Edited version of your private ruling

Authorisation Number: 1012536975176

Ruling

Subject: Sovereign Immunity

Question 1

Is the non-resident entity subject to interest withholding tax under subsection 128B(2) of the Income Tax Assessment Act 1936 (ITAA 1936) in respect of interest income derived in Australia?

Answer

No.

Question 2

Is the non-resident entity subject to dividend withholding tax under subsection 128B(1) of the ITAA 1936 in respect of dividend income derived in Australia?

Answer

Decline to Rule.

This ruling applies for the following periods:

Year ended 30 June 2014

Year ended 30 June 2015

Year ended 30 June 2016

Year ended 30 June 2017

Year ended 30 June 2018

The scheme commenced on:

1 July 2013

Relevant facts and circumstances

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

2. The non-resident entity has several Australian investments.

3. The Australian investments comprise of bonds, notes, certificate of deposits and supranational investments.

4. The Australian investments are held from a period between 2 to 5 years from the date of purchase.

5. The non-resident entity is not represented on any board of directors of the corporations in which it has invested.

6. The non-resident entity does not have influence in operating the businesses in which it has invested.

7. The non-resident entity derives interest income from its Australian investments.

8. Interest income received by the non-resident entity from the Australian investments is distributed annually by the non-resident entity to its foreign government.

9. The non-resident entity currently receives no dividend income and does not currently hold any equity investments.

10. No investment plan or proposal for any future equity investments has been provided in the private ruling application or in the subsequent requests for further information.

11. The scheme that has been provided is merely that the non-resident entity is considering implementing investments in the future whereby dividend income may eventually be received by the non-resident entity.

Relevant legislative provisions

Income Tax Assessment Act 1936 subsection 128B(1),

Income Tax Assessment Act 1936 subsection 128B(2),

Income Tax Assessment Act 1997 subsection 995-1(1),

Taxation Administration Act 1953 section 359-5 of Schedule 1, and

Taxation Administration Act 1953 section 359-35 of Schedule 1.

Reasons for decision

Question 1

Is the non-resident entity subject to interest withholding tax under subsection 128B(2) of the ITAA 1936 in respect of interest income derived in Australia?

Detailed reasoning

Liability to interest withholding tax

A non-resident that derives interest income from a resident of Australia is liable to withholding tax under subsection 128B(2) of ITAA 1936 unless an exclusion applies. However, if the non-resident is a foreign state or a separate entity of a foreign state, then consideration needs to be given to 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.

It has been long-standing practice for the Australian Taxation Office (ATO) to follow the principles delineated in the Immunities Act to apply the more restrictive view of the doctrine of sovereign immunity when considering taxation matters.

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

1. the entity must be a foreign state, or a separate entity of a foreign state

2. the scheme to which the claim applies must not be a commercial transaction, and

3. the monies being invested in the scheme are and will remain government monies.

If these three conditions are satisfied, it has been the long-standing practice of the ATO to not impose the entity's liability to withholding tax in respect of dividend and interest 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:

· an independent sovereign state, or

· a separate territory (whether or not it is self-governing) that is not part of an independent sovereign state.

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:

· is an agency or instrumentality of the foreign state, and

· is not a department or organ of the executive government of the foreign state.

The Full Federal Court Decision in 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.

Is the non-resident entity a 'foreign state' or 'separate entity' of a foreign state?

In carrying out its duties, the non-resident entity may be considered to be an agency or instrumentality of a foreign state and consequently a separate entity of a foreign state.

Condition 2: commercial transaction

Under section 11 of the Immunities Act, a foreign state does not enjoy sovereign immunity in so far as the proceeding 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 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.

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

The long term nature of the non-resident entity's investments and the lack of representation and influence in the businesses in which it invests illustrate the passive nature of the investments.

Therefore, the scheme to which the non-resident entity's claim for sovereign immunity applies is not a commercial transaction.

Condition 3: 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 monies that are invested by the non-resident entity are and will remain government monies.

Conclusion

Since the three conditions are satisfied, the non-resident entity's claim for sovereign immunity on its Australian investments has been established. In line with long-standing practice, the ATO will not impose liability to withholding tax in respect of the interest income received from the non-resident entity's Australian investments.

Question 2

Is the non-resident entity subject to dividend withholding tax under subsection 128B(1) of the ITAA 1936 in respect of dividend income derived in Australia?

Detailed reasoning

Under section 359-5 of Schedule 1 to the Taxation Administration Act 1953 (TAA), the Commissioner may only make a written ruling in relation to a specified scheme.

'Scheme' is defined in subsection 995-1(1) of the Income Tax Assessment Act 1997 (ITAA 1997) to be any 'arrangement', or any scheme, plan, proposal, action, course of action or course of conduct, whether unilateral or otherwise. An 'arrangement' is defined in subsection 995-1(1) of the ITAA 1997 to be any arrangement, agreement, understanding, promise or undertaking, whether express or implied, and whether or not enforceable (or intended to be enforceable) by legal proceedings.

Further, under section 359-35 of Schedule 1 to the TAA, the Commissioner is not obliged to make a ruling that would prejudice or unduly restrict the administration of a taxation law.

Paragraph 101 of Law Administration Practice Statement PS LA 2008/3 outlines several instances where making the ruling would prejudice or unduly restrict the administration of a taxation law. It states that this occurs where the scheme is speculative, or not developed sufficiently for it reasonably to be considered in serious contemplation at the time of the application.

The non-resident entity seeks an exemption from Australian tax on dividend income derived in Australia. However, the non-resident entity currently receives no dividend income and does not currently hold any equity investments. No investment plan or proposal for any future shareholding investments has been provided in the private ruling application or in the subsequent requests for further information.

The scheme that has been provided is merely that the non-resident entity is considering implementing investments in the future whereby dividend income may eventually be received by the non-resident entity.

At this stage, the scheme is speculative and not developed sufficiently for it reasonably to be considered in serious contemplation. Making a ruling would therefore prejudice or unduly restrict the administration of a taxation law.

Accordingly, the Commissioner declines to rule on whether the non-resident entity is subject to withholding tax in respect of dividend income derived in Australia.