of the program/s embodied on it (such as a disk or diskette) is transferred to the end user.

iv) The copy right in the program is not transferred to the end-user.

The Australian Company holds training courses and carries out other services on behalf of the Overseas company which are unrelated to the provision/sale of the software.

The Australian company is paid directly by the clients for the training courses and other services that it provides.

The Australian company pays the Overseas company fees for the use of documents, materials, templates and methodologies (products developed by the Overseas company) that it uses in providing the training courses and other services.

The fees are paid to the Overseas company each time that the Australian company sells or uses products developed by the Overseas company.

The fees are described in the agreement between the parties as an 'intellectual property fee'.

Relevant legislative provisions

Tax Administration Act Section 12-280

Tax Administration Act Section 15-25

Income Tax Assessment Act 1936 subsection 6(1)

Income Tax Assessment Act 1936 subsection 6(1)(d)

Income Tax Assessment Act 1936 Section 128B

Income Tax Assessment Act 1936 subsection 128B(5A)

Income Tax Assessment Act 1936 subsection 128(2B)(b)(i)

Does Part IVA apply to this ruling?

Part IVA of the Income Tax Assessment Act 1936 is a general anti-avoidance rule that can apply in certain circumstances if you or another taxpayer obtains a tax benefit in connection with an arrangement and it can be concluded that the arrangement, or any part of it, was entered into or carried out by any person for the dominant purpose of enabling a tax benefit to be obtained. If Part IVA applies the tax benefit can be cancelled, for example, by disallowing a deduction that was otherwise allowable.

We have not considered the application of Part IVA to the arrangement you asked us to rule on.

Reasons for decision

Under subsection 6(1) of the Income Tax Assessment Act 1936 (ITAA 1936) a royalty is defined to include:

royalty or royalties includes 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:

(a) the use of, or the right to use, any copyright, patent, design or model, plan, secret formula or process, trademark, or other like property or right;

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

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

(d) 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 property or right as is mentioned in paragraph (a), any such equipment as is mentioned in paragraph (b) or any such knowledge or information as is mentioned in paragraph (c).

Sale of computer software

Paragraph 33 of Taxation Ruling TR 93/12 (Income tax: computer software) explains that computer software (computer programs consisting of encoded instructions) in some instances may be sold as a separate package.

Property in the goods (i.e. the carrying medium with the program embodied on it) passes to the customer although the copyright in the program remains with the software program developer or their assignee.

The goods are generally accompanied by a licence, under which the end-user is granted a licence to use the software and the property of the carrying medium, but under which copyright in the program is not transferred to the end user.

Paragraph 34 of TR 93/12 goes on to explain that where property in a copy of a software program passes to the end-user it is accepted that the whole of the purchase price should be treated for tax purposes as the proceeds of sale of goods in the hands of the software owner or distributor, and that this will also apply to payments by a distributor for the purpose of on-selling to end-users.

Paragraph 4 of TR 93/12 states that receipts for software are proceeds of a sale of goods where property in tangible goods, such as a disk, diskette or magnetic tape on which software is embodied, is transferred to the consumer, and are generally not royalties for income tax purposes.

Under the parities agreement the:

(i) Computer software is sold by the Overseas company to the Australian company which is then on-sold to the end-user.

(ii) The software is sold as part of a separate package.

(iii) The end-user is granted a licence to use the software.

(iv) The property in the carrying medium with the copy of the program embodied on it (such as a disk or diskette) is transferred to the end user.

(v) The copy right in the program is not transferred to the end-user.

Therefore, the receipts for the software are proceeds from the sale of goods and not royalties for income tax purposes, and thus the payments to the Overseas company for the software are not subject to royalty withholding tax under section 128B of the ITAA 1936.

Fees paid for the use of training materials and other products

Paragraphs 44 and 45 of TR 93/12 relate to payments for assistance relating to software:

44. Paragraph (d) of the definition includes as royalties payments for the supply of assistance which is ancillary and subsidiary to, and furnished as a means of enabling the application or enjoyment of, any property, right or know-how covered by paragraphs (a) to (c) of the definition. Thus, payments for assistance relating to software are royalties within the meaning of the definition in subsection 6(1) where the assistance is subsidiary and ancillary to the right to use copyright or the supply of know-how.

