Edited version of your written advice

Authorisation Number: 1013000611962

Date of advice: 4 May 2016

Ruling

Subject: Existence of Permanent Establishment and obligations to lodge Income Tax Returns

Question 1

Does Company A have a permanent establishment, or is Company A deemed to have a permanent establishment, in Australia for the purpose of Article 5 of the Convention between Australia and Foreign Country X for the Avoidance of Double Taxation with respect to Taxes on Income and Fringe Benefits and the Prevention of Fiscal Evasion [2010] ATS 10 ('Foreign Country X convention')?

Answer

No.

Question 2

Does Company A have an obligation to lodge annual returns under subsection 161(1) of the Income Tax Assessment Act 1936 ('ITAA 1936') for the 20xx to 20xx income years?

Answer

No.

This ruling applies for the following periods:

Years ended 30 June 20xx to 30 June 20xx

The scheme commences on:

xx Month xxxx

Relevant facts and circumstances

Background

Company A is company incorporated in Foreign Country X which manufactures a product and exports it worldwide. The company has exported products to Australia since Month xxxx but does not directly own, lease or rent any land or floor space within Australia.

Company A do not employ any staff permanently based in Australia. Sales staff from Foreign Country X sometimes travel to Australia and work from various locations using rental cars and motels or hotels.

Company A is a wholly owned subsidiary of Company B. Company B has another wholly owned subsidiary, Company C, which was incorporated in Australia in 20xx.

Company C was originally intended to provide sales and warehouse facilities for any local or overseas business on fee or commission. At present, Company C has only had an opportunity to provide its services to related companies including Company A. However, the company is working towards, and still has a long term business plan, of expanding these services to any local and overseas business on fee or commission.

Company C operates and leases a warehouse in Australia and employs staff in Australia. The address of the warehouse is listed as a contact point on the website of Company A. However, the address is merely a 'front' for Company A and Company C's warehouse does not have any office facilities available for Company A to use. The warehouse contains signage that identifies the premises to the public as being operated by Company C.

Neither Company A nor Company C operates any equipment more substantial than a forklift and lifting gear.

Commercial arrangement between Company A and Company C

The commercial arrangement between Company A and Company C involves Company C performing a number of services for Company A in exchange for monthly fees that are paid by Company A to Company C. The monthly fee is based on an annual budgeted fee set by Company C and agreed to by Company A.

The services performed by Company C include:

• Receiving and temporarily storing goods that Company A has imported into Australia at the warehouse, and

• Unpacking Company A customer orders from containers and making them available for collection by customers or courier / freight services.

Company C also employs a 'salesman' to provide services to Company A based out of their private home or car. These activities include:

• Making a sales plans and call cycles

• Making sales calls representing Company A including arranging for samples or drawings of goods to be sent to Foreign Country X (where a quote is prepared)

• Presenting quotes prepared by Company A to customers (Company A also issues an export legal commercial invoice direct to the customer)

• Referring some inquiries to Company A staff in Foreign Country X

• Doing after-sale customer visits, and

• Preparing a weekly report to the Company A sales manager in Foreign Country X.

The salesman does not process sales orders and does not have authority to calculate quotes, set pricing or the ability to login to the computer network of Company A (which is required to process orders). All quotes are calculated, and all customers purchase orders are processed, in Foreign Country X.

Company A undertakes the following activities relating its Australian sales:

• Determining marketing strategy and advertising content for selling products in Australia

• Processing all customer purchase orders in Foreign Country X including preparing quotes for customers and issuing export legal commercial invoices direct to customers

• Paying fees relating to the warehousing and inventory management activities performed by Company C

• Arranging delivery of products to the customer (being either direct shipping, via a third party transport services provider or via Company C's warehouse)

• Retaining ownership of the products, and therefore bearing the risks associated with that ownership, until sale to the customer

• Arranging technical and after-sales services related the use of the products from Foreign Country X

• Settling any potential liability for product defects and customer warranty claims from Foreign Country X , and

• Arranging for debt management and collection from Foreign Country X in relation to receivables (being any amounts due from customers), and bearing the credit risk associated with these amounts.

Company A has its own Australian bank account (into which its Australian sales are deposited). As such, Company A bears any losses resulting from conversion of sale proceeds into other currencies.

Other relevant facts

Company A is registered for GST and lodges Business Activity Statements accordingly. However, there have not been any amounts withheld from payments to Company A, or paid by Company A to the Commissioner, under the Pay As You Go (PAYG) Withholding System.

In addition, Company A has never incurred a tax loss or net capital loss for the purposes of Australian income tax.

