Edited version of private advice

Authorisation Number: 1052227594676

Date of advice: 6 March 2024

Ruling

Subject: International issues - double tax agreements

Question 1

Is the Fund exempt from withholding tax on dividends paid by Australian resident companies from the investments held through Entity A and its sub-fund under subparagraph 4d) of Article 10 of the Country A Convention?

Answer

Yes.

Question 2

Is the Fund exempt from withholding tax on interest paid on its Australian debt investments held through Entity A and its sub-fund under subparagraph 3d) of Article 11 of the Country A Convention?

Answer

Yes.

This ruling applies for the following period:

Year ended 31 December 20XX

Year ended 31 December 20XX

Year ended 31 December 20XX

Year ended 31 December 20XX

Year ended 31 December 20XX

The scheme commenced on:

1 January 20XX

Relevant facts and circumstances

The Pension Scheme

1.            The Fund is a pension scheme under Country A law.

2.            The Fund was established in Country A.

3.            The assets of the Fund are intended solely for the purpose of providing occupational pension benefits and may not be used for any other purpose.

4.            All management and investment decisions of the Fund are undertaken in Country A by individuals who are non-residents of Australia.

5.            The Fund does not carry on a business through a permanent establishment situated in Australia and does not perform independent personal services from a fixed base in Australia.

6.            The Fund is treated as a company for Country A tax purposes.

7.            The Fund is registered as a Country A taxpayer that is fully liable to tax and benefits from a corporate income tax exemption.

Entity A and its sub-funds

8.            The Fund makes investments through Entity A, which is an open-ended fund collective investment scheme in the form of a contractual fund.

9.            The investments of Entity A are held under sub-funds. The applicant has provided the Commissioner a list of Australian investments held by the Fund for the purposes of this Ruling.

10.         Entity A and its sub-funds do not have separate legal personalities, are fiscally transparent, and are not subject to tax in Country A. The income of Entity A and the sub-funds is considered to be the income of the Fund as the sole investor in Entity A.

11.         The Fund does not have a special relationship with those payers who pay the interest on the debt instruments held though the sub-fund which results in the amount being paid exceeding the amount that would otherwise have been expected to have been paid had such a special relationship not been in existence. Furthermore, the Fund does not and will not participate in the management, control or decision-making of any of the issuers of the debt instruments upon which it derives interest income.

12.         Interest income arising from the Australian debt investments is paid by Australian residents for the purposes of Australian tax, and all such income is not connected to a permanent establishment or fixed base situated outside Australia.

13.         The Fund holds directly no more than 10 per cent of the voting power in the Australian resident companies paying dividends or interest from the investments held through the sub-funds.

14.         The Fund Manager cannot acquire participation rights that in total represent more than 10 per cent of the voting rights in a company or that would enable it to exert a material influence on the management of an issuing company.

Entity A Fund Contract

15.         The circle of investors in Entity A is limited to the Fund as the sole investor. The Fund holds the units of the sub-funds for its members (beneficiaries) and represents their interests.

16.         The Custodian Bank safeguards the assets of the sub-funds, deals with the issue and redemption of fund units and the payment transactions for the sub-funds. The Custodian Bank and its agents are subject to the duties of loyalty, care and information. They act independently and exclusively in the interests of the Fund.

17.         The Fund Manager acquired legal title to the underlying investments on appointment.

18.         The Fund Manager manages the sub-funds on the account of the Fund, independently and by its own name. In particular, it decides about the issue of units, the investments and their valuation. The Fund Manager calculates the net asset value and fixes the issue and redemption prices and profit distributions. The Fund Manager exercises all the rights belonging to Entity A and to the sub-funds independently and in its own name. The Fund Manager can, with the agreement of the Custodian Bank and the approval of the supervisory authority, create, cancel or merge various unit classes at any time.

19.         The Fund Manager and its agents are subject to the duties of loyalty, care and information. They act independently and safeguard only interests of the Fund.

20.         The sub-funds have several asset managers to which the Fund Manager delegates investment decisions.

21.         The Fund can terminate the Fund Contract at any point by requiring payment of its share in the sub-funds in cash, which is to be paid at the end of the month. The Fund Manager can consent to a transfer of part of the portfolio at market value.

22.         The Fund is entitled to the assets and income of the sub-funds in which it holds an asset.

Other

23.         Entity A does not own real estate in Australia.

24.         It is assumed for the purposes of this Ruling that the Australian resident companies that pay dividends from the investments held through Entity A and its sub-funds are not dual residents of both Australia and Country A, pursuant to paragraph 1 of Article 4 of the Country A Convention.

Relevant legislative provisions

Income Tax Assessment Act 1936 section 128B

Country A Convention Article 10

Country A Convention Article 11

Does IVA apply to this private ruling?