45. In the case of contracts for the acquisition of packaged software, where there will generally be no transfer of know-how or a right to use copyright, any assistance provided by the software house or distributor will not come within the definition.

However, you state that the training courses and services are not connected to the sale of the software. Therefore, it is not necessary to consider paragraph (d) of the subsection 6(1) definition of a royalty.

Even if some of the training and services did relate to the software sold, there is no transfer of know-how or right to use copyright in relation to the software, and therefore, as explained in paragraph 45 of TR 93/12, in such cases the payments do not come within the subsection 6(1) definition of a royalty by the operation of sub-subsection 6(1)(d).

The Australian company is paid directly by its clients for the training courses and other services that it provides.

The Australian company pays the Overseas company fees for the use of documents, materials, templates and methodologies ('products' developed by the Overseas company) that it uses in providing the training courses and other services.

The fees are paid to the Overseas company each time that the Australian company sells or uses products developed by the Overseas company. The fees are described in the agreement between the parties as an 'intellectual property fee'.

Assuming that the Overseas company has the copyright in the documents, materials, templates and methodologies, the payments will be a royalties as defined under sub-subsection 6(1)(a) of the ITAA 1936, as the payments made by the Australian company to the Overseas company are consideration for the use of, or right to use, the Overseas company's copyright in the products.

If there is a conflict between the definition of royalty in subsection 6(1) of the ITAA 1936 and the definition in a double taxation agreement, subsection 6(1) definition applies (International Tax Agreements Act 1953 subsection 3(8)).

Under subsection 6(1) of the ITAA 1936 a royalty is defined to include:

royalty or royalties includes 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:

(a) the use of, or the right to use, any copyright, patent, design or model, plan, secret formula or process, trademark, or other like property or right;

An Article of the Double Tax Agreement (DTA) between the Overseas country and Australia defines royalties to mean:

'payments... to use any… copyright… or other like property or right...'.

Under both definitions payments as consideration for use of, or right to use any copyright are included as royalties, therefore no conflict exists between the definitions.

Section 128B of the ITAA 1936 outlines the situations under which a person has a liability to withholding tax. Subsection 128(2B) states that, subject to a number of exemptions, that section 128B applies to income that:

(a) is derived by a non-resident:

(i) during the 1993-94 year of income of the non-resident; or

(ii) during a later year of income of the non-resident; and

(b) consists of a royalty that:

(i) is paid to the non-resident by a person to whom this section applies and is not an outgoing wholly incurred by that person in carrying on business in a foreign country at or through a permanent establishment of that person in that country; or

(ii) is paid to the non-resident by a person who, or by persons 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 persons in Australia.

Subsection 128B(5A) states that:

A person who derives income to which this 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 this subsection applies.

As the payments are made by an Australian resident company to an Overseas non-resident company are royalty payments, which have or will be paid in a year of income later than the 1993-94 year of income, and to which subsection 128(2B)(b)(i) applies, the Australian Company has a liability to withholding tax under section 128B.

Under section 12-280 of Part 2-5 of Schedule 1 to the Tax Administration Act (TAA) an Australian entity must withhold an amount from a royalty it pays to an entity if the recipient has an address outside of Australia, or the payer is authorised to pay the royalty at a place outside Australia (whether to the recipient or any of the recipients or to anyone else).

The normal rate of royalty withholding tax is 30% as specified by the current withholding schedules made by the Commissioner pursuant to his power under section 15-25 of Schedule 1 to the TAA.

Where the royalties are being paid to a company, that is a resident of an Overseas country, the rate of withholding is specified in the DTA. Under an Article of the Overseas country and Australia DTA the rate is currently set as 'not to exceed X%'.

ATO ID 2010/89 states that where section 12-280 of Schedule 1 to the TAA requires an entity to withhold an amount from a payment that it makes to a non-resident in relation to royalties, the withholding is based on the GST inclusive amount of the payment.

Accordingly, the Australian resident company is paying royalties to a non-resident Overseas company, therefore the Australian company must withhold tax at a rate of X% of the GST inclusive amount of the royalty amount.