Company A did not carry on a business in Australia and has no assessable income that has been derived from dividends, distributions and franking credits in the 20xx to 20xx income years. In fact, Company A did not derive any assessable income (including capital gains) that may be taxable in Australia in the 20xx to 20xx income years, other than through the sale of Company A products as described in this private ruling.

Relevant legislative provisions

Convention between Australia and Foreign Country X for the Avoidance of Double Taxation with respect to Taxes on Income and Fringe Benefits and the Prevention of Fiscal Evasion [2010] ATS 10 Article 5,

Convention between Australia and Foreign Country X for the Avoidance of Double Taxation with respect to Taxes on Income and Fringe Benefits and the Prevention of Fiscal Evasion [2010] ATS 10 Article 7,

Convention between Australia and Foreign Country X for the Avoidance of Double Taxation with respect to Taxes on Income and Fringe Benefits and the Prevention of Fiscal Evasion [2010] ATS 10 Article 30,

Income Tax Assessment Act 1936 subsection 6(1),

Income Tax Assessment Act 1936 subsection 161(1),

International Tax Agreements Act 1953 section 3,

International Tax Agreements Act 1953 subsection 3AAA(1),

International Tax Agreements Act 1953 section 4 and

International Tax Agreements Act 1953 subsection 5(1).

Reasons for decision

All references are to the Convention between Australia and Foreign Country X for the Avoidance of Double Taxation with respect to Taxes on Income and Fringe Benefits and the Prevention of Fiscal Evasion [2010] ATS 10 (the 'Foreign Country X convention') unless otherwise stated.

Question 1

Summary

Company A does not have a permanent establishment, and is not deemed to have a permanent establishment, in Australia for the purpose of Article 5 of the Foreign Country X convention.

Detailed reasoning

Legislative Background

Australia has a series of tax treaties and agreements with other jurisdictions which, amongst other things, generally include a provision allocating taxing rights in relation to the 'business profits' of enterprises that are 'residents' of those other relevant jurisdictions. The applicable provision, which is generally based on the OECD Model Tax Convention on Income and on Capital, restricts Australia from taxing the profits of enterprises that are residents of the other jurisdiction unless the particular enterprise carries on business in Australia through a 'permanent establishment' situated therein.

Consequently, it is important for non-residents to determine whether they are carrying on business in Australia through a permanent establishment in order to determine the nature of their income tax obligations. For example, if an enterprise is carrying on business in Australia through a permanent establishment then it will generally have an obligation to lodge annual returns under subsection 161(1) of the Income Tax Assessment Act 1936 (see Question 2 below).

In order to determine whether an enterprise (such as Company A) is carrying on business in Australia through a permanent establishment the following two preliminary questions must be answered:

1. Does a relevant tax treaty or agreement apply in relation to the enterprise's circumstances?

2. Has that tax treaty or agreement been introduced into Australian domestic law?

Does a relevant tax treaty or agreement apply to Company A's circumstances?

Each Australian tax treaty or agreement generally only relates to the residents of Australia and one other jurisdiction. In the circumstances, the Commissioner accepts that Company A is a resident of Foreign Country X. However, there are a number of Australian tax treaties that might apply to residents of Foreign Country X depending on the circumstances of the case.

As the relevant periods of the scheme and private ruling are after the 2011 income tax year, the only relevant Australian tax treaty in the circumstances is the Foreign Country X convention. In particular, the Foreign Country X convention entered into force 19 March 2010 and, pursuant to Article 30(1), has effect in relation to income tax from the 2011 income year. The earlier tax treaties between Australia and Foreign Country X no longer have effect for the 2011 income year and all subsequent income years (Article 30(3)).

Accordingly, the Foreign Country X convention applies to Company A's circumstances.

Has the Foreign Country X convention been introduced into Australian domestic law?

The International Tax Agreements Act 1953 (the 'Agreements Act') relevantly states under sections 3 and 4:

3 Interpretation

(1) In this Act:

…

Assessment Act means the Income Tax Assessment Act 1936 or the Income Tax Assessment Act 1997.

Australian tax means:

(a) income tax imposed as such by an Act; or

(b) fringe benefits tax imposed by the Fringe Benefits Tax Act 1986.

…

4 Incorporation of Assessment Act

(1) Subject to subsection (2), the Assessment Act is incorporated and shall be read as one with this Act.

(2) The provisions of this Act have effect notwithstanding anything inconsistent with those provisions contained in the Assessment Act (other than Part IVA of the Income Tax Assessment Act 1936) or in an Act imposing Australian tax.