Part IVA of the Income Tax Assessment Act 1936 contains anti-avoidance rules that can apply in certain circumstances where you or another taxpayer obtains a tax benefit, imputation benefit or diverted profits tax benefit in connection with an arrangement.

If Part IVA applies, the tax benefit or imputation benefit can be cancelled (for example, by disallowing a deduction that was otherwise allowable) or you or another taxpayer could be liable to the diverted profits tax.

We have not fully considered the application of Part IVA to the arrangement you asked us to rule on, or to an associated or wider arrangement of which that arrangement is part.

If you want us to rule on whether Part IVA applies, we will need to obtain and consider all the facts about the arrangement which are relevant to determining whether Part IVA may apply.

For more information on Part IVA, go to our website ato.gov.au and enter 'part iva general' in the search box on the top right of the page, then select 'Part IVA: the general anti-avoidance rule for income tax'.

Reasons for decision

Issue 1

Application of Country A Convention to dividends and interest.

Question 1

Is the Fund exempt from withholding tax on dividends paid by Australian resident companies from the investments held through Entity A and its sub-fund under subparagraph 4d) of Article 10 of the Country A Convention?

Summary

For the purposes of the Country A Convention, The Fund is considered to be a person who is a resident of a Contracting State and is therefore subject to the Country A Convention. Dividends paid to the Fund from investments in Australian resident companies held through Entity A and its sub-funds meet the requirements of subparagraph 4d) of Article 10 of the Country A Convention and as such, shall not be taxed in Australia.

Detailed reasoning

Country A Convention - application to taxes on interest and dividends

Generally, non-residents who derive Australian dividend or interest income are liable to pay withholding tax on that income (see section 128B and subsections 128B(1)-(5) of the Income Tax Assessment Act 1936 ('ITAA 1936')).

However, in determining liability to Australian tax on Australian source income derived by a non-resident, it is necessary to consider not only the income tax laws but also any applicable Convention or Double Taxation Agreement contained in the International Tax Agreements Act 1953 ('Agreements Act').

Section 4 of the Agreements Act incorporates that Act with the ITAA 1936 and the Income Tax Assessment Act 1997 (ITAA 1997) so that those Acts are read as one. The Agreements Act effectively overrides the ITAA 1936 and ITAA 1997 where there are inconsistent provisions (except for some limited provisions).

Paragraphs 1 and 2 of Article 2 of the Country A Convention, in respect to taxes covered, provide:

1.            This Convention shall apply to taxes on income imposed on behalf of a Contracting State and, in the case of Country A, on behalf of its political subdivisions or local authorities, irrespective of the manner in which they are levied.

2.            There shall be regarded as taxes on income all taxes imposed on total income or on elements of income, including taxes on gains from the alienation of movable or immovable property, taxes on the total amounts of wages or salaries paid by enterprises, as well as taxes on capital appreciation.

In addition, subparagraph (3)(a) of Article 2 of the Country A Convention provides the following:

The existing taxes to which this Convention shall apply are in particular:

a)            in Australia:

the income tax, the fringe benefits tax and resource rent taxes imposed under the federal law of Australia;

(hereinafter referred to as "Australian tax");

Based on the above, the Country A Convention applies to all taxes imposed on income and in particular applies to Australian income tax.

Section 128B of the ITAA 1936imposes liability to withholding tax on dividend, interest and royalty income derived by non-residents. As such, withholding tax payable in respect to dividends and interest paid to non-residents is considered to be an Australian income tax and are covered by the Country A Convention.

Country A Convention - application to the Fund

Withholding tax payable in respect of dividends and interest paid to non-residents are Australian income taxes that are covered by the Country A Convention, therefore whether the Country A Convention applies to the Fund needs to be considered.

Article 1 of the Country A Convention states:

This Convention shall apply to persons who are residents of one or both of the Contracting States.

Therefore, for the Country A Convention to apply, the Fund must be

1.            a 'person' and

2.            a 'resident of a Contracting State'.

1. Person

Subparagraph 1c) of Article 3 of the Country A Convention defines 'person' to include:

...an individual, a company, a trust and any other body of persons.

Subparagraph 1d) of Article 3 of the Country A Convention defines a 'company' to mean:

...any body corporate or any entity which is treated as a company or body corporate for tax purposes.

The Fund was established in Country A under Country A law with a separate legal personality. It is treated as a company for tax purposes in Country A.

On this basis, the Fund satisfies the definition of a 'company' pursuant to subparagraph 1d) of Article 3 of the Country A Convention. Therefore, the Fund is a 'person' in accordance with subparagraph 1c) of Article 3 of the Country A Convention for the purposes of applying the Country A Convention.

