‘Rushed’ multinational tax changes to hit foreign investment

Changes to intangible assets and the thin capitalisation rules may deter multinationals from investing in Australia and create frustration for accounting firms, mid-tier firm RSM has warned.

Concerns have also been raised about the impact the proposed amendments may have on industries such as property and infrastructure by PwC.

The thin capitalisation changes, recently released as draft legislation, will turn Australia’s regime for interest deductibility “on its head”, moving it from an asset-based test to an income-based test, according to RSM Australia’s international tax and transfer pricing lead partner, Liam Delahunty.

Details about the measure were released on 16 March, just three months before the new rules are set to commence. 

“It is clear that the detail contains some unexpected developments, not the least of which is the denial of deductions for interest in relation to the acquisition of foreign subsidiaries,” said Mr Delahunty.

Only the finance sector will retain the asset-based regime under the changes, which differs from jurisdictions like the UK and Canada where there are carve-outs for specific sectors.

Mr Delahunty said carve-outs for industries would have been helpful given Australia’s large resources and property sectors.

The proposed changes are already causing frustration for accounting firms working with multinational companies, as it will be difficult to determine which of the new thin capitalisation tests can be applied, he said.

“The ‘group ratio test’, for example, seems to be very narrowly defined to be reliant upon identifying the ultimate parent, and that entity must produce consolidated, audited financial statements,” said Mr Delahunty.

“There are a number of groups where there may be a misalignment between the group parent and the preparation of consolidated audited financial statements. This narrow definition would seem to prevent these groups from relying on one of the three regimes.”

The ability to carry-forward excess denied interest deductions for 15 years is a welcome development as it provides some flexibility to deal with profit fluctuations, but there are some catches to this carry-forward relief, he said.

There are fears that these amendments will damage Australia’s reputation as a place to do business and discourage foreign investment.

“Australia has always been a high-taxed jurisdiction. There are a number of countries which have been more competitive in attracting foreign investment, owing in part to their more attractive taxation regimes,’’ said Mr Delhunty.

Australia ranked in fifth place among the countries that benefited most from foreign investment in 2022, accumulating over $45 billion, based on figures from City Index.

This accounts for 3.13 per cent of Australia’s GDP. Chile benefited the most from foreign investment in 2022, amassing $11.4 billion in foreign direct investment — 4.41 per cent of the country’s GDP.

“Many foreign groups have also questioned the federal government’s heavy-handed approach — both the current federal government and its predecessor — to taxing multinationals and its never-ending assertions that these entities are intentionally avoiding paying their fair share of tax,” said Mr Delahunty. 

Tight time frame to legislate measures 

PwC said there is limited time for taxpayers to asses the impact that these measures will have on their capital structure and any consequential impacts of refinancing, with the draft legislation retaining the 1 July 2023 start date.

“A key focus for many corporate taxpayers will be working out the quantum of related party debt that is permitted under the new limitation rules, as well as for the first time, the transfer pricing rules,” the big four firm said in a recent article.

Certain sectors like infrastructure and property, which historically have been heavily reliant on the asset-based safe harbour, may be negatively impacted given the changed focus on earnings under these measures.

“This is particularly relevant to greenfield projects where earnings may not arise for a number of years. The operation of the conduit financing rules will also need careful attention in light of how projects are currently financed,” said PWC. 

Accounting firm Pitcher Partners said that some entities will be impacted significantly under the proposed amendments, particularly with the current pressure on margins and interest rates rising.

“For most groups, we’re expecting there to be significant denials of interest deductions under the proposed methods contained within the exposure draft,” said Alexis Kokkinos, head of Pitcher Partners’ tax technical division.

Treasury is not expected to make many amendments to the final version of the legislation despite the recent consultation with industry. 

“This is an election promise so the government needs to get this through and have it applicable from 1 July,” said Mr Kokkinos. 

“A lot of the things being proposed as amendments are very complex and would be difficult for the Treasurer and the government to accept, so we think most of the rules will be fairly similar to what we currently have under the draft legislation.”

The limited consultation on the “royalty integrity” multinational tax measure and the last-minute release of draft legislation on 31 March have also raised concerns for accounting firms and companies.

“The royalty measure should not have been introduced. The government should have jumped into the same boat as the other 135 jurisdictions collaborating on the OECD Pillar Two initiatives, including the 15 per cent global minimum tax rate. This measure is only going to make life even harder for multinationals investing in Australia,’’ he said.

“At first glance, there is significant concern with the breadth of these rules. Although a jurisdiction may generally have a corporate tax rate higher than 15 per cent, it appears that the rules then state that if a jurisdiction has different rates of tax for different types of income, entities must have regard to the lowest rate of tax.”

This means that if there is any type of exemption or concessionary treatment of any income, other than dividends then the entire jurisdiction as a whole may be deemed to be a “low corporate tax jurisdiction”.

“That could mean that any jurisdiction could be deemed a ‘low corporate tax jurisdiction’. Further clarification of this test is needed,” said Mr Delahunty.

RSM Australia’s national tax technical director, Liam Telford, said the compressed time frames for finalising these measures and a further piece of draft legislation imposing new public reporting obligations on multinational companies have raised concerns.

Treasury released draft legislation on 6 April, which would require certain large multinational enterprises to publicly report on their tax affairs on a country-by-country basis for income years commencing on or after 1 July 2023.

“The new reporting obligations are broader than the current European directive for multinationals, would potentially take effect earlier, and include information that may be commercially sensitive, such as listing offshore intangible assets by country,” said Mr Telford.

It will be difficult for Treasury to give due consideration to the detailed submissions received on the changes given the consultation on the the intangible assets and public reporting legislative amendments concludes on 28 April.

“Between the end of April and the slated 1 July commencement date, there [are] only nine weeks for final legislation to be prepared, introduced into Federal Parliament — which will also be considering a federal budget during this period — sent to committee for consideration, debated and passed,’’ said Mr Telford.

“It is difficult to see how this provides sufficient time for proper examination, interrogation and consideration of such complex and broad changes without some form of unintended consequences.’’