Edited version of private advice

Authorisation Number: 1052152803288

Date of advice: 9 August 2023

Ruling

Subject: Permanent establishment - section 23AH

Question 1

Do you have a permanent establishment outside of Australia pursuant to subsection 6(1) of the Income Tax Assessment Act 1936 (ITAA 1936)?

Answer

Yes.

Question 2

Is your income that is derived from your permanent establishment outside of Australia non-assessable non-exempt income pursuant to section 23AH of the ITAA 1936?

Answer

Yes.

This ruling applies for the following periods:

Period ended 30 June 20XX

Period ended 30 June 20XX

Period ended 30 June 20XX

The scheme commenced on:

1 July 20XX

Relevant facts and circumstances

Background

Company A ('you') are a private company which was incorporated in Country A on specified date.

Your sole director and shareholder is Person B.

You are an Australian resident company for tax purposes.

Your Business

You provided us with details on your business which is within the information technology sector company that provides IP network infrastructure for your clients who primarily use it for web data collection in their business.

You have dedicated servers located in Country B and Country C using personalised authentication tokens.

Your IT infrastructure is continually improved for accuracy, speed and latency with the primary objective to increase the number of data harvesting enquiries and responses in any one client request.

Your sales are fully automated due to a sophisticated proprietary online subscription dashboard which eliminates the need for you and your representative to authorise to bind or conclude contracts on your behalf.

Online customer subscriptions are renewed periodically and do not require you or your representative to authorise to bind or conclude contracts on your behalf.

Your director

Person B has been an Australian tax resident since a specified date during the ruling period.

Person B is not employed by you, nor do they receive any form of renumeration from you apart from a dividend as a shareholder.

Person B works from their home in Australia not long after their arrival in Australia.

You have provided Person B with exclusive use of one laptop and 3 mobile phones (connected to the internet). You provided us with the estimated value of the electric devices.

Person B's role with you is passive as they monitor KPI's in order to secure his return on investment (dividend). They do not deal or communicate with any of your suppliers or customers.

Person B works approximately one hour per day with no specific start or finish time. During this time, they review your scorecard which comprises of revenue, conversation rates, service metrics, response times, net promoter score and latency.

Where KPI's are not meeting the required level, these are brought to the attention of the relevant contractor who will address the issues. This is the only time that you deal or communicate with the contractors.

Reseller agreement with Company C

Company C is located in the Country D.

Your sales are predominately handled through a merchant of record with Company C. Company C bears all administration and regulatory responsibilities for the end customer transaction within their territory which includes financial compliance.

You provided us with details on the services that Company C manages for you.

Company C charges you monthly fees being a percentage per transaction.

Company C deposits your sales income (minus their fees) in USD into your bank account located in Country A.

Servers

Your IT infrastructure requires dedicated servers, all of which are located overseas in Country B and Country C. These servers are exclusive to your sole use and are leased on a monthly basis from a cloud infrastructure.

You provided us with details on the number of servers and the monthly cost of your servers located in Country B and Country C.

You advised that your servers are foundational to your business operations and provided us with details on this.

You pay for a dedicated transit bandwidth of 50Gbit. The bandwidth connection allows for increased data to be transmitted to and from the servers at elevated speeds.

You purchased the internet cables that connect the servers within the data centre supplied by Company D, in Country C. You retain exclusivity on the dedicated bandwidth and the internal cables in the data centre that is pooled between your servers supplied by Company D.

You provided documentation from your server company, Company D advising the following:

•                     The servers are exclusively assigned and dedicated only to the Company A account.

•                     No other customers or persons have access to these physical machines.

You have held the servers since you commenced your business operations.

Contractors

You engage a specified number of contractors located around the world who work remotely from their homes.

You provided us with details on the countries where your contractors are located.

Your contractors do not have authorisation to bind or conclude contracts on your behalf.

A few of your contractors handle customer communication and aid in facilitating sales through the creation of custom payment links and the redirecting of potential clients to the Sales Dashboard. You provided us with details on where the contractors are located.

Your IT infrastructure is built and developed by some of your contractors. You provided us with details on where these contractors are located.

Relevant legislative provisions

Income Tax Assessment Act 1936 subsection 6(1)

Income Tax Assessment Act 1936 section 23AH

Income Tax Assessment Act 1936 subsection 23AH(2)

Income Tax Assessment Act 1936 subsection 23AH(15)

Income Tax Assessment Act 1936 Part X of Schedule 10

Income Tax Assessment Act 1936 subsection 320(1)

Income Tax Regulations 1936 subregulation 152C(1)

Income Tax Assessment Act 1997 subsection 6-5(2)

Income Tax Assessment Act 1997 subsection 6-10(4)

Income Tax Assessment Act 1997 subsection 6-15(3)

Income Tax Assessment Act 1997 section 960-105

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

International Tax Agreements Act 1953

Reasons for decision

Question 1

Summary

You have a permanent establishment (PE) in Country B and Country C. You have a fixed place of business, through your servers located in Country B and Country C. Therefore, you have satisfied subsection 6(1) of the Income Tax Assessment Act 1936 (ITAA 1936).

