Practical issues for interest withholding tax and section 128F

At the 2018 Financial Services Taxation Conference in February, Ian Kellock and Bronwyn Kirkwood (both Ashurst), presented the session ‘Practical issues for interest withholding tax and section 128F’. 
The session provided an overview of the Australian interest withholding tax (IWT), the public offer test exemption from IWT under section 128F, and the exemption from IWT available to financial institutions under some of Australia's double tax agreements.

In 2019, Ian and Bronwyn will return to the Financial Services Conference to provide an update in the session ‘Interest Withholding Tax – Common Issues’, looking at practical IWT issues using examples and case studies, as well as where things stand with proposals to reform IWT.

We excerpt Ian and Bronwyn’s original paper from earlier this year in this post.

An overview of interest withholding tax 

Australia imposes IWT of 10% on interest paid by Australian resident borrowers not acting at or through a permanent establishment outside Australia, or non-resident borrowers carrying on business in Australia at or through a permanent establishment in Australia, (together, Australian Borrowers).

IWT is imposed to either non-resident lenders not deriving interest in carrying on business at or through a permanent establishment in Australia, or Australian resident lenders deriving interest in carrying on business at or through a permanent establishment outside Australia, (together, Offshore Lenders).

IWT can also apply to interest paid in relation to other relationships, for example, interest paid by an Australian guarantor to an Offshore Lender or interest paid by an Australian debtor to an offshore supplier. The focus of this paper will be on interest paid in respect of borrower/lender relationships.

Although the liability to pay IWT rests with the non-resident payee (e.g. the Offshore Lender), 3 an obligation to withhold and remit to the Australian Taxation Office the amount of IWT is imposed on an Australian resident payer of interest (e.g. the Australian Borrower) under Subdivision 12-F of Schedule 1 of the Taxation Administration Act 1953 (the TAA). The payer must withhold an amount under Subdivision 12-F of Schedule 1 of the TAA from a payment of interest if: the payee has an address outside Australia according to any record that is in the payer's possession, or that is kept or maintained on the payer's behalf; or b. the payer is authorised to pay the interest at a place outside Australia.

However, an amount is not required to be withheld if no IWT is payable in respect of the interest. This would include circumstances where a relevant exemption applies, such as the public offer test exemption under section 128F (discussed further below and in the paper) and the double tax agreement exemption for financial institutions resident in certain jurisdictions (discussed further below and in the paper).

Penalties may be applied against Australian resident payers that fail to withhold and remit the required amounts to the ATO and the payer may also commit an offence. Further, no deduction is allowed to the borrower in respect of an interest payment until the relevant amount has been withheld and the withheld amount remitted to the Australian Taxation Office.

Section 128F exemption 

An exemption from the requirement to pay interest withholding tax is available if the requirements of section 128F are satisfied.

Ian and Bronwyn note in the paper that, broadly, the exemption can apply to interest paid by a company (or certain trusts) if the company paying the interest is an Australian Borrower both at the time the relevant debenture or debt interest is issued and at the time the interest is paid. The interest must relate to either a debenture (e.g. note or bond) or a "debt interest" (which includes certain syndicated loans of over $100m). The debenture or debt interest must be offered in a manner that satisfies the "public offer test".

Satisfying the public offer test

The paper points out that the methods by which the public offer test requirement in section 128F(1) can be met vary depending on whether the interest is paid in respect of a debenture (or other form of permissible debt interest) or in respect of a syndicated facility agreement. These are discussed separately in the paper.

Ian and Bronwyn then cover a number of common scenarios, including: 

  • A borrower not in existence when invitation made 
  • An onshore arranger committing to part of syndicated facility agreement 
  • Commitments finalised – Bloomberg notice 
  • Offers to 11 investors 
  • Underwriting notes, as well as situations where a dealer wishes to retain some notes 
  • Tap issue 
  • Listing pricing grid on Bloomberg 
  • Amending an existing SFA 
  • New lenders
Overview of double tax agreement exemptions 

The Double Tax Agreements (DTA) between Australia and selected other countries provide for an exemption from IWT for interest paid to "financial institutions" (as defined). The relevant countries with which a DTA including the exemption exists are the United States of America, the United Kingdom, France, Norway, Finland, Germany, Switzerland, South Africa, and Japan.

The paper points out that IWT exemption in the DTAs is in recognition that a 10% withholding may be excessive given the cost of funds for financial institutions. The exemption is designed to reduce the cost of funds to borrowers who typically are required to gross up for IWT. The exemption is consistent with the exemption under section 128F.

Although the wording differs slightly between some of the DTAs, the exemptions essentially apply in the same circumstances.

The paper ends with a final scenario, looking at the application of DTA.

The paper is available to view here.

For more on the latest Interest Withholding Tax developments, join Ian and Bronwyn at the 2019 Financial Services Conference on the Gold Coast. Their upcoming session will focus on practical interest withholding tax issues using examples and case studies.

Examples to be addressed will include:

  • The financial institutions exemption under Australia’s tax treaties 
  • The application of s 128FA to trust borrowers 
  • Letter of credit facilities, the application of s 128F and the potential application of the non-resident insurer provisions 
  • Interaction of the interest withholding tax (IWT) rules with deeming rules (eg Divs 240 and 250) 
  • Gross-up clauses.

The Conference also features sessions on the taxation of digital business, recent developments in international tax, anti-avoidance and integrity rules in the Income Tax Assessment Act, ATO observations on tax and the financial services industry, accounting standard changes that impact tax, current issues for GST credit recovery in financial services, and stapled structures.

Find out more on our website.

Ian Kellock, CTA, is a Tax Partner at Ashurst and has extensive experience in Australian corporate and international tax, advising Australian and foreign owned banking and financial services groups. Ian’s practice primarily focuses on due diligence and structuring for mergers, acquisitions and divestments, financing transactions and group reorganisations. Ian has significant recent experience advising on all income tax aspects of financing and refinancing transactions and asset and debt reconstruction projects.

Bronwyn Kirkwood, CTA, is a Senior Associate at Ashurst in Melbourne. Bronwyn’s practice is in direct tax, with an emphasis on financial services and general corporate tax issues. Bronwyn’s experience covers a broad range of matters, including providing income tax advice for structured financing arrangements, securitisations, PPPs and mergers and acquisitions. She has significant experience in advising on exemptions to the application of interest withholding tax.


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