Treasury has released a revised version of draft provisions which will deny large Australian businesses deductions for payments connected with intangibles made to associates in low tax jurisdictions. The revisions were made in light of submissions on the March version of the rules, and according to the announcement, will “better achieve the policy intent.” This Tax Insight looks at some of the things that have – and haven’t – changed. Our Tax Insight on the March version of the rules is available here.

Some key changes

Interaction with royalty withholding tax and CFC rules

These provisions are directed at multiple targets – protecting royalty withholding tax where royalty-like payments do not meet the definition of “royalty,” stopping inappropriate access to the reduced rates of royalty withholding tax provided in our tax treaties, and stopping the leakage of income into tax havens. In theory, therefore, they should not be enlivened if:

  • the payment was actually a “royalty” as defined and so attracted royalty withholding tax on the way out of Australia, or
  • Australia already negates the benefit of the low tax rate enjoyed in the tax haven under our CFC rules – that is, the payment is attributable income of an Australian resident shareholder of a CFC, or
  • the rest of the world negated the low tax rate enjoyed in the tax haven through the imposition of Pillar Two measures. (Under the proposed law, one part of the definition of a “low corporate tax jurisdiction” is where a country’s corporate tax rate is below 15%, which is the rate that countries which enliven Pillar Two rules will be visiting upon income earned in the haven.)

None of these exceptions existed in the March version of the rules.

A new provision has been added in the June version to address the first point: the amount of deduction being denied will be reduced to the extent of any royalty withholding tax remitted to the ATO on the payment. The mechanics of the reduction converts the amount of royalty withholding tax paid back into the amount of a deduction. So, for example, remitting $30 of royalty withholding tax on a $100 royalty payment, will immunise the entire $100 from being made non-deductible.

But the calculation subverts the benefits of Australia’s treaties, whether or not there is any “abuse” of the treaty involved: if the payer remits only $10 of royalty withholding tax on a $100 royalty payment, only $33 is immunised and the remaining $67 is still non-deductible. (Indeed, it is hard to see why the regime needs to apply at all to payments which have survived scrutiny under the multiple tests protecting our treaties from abuse: the purpose test in the royalties article, the principal purpose test and limitation on benefits clauses.)

And it is worth noting, the provision does not take into account the impact of any royalty withholding tax levied by an intermediary country through which the payment might flow prior to reaching the “low corporate tax jurisdiction” destination.

With regard to the second point, the revised draft now addresses the scenario where Australia negates the benefit of the low rate enjoyed in the tax haven under our CFC rules. The income will not be regarded as derived in a “low corporate tax jurisdiction” to the extent that the amount is included in the assessable income of the Australian resident shareholder under our CFC rules.

Interaction with Pillar Two

But the Government has not yet been willing to address the third point: the significance of the Pillar Two measures on this rule. Under both versions of the rules, whether or not a country is a “low corporate tax jurisdiction” depends on “the rate of corporate income tax under the laws of that foreign country.” So even if the rest of the world applied Pillar Two measures to impose an effective 15% rate and negate the low tax rate enjoyed in the tax haven, that tax will not count (although a domestic minimum tax levied in the tax haven might count, depending on how it is implemented).

The announcement accompanying the revised draft rules said only, “the Government is further considering interactions of the intangibles measure with global minimum taxes and domestic minimum taxes.”

Earned in a “low corporate tax jurisdiction”

One of the key requirements for triggering the new rule is that an associate of the payer derives the relevant income (income from exploiting an intangible asset) “in a low corporate tax jurisdiction …” Our previous Tax Insight highlighted the confusion in the definition of “low corporate tax jurisdiction”: at some places, the drafting refers to the headline corporate tax rate, at other places it refers to the rate of tax imposed on a particular class of income, and at other places it refers to matters which go to the effective rate being paid by a particular taxpayer. The revised Exposure Draft makes two changes aimed at clarifying the confusion about when this test is met.

(a)   A “low corporate tax jurisdiction …”

First, the revised Draft and the Explanatory Memorandum try to be more explicit that the test of whether a country is a “low corporate tax jurisdiction” is determined by looking at the headline rate: it is the top headline rate of corporate tax, applicable to the largest taxpayers, in respect of income derived in the ordinary course of carrying on business, and disregarding any concessional rates applicable to particular industries [eg, oil and gas] or income or taxpayers, and disregarding the effect of their personal circumstances [the impact of deductions, tax credits, tax losses, and so on].

These changes should mean that a country will not be a “low corporate tax jurisdiction” just because there is no income tax on a particular class of income or if there are concessions for particular industries. But the matter is not clear because the drafting is still inconsistent: on the one hand, the legislation says to, “disregard the effect of … exemptions for particular types of income …”; on the other, it insists that only the lowest rate is considered if, “there are different rates of income tax for different types of income …”  Taken literally, this would lead to the absurd outcome, that if (say) income from oil and gas is exempt, the national headline rate applies, but if there is a low rate on oil and gas, it applies instead of the headline rate.

