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The May 2010 issue of the Tax Intelligence Report profiles the impressive tax career of Peter Capodistrias who is Tax Partner with Minter Ellison Lawyers (www.minterellison.com) in Sydney, Australia. Minter Ellison Lawyers is one of the largest full-service law firms in the Asia Pacific region with more than 280 Partners located throughout Australia, Hong Kong, The Peoples Republic of China, Indonesia, New Zealand and the United Kingdom. Peter Capodistrias has a broad range of experience in federal revenue laws advising on a wide range of domestic and international tax matters including corporate and commercial structuring, mergers and acquisitions, capital management arrangements and financial product design. We appreciate the opportunity to interview Peter this month and learn more about Australian tax law. He is a personable and remarkably intelligent man who is kind enough to share his knowledge of Australian tax law.


All the best,

Kathleen Jennings
Editor, The Tax Intelligence Report
President
ET Search, Inc.
Kathleen@etsearch.com
www.etsearch.com
Social Networking Email Address:
KathleenKittyJennings@etsearch.com

Peter Capodistrias is Tax Partner with the law firm Minter Ellison, Sydney, Australia. Minter Ellison is one of the largest law practices in the Asia Pacific region with more than two hundred eighty Partners and more than one thousand legal staff located throughout Australia, Hong Kong, The People’s Republic of China, Indonesia, New Zealand and the United Kingdom. Peter Capodistrias advises on multinational corporate and commercial structures, mergers and acquisitions, capital management arrangements and financial products design. He also advises financial institutions including banks, fund managers, insurers and property vehicles on a wide range of transactions.
Peter Capodistrias joined Minter Ellison in Sydney, Australia as Tax Partner in 2004. Prior to Minter Ellison, Peter was a Tax Partner for ten of the fifteen years he was with Ernst & Young in Sydney. Prior to that, he was with KPMG, Sydney, Australia for six years and he was with the Australian Revenue Authority for four years. Peter is admitted as a Solicitor in New South Wales and earned a Bachelors of Arts and his Masters of Law degrees from the University of Sydney, Sydney, Australia.

KJ- What should foreign investors know about investing in Australia?

PC- Although Australia has a relatively small population, the tax rules are sophisticated and complex. We are a ‘net’ capital importer and though we have tax rules such as our Thin Capitalization rules to protect our tax base, we also have concessional withholding rules that allow Australian operations to access offshore capital markets without Australian withholding tax liabilities. The Australian Government is keen to promote Australia as a regional financial service centre and has introduced a number of initiatives. It has also commissioned a number of reviews to consider measures to ensure that our tax rules are updated to make Australia globally competitive. The reviews are amongst other things looking at ways to simplify our tax laws and make it easier for foreign investors to invest in the Australian economy.
Our tax rules are predominantly based on UK common law concepts with statutory modifications, though we have also borrowed concepts from US and Canada. Our more recent tax rules have been based on ‘principals based’ drafting and have a more ‘substance over form’ approach . Our courts are also adopteing a more ‘substance over form’ approach in their interpretations. In addition to complying with our ‘primary tax’ rules foreign investors should be aware that our tax rules also contain a number of both specific and general ‘integrity’ measures which need to be taken into account when structuring investments into and out of Australia.

KJ- What is an integrity measure?

PC- When I referred to integrity rules I was referring to our anti avoidance provisions. There are a range of specific rules and one ‘general’ anti avoidance rule. The general anti avoidance rule operates where an arrangement is entered into with a dominant purpose of achieving the tax benefit. Therefore, non-resident investors (and indeed all taxpayers) should ensure arrangements that they enter into are commercially robust. Though there may be different ways of structuring an investment (i.e. to optimize tax efficiency) the structure should be ‘commercial’ in order to mitigate risk of the tax outcome being compromised by the anti avoidance rules. In this context, when advising non–resident investors we ensure that the initial structure incorporates the income/capital repatriation requirements of the investor as well as managing the exit strategies. Given that tax rules and interpretation may change over time the structures and arrangements should ensure that they are sufficiently flexible to accommodate legislative changes and the interpretations of the law by our tax authorities and the courts.
The government has over the past few years introduced a number of changes to our tax laws, which are generally positive including changes to our capital gains rules, changes to our taxation of financial arrangements and withholding tax rules for domestic collective investment vehicles. The government has also announced changes to our foreign accrual rules that will simplify Australian foreign investment and may allow non-residents to market their product into Australia without tax impediments. As mentioned the government has also commissioned a number of reports that should make the tax outcome more consistent with the commercial outcomes. However the most significant and widely anticipated of the reports is the Henry Report which was just announced by the Australian government.

