In brief - Increased compliance costs fall mainly on purchasers
Schedule 2 of the Tax and Superannuation Laws Amendment (2015 Measures No. 6) Bill 2015, which will come into effect on 1 July 2016, aims to improve compliance with Australia's foreign resident capital gains tax (CGT) regime. However, there are concerns that the proposed tax measure, which requires the purchaser to withhold and pay 10% of the sale proceeds of taxable Australian property to the Australian Taxation Office (ATO), will not just adversely affect purchasers, but vendors and the property market as well.
ATO wants better foreign resident compliance with CGT regime
The previous government announced on 14 May 2013 that it would introduce a 10% non-final withholding tax on payments made by foreign residents that dispose of certain taxable Australian property. The current government introduced a Bill for this measure into Parliament on 3 December 2015.
This Bill introduces amendments to Australia's taxation laws to improve the operation of Australia's CGT regime. The measures in this Bill are two of the 92 announced but un-enacted measures left by the previous government. Schedule 2 of this Bill introduces a new collection mechanism to support the operation of Australia's foreign resident CGT regime.
The ATO has indicated that voluntary compliance with Australia's foreign resident CGT regime has been poor. In the new regime, when a foreign resident disposes of a certain taxable Australian property, the purchaser will be required to withhold and pay to the ATO 10% of the proceeds from the sale. The purpose of the regime is to assist in the collection of foreign residents' CGT liabilities.
The proposed tax measure may impede the smooth operation of transactions in the property market and has the potential to disrupt the property market significantly. There is a concern that the proposed tax measure will give rise to additional significant compliance costs for all parties to a transaction and may burden a purchaser with serious penalties where the liability to pay any CGT should be a matter for the vendor.
Real property, mining and indirect interests to be affected by amendments
This withholding tax is limited to these types of taxable Australian property:
- real property situated in Australia (including a lease of land situated in Australia) - land, buildings, residential and commercial property
- mining, quarrying or prospecting rights, if the minerals, petroleum or quarry materials are situated in Australia
- interests in Australian entities that predominantly have such assets (called indirect interests)
Foreign resident vendors' exclusions negate need to withhold 10%
If the foreign resident vendor falls within one of these exclusion categories, then there is no obligation to withhold the 10%:
- Taxable Australian Real Property (TARP) transactions valued under $2 million
- transactions that are conducted through a stock exchange
- an arrangement that is already subject to an existing withholding obligation
- a securities lending arrangement
- the foreign resident vendor is under external administration or in bankruptcy
Australian residency for tax purposes defined
A "foreign resident" means a person who is not a resident of Australia for the purposes of the Income Tax Assessment Act 1936.
An individual is generally an Australian resident if they reside in Australia. They will also be considered an Australian resident if they are domiciled in Australia, or are present in Australia for at least 183 days of the income year.
A company is a resident of Australia if it is incorporated in Australia, if it carries on a business in Australia and has either its central management and control in Australia, or its voting power is controlled by shareholders who are Australian residents.
Onus is on vendor to apply for clearance certificate
The ATO may certify that, based on the information supplied to the ATO, there is nothing to suggest that an entity is or will be a foreign resident during a specific period. The purchaser is entitled to rely on the clearance certificate and would not be required to pay an amount to the ATO.
This means Australian resident vendors will be required to apply for a clearance certificate to ensure that no funds are withheld from the sale proceeds. The vendor may apply for a clearance certificate at any time. This can be before the property is listed for sale and is valid for 12 months.
If the vendor fails to provide the clearance certificate by settlement, the purchaser must withhold 10% of the purchase price and pay this to the ATO on the day of settlement.
Example 1 (From the Tax and Superannuation laws Amendment (2015 Measures no. 6) Bill 2015 Explanatory Memorandum p.53):
Example 2 (Ibid., p.53):
Diagram 1 (Ibid., p.51):
"Knowledge condition" is a reasonable grounds test on accepting the vendor's residency
The knowledge condition is only relevant to acquisitions of indirect Australian real property interests and options and rights to acquire TARP or indirect Australian real property interests. It is not relevant to TARP and indirect interests that constitute company title interests, where the clearance certificate process applies.
Diagram 2 (Ibid., p.56): The Knowledge Condition
Example 3 (Ibid., pp.57-58):
Purchasers' obligations to the ATO and variation of withholding amounts
A purchaser must pay 10% of the first element of the cost base for the CGT asset. This will usually be the total consideration they paid, or are required to pay, to acquire the CGT asset.
Both vendor or purchaser may apply to the ATO for a variation of the amount to be withheld. Reasons for a variation could include that:
- the foreign resident will not make a capital gain on the transaction
- the foreign resident will otherwise not have an income tax liability
- there are multiple vendors, only one of which is a foreign resident
Example 4 (Ibid., p.60):
A creditor of the vendor may have a security interest over an asset that is subject to the amendments. There may be situations in which the proceeds of the sale are insufficient to cover both the amount to be paid to the ATO and to discharge the debt the loan secures. Thus, a secured or unsecured creditor may apply to the ATO for a variation.
Example 5 (Ibid., p.61):
Chris would prefer that the ATO is paid in preference to the bank because he would be entited to a credit for this amount. Therefore, he does not apply for a variation.
The bank is entitled to apply for a variation and does so. The ATO considers the circumstances and concludes that requiring an amount to be paid to the ATO would prevent the bank from recovering the debt from its secured interest.
The ATO issues a notice to the bank that varies the amount to nil. The bank provides a copy of notice to the purchaser, the purchaser is then relieved of any obligation to pay an amount to the ATO.
Exercising option to buy property attracts special rule
Where a purchaser's acquisition of property is the result of the exercise of an option, a special rule applies to avoid double counting. Where a purchaser is required to withhold, the amount to which the 10% is applied is reduced by any payments the purchaser made for the option. It is also reduced by the market value of any property the purchaser gave for, or to renew or extend the option.
Penalties apply for failing to withhold required amount
The required amount must be paid to the ATO on or before the day the purchaser becomes the owner of the property. This is to be distinguished from the time the purchaser is taken to have acquired the asset for CGT purposes. The penalty for failing to withhold is equal to the amount that was required to be withheld and paid.
Where an amount is withheld, the purchaser is required to complete a "Purchaser Remittance Form" and to provide the ATO with details of the vendor, purchaser and the asset acquired.
Tax changes are sweeping, but are they proportionate?
The amendments made in the Bill will have a huge impact and will create a burden on many people. It is difficult to justify such a massive overhaul of the system by the current revenue leakage from unpaid foreign resident CGT.
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