Consequently, the Agreements Act, the Income Tax Assessment Act 1936 ('ITAA 1936') and the Income Tax Assessment Act 1997 ('ITAA 1997') are generally incorporated and read as one act pursuant to subsection 4(1) of the Agreements Act. However, when the provisions of the Agreements Act are inconsistent with the provisions of the ITAA 1936 or the ITAA 1997 (other than provisions in Part IVA of the ITAA 1936), the provisions of the Agreements Act will have effect notwithstanding anything inconsistent in the other two Acts (subsection 4(2) of the Agreements Act).

The Agreements Act also gives the force of law to the provisions of the Foreign Country X convention under subsection 3AAA(1) and subsection 5(1):

3AAA Definitions-current agreements

(1) In this Act:

…

Foreign Country X convention means the Convention between Australia and Foreign Country X for the avoidance of double taxation with respect to taxes on income and fringe benefits and the prevention of fiscal evasion, done at Paris on 26 June 2009.

Note: The text of this convention is set out in Australian Treaty Series 2010 No. 10 ([2010] ATS 10).

...

5 Current agreements have the force of law

(1) Subject to this Act, on and after the date of entry into force of a provision of an agreement mentioned below, the provision has the force of law according to its tenor.

Note 1: The table also lists some provisions of this Act that relate to the agreement.

Note 2: Some current agreements are given the force of law by other provisions of this Act.

Current agreements
Agreement	Related provisions
…	…
Foreign Country X convention	nil

Accordingly, the provisions of the Foreign Country X convention form part of Australian domestic law, on and after the date of entry into force of those provisions (being 19 March 2010 pursuant to Article 30(1) of the Foreign Country X convention).

As a result, the provisions of the Foreign Country X convention will have effect under domestic law in relation to Company A notwithstanding anything inconsistent in the ITAA 1936 or the ITAA 1997 (pursuant to subsection 4(2) of the Agreements Act). Particularly, Article 7 of Foreign Country X convention may therefore make profits of Company A, non-taxable in Australia unless Company A is carrying on business in Australia through a permanent establishment situated therein.

Furthermore, the relevant definition of 'permanent establishment' for the purposes of Article 7 is the one contained in Article 5 (rather than the definition in subsection 6(1) of the ITAA 1936 applying).

Does Company A have a permanent establishment in Australia?

There are three articles of the Foreign Country X convention under which Company A may have, or be deemed to have, a permanent establishment. These articles are:

• Article 5(1)

• Article 5(4), and

• Article 5(8).

Relevantly, the interpretation of tax treaties incorporated into domestic law involves a different set of principles than applies to ordinary domestic law. The ATO's approach to the interpretation of tax treaties is outlined in Taxation Ruling TR 2001/13 Income tax: Interpreting Australia's Double Tax Agreements.

TR 2001/13 concludes at paragraphs 77-108 that:

• The rules used to interpret treaties are to be applied to the transposed text of a treaty incorporated into domestic law

• The Vienna Convention on the Law of Treaties (particularly Articles 31 and 32 of that treaty) and other relevant principles of international law are considered by courts when interpreting tax treaties incorporated into domestic law

• The OECD Model Taxation Convention's official Commentaries may be relevant to the interpretation of tax treaties based on the OECD Model Taxation Convention (such as the Foreign Country X convention), and

• Where the Commentaries are relevant, the ATO considers that it is generally appropriate to consider the most recent OECD Commentaries at a minimum.

Article 5(1) of the Foreign Country X convention

Articles 5(1) and 5(2) of the Foreign Country X convention state:

1. For the purposes of this Convention, the term "permanent establishment" 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 especially:

a) a place of management;

b) a branch;

c) an office;

d) a factory;

e) a workshop;

f) a mine, an oil or gas well, a quarry or any other place of extraction of natural resources; and

g) an agricultural, pastoral or forestry property.

The Commentary on Article 5 of the 2014 version of the OECD Model Tax Convention ('OECD Commentary') indicates that the corresponding definition of 'permanent establishment' in the OECD Model Tax Convention (on which Article 5(1) of the Foreign Country X convention was based) consists of three conditions, being:

• the existence of a 'place of business' - meaning any premises, facility or installation used for carrying on business of the enterprise whether that space is owned, rented or otherwise at the disposal of the enterprise

• this place of business being 'fixed' - meaning that the place must be a distinct geographical place and have a certain degree of permanency, and

• the carrying on of the business of the enterprise through this fixed place of business.