Detailed reasoning

Subsection 6(1) of the ITAA 1936 defines a PE as a place at or through which the person carries on any business. The definition includes carrying on a business through an agent and including a place where substantial equipment or machinery is used or installed.

Subsection 6(1) of the ITAA 1936 is based on the concept of PE used in Australia's tax treaties. As a double tax agreement (DTA) exists between Australia and Country D, Australia and Country B, and Australia and Country C, the meaning of PE will be determined by the double tax agreement.

Taxation Ruling TR 2001/13 Income tax: Interpreting Australia's Double Tax Agreements (TR 2001/13) at paragraphs 101 to 108 explains the Commissioner's view that the Commentaries on the Organisation for Economic Co-operation and Development (OECD) Model Tax Convention on Income and on Capital, along with any amendments to the Articles are relevant to interpreting Australia's tax treaties (OECD Commentary).

Carrying on a business through an agent

In determining whether Company A is carrying on a business through an agent, it is necessary to determine whether paragraph 6 or 7 of Article 5 of the Country D DTA applies. That is, whether Company A is considered to have a PE in Country D on the basis that Company C can be said to be a 'dependent agent'.

Paragraph 6 and 7 of Article 5 of the Country D DTA states:

6. Notwithstanding the provisions of paragraphs 1 and 2 of this Article, where a person - other than an agent of an independent status to whom paragraph 7 of this Article applies - is acting on behalf of an enterprise and has, habitually exercises, in a Contracting State an authority to conclude contracts on behalf of 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 that enterprise unless the activities of such person are limited to those mentioned in paragraph 5 of this Article which, if exercised through a fixed place of business, would not make this fixed place a business a permanent establishment under the provisions of that paragraph.

7. An enterprise shall not be deemed to have a permanent establishment in a Contracting State merely because it carries on business in that State through a broker, general commission agent or any other agent of an independent status, provided that such brokers or agents are acting in the ordinary course of their business as such.

In your case, you engaged Company C, who is located in Country D, to handle all of your sales. Company C charges you a monthly fee of a specified percentage for this service. Based on the information that you have provided, it is the Commissioner's view that Company C is considered to be either a commission agent or an independent agent who are conducting their own business, which they also provide their services to many other clients. Therefore, you do not have a permanent establishment in Country D.

Using or installing substantial equipment

In determining whether Company A is carrying on a business through the servers located in Country B and Country C, it is necessary to determine whether the amendment to Article 5 of the DTA applies. That is whether the servers are considered to be a fixed place of business in Country B and the Country C.

Relevantly, the OECD states:

42.3 The distinction between a web site and the server on which the web site is stored and used is important since the enterprise that operates the server may be different from the enterprise that carries on business through the web site. For example: it is common for the website through which an enterprise carries on its business to be hosted on a server of an Internet Service Provider (ISP). Although the fees paid to the ISP under such arrangements may be based on the amount of disk space used to store the software and data required by the web site, these contracts typically do not result in the server and its location being at the disposal of the enterprise (see paragraph 4 above), even if the enterprise has been able to determine that its web site should be hosted on a particular server at a particular location. In such a case, the enterprise does not even have a physical presence at that location since the web site is not tangible. In these cases, the enterprise cannot be considered to have acquired a place of business by virtue of that hosting arrangement. However, if the enterprise carrying on business through a web site has the server at its own disposal, for example it owns (or leases) and operates the server on which the web site is stored and used, the place where that server is located could constitute a permanent establishment of the enterprise if the other requirements of the Article are met.

42.4 Computer equipment at a given location may only constitute a permanent establishment if it meets the requirement of being fixed. In the case of a server, what is relevant is not the possibility of the server being moved, but whether it is in fact moved. In order to constitute a fixed place of business, a server will need to be located at a certain place for a sufficient period of time so as to become fixed within the meaning of paragraph 1.

...

42.8 Where, however, such functions form in themselves an essential and significant part of the business of the enterprise as a whole, or where other core functions of the enterprise are carried on through the computer equipment, these would go beyond the activities covered by paragraph 4 and if the equipment in paragraphs 42.2 to 42.6 above), there would be a permanent establishment.