2. Resident of a Contracting State

Paragraph 1 of Article 4 of the Country A Convention provides:

For the purposes of this Convention, the term "resident of a Contracting State" means any person who, under the laws of that State, is liable to tax as a resident of that State, and also includes the Government of that State and any political subdivision or local authority thereof. This term, however, does not include any person who is liable to tax in that State in respect only of income from sources in that State.

The Fund is a resident of Country A and is registered as a Country A taxpayer that is fully liable to tax, and benefits from a corporate income tax exemption granted to Country A pension funds.

As the Fund is a Country A resident that is liable to tax under the laws of Country A (despite being exempt from tax), the requirements of Paragraph 1 of Article 4 of the Country A Convention are satisfied.

In addition, sub-subparagraph 3a)(i) of the Protocol to the Country A Convention states that, in relation to paragraph 1 of Article 4 of the Country A Convention, it is understood that the term 'resident of a Contracting State' includes, in particular, a person that is a pension scheme established in that State.

If the Fund is a 'pension scheme established in Country A', the definition of a 'resident of a Contracting State' will also be satisfied.

Subparagraph i) of paragraph 1 of Article 3 of the Country A Convention provides the following in respect of the term 'pension scheme':

... the term "pension scheme" means any plan, scheme, fund, foundation, trust or other arrangement established in a Contracting State... which is:

(i) regulated by that State; and

(ii) operated principally to administer or provide pension or retirement benefits or to earn income for the benefit of one or more such schemes.

Paragraph 1.35 of the Explanatory Memorandum to the International Tax Agreements Amendment Bill of 2014 (Cth) (EM to the ITAAB 2014) states the following in respect of subparagraph i) of paragraph 1 of Article 3 of the Country A Convention:In Country A, a pension scheme includes any plan, scheme, fund, foundation or trust that is established and regulated in Country A and is operated principally to administer or provide pension or retirement benefits or to earn income for the benefit of one or more such schemes.

Subparagraph b) of paragraph 2 of the Protocol to the Country A Convention provides the following in respect of Article 3 of the Country A Convention:

It is understood that the term "pension scheme" in subparagraph i) of paragraph 1 includes the following and any identical or substantially similar schemes which are established pursuant to legislation introduced after the date of signature of this Convention:

b)            in Country A, any pension schemes covered by:

(i)           the Federal Act on old age and survivors' insurance, of 20 December 1946;

(ii)          the Federal Act on disabled persons' insurance of 19 June 1959;

(iii)         the Federal Act on supplementary pensions in respect of old age, survivors' and disabled persons' insurance of 6 October 2006;

(iv)         the Federal Act on old age, survivors' and disabled persons' insurance payable in respect of employment or self-employment of 25 June 1982, including the non-registered pension schemes which offer occupational pension plans and the forms of individual recognised pension schemes comparable with the occupational pension plans.

The Fund is a pension scheme established in Country A.

Therefore, pursuant to sub-subparagraph 3a)(i) of the Protocol to the Country A Convention, the Fund is a 'pension scheme' and therefore a resident of a Contracting State (i.e. Country A) under paragraph 1 of Article 4 of the Country A Convention.

Conclusion on the application of the Country A Convention

The Fund meets the requirements of Article 1 of the Country A Convention and is therefore subject to its application.

Taxation of dividends

Subsection 128B(1) of theITAA 1936 provides that, subject to certain exclusions, section 128B of the ITAA 1936 will apply to income derived by a non-resident that consists of a dividend paid by an Australian resident company (franked dividends are specifically excluded from the operation of section 128B by paragraph 128B(3)(ga) of the ITAA 1936).

Subsection 128B(4) of the ITAA 1936 provides that a person who derives dividend income to which section 128B of the ITAA 1936 applies, is liable to pay withholding tax on that dividend income. The withholding tax rate applicable is generally 30% of the dividend amount (section 7 of the Income Tax (Dividends, Interest and Royalties Withholding Tax) Act 1974). Unfranked dividends derived by a non-resident from Australian resident companies are therefore subject to withholding tax unless otherwise excluded.

Article 10 of the Country A Convention is the relevant article in relation to dividend income, stating:

1. Dividends paid by a company which is a resident of a Contracting State to a resident of the other Contracting State may be taxed in that other State.

2. However, such dividends may also be taxed in the Contracting State of which the company paying the dividends is a resident and according to the laws of that State, but if the beneficial owner of the dividends is a resident of the other Contracting State, the tax so charged shall not exceed:

a.            5 per cent of the gross amount of the dividends if the beneficial owner is a company which, in the case of Australia, holds directly at least 10 per cent of the voting power in the company paying the dividends, or in the case of Country A, holds directly at least 10 per cent of the capital in the company paying the dividends;

b.            15 per cent of the gross amount of the dividends in all other cases.