On the facts, it is necessary to consider whether Company A has a permanent establishment by virtue of Company C's warehouse, the home of the Company C salesman or otherwise as a result of staff travelling to Australia.

Company C's warehouse is leased by Company C for carrying on the business of that company (including providing certain services to Company A in exchange for a fee). While some of Company A's products are stored in the warehouse, there are no Company A employees based in the warehouse and no office space at the disposal of Company A employees that are travelling to Australia. Furthermore, the applicant has indicated that Company A's customer orders are not processed in Australia and sales enquiries are not dealt with in the warehouse but rather referred to the Company A employees in Foreign Country X. Consequently, Company C's warehouse is not a 'place of business' of Company A and therefore does not constitute a permanent establishment under Article 5(1).

Company C's salesman works from his private home. Relevantly, ATO Interpretative Decision ATO ID 2005/289 Income tax: Assessability of income derived by a Foreign Country X resident company (ATO ID 2005/289) determined that the home office of an employee can constitute a permanent establishment for their non-resident employer. However, this case is distinguishable from ATO ID 2005/289 as Company C's salesman is not an employee of the non-resident in question but rather an employee of a related resident company providing services to that non-resident for a fee. Consequently, the home of Company C's salesman is not a 'place of business' of Company A and therefore does not constitute a permanent establishment under Article 5(1).

Company A's sales staff, travelling from Foreign Country X, work from various locations using rental cars and motels or hotels. However, Company A does not directly own, lease or rent any land or floor space within Australia or employ any staff permanently based in Australia. The Commissioner accepts that these instances of travel would not result in a 'fixed' place of business as there would not be a distinct geographical location through which Company A carries on business. Consequently, there would be no permanent establishment under Article 5(1).

The Commissioner is also satisfied that Company A does not have a fixed place of business in Australia of a type referred to in Article 5(2).

Article 5(4) of the Foreign Country X convention

Article 5(4) of the Foreign Country X convention states:

4. Notwithstanding the provisions of paragraphs 1, 2 and 3, where an enterprise of a Contracting State:

a) performs services in the other Contracting State

(i) through an individual who is present in that other State for a period or periods exceeding in the aggregate 183 days in any twelve month period, and more than 50 per cent of the gross revenues attributable to active business activities of the enterprise during this period or periods are derived from the services performed in that other State through that individual, or

(ii) for a period or periods exceeding in the aggregate 183 days in any twelve month period, and these services are performed for the same project or for connected projects through one or more individuals who are present and performing such services in that other State;

b) carries on activities (including the operation of substantial equipment) in the other State in the exploration for or exploitation of natural resources or standing timber situated in that other State for a period or periods exceeding in the aggregate 90 days in any twelve month period; or

c) operates substantial equipment in the other State (including as provided in subparagraph b)) for a period or periods exceeding in the aggregate 183 days in any twelve month period,

such activities shall be deemed to be carried on through a permanent establishment of the enterprise situated in that other State, unless the activities are limited to those mentioned in paragraph 7 which, if exercised through a fixed place of business, would not make this place of business a permanent establishment under the provisions of that paragraph.

The Commissioner accepts that Company A does not perform any services in Australia to which Article 5(4)(a) may apply, does not carry on any exploration activities in Australia pursuant to Article 5(4)(b) and does not operate any equipment in Australia that could be characterised as 'substantial' under Article 5(4)(c). Consequently, Article 5(4) does not deem Company A to have a permanent establishment in Australia.

Article 5(8) of the Foreign Country X convention

Article 5(8) of the Foreign Country X convention states:

8. Notwithstanding the provisions of paragraphs 1 and 2, where a person-other than an agent of an independent status to whom paragraph 9 applies-is acting on behalf of an enterprise and:

a) has, and habitually exercises, in a Contracting State an authority to substantially negotiate or conclude contracts on behalf of the enterprise; or

b) manufactures or processes in a Contracting State for the enterprise goods or merchandise belonging to the enterprise,

that enterprise shall be deemed to have a permanent establishment in that State in respect of any activities which that person undertakes for the enterprise, unless the activities of such person are limited to those mentioned in paragraph 7 which, if exercised through a fixed place of business, would not make this fixed place of business a permanent establishment under the provisions of that paragraph.

Article 5(8)(b) is not relevant to Company A because, on the facts, no manufacturing or processing of Company A's products occurs in Australia.

Article 5(8) will therefore only apply if one or more persons have, and habitually exercise, in Australia an authority to substantially negotiate or conclude contracts on behalf of Company A (consistent with Article 5(8)(a)). Relevantly, Company A processes all customer purchase orders in Foreign Country X including calculating all quotes for customers, setting pricing and sending export legal commercial invoices directly to customers in Australia.

