Latest developments in respect of the Federal Government’s Multinational Tax Integrity Package

The week ended 25 June 2023 was a significant one for the Federal Government’s so-called ‘multinational tax integrity package’, with a flurry of associated activity not unexpectedly observed.

Thankfully, there appears to have been positive response to a number of matters where issues were identified with the previous announcements, though some concerns do still remain unresolved at present. Some new comments regarding ‘embedded royalties’ will also concern a number of groups.

Thankfully, there appears to have been positive response to a number of matters where issues were identified with the previous announcements, though some concerns do still remain unresolved at present. Some new comments regarding ‘embedded royalties’ will also concern a number of groups.

Firstly, the Treasury Laws Amendment (Making Multinationals Pay Their Fair Share – Integrity and Transparency) Bill 2023 (Bill) ^[1], which will enact landmark reforms to Australia’s thin capitalisation rules and amend the Corporations Act 2001 (Corps Act) to mandate annual ‘consolidated entity disclosure statements’ by Australian public companies, was introduced on Federal Parliament’s last sitting day of the income year ending 30 June 2023.

Accompanying the Explanatory Memorandum to the Bill^[2] was an update on the status of various other measures proposed pursuant to the ‘multinational tax integrity package’ such as public country-by-country (CbC) reporting, which, in response to stakeholder feedback to public consultation conducted during April 2023^[3], will be substantially narrowed and its application date will be deferred by 12 months to 1 July 2024.

Finally, in further welcome news that again responds to stakeholder feedback to public consultation, including from RSM Australia^[4], Treasury released a revised Exposure Draft Bill and Explanatory Materials in relation to the proposed measure to deny deductions for certain payments relating to intangible assets connected with low corporate tax jurisdictions (Intangibles Measure)^[5].

The key implications of the foregoing are considered below.

1. Thin Cap – Bill released with some changes

Despite some technical modification following the Exposure Draft released as part of the April 2023 consultation^[6], the substance of the thin capitalisation reforms remains the same. Its key design features, which apply to general class investors, are:

• Existing asset-based safe harbour test to be replaced by a new earnings-based ‘fixed ratio test’ that allows an entity to claim net debt deductions up to 30% of its ‘tax EBITDA’, with debt deductions disallowed thereunder able to be carried forward for 15 years under a special deduction rule, subject to certain conditions;
• Replacement of the asset-based worldwide gearing test with a new earnings-based ‘group ratio test’ that permits entities in a worldwide group to claim debt deductions up to the level of the worldwide group’s net interest expense as a proportion of its ‘GR group EBITDA’; and
• Replacing the arm’s length debt test with a new ‘third party debt test’, which permits only debt deductions that are attributable to genuine third party debt and that satisfy certain other conditions to be deducted (i.e., excluding deductions referable to related party debt or third party debt that does not meet requisite conditions, e.g., funding Australian business operations).

Material technical modifications made by Treasury following release of the Exposure Draft include amendments to the definition of ‘tax EBITDA’ and ‘GR group EBITDA’, as well as substantial amendments to the ‘third party debt test’ such as the definition of prescribed conditions, and clarification around the application of the exception for conduit financing arrangements.

In a welcome relief for groups with finance deductions that relate to the acquisition of foreign subsidiaries, the Bill now excludes the foreshadowed repeal of sections 25-90 and 230-15, which would otherwise have disallowed interest deductions incurred in connection with the derivation of certain non-assessable non-exempt (NANE) income (e.g., foreign equity distributions on non-portfolio interests). However, the Bill does now include new rules to disallow deductions to the extent they are incurred in relation to ‘debt creation schemes’. The new rules, based on former Division 16G of the Income Tax Assessment Act 1936, are arguably consistent with Chapter 9 of the OECD’s BEPS Action 4 Report.

The Bill also includes amendments to the Corps Act that will require Australian public companies to prepare a ‘consolidated entity disclosure statement’ (to be included as part of the company’s annual financial reports) that provides the following information in relation to entities within the accounting consolidated entity:

• The names of each entity at the end of the financial year;
• Whether the entity was a body corporate, partnership or trust at the end of the financial year;
• Whether at the end of the financial year, the entity was any of the following:

- a trustee of a trust within the accounting consolidated entity.

