New Trans-Tasman Double Tax Agreement

The new Double Tax Agreement (DTA) between Australia and New Zealand is now in force. Following recent OECD changes to the model convention it was expected that there would be a fundamental shift in treaty negotiations. The recent amendments to the Australia/New Zealand Double Tax Agreement are an early example of this. Below, we examine some practical aspects of its implementation and risks for taxpayers.

Permanent Establishments

There have been a number of changes to the definition of permanent establishment which significantly broadens its scope.  Many taxpayers who previously would not have a taxable presence in one of Australia or New Zealand may now find that there are tax considerations to be addressed.

a. Sales Agents Beware - Contractual Authority and Negotiations

A wider dependent agent deemed permanent establishment test now applies where an entity has a dependent agent (e.g. an employee based in Australia or New Zealand) that has and habitually exercises authority to "substantially negotiate" or conclude contracts on behalf of an enterprise.

Previous wording had referred only to authority to "conclude" contracts. This change will have significant consequences for sales representative activities, which involve the negotiation of contracts in New Zealand on behalf of Australian principals or vice versa.

We consider that the permanent establishment test may now be expressed in terms of whether the contract would have been obtained if the sales agent had not been present irrespective of the formal legal terms. The answer is in the nature of determining substance over form.

In the past, negotiated agreements may have been forwarded to the Australian principal for "approval" to avoid the Australian principal having a permanent establishment in New Zealand under the dependent agent test. This is limited now in the new DTA and particular facts and circumstances will dictate the tax treatment. It is fair to say that in sales operations it would be prudent to assume a permanent establishment exists unless you can demonstrate otherwise.

Another point not expressly dealt with in the DTA but appearing in interpretations issued by tax authorities (e.g. USA) is in relation to determining whether an "Authority" to conclude contracts exists.

As indicated above, a dependent agent will be treated as a permanent establishment of the principal if the agent has and habitually exercises an authority to conclude contracts in the principal's name in the host country. An agent that concludes contracts in the name of the principal without express authority to do so may be treated under common law agency principles as having "apparent authority" if the principal does not object to such unauthorised conduct, and, in effect, manifests consent or acquiescence through silence.

Permanent establishment status cannot be avoided simply by prohibiting an agent "on paper" from concluding contracts (or in the case of Australia/New Zealand “substantially negotiating” contracts) in the name of the principal if, in practice, the agent habitually does so, without the principal's objection.

b. Provision of services

The new Double Tax Agreement between Australia and New Zealand has also amended the definition of a permanent establishment for services performed in one country by a resident of the other country.

Under the previous tax treaty, an enterprise conducting supervisory activities in the host state for more than six months in relation to a project was considered to be operating through a permanent establishment. However, under the revised Double Tax Agreement, an enterprise will be considered to be operating through a permanent establishment if an individual is present for more than 183 days within a twelve month period and active revenue is derived.  A permanent establishment will also be deemed to exist if services are performed by one or more individuals for the same or connected projects in the host state for an aggregate of more than 183 days within a twelve month period. Accordingly, the test is no longer limited to activities in connection with projects and time limit takes into consideration the cumulative time of all individuals working on the project.

In order to remove the compliance burden on the taxpayer, the revised tax treaty provides that services performed by an individual in the host state for a period that does not exceed five days shall be disregarded, unless the individual performs the services on a regular or frequent basis.

The new Double Tax Agreement also provides clearer guidelines in relation to the definition of ‘exploration activities’ and ‘substantial equipment’. Previously, an enterprise was considered to be operating through a permanent establishment if exploration activities were conducted, or if substantial equipment was used in the host state, regardless of the duration of the activities were conducted. The revised Double Tax Agreement has narrowed the definition to only include exploration activities if they are performed in the host state for an aggregate of more 90 days within a twelve month period. Similarly an enterprise will only be considered to be operating through a permanent establishment in the host state if substantial equipment is operated there for an aggregate of more than 183 days within a twelve month period.

Withholding Tax Rate Changes

A positive change which should promote greater trade and investment is the reduction in withholding tax rates on dividends and royalties. These changes are summarised in Table 1 below.

Table 1: Summary of changes to withholding tax rates

Dividends

The revised dividend provisions are significant and represent a major shift in this area of cross border cooperation.

The provisions will be extremely helpful in circumstances where the paying company has either unimputed/unfranked revenue reserves or capital profits, which would otherwise be subject to withholding tax on dividends. This provides planning opportunities in relation to the remittance of unimputed profits or capital gains on a tax free basis.

Broadly, no withholding tax is payable in situations where the company receiving the dividend owns directly at least 80% of the voting power of the company paying the dividend and meets other requirements.

In New Zealand, an application in writing is required for approval to obtain a zero-rated withholding tax determination under the DTA. This approval is required before payment of the relevant dividend.

Other withholding tax implications

Withholding tax on royalties has been reduced from 10% to 5% and the rate of withholding tax on interest paid to banks and other lenders or financiers has been reduced from 10% to zero. For interest derived from New Zealand, the zero rate will only apply if the approved issuer levy is paid.
Income from employment

The taxation of income from employment has been revised in the new Double Tax Agreement. An employee’s remuneration will generally be taxable in the country where the services are performed. However, under the new Double Tax Agreement, remuneration derived by an individual who is a resident of Australia on a secondment to New Zealand shall be taxable only in Australia where the individual is present in New Zealand for a total of no more than 90 days in any twelve month period.

Transfer pricing adjustments

The new Australia and New Zealand Double Tax Agreement has been amended to provide more certainty to taxpayers by restricting transfer pricing adjustments to within a seven year period. This however does not apply in the case of fraud, gross negligence or willful neglect.

If any of the above applies to you and you would like to discuss your specific situation, contact your usual Grant Thornton advisor or:

Jason Casas
National Leader - Transfer Pricing
T  +61 3 8663 6433
M  +61430 023 326
E  jason.casas@au.gt.com