3. ...

4. Notwithstanding the provisions of subparagraph 2b), dividends shall not be taxed in the Contracting State of which the company paying the dividends is a resident if the beneficial owner of the dividends holds, in the case of Australia, directly no more than 10 per cent of the voting power in the company paying the dividends, or in the case of Country A, directly no more than 10 per cent of the capital of the company paying the dividends, and the beneficial owner is:

a.            a Contracting State, or political subdivision or a local authority thereof (including a government investment fund);

b.            a central bank of a Contracting State;

c.            in the case of Australia, a resident of Australia deriving such dividends from the carrying on of complying superannuation activities; or

d.            in the case of Country A, a pension scheme whose investment income is exempt from Country A tax.

5. Paragraphs 2, 3 and 4 shall not affect the taxation of the company in respect of the profits out of which the dividends are paid.

6. The term "dividends" as used in this Article means income from shares...

7. The provisions of paragraphs 1, 2, 3 and 4 shall not apply if the beneficial owner of the dividends, being a resident of a Contracting State, carries on business in the other Contracting State of which the company paying the dividends is a resident through a permanent establishment situated therein, or performs in that other State independent personal services from a fixed base situated therein, and the holding in respect of which the dividends are paid is effectively connected with such permanent establishment or fixed base. In such case the provisions of Article 7 or Article 14, as the case may be, shall apply.

8. ...

9. Notwithstanding paragraph 8, dividends paid by a company that is deemed to be a resident only of one Contracting State pursuant to paragraph 3 of Article 4 may be taxed in the other Contracting State, but only to the extent that the dividends are paid out of profits arising in that State. Where such dividends are beneficially owned by a resident of the first-mentioned State, paragraph 2 of this Article shall apply as if the company paying the dividends were a resident only of the other State.

For subparagraph 4d) of Article 10 of the Country A Convention to apply to the Fund to the effect that the dividend income shall not be taxed in Australia, the Fund must satisfy each of the following:

1.            There are dividends that are paid by companies, that are residents of Australia, to the Fund (being a resident of Country A) (Article 10(1)).

2.            The Fund is the beneficial owner of the dividends (Article 10(2)).

3.            The Fund is a pension scheme, and its investment income is exempt from Country A tax (Article 10(4)(d)).

4.            The Fund holds directly no more than 10 per cent of the voting power in the companies paying the dividends (Article 10(4)).

5.            The Fund does not carry on a business through a permanent establishment in Australia or perform independent personal services from a fixed base in Australia (Article 10(7)).

6.            The Australian resident companies that pay dividends from the investments are not dual residents of both Australia and Country A, pursuant to paragraph 1 of Article 4 of the Country A Convention (Article 10(9)).

These requirements are considered below.

1. There are dividends that are paid by companies that are residents of Australia to a resident of Country A.

The sub-funds hold shares in Australian resident companies which pay dividends in relation to those investments.

The term 'paid...to' is not defined in the Country A Convention.

Paragraph 2 of Article 3 of the Country A Convention provides the following:

As regards the application of the Convention at any time by a Contracting State, any term not defined therein shall, unless the context otherwise requires, have the meaning that it has at that time under the law of that State for the purposes of the taxes to which the Convention applies, any meaning under the applicable tax laws of that State prevailing over a meaning given to the term under other laws of that State.

As such, the definition of the term 'paid to' in relation to dividends paid from an Australian source shall be guided by the context of its use in the Country A Convention or, without such context, by the laws of Australia for the purposes of taxation.

Additionally, paragraphs 1.41 and 1.43 of the EM to the ITAAB 2014 provide the following, in respect of paragraph 2 of Article 3 of the Country A Convention:

1.41. Unless the context requires otherwise, a term not specifically defined in the Country A Convention will have the same meaning that it has under the law of the country applying the Convention at the time of its application. In that case, the meaning of the term under the taxation law of that country will have precedence over the meaning it may have under other domestic laws.

1.43. If a term is not defined in the Convention, but has an internationally understood meaning in tax treaties and a meaning under the domestic law, the context would normally require that the international meaning be applied.

ATO Interpretive Decision ATO ID 2011/13 Income Tax: Interest withholding tax: interest arising in Australia paid to a New Zealand Limited Partnership - 'beneficially owned' ('ATO ID 2011/13')provides guidance in relation to the use of relevant context for interpreting Australian tax treaties, stating:

Relevant context for the purposes of interpreting an Australian tax treaty includes the Commentaries on the OECD Model Tax Convention on Income and on Capital (the OECD Commentary). Paragraph 104 of Taxation Ruling TR 2001 / 13 states that the OECD Commentary provides important guidance on interpretation and application of the OECD Model Tax Convention and will often need to be considered as a matter of practice, in interpreting tax treaties, at least where the wording is ambiguous.

