Australian R&D tax incentives â another reason for ... - PwC

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TaxTalk – Electronic Bulletin of Australian Tax Developments access to the additional 75% deduction until at least 2012. Where neither a company nor any associate has been present in Australia for at least 10 years (including a branch operation), the prior history is deemed to be zero and therefore all of the R&D expenditure in the first year could be claimable at the 175% rate. To illustrate this, if such a company spent $10 million on qualifying R&D in a technical centre, it would get an additional tax deduction of $7.5 million in year one, which is a tax benefit of $2.25 million. This treatment presents opportunities to those international groups who have not previously been in the Australian market, or at least not at any time during the past 10 years. It could be attractive, for example, if such a group wished to establish a technical centre in Australia to carry out R&D for the wider group. For a period of years, the effective Australian tax rate could be quite low, thus benefiting the international group overall. This tax break adds to the attractiveness of Australia as an R&D centre in terms of new entrants, as it represents a very competitive tax outcome. Setting up new R&D facilities in Australia is a win-win situation for international groups shifting R&D to Australia, as well as for the Australian economy. For further information, please contact your usual PricewaterhouseCoopers adviser, or: Gary Waugh, Partner PricewaterhouseCoopers Tax Research & Development Phone: +61 7 3257 8694 gary.waugh@au.pwc.com Sandra Mason, Partner PricewaterhouseCoopers Tax Research & Development Phone: +61 2 8266 0470 sandra.mason@au.pwc.com Tony Baxter, Partner PricewaterhouseCoopers Tax Research & Development Phone: +61 3 8603 4209 tony.baxter@au.pwc.com Corporate tax developments Thin capitalisation: how safe is the safe harbour? Draft Taxation Determination TD 2007/D20 issued on 28 November 2007, discusses the inter-relationship between the ‘transfer pricing provisions’ and the thin capitalisation (TC) rules in relation to ‘debt deductions’ i.e. the price of debt that may be deductible for tax purposes. The Draft Determination states that the transfer pricing provisions cannot be applied where they would defeat the operation of the TC provisions which allow an entity to select a statutory safe harbour debt amount. The transfer pricing provisions cannot be applied to completely deny deductions for funding costs on debt that is not “excess debt” for TC purposes merely because those deductions relate to a portion of the total debt funding that might be considered excessive when compared to the debt levels that would be required for the entity to be regarded as an independent entity dealing wholly independently in respect of its debt funding arrangements. However, the Commissioner’s view is that where an entity does not have excess debt for TC purposes, that does not mean that the transfer pricing provisions cannot be applied to adjust the pricing of the associated costs with reference to what is considered to be the appropriate debt/equity level if the company had been ‘financially independent’. The Determination illustrates this scenario by way of an example. In the example, a company (not being an authorised deposit-taking institution) has a debt level of $300 million with a 20% per annum interest rate applying. The loan has been provided by the foreign parent, which is resident in a country which has a double tax treaty (DTA) with Australia. The company has equity of $100 million and a safe harbour debt amount under the TC provisions of $300 million. The interest rate on the debt has been set to reflect the fact that, by reference to industry standards, the company is thinly capitalised. Additional facts from the example are that if the company had been ‘financially independent’, the interest rate payable by the company on its debt would have been 10% per annum, because the company would have had less debt and more equity. Thus the draft Determination states that the interest deduction for the year should be reduced under the ‘transfer page
TaxTalk – Electronic Bulletin of Australian Tax Developments pricing provisions’ from $60 million to $30 million before applying the TC rules. Since the company’s debt level is not greater than the TC safe harbour debt amount, there would not be a disallowance of any part of the $30 million deduction under the TC rules. The Commissioner appears to have formed the view illustrated by the example by effectively incorporating provisions of Australia’s DTAs (namely the Business Profits Article and Associated Enterprises Article) into the transfer pricing provisions in the Income Tax Assessment Act 1936. In the opinion of PricewaterhouseCoopers this approach is contrary to long-established and publicly stated administration of the transfer pricing provisions by the ATO as well as the arm’s length principle supported by the OECD. Furthermore, the proposed approach would appear to be contrary to the policy intention behind the TC regime. PricewaterhouseCoopers have raised these concerns in representations made to the Australian Taxation Office (ATO) with regard to the draft Determination. When the final Determination is issued, it is proposed to apply both before and after its date of issue. Reconsideration of consolidation uplift involving scrip for scrip arrangements In our November 2007 edition of TaxTalk, we reported that the Minister for Revenue and Assistant Treasurer, Peter Dutton, had announced that the Government intended to change the tax consolidation rules. This change is to ensure that when an entity joins a consolidated or a multiple entry consolidated (MEC) group following a capital gains tax (CGT) roll-over affecting the membership interests of the joining entity, the tax cost setting rules will not apply to uplift the costs of the joining entity’s assets. With the change in Government, the new Assistant Treasurer, Chris Bowen, made an announcement on 11 January 2008 stating that the new Government would now be moving to allay concerns in industry regarding Mr Dutton’s previous announcements, given the disruption they have had on the operation of Australian capital markets, and in particular scrip for scrip transactions. Mr Bowen said - “It is quite clear that there was insufficient consultation with the private sector by the previous Government in relation to this decision. I have asked the Treasury to consult with the private sector about how this situation will be resolved. This situation is quite urgent, it is necessary that this consultation be conducted expeditiously, and be completed by mid-February. It is necessary to ensure that the changes protect public revenue while not having the unintended consequence of hindering the operation of scrip for scrip transactions. Accordingly, I have asked that the consultation focus on ensuring non-contrived commercial takeovers involving an exchange of scrip are not affected by the changes”. With capital markets already in the midst of ‘sub-prime’ concerns, it is hoped that this matter can be expeditiously and sensibly resolved. Convertible notes and the debt and equity rules Draft Taxation Ruling TR 2007/D11, issued on 28 November 2007, sets out the Commissioner’s preliminary view as to whether the issuer of a convertible note has an ‘effectively non-contingent obligation’ to provide ‘financial benefits’ for the purposes of the debt test in the tax law in circumstances where the issuer can, at any time of its choosing, exercise a discretion to convert the note into an equity interest in the issuer company. TR 2007/D11 replaces draft Taxation Determination TD 2004/D76, which is withdrawn on and from 28 November 2007. To the extent that the Commissioner’s views in that draft Taxation Determination still apply, they have been incorporated into TR 2007/D11. TR 2007/D11 applies to issuers of a convertible note where the convertible note is issued by a company to a lender for a fixed or indefinite term, with the following features: • for the purposes of the debt and equity provisions, the convertible note is issued under a scheme that is a financing arrangement for the issuer and is issued by a company for an issue price • the issuer has the right to terminate the convertible note at any time by providing shares that are ‘equity interests’ in the issuer, and • alternatively, the issuer must return the issue price to the lender at the end of the life of the convertible note. The draft Ruling states that the issuer of a convertible note that can be converted at any time, at the issuer’s discretion, into a share that is an equity interest in the issuer, will not have an effectively non-contingent obligation to provide financial benefits for the purposes of the debt test, unless that option to convert should page
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