On the 23rd of July, Treasury issued a consultation paper, entitled Strengthening the foreign resident capital gains tax regime (the Consultation Paper). This follows the Government’s announcement in the 2024-25 Budget to put in place certain measures concerning foreign residents and capital gains tax.
Notably, it is proposed that a pre-completion ATO notification requirement be introduced where a foreign resident seller is disposing of shares and other membership interests (eg units in a trust) exceeding $20 million in value.
Background
This change is being proposed (very broadly speaking) due to a requirement in the taxation law for purchasers to withhold tax from the purchase price (and remit that to the ATO directly) in a transaction involving shares in a company or units in a trust, where the seller is a foreign resident and the company or trust holds Australian real property. Most sale and purchase agreements were amended in recent years to address this by including a vendor declaration that the sale does not relate to an ‘indirect Australian real property interest’. Under the taxation law, as currently drafted, the purchaser doesn’t need to withhold tax if they have one of these declarations (unless the purchaser knows the declaration to be false at the time it is given).
However, it may be difficult for a purchaser to know if the declaration is false or not. In the Consultation Paper, Treasury provides as an example the recent court case of Deputy Commissioner of Taxation v State Grid International Australia Development Company Limited [2022] FCA 139. In that case a foreign shareholder of an Australian energy company was selling their membership interests worth approximately $2.8 billion, resulting in an estimated $220 million of capital gains at risk. The foreign resident entity provided a vendor declaration to the purchaser in respect of the sale, and the purchaser was not required to withhold tax on the purchase price (in line with the current legislation). However, the ATO became aware of the transaction around the time of the publication of the transaction scheme booklet, which included legal advice that the membership interests “should not give rise to an indirect Australian real property interest”. The ATO contested this position. In preventing the sale proceeds leaving Australia, both the ATO and the taxpayer incurred significant transaction costs, specifically the ATO who issued a notice of assessment and successfully obtained urgent freezing orders in the Federal Court the day before the disposal proceeds were due to be remitted offshore.
Observations on what is being proposed
The Consultation Paper is proposing to introduce the following new process:
- Foreign vendors are required to determine if the interest being sold has a market value of more than $20 million.
- If yes, at least 28 days before completion/settlement, the foreign vendor must lodge a notification (in an approved form yet to be determined) to the ATO. The ATO will auto-issue a receipt.
- The foreign vendor will then provide the declaration and receipt to the purchaser.
- Prior to completion, the ATO will decide whether to intervene and notify the foreign vendor and the purchaser that withholding of the purchase price must occur.
Some initial observations include:
- This proposal will impact every M&A transaction involving a foreign seller where the enterprise value for the deal is at least $20 million.
- This new process will need to be factored into every transaction timetable and ideally attended to well in advance of when the transaction is proposed to complete.
- The policy intent is that the notification requirement is not intended to delay commercial transactions, it nonetheless is an additional variable that must be managed.
The National Taxation Group can assist with any aspect of the process being proposed by the Consultation Paper. The closing date for submissions relating to the Consultation Paper is 20 August 2024.
This article was written by Nima Sedaghat, Partner.