The 2017 Commentaries on the OECD Model Tax Convention on Income and on Capital ('OECD Commentaries') provide context around the introduction of the requirement of 'beneficial ownership' and the term 'paid to' as follows:

12. The requirement of beneficial ownership was introduced in paragraph 2 of Article 10 to clarify the meaning of the words "paid...to a resident" as they are used in paragraph 1 of the Article. It makes plain that the State of source is not obliged to give up taxing rights over dividend income merely because that income was paid direct to a resident of a State with which the State of source had concluded a convention.

12.2 Where an item of income is paid to a resident of a Contracting State acting in the capacity of agent or nominee it would be inconsistent with the object and purpose of the Convention for the State of source to grant relief or exemption merely on account of the status of the direct recipient of the income as a resident of the other contracting State.

12.7 Subject to other conditions imposed by the Article and the other provisions of the Convention, the limitation of tax in the State of source remains available when an intermediary, such as an agent or nominee located in a Contracting State or in a third State, is interposed between the beneficiary and the payer but the beneficial owner is a resident of the other Contracting State...

The direct recipient of the dividends paid by Australian resident companies in respect of the Australian investments held by Entity A is the Custodian Bank (for the benefit of The Fund). However, it is evident from the OECD Commentaries that the main focus of the term 'paid...to' in paragraph 1 of Article 10 of the Country A Convention requires an enquiry into the status of the 'beneficial owner' of the dividend income and not the status of the intermediary who is the direct recipient of the payment.

As the Fund is the beneficial owner of the dividends (see below) the dividend income will be taken to be paid to the Fund when it is paid to the Custodian Bank.

Therefore, this condition is satisfied.

2. The Fund is the beneficial owner of the dividends.

The term 'beneficial owner' is also not defined in the Country A Convention.

In addition to the commentary in paragraphs 12, 12.2 and 12.7 included above paragraph 12.1 of the 2017 OECD Commentaries on Article 10 states:

12.1 Since the term "beneficial owner" was added to address potential difficulties arising from the use of the words "paid to ... a resident" in paragraph 1, it was intended to be interpreted in this context and not to refer to any technical meaning that it could have had under the domestic law of a specific country (in fact, when it was added to the paragraph, the term did not have a precise meaning in the law of many countries). The term "beneficial owner" is therefore not used in a narrow technical sense (such as the meaning it has under the trust law of many common law countries), rather, it should be understood in its context, in particular in relation to the words "paid ... to a resident", and in light of the object and purposes of the Convention, including avoiding double taxation and the prevention of fiscal evasion and avoidance.

The OECD Commentaries provide an example of using the term 'beneficial owner' in a narrow technical sense in a footnote to paragraph 12.1 regarding a 'meaning it has under the trust law of many common law countries':

... where the trustees of a discretionary trust do not distribute dividends earned during a given period, these trustees, acting in their capacity as such (or the trust, if recognised as a separate taxpayer), could constitute the beneficial owners of such income for the purposes of Article 10 even if they are not the beneficial owners under the relevant trust law.

Therefore, the term 'beneficial owner' should be used in a purposive sense in light of the object and purpose of the Country A Convention.

Paragraph 12.4 of the OECD Commentaries informs that the 'beneficial owner' can be found through identifying the entity which has the unconstrained right to use and enjoy the dividend income:

12.4 In these various examples (agent, nominee, conduit company acting as a fiduciary or administrator), the direct recipient of the dividend is not the "beneficial owner" because that recipient's right to use and enjoy the dividend is constrained by a contractual or legal obligation to pass on the payment received to another person... Where the recipient of a dividend does have the right to use and enjoy the dividend unconstrained by a contractual or legal obligation to pass on the payment received to another person, the recipient is the "beneficial owner" of that dividend. It should also be noted that Article 10 refers to the beneficial owner of a dividend as opposed to the owner of the shares, which may be different in some cases.

The Fund Manager holds legal title to the assets of Entity A and sub-funds for the benefit of the Fund. The Custodian Bank acts to safeguard assets and the Fund's interest. While the Custodian Bank is the direct recipient of the dividends paid by the Australian companies, the Custodian Bank's right to use and enjoy this income is constrained by a contractual obligation to pass the payment on to the Fund. Both the Fund Manager and the Custodian Bank operate in their roles under the Fund Contract for the benefit of the Fund.

In contrast, the Fund, on receipt of this income from the Custodian Bank, has the right to use and enjoy the dividend unconstrained by a contractual or legal obligation to pass on the payment to another person. The Fund can at any time require payment of its interest in Entity A and its sub-funds. The dividend income subsequently forms part of the net assets of the Fund in its capacity as a pension fund operating under Country A law.