- a partner in a partnership within the accounting consolidated entity; or

- a participant in a joint venture within the accounting consolidated entity.

• If the entity is a body corporate, where the entity was incorporated or formed;
• If the entity is a body corporate, the public company’s percentage ownership (whether directly or indirectly) of each of those entities that are body corporates at the end of the financial year); and
• The tax residency of each of those entities during the financial year.

Directors, chief executive officers and chief financial officers must also declare that the consolidated entity disclosure statement is in their opinion ‘true and correct’ at the end of the financial year, which is ostensibly distinct from the generally used ‘true and fair’ standard that applies, albeit undefined. 

2. Public CbC Reporting – Narrowed and Deferred

Attachments 1 and 2 to the Explanatory Memorandum to the Bill also provided welcome updates on the status public CbC reporting as well as the Intangibles Measure, both of which evince a willingness on the part of Treasury to genuinely consider stakeholder feedback.

In response to consistent feedback that additional time is required to adapt to the requirements of public CbC reporting, its application deferred will be deferred to 1 July 2024. Additionally, in response to consistent feedback regarding confidentiality issues and divergence from the GRI 207 and EU Directive models, four data disclosures – related party expenses, the effective tax rate disclosure, and two intangible asset disclosures have been removed. Treasury also committed to consulting further on the appropriate level of disaggregated reporting.

The following table, adapted from Attachment 1 to the Explanatory Memorandum to the Bill, compares disclosures presently required under Subdivision 815-E of the Income Tax Assessment Act 1997 with the proposed public CbC reporting disclosures:

A status update was also provided regarding the Intangibles Measure, with Treasury re-affirming a 1 July 2023 application date. It was also confirmed that the requirement for tenderers for Australian government contracts worth more than $200,000 to disclose their country of tax domicile will proceed by way of administrative changes to Commonwealth Procurement material. 

3. Intangibles ‘Integrity’ Measure – Revised Exposure Draft Bill and Explanatory Materials

The day after the Bill was introduced (Friday 23 June 2023), Treasury released a revised Exposure Draft Bill and Explanatory Materials in relation to the Intangibles Measure.

The revised Exposure Draft and Explanatory Materials again evince a willingness on the part of Treasury to consider stakeholder feedback, with both addressing concerns raised by stakeholders such as RSM Australia, including in relation to the:

• Whilst the definition of ‘low corporate tax jurisdiction’, which could hypothetically have captured all jurisdictions, a relatively high-taxing jurisdiction like Australia;
• Lack of provision for sub-national income taxes, e.g., income tax levied at a cantonal or state level; and
• Non-provision of credit for controlled foreign company (CFC) attribution and withholding taxes.

Alongside the revised Exposure Draft and Explanatory Materials, Treasury confirmed that the Federal Government is ‘considering interactions of the intangibles measure with global minimum taxes and domestic minimum taxes’, which again reflects feedback provided by RSM Australia and others.  

Interestingly, Treasury has included some comments in the revised Explanatory Memorandum, which express the view that the provisions will permit the bifurcation of ‘embedded royalties’ from distribution arrangements in some cases. Very limited guidance on this significant issue is provided. Although the ‘embedded royalties’ concept is not a new one, the complexities of resolving this issue and seeking to identify, value and then tax an embedded royalty is, in RSM Australia’s view, a matter which requires considerably greater thought and clearer direction.

4. Quadrupling of penalties for SGEs

Arguably, the biggest surprise was the quadrupling of penalties applied in connection with the Intangibles Measure (i.e., two-times the double penalties applicable to Significant Global Entities). This means, for example, that the penalty for failure to take reasonable care will be equal to the primary tax shortfall (cf. 25%).

FOR MORE INFORMATION

To find out more, please get in touch with your local RSM office today.

[1] 23087b01.pdf;fileType=application/pdf (aph.gov.au)

[2] JC010008.pdf;fileType=application/pdf (aph.gov.au)

[3] Public country-by-country reporting | Treasury.gov.au

[4] Denying deductions for payments relating to intangible assets connected with low corporate tax jurisdictions | RSM Australia

[5] Multinational tax integrity package | Treasury.gov.au

[6] Exposure draft - Treasury Laws Amendment (Measures for Consultation) Bill 2023: Deductions for payments relating to intangible assets connected with low corporate tax jurisdictions