KJ- What is the Henry Report?

PC- The Henry Report (named after it's Chair, Dr. Ken Henry, who is Secretary of the Treasury) was commissioned by the Australian government to consider:

the challenges facing Australia that need to be addressed through the tax transfer system;
the features the tax system should have to respond to these challenges;
the problems with the current tax system; and
what reforms are needed to address these problems.
The Report looks at a wide range of issues, including the tax revenue mix, retirement incomes, complexity, tax transfer impacts on the environment and natural resource charging, and is expected to lay down a ‘blueprint’ for tax reform. We have gone through this review process every ten to fifteen years since the 1960s. The previous report (the Ralph Report in 1999) resulted in a number of significant initiatives being implemented (such as tax consolidation for company groups, and new rules for taxation of financial arrangements, which are radically different from the way we historically looked at financial arrangements). There were a number of other proposals which were not accepted by the government at the time (such as ‘entity’ taxation and a ‘balance sheet’ basis of taxation). Our laws have also moved from a ‘form’ based approach to a current ‘substance’ based approach. The Henry Report looks at a number of tax issues (outside the Goods and Services Tax), including resource rent taxes, road use taxes (instead of petrol taxes) and a wide range of issues.

KJ- Is there a partnership tax in Australia?

PC- A general partnership is fiscally transparent, that is, partners are taxed on partnership income and losses at the partner rate (e.g., at the corporate rate or individual rate as applicable). However, an Australian limited liability partnership is taxed at a corporate rate.
We utilize trusts quite extensively in Australia. They are partially transparent (that is, the income is passed through to beneficiaries however the losses are retained in the trust). The use of the loss within the trust is subject to a number of integrity rules. Australian collective investment vehicles are generally structured as trusts, including property and equity funds, and are similar to your mutual funds or REIT’s. In order to retain their transparent nature, a trust must limit its activity to what is referred to as ‘eligible investment business’ which is broadly passive activity. This means those funds do not pay income taxes themselves, but rather the beneficiaries that receive a distribution from the trust bear the tax liability based on their share of the distribution. As the trust are required to distribute their income to pass through the tax liability to the beneficiary the trust can’t be used as a retention vehicle.

KJ- What is the climate like in Australia in terms of the focus on the audit of multinational corporations?

PC- The Australian Taxation Office (ATO) is quite active. It publishes annually the list of areas that they are going to focus their audit activities on. The 2009/2010 list refers to losses in companies and the use of those losses (a consequence of the GFC), thin capitalization, consolidation, mergers and acquisitions, cross border financing, capital gains rules and withholding tax.

KJ- What does it mean when you to say Australia has a “self-assessment” regime?

PC- Self-assessment means that taxpayers determine their annual tax liability, file their annual tax return and pay the tax. Generally they do not supply transaction documents etc. when lodging their returns. A taxpayer can however seek a binding private ruling from the ATO before they lodge their tax return, to confirm the tax treatment of a contentious tax issue.
Once the return is lodged the ATO compares the revenue and expenses ratios with other businesses in the relevant industry and may chose to audit based on a ‘risk analysis’.
In the context of transfer pricing arrangements, for example, the taxpayer must complete a particular schedule called Schedule 25A that attaches to the corporate tax return. The ATO generally focuses on a range of industries annually and benchmarks one organization against the others. For example, they may benchmark the relevant taxpayer against the rest of that industry sector to determine if they are reporting similar income or losses in comparison with other company’s who are producing the same or similar products. Variation from the benchmark may lead the ATO to conduct an initial review to determine whether it is appropriate to move on to an audit of the company. There may be very good reasons why the company is outside of the benchmark for that particular industry. Therefore, organizations that have conducted a functional analysis of their operations risks and market in setting the appropriate price for services or product, selected the appropriate methodology, and have comprehensive documentation in place at the time of the transactions, will be better prepared to address the ATO’s concerns, and reduce the risk that the ATO will move to a full audit. Whereas, if the organization has limited contemporaneous documentation to support the pricing then it is more likely that the ATO would review the organization and perhaps proceed to a full audit.

KJ- What type of taxes do you have in Australia and what government agencies are they paid to?

