by Mary Swire, Tax-News.com, Hong Kong Tuesday, February 02, 2010

The Australian Private Equity & Venture Capital Association (AVCAL) has called on the Federal government to restore international investor confidence in Australia by clarifying tax policy in relation to the draft rulings/determinations from the Australian Tax Office (TD2009/D17 and D18).

The background to these draft rulings/determinations was the issuance by the ATO of an AUD452m (USD400m) tax demand on an offshore private equity fund behind the Myer department store float. The ATO was particularly exercised by the ownership structure of the department store group, Myer Holdings, with its three tiers of foreign ownership under the auspices of the TPG private equity group. The three tiers started with a Netherlands company, NB Swanston, owned by the Luxembourg-based NB Queen SARL, and then the Cayman Islands-registered TPG Newbridge Myer at the top of the ownership tree.

Australia's tax treaty with the Netherlands provides for income tax to be paid in the investing company's domicile, but EU tax rules allow tax exemptions on dividends received from outside the EU. Since there was no double taxation treaty with Luxembourg, there would have been no tax relief without the Netherlands company's juxtaposition within the ownership structure. The ATO used general anti-avoidance provisions of the Tax Act to impose a 30% corporate income tax on an estimated AUD1.5bn profit from the sale of Myer shares and another AUD226m as an avoidance penalty.

When the ATO publishes its determination, which most expect to confirm the validity of the tax claim, the Australian government will have to decide whether it needs to bolster its claim to be foreign investor-friendly by exempting such investors as TPG from paying capital gains tax on capital and revenue.

Presently foreign investors are supposed to be exempt from paying capital gains tax on capital, such as shares, but this advantage may be lost if the investor is deemed to have a "permanent establishment" in Australia, in which case it is considered income subject to capital gains tax. TPG has a liaison office in Australia.

AVCAL CEO Dr Katherine Woodthorpe said:

“If the Tax Office rulings/determinations are allowed to stand without appropriate legislative responses, there is likely to be a significant, long-term detrimental impact on a range of sectors including private equity and infrastructure.

“It is likely foreign investment into Australia will retreat significantly. There are already numerous examples of international investors standing back waiting for the government to clarify its policy intent. Our domestic superannuation funds will also find it more advantageous to invest in assets free from these policy and investment questions.

“The federal government must clarify the circumstances in which private equity funds are able to generate capital gains for their investors, who are almost unanimously domestic superannuation or OECD-based pension funds. Without clarity on this front, foreign investors will be unable to secure the intended outcome of the 2006 amendments to Australia’s tax laws, which determined that capital gains earned by foreign investors be taxed in the hands of those investors in their country of residence. The 2006 amendments brought Australia into line with other OECD countries."

“It is important to understand, for example, that Australian superannuation funds are not taxed on their investments in the United States. Changes of ATO interpretation of the law, undermining these long held reciprocal global practices, could pose risks to our superannuation industry on their offshore investments."

“For Australia to remain a competitive place to invest, offshore investors require investment vehicles structured wholly in accordance with tax laws in their own jurisdictions. Australian and international investors alike prefer to manage their own tax-affairs in their country of domicile."

"The use of efficient jurisdictions to pool investor capital commitments and then facilitate the return of investment proceeds to investors is a recognized and standard global practice. Indeed the federal government only recently re-endorsed the Australian Future Fund’s use of these offshore jurisdictions for these purposes."

A comprehensive report in our Intelligence Report series examining tax-sheltering arrangements for investors, including Venture Capital, Forest Finance and Film Finance in a number of key jurisdictions, is available in the Lowtax Library at http://www.lowtaxlibrary.com/asp/subs_reports.asp and a description of the report can be seen at http://www.lowtaxlibrary.com/asp/description_report5.asp