It is common knowledge that the new measure to impose a non-final withholding tax in relation to dealings with certain Australian assets by foreign residents has been enacted and applies to contracts entered into on or after 1 July 2016.
Effective from this date, unless an exemption applies, a buyer is required to withhold and pay to the Commissioner an amount equal to 10% of the first element cost base of the relevant CGT asset. The obligation to remit arises at the time when the buyer becomes the owner of the asset (and for real property this is usually at settlement).
In arm’s length dealings, the ATO accepts the GST inclusive purchase price may be used as a proxy for market value, the basis for which the 10% withholding tax is determined. The ATO has indicated in its Q & A CGT WHT factsheet that where the buyer is registered for GST and the transaction is a taxable supply, the GST inclusive price less the input tax credit may be used as a proxy for market value. Where the parties are not dealing at arm’s length, the buyer will need to seek an expert valuation.
There is a misconception the new measure applies only to foreign resident sellers of certain CGT assets. Whilst the measure aims to facilitate the collection of CGT from foreign resident sellers, it can be triggered even if the seller is, in fact, an Australian tax resident.
A seller will prima facie be regarded as a foreign resident unless the buyer is provided with the following documents prior to settlement:
- for Taxable Australian Real Property (“TARP”) or an indirect Australian real property company title interest – a clearance certificate obtained from the ATO;
- for other assets captured by the new measure – a vendor declaration confirming the seller’s Australian tax residency or that the interest disposed of is not an indirect Australian real property interest.
The clearance certificate application will be made available at ato.gov.au/FRCGW before 30 June 2016. The clearance certificate will be valid for 12 months and must be valid at the time when it is given to the buyer prior to settlement (i.e., it is current for the period that includes the time the transaction is entered into).
Whilst the ATO expects that clearance certificates will be provided within days of being submitted, certificates for high risk taxpayers and unusual cases could take longer. As the clearance certificate is valid for 12 months (from the date of issue), it may be prudent to obtain the certificate before marketing activities begin.
There is no approved form that can be completed by the seller for a declaration. The ATO has indicated templates will be made available to be downloaded from its website from 1 July 2016. The declaration must also be inserted into a sale agreement as a standard clause contractual warranty.
The buyer must register for withholding with the Commissioner (if not already registered) and also provide notification to the Commissioner in an approved form when the amount is remitted.
The seller will be entitled to a credit for the amount withheld and remitted against its Australian tax liability for the relevant income year. This will require the seller to lodge an income tax return for the relevant year.
Assets that are subject to the new withholding rules
The relevant assets that are captured by this legislation are:
- TARP with a market value of $2 million or more: – real property situated in Australia (e.g., vacant land, buildings, residential and commercial property); – mining, quarrying or prospecting rights where the minerals, petroleum or quarry materials are situated in Australia; – lease premiums paid for the grant of a lease over real property in Australia;
- An indirect Australian real property interest in Australian entities whose underlying value is principally derived from TARP (e.g., shares in a “land rich” company); and
- Options or rights to acquire any of the above asset types.
- Assets that are specifically excluded from this measure are outlined in the following link to the ATO factsheet https://www.ato.gov.au/general/capital-gains-tax/in-detail/calculating-a-capital-gain-or-loss/foreign-resident-capital-gains-withholding.
Where there are multiple buyers, the market value of all buyer interests in the transaction must be aggregated in examining whether the $2 million market value threshold has been reached. This ensures that joint purchasers cannot avoid the threshold.
Other practical implications
The new measure also raises a number of practical issues, as follows:
- When the buyer acquires property from multiple sellers, the obligation to withhold arises if any of the sellers is a relevant foreign resident. The amount to be withheld will be in proportion to each seller’s interest in the property with the total withholding equal to 10% of the entire purchase price unless appropriate documentation is obtained. As the clearance certificate or declaration only covers the seller that makes it, it may be in the interest of multiple sellers who are Australian tax residents to provide to the buyer the appropriate documentation.
- Whilst the new measure should not affect the majority of the residential market due to the exclusion for real property valued at less than $2 million, the de minimis threshold does not apply to indirect Australian real property interest. This may create an issue for example in the case of a sale of shares or units in a landrich company or unit trust unless appropriate declaration is obtained. Note the 10% CGT withholding applies regardless of whether the sale of shares or units will result in any CGT liability for the seller. This may be an issue for scrip for scrip transactions. The purchaser will still be required to make a cash payment to the Commissioner equal to 10% of the total consideration unless a declaration is obtained or for a foreign resident shareholder to apply to the Commissioner to vary the amount required to be withheld.
- The new measure affects all entities (including intra-consolidated group transactions) and applies where a member of a tax consolidated group purchases from another member of the same consolidated group an asset that is subject to the new withholding rules. The ATO has indicated that a clearance certificate can be applied for and issued either to the head company (with an attachment listing all members of the consolidated group to which it can apply), or to the subsidiary member of the consolidated group listed on the title of the property.
- The liability for failure to withhold is with the buyer. Therefore, when dealing with agents, if the buyer is aware that the seller’s address is outside of Australia (e.g., it is stated in the Property Sale Agreement), it would be crucial for the buyer to check whether the seller is in fact a foreign resident (even though this not a determinative test as to tax residency). It may therefore be prudent for the buyer to obtain the appropriate documentation (i.e., residency declaration or a clearance certificate) from the seller. According to the relevant explanatory memorandum, a buyer may rely on the declaration even though it may be inaccurate unless the buyer has specific knowledge that the declaration is false.
Where to from here?
Affected investors should consider the impact of the proposed measures on any contemplated transactions. For example they should consider whether they need to include residency declarations or ATO clearance certificates (for real property transfers) and other provisions relevant to the new withholding measures. They should also consider the impact of not obtaining these in a timely manner.