Authors: Denis Hall, Partner – Property and Stefanie Cheong, Lawyer
On 3 December 2015, the Government introduced a new foreign resident capital gains tax (‘CGT’) withholding regime in the Tax and Superannuation Laws Amendment (2015 Measures No. 6) Bill 2015 (‘Bill’).
The Bill was passed by Parliament and on 25 February 2016, the Tax and Superannuation Laws Amendment (2015 Measures No. 6) Act 2016 (‘Act’) received Royal Assent.
The new regime will begin to apply to contracts and option agreements entered into on or after 1 July 2016. Additionally the new regime will apply to option agreements entered into before 1 July 2016, with an exercise date after 1 July 2016. The Act places an obligation on the Purchaser (with any residence status) of certain Australian assets to withhold and pay an amount, equal to 10% of the total purchase price to the ATO on or before settlement, where the Vendor is a relevant foreign resident.
In his speech to the House of Representatives, the Hon Alex Hawke MP (Federal member for Mitchell and Assistant Minister to the Treasurer) indicated the following rationale for the introduction of the new regime:
1. That ATO considers voluntary compliance with Australia’s current foreign resident CGT regime to be poor; and
2. There are practical difficulties in the ATO’s ability to effectively recover this tax from foreign residents after a transaction takes place, since the funds would likely be offshore and the foreign resident may otherwise have little connection to Australia.
Therefore, the new regime aims to:
1. Improve the integrity of Australia’s foreign resident CGT regime;
2. Assist in the collection of foreign residents’ CGT liabilities;
3. Ensure that foreign resident investors comply with Australia’s tax laws; and
4. Encourage participation and engagement by foreign residents with the ATO.
Who is liable to pay tax?
A statutory obligation is placed on the Purchaser to withhold and pay the 10% non-final withholding tax to the ATO. The Purchaser or their solicitor/conveyancer will be required to complete and lodge a payment notification form with the ATO on or before settlement. If the Purchaser fails to fulfil its obligations under the Act, they will be liable to pay a penalty equal to the amount that was not withheld and paid, as well as general interest charges.
However, as it is not a final tax, the foreign resident Vendor will remain liable for the CGT on the disposal of the asset. The Vendor must lodge an income tax return and pay any amount assessed by the Commissioner of Taxation, but will be entitled to claim a credit for any amount of the withholding tax paid.
Which assets are caught?
The withholding tax will apply to:
1. Taxable Australian Real Property (‘TARP’)g. land, buildings, residential and commercial property, leases over land;
2. An Indirect Australian Real Property Interest (‘IARPI’) e.g. shares in a land-rich company; or
3. An option or right to acquire the above property or interest.
What is excluded?
The withholding tax regime will not apply to:
1. Real property transactions involving TARP or company title interests valued under $2 million;
2. Transactions conducted through an approved stock exchange or crossing system;
3. An arrangement that is already subject to an existing withholding obligation;
4. A securities lending arrangement;
5. Transactions involving Vendors who are subject to formal insolvency or bankruptcy proceedings; and
6. Transactions where a clearance certificate or declaration is provided to the Purchaser on or before settlement (see below).
Bruce buys a residential property, worth $1.3 million. As the property’s market value is less than $2 million, he will not have to worry about the foreign resident withholding obligations.
Kate and Jim buy a commercial property, worth $3 million. As the property’s market value is more than $2 million, they will have to comply with the withholding rules under the Act.
Relevant foreign resident vendors
The withholding obligation arises if the Vendor is a relevant foreign resident. Section 995(1) of the Income Tax Assessment Act 1997 (Cth) generally defines a foreign resident to mean a person who is not a resident of Australia for the purposes of the Income Tax Assessment Act 1936 (Cth).
