Important technical amendments clarifying the operation of Australia’s hybrid mismatch rules received Royal Assent on 3 September 2020.


Hybrid Mismatch AmendmentsIn 2015, as part of the OECD/G20 BEPS Project, the OECD released the OECD Action 2 Report which made recommendations to neutralise the effects of hybrid mismatch arrangements. In the 2016-17 Budget, the Australian Government announced that it would implement the recommendations made in the OECD Action 2 Report. The Australian hybrid mismatch rules which were passed in August 2018 were broadly effective from 1 January 2019.

In general, the hybrid mismatch rules are designed to prevent international groups from exploiting differences in the tax treatment of an entity or instrument under the laws of two or more tax jurisdictions.

It is important to note that the new rules:

  • can deny deductions for an Australian company which is not the direct counterparty to the mismatch, even where it has no knowledge of a mismatch;
  • can deny deductions for Australian subsidiaries of US groups, as a result of a US tax election that has been made;
  • can deny interest deductions where the interest income is not taxed at a rate higher than 10%, because of a foreign-sourced income exemption or deferral (these rules can also look through “back-to-back lending” to look to the ultimate level of taxation);
  • do not include a de minimis threshold – they apply to all taxpayers, not just Significant Global Entities (“SGEs”); and
  • do not have any ‘grandfathering’ provisions nor allow for a transitional period.

Context for update

The Australian hybrid mismatch rules are incredibly complex with numerous newly defined terms contained within over 90 pages of legislation and hundreds of pages of explanatory material and supplementary guidance. Despite this, there were several areas of uncertainty and defects which prevented the proper operation of the rules as they were intended to apply. The current round of amendments goes some way to remedying these defects.


In brief, the amendments to the hybrid mismatch rules are intended to:

  • Hybrid Mismatch Amendmentsclarify the operation of the hybrid mismatch rules for trusts and partnerships;
  • narrow the circumstances where an entity is a deducting hybrid with the effect that generally, individuals and certain small business entities and trusts will not be deducting hybrids;
  • clarify the operation of the dual inclusion income provisions;
  • clarify that the scope of foreign income tax will generally not include municipal and State taxes;
  • clarify that the rules apply to multiple entry consolidated (“MEC”) groups in the same way as they apply to income tax consolidated groups; and
  • modify the targeted integrity rule to apply to financing arrangements designed to circumvent the operation of the hybrid mismatch rules.

The majority of the amendments are retrospective with application to assessments made for income years starting on or after 1 January 2019.

We discuss some of the amendments below in further detail:

Dual inclusion income

This amendment is likely of broadest application and should benefit some taxpayers that were inappropriately prejudiced by the rules as previously drafted.

Hybrid Mismatch AmendmentsBroadly, dual inclusion income arises where an amount of income or profits is assessable in Australia and subject to foreign income tax (or subject to foreign income tax in two different foreign jurisdictions). The dual inclusion income provisions are concessions that can act to reduce the amount of a mismatch because there is no “mischief” arising where a “double-deducted” or “deducted but not included” expense is offset by “double included” income.

The on-payment rule

An extension to the dual inclusion income provisions may be applied for certain on-payments through grouped entities that form part of a dual inclusion group (the on-payment rule).

Broadly, under the on-payment rule, an amount of dual inclusion income can only be applied to the extent that payment is sourced from income or profits within the dual inclusion income group.

The amendments seek to modify this test by:

  1. Broadening the definition of a dual inclusion income group to include scenarios where there are multiple liable entities. For example, investments held by a transparent holding vehicle with multiple investors, or members would typically not have been able to form a dual inclusion income group under the previous provisions.
  2. For the purpose of applying the on-payment rule, introducing the phrase it is reasonable to conclude when determining whether a payment is funded by income or profits that have been subject to tax in the country in which the dual inclusion income group exists.

While these changes are welcomed, there are still several areas of uncertainty and additional guidance from the ATO is welcomed in clarifying the operation of the dual inclusion income rules.

Trusts and partnerships

Under the previous law, the definition of foreign income tax deduction referred to an amount that an entity is entitled to deduct in working out its tax base. The amendments were made due to uncertainty in applying the hybrid mismatch rules to trusts and partnerships because of, for example:

  • Hybrid Mismatch Amendmentsthe way that the Australian income tax law applies to these entities; and
  • the way in which these entities are treated under the income tax law of foreign jurisdictions.

Specifically, for the purpose of applying the hybrid mismatch rules, under the amendments, trusts and partnerships will be recognised as entities that can:

  • make and receive payments;
  • hold, acquire or dispose of assets; and
  • enter into schemes.

Therefore, if an entity is a trust or a partnership, a reference in the hybrid mismatch rules to an amount being included in assessable income (though not necessarily subject to tax), or being allowable (or not allowable) as a deduction to an entity, will be taken to be a reference to an amount that is taken into account in determining:

  • for a trust – the net income of the trust.
  • for a partnership – the net income or partnership loss of the partnership.

However, of note, only trusts (specifically trustees and beneficiaries) may be liable entities for the purpose of the hybrid mismatch rules. This is important when considering a number of other provisions, including whether an amount is considered dual inclusion income.

RSM Insights

  • The hybrid mismatch rules are incredibly complex and require consideration by taxpayers with international operations. In accordance with Australia’s self-assessment regime, a taxpayer should assess whether the Australian hybrid mismatch rules apply to their specific circumstances.
  • Inappropriate outcomes under the deducting hybrid mismatch rule may still arise where groups are required to rely on the on-payment rule. For example, where an amount is subject to foreign tax but in a jurisdiction outside the dual inclusion income group, an entity may not be able to rely on the on-payment, even where there is no economic mismatch.
  • The International Dealings Schedule requires Australian entities to disclose the outcome of their hybrid mismatch assessment – this is required even where there is no neutralising amount (for example, a deduction being denied) because the specific nature of the disclosure requires detail as to why the hybrid mismatch rules do not deny deductions. 
  • The Australian hybrid mismatch rules require careful consideration even in cases where the hybrid mismatch rules of other territories may not apply. There are a number of differences between the Australian hybrid mismatch rules and those developed by the OECD (as well as those implemented in other territories such as the UK, New Zealand, Japan and the US).
  • Punitive outcomes under the rules are intended, for example, withholding taxes will still apply even where the underlying deduction has been denied.


If you have any questions regarding Hybrid Mismatch Amendments contact your local RSM office.