In your case, you have leased servers in Country B and Country C since you commenced your business. The servers that you lease you have absolute control over and you do not share the servers with any other party. Therefore, the Commissioner considers that you have a PE in Country B and Country C.

Question 2

Summary

The income that you receive is non-assessable non-exempt income under subsection 23AH(2) of the ITAA 1936, as the requirements listed in subsection 23AH(2) have been satisfied.

Detailed reasoning

Subsections 6-5(2) and 6-10(4) of the Income Tax Assessment Act 1997 (ITAA 1997) provides that the assessable income of a resident taxpayer includes ordinary and statutory income derived directly or indirectly from all sources, whether in or out of Australia, during the income year. However, subsection 6-15(3) of the ITAA 1997 provides that if an amount is non-assessable non-exempt income, it is not assessable income.

Subsection 23AH(2) of the ITAA 1936 provides that, subject to this section, foreign income derived by a resident company in carrying on a business at or through a PE in a listed or unlisted country is non-assessable non-exempt income.

Therefore, in order for the income you received to be non-assessable non-exempt income under subsection 23AH(2) of the ITAA 1936 the following conditions must be satisfied:

•                     the income must be foreign income, and

•                     the foreign income must be derived in carrying on a business at or through a PE.

Carrying on a business

The term 'business' is defined in subsection 995-1(1) of the ITAA 1997 to include any profession, trade, employment, vocation or calling, but does not include occupation as an employee. This definition is not exhaustive and therefore the term 'business' includes any activities that would ordinarily be understood to be a business.

Whilst the term 'business' is defined, the concept of carrying on a business is not defined in either the ITAA 1936 or the ITAA 1997.

Whether a company is carrying on a business is a question of fact to be determined in an objective manner on the specific facts of each case. From the many Court and Tribunal decisions concerning whether a taxpayer is carrying on a business, the following key factors as listed at paragraph 13 in Taxation Ruling TR 97/11 Income tax: am I carrying on a business of primary production? have been established and require consideration in determining whether the activities carried on by an entity amounts to the carrying on of a business:

•                     whether the taxpayer intends to carry on a business

•                     the nature of the activities, particularly whether they have a profit-making purpose

•                     the size and scale of the activities and the amount of capital employed in those activities

•                     repetition and regularity of the activities

•                     whether the activities are being carried on in a systematic and businesslike manner usual for that type of business, and

•                     the existence of a business plan.

Further, Taxation Ruling TR 2019/1 Income tax: when does a company carry on a business (TR 2019/1) states that where a profit-making purpose is found to exist, it is likely that the other indices of carrying on a business will support a conclusion that a business is being carried on.

You have advised that Company A was incorporated for the purpose of providing IP network infrastructure for your clients who primary use it for web data collection in their business. These activities have resulted in Company A earning regular income and distributing regular dividends to your shareholder.

Based on the information provided and a consideration of the factors listed above it is the Commissioner's view that Company A is carrying on a business.

Income must be foreign

The definition of 'foreign income' in subsection 23AH(15) of the ITAA 1936 states that 'foreign income' includes an amount that:

•                     apart from section 23AH, would be assessable income under a provision of the ITAA 1936 or the ITAA 1997, and

•                     is derived from sources in a listed or unlisted country.

Company A is an Australian resident company.

It is necessary to identify if the income is derived in a listed or unlisted country.

A 'listed country' has the meaning given by subsection 320(1) of the ITAA 1936, being a foreign country, or a part of a foreign country, that is declared by the regulations to be a listed country for the purposes of Part X of the ITAA 1936. Subregulation 152C(1) of the Income Tax Regulations 1936 (the Regulations) states:

For the definition of listed country in subsection 320(1) of the Act, a foreign country or part of a foreign country listed in Part 1 Schedule 10 is declared to be a listed country for the purposes of Part X of the Act.

Country B and Country C are listed in Part 1 of Schedule 10 of the Regulations.

The business income derived by Company A satisfies the definition of foreign income. Specifically, Company A:

•                     derives business income that would be assessable income under a provision of the ITAA 1936 or the ITAA 1997, and

•                     this income is derived from a source in a listed country, being Company B and Company C.

Foreign income must be derived in carrying on a business at or through a PE

The final condition to determine is whether the foreign income that is from carrying on a business is being derived 'at or through a PE'.

As advised in question 1, Company A has a PE in Country B and Country C under the DTA. Therefore, the requirements of subsection 23AH(2) of the ITAA 1936 have been satisfied. Consequently, the income received by Company A from Country B and Country C is considered to be non-assessable non-exempt income under subsection 23AH(2) of the ITAA 1936.