The Fund's status as the beneficial owner of the dividends is further evidenced by the Country A tax treatment of the Fund and the income arising through Entity A and its sub-funds. Entity A and the sub-funds are fiscally transparent entities without their own legal personalities and the income derived from the investments is considered to be the income of the Fund as the sole investor in Entity A.

Therefore, the Fund is the 'beneficial owner' of the dividend income paid by the Australian resident companies for the purposes of the Country A Convention.

Therefore, this condition is satisfied.

3. The Fund is a pension scheme, and its investment income is exempt from Country A tax.

As established above, the Fund is a pension scheme, pursuant to the Country A Convention, and is exempt from tax in Country A.

Therefore, this condition is satisfied.

4. The Fund holds directly no more than 10 per cent of the voting power in the companies paying the dividends.

The Fund holds directly no more than 10 per cent of the voting power in the Australian resident companies paying dividends from the investments held through Entity A.

Therefore, this condition is satisfied.

5. The Fund does not carry on a business through a permanent establishment in Australia or perform independent personal services from a fixed base in Australia.

Paragraph 7 of Article 10 of the Country A Convention operates to limit the application of subparagraph 4d) of Article 10 of the Country A Convention in circumstances where the beneficial owner of the dividends, being a resident of a Contracting State, carries on business in the other Contracting State of which the company paying the dividends is a resident through a permanent establishment situated therein, or performs in that other State independent personal services from a fixed base situated therein, and the holding in respect of which the dividends are paid is effectively connected with such permanent establishment or fixed base.

The Fund does not carry on a business through a permanent establishment situated in Australia and does not perform independent personal services from a fixed base in Australia.

As such, the application of subparagraph 4d) of Article 10 of the Country A Convention will not be limited by paragraph 7 of Article 10 of the Country A Convention in these circumstances.

Therefore, this condition is satisfied.

6. The Australian resident companies that pay dividends from the investments are not dual residents of both Australia and Country A, pursuant to paragraph 1 of Article 4 of the Country A Convention.

Paragraph 9 of Article 10 of the Country A Convention operates to limit the application of subparagraph 4d) of Article 10 of the Country A Convention in circumstances where the company paying the dividend is a dual resident under the Country A Convention.

It is assumed for the purposes of this private ruling that The Australian resident companies that pay dividends from the investments held through Entity A and its sub-funds, are not dual residents of both Australia and Country A, pursuant to paragraph 1 of Article 4 of the Country A Convention.

As such, the application of subparagraph 4d) of Article 10 of the Country A Convention will not be limited by paragraph 9 of Article 10 of the Country A Convention in these circumstances.

Therefore, this condition is satisfied.

Conclusion

The Fund is a Country A pension scheme whose investment income is exempt from Country A tax. In addition, the Fund is the beneficial owner of dividends paid by Australian resident companies from its investments held through Entity A and its sub-funds.

Therefore, subparagraph 4d) of Article 10 of the Country A Convention will apply to the dividends paid to the Fund from its Australian investments held through Entity A and its sub-funds, such that the dividends shall not be taxed in Australia. This will result in the Fund being exempt from withholding tax on such dividend income.

Question 2

Is the Fund exempt from withholding tax on interest paid on its Australian debt investments held through Entity A and its sub-fund under subparagraph 3d) of Article 11 of the Country A Convention?

Summary

Interest paid in relation to the Australian investments held by the Fund through Entity A and the sub-funds, meets the requirements of subparagraph 3d) of Article 11 of the Country A Convention and as such, shall not be taxed in Australia.

Detailed reasoning

Taxation of interest

A non-resident is liable to pay withholding tax under subsection 128B(5) of the ITAA 1936 if the non-resident derives income that consists of interest and the requirements of subsection 128B(2) of the ITAA 1936 are satisfied in relation to that income. Subsection 128B(2) of the ITAA 1936 provides that:

Subject to subsection (3), this section... applies to income that:

(a) is derived... by a non-resident; and

(b) consists of interest that:

(i) is paid to the non-resident....

As detailed in the reasoning to Question 1 above, the Fund meets the requirements of Article 1 of the Country A Convention and is therefore subject to its application.

Article 11 of the Country A Convention is the relevant article in relation to interest income, stating:

1.    Interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in that other State.

2.    However, such interest may also be taxed in the Contracting State in which it arises and according to the laws of that State, but if the beneficial owner of the interest is a resident of the other Contracting State, the tax so charged shall not exceed 10 per cent of the gross amount of the interest.