However, for the purposes of the new regime, the Vendor will be a “relevant foreign resident” if:
1. For an IARPI or options and rights to acquire TARP or an IARPI (‘knowledge condition’):
(a) The Purchaser has knowledge, or reasonably believes the Vendor is a foreign resident;
(b) The Purchaser does not reasonably believe that the Vendor is an Australian resident and the Vendor has:
(i) given to the Purchaser an address outside Australia; or
(ii) authorised the Purchaser to pay an amount to a place outside Australia.
2. The Vendor has a type of connection outside of Australia as prescribed in the regulations (none proposed at the moment);
3. The Vendor sells the following assets:
(a) TARP; or
(b) An IARPI which results in a company title interest in land.
Example 3 (from the Tax and Superannuation Laws Amendment (2015 Measures no. 6) Bill 2015 Explanatory Memorandum p. 57):
Andrew enters into an off-market transaction to acquire all of the shares in a company. The majority of the company’s investments are in real property holdings throughout Australia. The shares, therefore, constitute indirect Australian real property interests. Andrew does not know the Vendor of the shares. Under the terms of the sale contract, Andrew is to transfer the purchase price of the shares to an overseas bank account in the name of an associate of the Vendor. At this stage, the knowledge condition is satisfied.
Commissioner clearance certificates and declarations
The Vendor will also be taken as a “relevant foreign resident” where:
1. If the asset is TARP or IARPI that constitute company title interests, the Vendor has not obtained nor shown a valid clearance certificate from the ATO to the Purchaser on or before the settlement of the transaction;
2. If in the case of other types of property that is covered by the new regime:
(a) The Vendor fails to provide to the Purchaser a signed declaration that they are an Australian tax resident (‘residency declaration’); or
(b) The Vendor provides to the Purchaser a residency declaration which the Purchaser knows to be false.
3. If the asset is a membership interest:
(a) The Vendor has not made a written declaration that the membership interest is not an indirect Australian real property interest (‘interests declaration’); or
(b) The Vendor has made an interests declaration which the Purchaser knows to be false.
Vendors or their representative can apply for a clearance certificate at any time in the sale process (i.e. even before the property is listed for sale). Currently, the ATO has made available a manual application form, however it is in the course of implementing an automated process for obtaining clearance certificates. An online application form is expected to be available on the ATO website from 27 June 2016. Under this process, certificates are expected to be provided within 1 to 14 days if it is a straightforward case. Otherwise, they could be issued within 14 to 28 days, and in higher risk and unusual cases, the process may take longer. The clearance certificate will be valid for 12 months from the date it is issued and can be used by the Vendor for the sale of multiple properties within that period.
There is no particular form that the Vendor must use to make a declaration, but templates for this will be downloadable on the ATO website from 1 July 2016. Declarations will be valid for a maximum of 6 months from the date it is made by the Vendor.
Example 4 (Ibid p. 53):
Sam purchases real estate in Melbourne from Lucas for $3 million. Although Lucas is an Australian resident, unless Lucas provides Sam with a clearance certificate from the Commissioner of Taxation on or before settlement, he will be considered a relevant foreign resident. Therefore, Sam would need to make a withholding payment of $300,000 to the ATO under the new law.
All Vendors and Purchasers, including Australian residents, transacting the sale of real property assets or interests that are caught by the Act should ensure that the Contract for Sale either attaches a clearance certificate from the ATO or includes a special condition making the Contract conditional upon the Vendor providing to the Purchaser a clearance certificate or a residency/interests statutory declaration, to ensure that the withholding tax regime does not apply to their transaction.
A printable version of this article can be viewed here.
If you have any questions regarding foreign resident capital gains withholding tax or you would like further information about property law or foreign investment in Australia, please contact the author of this article Director – Real Estate & Developments, Denis Hall at firstname.lastname@example.org or call +61 2 8022 1222
Madison Marcus Law Firm produced this article. It is intended to provide general information in summary form on legal topics, current at the time of first publication. The contents do not constitute legal advice and should not be relied upon as such. Formal legal advice should be sought in particular matters.