The sales and marketing activities of the salesman employed by Company C, and Company A employees working temporarily in Australia, are only preparatory and ancillary to the activities described above that are performed exclusively in Foreign Country X. Therefore, the authority to substantially negotiate and conclude contracts exists exclusively in Foreign Country X where these previously listed functions all occur. This conclusion is supported by comparable decisions previously made by the Commissioner outlined in ATO Interpretative Decision ATO ID 2004/602 Income Tax: Permanent establishment: non-resident - services provided by resident subsidiary - no authority to bind non-resident and ATO Interpretative Decision ATO ID 2005/24 Income Tax: Permanent Establishment of a non-resident entity with employees in Australia.

Consequently, Article 5(8) does not deem Company A to have a permanent establishment in Australia.

Conclusion

Company A does not have a permanent establishment, and is not deemed to have a permanent establishment, in Australia for the purpose of Article 5 of the Foreign Country X convention.

Question 2

Summary

Company A is not a person covered by the relevant legislative instruments and so does not have an obligation to lodge annual returns under subsection 161(1) of the Income Tax Assessment Act 1936 ('ITAA 1936') for the 20xx to 20xx income years.

Detailed reasoning

Subsection 161(1) of the Income Tax Assessment Act 1936 ('ITAA 1936') states:

161 Annual returns

Requirement to lodge a return

(1) Every person must, if required by the Commissioner by notice published in the Gazette, give to the Commissioner a return for a year of income within the period specified in the notice.

Consistent with this subsection, each year the Commissioner publishes a notice in the Gazette outlining the persons that must lodge income tax returns for the relevant income year.

The relevant legislative instruments follow a very similar structure and require each person specified in a series of tables included in the instrument to lodge an income tax return for the particular income year. The only two tables that are potentially relevant for Company A in the legislative instruments are Tables A and F. The Commissioner accepts that Company A is not covered by any other part of the relevant legislative instruments outside of Table A and Table F in each instrument.

Table A

A person will be specified by Table A if they are covered by one of the paragraphs of Table A for the income year. The only potentially relevant paragraphs of Table A stipulate that the table will cover every person who during the income year:

• had an amount withheld from payments or an amount paid to the Commissioner under the Pay As You Go (PAYG) withholding system (with certain exceptions)

• incurred a tax loss or made a net capital loss or is entitled to deduct a tax loss or apply a net capital loss of an earlier year of income, or being a company or trust estate has undeducted tax losses or unapplied net capital losses of any earlier year of income where those losses exceed $1,000 or, being a company, transfers a tax loss or net capital loss to another group company

• carried on a business, and

• derived assessable income from dividends or distributions and franking credits that exceeded a certain threshold.

In this case there have not been any amounts withheld from payments to Company A, or paid by Company A to the Commissioner, under the Pay As You Go (PAYG) Withholding System. Company A has never incurred a tax loss or net capital loss for the purposes of Australian income tax. Likewise, Company A did not carry on a business in Australia and has no assessable income that has been derived from dividends, distributions and franking credits in the 20xx to 20xx income years.

Consequently, Company A is not covered by Table A of the relevant legislative instruments.

Table F

A person will be specified in Table F if they are covered by one of the paragraphs of Table F for the income year. The only potentially relevant paragraph of Table F stipulates that the table will cover certain types of entities that during the income year are non-residents of Australia and who derived income (including capital gains) that is taxable in Australia.

In this case, Company A did not derive any assessable income (including capital gains) that may be taxable in Australia in the 20xx to 20xx income years other than through the sale of Company A products. In this regard, Article 7(1) of the Foreign Country X convention states:

1. The profits of an enterprise of a Contracting State shall be taxable only in that State unless the enterprise carries on business in the other Contracting State through a permanent establishment situated therein. …

Therefore, the profits of Company A shall be taxable only in Foreign Country X unless Company A carries on business in Australia through a permanent establishment situated therein. As concluded in Question 1, Company A was not carrying on business in Australia through a permanent establishment in the 20xx to 20xx income years. Therefore, the profits from the sale of Company A products are taxable only in Foreign Country X and not in Australia.

Consequently, Company A did not derive any income that is taxable in Australia and is not covered by Table F of the relevant legislative instruments.

Conclusion

Company is not a person covered by the relevant legislative instruments and so does not have an obligation to lodge annual returns under subsection 161(1) of the Income Tax Assessment Act 1936 ('ITAA 1936') for the 20xx to 20xx income years.