3.    Notwithstanding paragraph 2, interest arising in a Contracting State and beneficially owned by a resident of the other Contracting State shall not be taxed in the first-mentioned State if the interest is derived by:

d. in the case of Country A, a pension scheme whose investment income is exempt from Country A tax.

4.    Notwithstanding paragraph 3,

b.    interest referred to in subparagraphs a), c) or d) of that paragraph may be taxed in the State in which it arises at a rate not exceeding 10 per cent of the gross amount of the interest if the beneficial owner of the interest participates directly or indirectly in the management, control or capital, or has an existing or contingent right to participate in the financial, operating or policy decisions, of the issuer of the debt-claim.

5.    ...

6.    The provisions of paragraphs 1 and 2, subparagraph b) of paragraph 3 and paragraph 4 of this Article shall not apply if the beneficial owner of the interest, being a resident of a Contracting State, carries on business in the other Contracting State in which the interest arises through a permanent establishment situated therein, or performs in that other State independent personal services from a fixed base situated therein, and the debt-claim in respect of which the interest is paid is effectively connected with such permanent establishment or fixed base. In such case the provisions of Article 7 or Article 14, as the case may be, shall apply.

7.    Interest shall be deemed to arise in a Contracting State when the payer is a resident of that State for the purposes of its tax. Where, however, the person paying the interest, whether the person is a resident of a Contracting State or not, has in a Contracting State or outside both Contracting States a permanent establishment or a fixed base in connection with which the indebtedness on which the interest is paid was incurred, and such interest is borne by such permanent establishment or fixed base, then such interest shall be deemed to arise in the State in which the permanent establishment or fixed base is situated.

8.    Where, by reason of a special relationship between the payer and the beneficial owner of the interest, or between both of them and some other person, the amount of the interest, having regard to the debt-claim for which it is paid, exceeds the amount which might have been expected to have been agreed upon by the payer and the beneficial owner in the absence of such relationship, the provisions of this Article shall apply only to the last-mentioned amount. In such case, the excess part of the payments shall remain taxable according to the laws of each Contracting State, due regard being had to the other provisions of this Convention.

For subparagraph 3d) of Article 11 of the Country A Convention to apply to the Fund, such that the interest income shall not be taxed in Australia, it must therefore satisfy each of the following:

1.    There is interest that arises in Australia and is paid to a resident of Country A (Article 11(1) and Article 11(6).

2.    The Fund is the beneficial owner of the interest (Article 11(3)).

3.    The Fund derives the interest (Article 11(3))

4.    The Fund is a resident of Country A (Article 11(3)).

5.    The Fund is a pension scheme, and its investment income is exempt from Country A tax (paragraph d of Article 11(3)).

6.    The operation of subparagraph 3d) of Article 11 of the Country A Convention is not limited by paragraphs 4, 6, 7 and 8 of Article 11 of the Country A Convention.

These requirements are considered below.

1. There is interest that arises in Australia and is paid to a resident of Country A

The interest income is paid by Australian residents for the purposes of Australian tax, and all such income is not connected to a permanent establishment, or a fixed base situated outside Australia. Accordingly, pursuant to paragraph 7 of Article 11 of the Country A Convention, interest income arises in Australia from the Australian investments held by the Fund through Entity A and the sub-funds.

Paragraph 5 of the OECD Commentaries on Article 11 states:

Paragraph 1 lays down the principle that interest arising in a Contracting State and paid to a resident of the other Contracting State may be taxed in the latter. In doing so, it does not stipulate an exclusive right to tax in favour of the State of residence. The term "paid" has a very wide meaning, since the concept of payment means the fulfilment of the obligation to put funds at the disposal of the creditor in the manner required by contract or by custom.

Given the similarities of the above paragraph to those regarding the term 'paid to' in the context of Article 10 as outlined above in the reasoning to Question 1, it is reasonable to adopt the same principles regarding the payment of interest being 'paid to' a resident of a contracting state as with the payment of dividends as outlined above.

The same reasoning as outlined above regarding the dividends being 'paid to' the Fund will also apply to the interest income. As such, interest arises in Australia and is paid to a resident of Country A.

Therefore, this condition is satisfied.

2. The Fund is the beneficial owner of the interest

For the purposes of the Country A Convention, the OECD Commentaries on the term 'beneficial owner' used in Article 11 at paragraphs 9.1 to 10.1 largely replicate the commentaries on Article 10. Therefore, for the same reasons as previously outlined in the reasoning to Question 1, the Fund is the beneficial owner of the interest income received through Entity A and the sub-funds.

Therefore, this condition is satisfied.

3. The Fund derives the interest

The term 'derive' is not defined in the Country A Convention or the OECD Commentaries. As outlined above, paragraph 2 of Article 3 of the Country A Convention states that where a term is not defined, interpretation shall be guided by the context of its use in the Country A Convention or, without such context, by the laws of Australia for the purposes of taxation.