Two examples in the Explanatory Memorandum which go some way to clarifying the confusion, though one must always treat EMs with caution:

  • the first example says a country is a “low corporate tax jurisdiction” if the headline rate on business income is 10%, even if passive income [ie, the payment leaving Australia] might be taxed at 22%;
  • the second example says a country is not a “low corporate tax jurisdiction” if the headline rate is 20%, even if (say) manufacturing income is taxable at 10% and capital gains are not taxed.

But the problem for the drafters is obvious: deciding whether a country is, as a whole, satisfactory or not, must start with the tax rate, but it can’t really stop there if the tax base is thoroughly riddled with exempt items of income.

(b)   “Subject to foreign income tax”

The second change is a new provision added just for the purposes of the royalties measure. It says, income will not be regarded as derived in a low corporate tax jurisdiction to the extent that, “the income is, or will be, subject to foreign income tax at a rate of 15% or more …”  This provision picks up the definition of “subject to foreign income tax” from the anti-hybrid rules: the amount is “subject to foreign income tax” if it is included in the tax base of a foreign country.

It is tempting to see this provision as intended to counter the first example: even though a country as a whole is a “low corporate tax jurisdiction” because its headline rate is 10%, the impact of the new rule would be switched off if this income is “subject to foreign income tax” at a rate of 22%. Unfortunately, there is no indication in the Explanatory Memorandum about just what this core part of the new provision achieves.

Instead, the Explanatory Memorandum focuses on another part of the new provision: what happens when some elements of the definition of “subject to foreign income tax” are removed when the definition is employed in the royalties measure. In the anti-hybrid rules, an amount is not viewed as “subject to foreign tax” if some third country’s anti-hybrid rules are triggered, or if the amount is subject to a foreign State or municipal tax. These exclusions are switched off for the royalties measure and so amounts taxed under anti-hybrid rules or by State and municipal taxes will be viewed as “subject to foreign income tax.”


Another change introduced in the June version is to double the penalties that are triggered if a tax shortfall arises (because of a failure to take reasonable care, recklessness or intentional disregard of the provisions) with respect to the application of these provisions. The separate penalty for making a false and misleading statement, even where no shortfall arises, is also doubled. The doubling of these penalties is in addition to the automatic doubling of penalties that already applies for a significant global entity.

Some things haven’t changed

Some key terms used in the original draft have not been changed. In particular, the revised draft does not change some of the key imponderables:

  • when a payment is “attributable to” a right to exploit an intangible asset;
  • how to apportion a single payment if it is both “genuinely made as consideration for other things …” as well as for “a right to exploit an intangible asset …”;
  • when does the transaction involve “a right to exploit an intangible asset” that turns out to be “a right in respect of, or an interest in, a tangible asset” or land or equity interests or a financial arrangement;
  • when an acquisition happens under “an arrangement” between the taxpayer and its associate, or under a “related arrangement”;
  • when an arrangement produces the “result” that income is being derived in a low corporate tax jurisdiction.

Nor has the Government accepted submissions that these rules should explicitly state they are enlivened only where there is evidence of a purpose of avoiding tax. The Explanatory Memorandum refers to the measure as “an anti-avoidance rule designed to deter SGEs from avoiding income tax …” but the rules do not depend on any finding about purpose or intention. The only comfort comes from passages in the Explanatory Memorandum which say the rules don’t apply to transactions and structures which are “genuine” though it is hard to see how that comes about.

Further consultation and start date

While Treasury has revised its Exposure Draft, there is no indication in the announcement about a process for further consultation – the period for consultation on the March version closed in April and there is no public evidence of any extension or restart. Releasing the document as an Exposure Draft suggests Treasury may be willing to receive feedback on this text, but the absence of an explicit process suggests otherwise.

Even though the legislative process hasn’t even started – the Government has yet to introduce a Bill into Parliament – the Government has decided not to delay the commencement of the new provisions. Consequently, these rules – whatever they may end up saying – will apply to any payments made after 1 July 2023, if they are enacted as currently written.

Key contacts

Hugh Paynter
Hugh Paynter
+61 2 9225 5121
Toby Eggleston
Toby Eggleston
Partner, Melbourne
+61 413 151 183
Ryan Leslie
Ryan Leslie
Partner, Melbourne
+61 418 186 499
Nick Heggart
Nick Heggart
Partner, Perth
+61 437 001 229
Graeme Cooper
Graeme Cooper
Consultant, Sydney
+61 2 9322 4081
Jinny Chaimungkalanont
Jinny Chaimungkalanont
Partner, Sydney
+61 418 479 417