PC- We have Federal income tax which is paid to the Australian Tax Office (ATO). We do not have any State income tax. The corporate income tax rate is 30% and the individual tax rate is a progressive tax rate scale (up to 45%, plus Medicare Levy of 1.5-2.5%). Our superannuation funds (i.e. pension funds) are concessionally taxed at 15%. Certain capital gains are concessionally taxed, if the taxpayer is not a company, and they hold the asset for more than 12 months. The taxable gain is reduced by 50% for individuals (by 1/3rd for pension/superannuation funds, so the effective tax rate is 10%). We also levy tax on the employer at 46.5% in respect of the ‘grossed up’ value of certain non-salary benefits provided to employees. Employers are also effectively required to make contributions to Australian superannuation funds for the benefit of their employees (at 9% of ordinary time earnings up to a maximum quarterly ‘cap’).
In addition to excise taxes on items such fuel, tobacco and alcohol, we also have a 10% Goods and Service Tax (GST) which is a value added consumption tax.
The States and Territories levy a number of other taxes. In particular, we have a transaction tax (stamp duty) which most materially impacts on real estate or land rich entities transactions. The rate varies depending on the State from 4% to 6.75% for example. When you buy real estate or shares in a company or trust that contains land, stamp duty may be imposed on the transaction. It is a transaction tax (i.e. it is not an annual tax). There are also certain land taxes, again levied at different rates depending on the State. This is an annual tax. We also have payroll taxes which employers pay on the amount of salary and wages they pay. The rates also vary depending on the particular State or Territory. The stamp duty payroll and land taxes are paid to the relevant State or Territory revenue authority.

KJ- What is an important difference between U.S. and Australian tax?

PC- An important difference between the US income tax and Australian income tax is that Australia has an imputation regime. This means when a company pays tax and pays a dividend from taxed profits, the recipient of the dividend gets a credit for the tax paid by the company. For example, a company makes a profit of $100.00; the company pays income tax of $30.00 and then has $70.00 in cash available to pay to a shareholder. The shareholder will receive $70.00 but will be taxed on $70.00 plus an ‘imputation’ amount of $30. This means the shareholder will be taxed on $100.00 at their marginal tax rate. Let’s say the shareholder’s marginal tax rate is 40% but they will get a credit for 30% (that is, the tax at the company level). Effectively, the $70.00 in cash that the shareholder received means that they really will only have to pay $10.00 on the $70.00. If the shareholder’s marginal tax rate is indeed less than 30% then they get a refund of the difference. For example, our pension/superannuation funds are taxed at 15% on the $100 when they receive the $70.00 dividend, but with the credit of $30 will claim a tax refund of $15. Another key difference is that Australia does not generally have an equivalent of the US ‘check the box’ tax rules.

KJ- What type of investment are you seeing coming into Australia?

PC- We are seeing investment in a range of industries including the resources sector (gold, coal and other minerals), distribution entities for off shore manufactured product, and more recently a return in office and commercial real estate investments. We are also seeing a number of offshore investment houses setting up operations to access the large pool of superannuation money.

KJ- What should one be aware of when setting up business operations in Australia?

PC- As metioned, Australia has complex tax rules, a self assessment system and an active ATO with a raft of integrity measures. This does not mean that taxpayers should not organize their affairs to optimize the tax outcomes. However in doing so, the choice of investment structure and arrangement should be consistent with the commercial objectives of the venture. The structure should have flexibility to manage changes to income, capital repatriation, and exit strategies as well as changes in our tax laws and of course the arrangement should be documented at the time, and implemented accordingly. It is also prudent to ensure there are systems in place to alert both local and the parent management of developments in the tax laws regulatory requirements and business environment that could impact the initial plans. Therefore the best advice is to undertake the appropriate due diligence not only in the target entity but in the system and culture of the Australian business and tax environment so that the offshore investor is best equipped to ensure that opportunities have been optimized and risks managed.

Peter, thank you for taking the time to answer our questions. Your perspective is valuable to the Tax Intelligence Report readers around the world and we genuinely appreciate the time you gave to share your experience.

Kathleen Jennings (KJ)
Editor, The Tax Intelligence Report
President, ET Search, Inc.
Kathleen@etsearch.com

Peter Capodistrias (PC)
Tax Partner
Minter Ellison
Sydney, Australia
Peter.Capodistrias@minterellison.com

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