Under Australian taxation law, where interest income is initially received by a manager and/or custodian prior to it being paid to the beneficial owner, the beneficial owner will be deemed to have derived the income at the time it became presently entitled to the income where a trust relationship exists (refer to section 128A(3) of the ITAA 1936).

Guidance provided by the Courts on when a trust relationship exists was outlined in ATO Interpretive Decision ATO ID 2008/61 Income Tax: Withholding Tax Exemption: interest and dividends paid by an Australian resident and received by a Dutch Stichting as unitholder in an Irish Common Contractual Fund ('ATO ID 2008/61'), which notes that:

Justice French in Harmer & Ors v. FC of T 89 ATC 5180; (1989) 20 ATR 1461 stated that a trust 'is notably a definition of a relationship by reference to obligations'. His Honour went on to state that the four essential elements of a trust are:

1.            the trustee who holds a legal or equitable interest in the trust property

2.            the trust property which must be property capable of being held on trust and which includes a chose in action

3.            one or more beneficiaries other than the trustee, and

4.            a personal obligation on the trustee to deal with the trust property for the benefit of the beneficiaries, which obligation is also annexed to the property.

These four elements are present in the relationship between the Fund, Entity A, the Fund Manager and the Custodian Bank. The Fund Manager holds legal title to the assets of Entity A, while the Custodian Bank safeguards these assets and receives the income. The assets and income are not held or dealt with by the Custodian Bank or the Fund Manager for their own benefit, but for the benefit of the Fund, which is the only permitted unitholder of Entity A and the sub-funds.

Entity A and its sub-funds are fiscally transparent entities without their own legal personalities. The income generated by Entity A is, under Fund Contract, considered to be the income of the Fund. The Fund is beneficially entitled to the income of Entity A and its sub-funds and can at any time request payment of its interest in Entity A and its sub-funds to be made at the end of the month in which the request is made.

The Fund has a present legal right to demand and receive payment of the income and is therefore presently entitled to the income received by the Custodian Bank. As such, the point the income is paid to the Custodian Bank on behalf of the Fund is the point in which the Fund becomes presently entitled to and therefore derives the interest income.

Therefore, this condition is satisfied.

4. The Fund is a resident of Country A.

The Fund is a resident of Country A as it satisfies the definition of a 'resident of a Contracting State' and was established in Country A.

Therefore, this condition is satisfied.

5. The Fund is a pension scheme, and its investment income is exempt from Country A tax.

The Fund is a pension scheme pursuant to the Country A Convention and is exempt from tax in Country A.

Therefore, this condition is satisfied.

6. The operation of subparagraph 3d) of Article 11 of the Country A Convention is not limited by paragraphs 4, 6, 7 and 8 of Article 11 of the Country A Convention.

Paragraphs 4, 6, 7 and 8 of Article 11 of the Country A Convention operate to limit the application of subparagraph 3d) of Article 11 of the Country A Convention in certain circumstances. These include where:

a)            The member of a Contracting State is operating through a permanent establishment whether or not that permanent establishment is situated in that other contracting state (paragraphs 6 and 7 of Article 11 of the Country A Convention).

b)            The Fund does not operate through or have any permanent establishments, within the meaning of Article 5 of the Country A Convention, in Australia through which its investments are made or managed.

c)            The beneficial owner of the interest participates in the management, control or decision-making of the issuer of the debt-claim (paragraph 4 of Article 11 of the Country A Convention).

d)            The Fund, being the beneficial owner of the interest, does not and will not participate in the management, control or decision-making of any of the entities from which it derives interest income.

e)            There exists a special relationship between the payer and the person beneficially entitled to the interest which results in the amount being paid exceeding the amount that would otherwise have been expected to have been paid had such a special relationship not been in existence (paragraph 8 of Article 11 of the Country A Convention).

f)             In the present circumstances, the Australian payers with respect to the Fund's Australian investments have no special relationship with the Fund.

Consequently, the restrictions discussed above will not be applicable in respect of the interest income derived by the Fund on its Australian investments.

Therefore, this condition is satisfied.

Conclusion

The Fund is a Country A pension scheme whose investment income is exempt from Country A tax. It derives interest income which is paid by Australian residents though its investments held via Entity A and the sub-funds.

As none of the restrictions prescribed in paragraphs 4, 6, 7 or 8 of Article 11 of the Country A Convention apply to the Fund, subparagraph 3d) of Article 11 of the Country A Convention will apply to the interest paid to the Fund from the Australian investments via Entity A and the sub-funds such that the interest shall not be taxed in Australia. This will result in the Fund being exempt from withholding tax on such interest income.