Australia: Australian tax update - 22 August 2012

Last Updated: 9 September 2012
Article by Ken Spence

In this update, we discuss the following developments in Australian tax relevant to foreign investors:

  • proposed changes to restrict tax relief for mergers & acquisitions;
  • Mitsui's loss in a tax dispute regarding an acquired petroleum project; and
  • proposed withholding tax concessions for foreign investments in Australian clean energy buildings.

Tightening tax relief for mergers and acquisitions

Australia's scrip-for-scrip rollover rules provide tax relief in respect of mergers and acquisitions that involve scrip consideration. The rules allow:

  • the target shareholders to disregard any capital gain they make on the sale of their target shares but require them to carry over their historic cost base to their new shares in the acquiring company; and
  • the acquiring company to 'step up' the cost base of the target shares to market value, thereby reducing the taxable gain on any subsequent sale.

However, the Australian government is presently considering amendments to address perceived deficiencies in these rules.

  • Stakeholder integrity provisions: these provisions apply where a target shareholder (and associates) owns more than 30% (a 'significant stakeholder') or more than 80% (a 'common stakeholder') of the shares in the target and then in the acquiring company after the sale. For shares acquired from such a stakeholder, the acquiring company inherits the stakeholder's historic cost base and does not get the 'step up' to market value. In determining whether the relevant shareholding threshold is met, the proposal is to also take into account options, rights and similar interests which give the holder an entitlement to acquire shares. However, instruments such as put options which would diminish a shareholder's holding will not be counted. Accordingly, this broadens the application of the stakeholder provisions and limits the circumstances in which the acquiring company can get a 'step up' in cost base.
  • Intra-group debt exemption: where the acquiring company is a subsidiary member of a wholly owned group, the target shareholders must receive shares in the ultimate parent company, rather than the acquiring company itself, to be eligible for scrip-for-scrip rollover relief. As consideration for the shares issued by the parent company, the acquiring company may issue equity or incur debt (or a combination of both) to the parent company. If a target shareholder is a significant or common stakeholder, the acquiring company will inherit that shareholder's historic cost base for those target shares. Then, that historic cost base must be allocated up the chain to determine the parent company's cost base for the intra-group debt and/or equity issued by the acquiring company. The proposal is to remove the current exemption which provides that the parent company will not be taxed on any capital gain resulting from the repayment of the intra-group debt by the acquiring company. Accordingly, this could in some cases impact wholly owned groups with an overseas parent company, who cannot rely on Australian tax consolidation to effectively ignore intra-group transactions involving the parent and its subsidiaries.

Mitsui's loss in tax dispute regarding acquired petroleum project

Japanese conglomerate Mitsui & Co has recently lost a $264 million tax dispute relating to its acquisition of an interest in a petroleum field in Australia's North-West Shelf.

In March 2004, Mitsui purchased from Australian company Woodside Energy Limited a 40% undivided interest in an Australian petroleum production licence.

Under the relevant Australian petroleum legislation, the production licence conferred both the right to recover petroleum and the right to explore for petroleum.

For Australian tax purposes, exploration costs are wholly deductible upfront, whereas the acquisition cost of a production right must be depreciated over its effective life.

Mitsui sought to apportion the purchase price for the production licence between the right to recover and the right to explore, in order that the consideration allocated to exploration may be deductible immediately.

However, the Australian Full Federal Court agreed with the Australian Tax Office's view that the production licence comprised one single depreciating asset, and rejected Mitsui's argument to treat the separate rights as distinct assets.

It is possible Mitsui may seek to lodge an appeal to the Australian High Court.

Foreign investment concessions for Australian clean energy buildings

Australian managed investment trusts which invest solely in newly constructed energy efficient commercial buildings will be provided with withholding tax concessions for fund payments to foreign investors.

The Australian government has controversially recently enacted legislation to increase the withholding tax rate for managed investment trusts generally from 7.5% to 15%.

However, in order to promote foreign investment in energy efficient buildings in Australia, that rate will be reduced to 10% where:

  • the managed investment trust invests solely in newly constructed clean energy commercial buildings with at least a 5-star Green Star rating or a 5.5-star NABERS rating;
  • fund payments consist only of rental income and capital gains from such buildings; and
  • the foreign investor is resident in a country with which Australia has an information exchange treaty, which include China, India, Korea and Japan.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

Greenwoods & Freehills are the winners of the 2011 BRW Client Choice Awards.

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