Session 4A Foreign Investment by Superannuation Funds. Mark Edmonds Megan McBain PwC First State Super

Transcription

1 Session 4A Foreign Investment by Superannuation Funds Mark Edmonds Megan McBain PwC First State Super

2 Introduction This session will cover: Asset allocation & Alternative foreign asset investment trends Taxation of foreign income derived by super funds Taxation of foreign entities for Australian tax purposes Specific CFC issues Treatment of super funds under Double Tax Agreements US FIRPTA rules and QFPF s Base Erosion and Profit Shifting (BEPS) anti-hybrid rules

3 Alternative foreign asset investment trends Super funds asset mix 100% Assets overseas 80% Property Life office 60% 40% Equities 20% Other Bonds Short term securities 0% Source: Australian Bureau of Statistics (2016), Managed Funds, Australia March 2016, Catalogue , Table 4. Deposits

4 Alternative foreign asset investment trends Super funds asset mix % Jun-1988 Jun-1992 Jun-1996 Jun-2000 Jun-2004 Jun-2008 Jun-2012 Mar-2016 Percentages of Foreign Assets Percentages of Domestic Assets Source: Australian Bureau of Statistics (2016), Managed Funds, Australia March 2016, Catalogue , Table 4.

5 Alternative foreign asset investment trends Home bias still exhibited by pension funds globally, including Australian super funds Reasons for trend of increasing offshore investments by Australian super funds: Domestic market is too small; Reduced capacity for Australian market to absorb super money; Diversification as a means of risk mitigation; Provides increased range of investment opportunities for members; Return opportunities, especially in emerging markets.

6 Taxation of foreign income derived by super funds Super funds are taxed differently to companies: No CGT participation exemption No non-portfolio dividend exemption Why are superfunds taxed differently? Not sure?? What does it mean to be tax differently? The importance of FITOs and transparent structures Can lead to complexity

7 Taxation of foreign entities for Australian tax purposes Super funds may invest in a range of offshore investment vehicles, examples of which include: LLCs, LPs, REITs, unit trusts, CCF s, Japanese TK s etc Such entities need to be classified under Australian tax law to determine tax treatment. Classified as either: Company Partnership; or Trust. Transparent entities include trusts and certain partnerships (incl. foreign hybrid entities).

8 Taxation of foreign entities for Australian tax purposes Foreign Trusts A current trend of foreign funds that may be considered trusts from an Australian tax perspective marketing to Australian super funds Broad deemed present entitlement rules At the very least, should obtain cost base increase for deemed income (similar to AMIT rules) No ability for foreign trust to make a functional currency election Super fund requires full access to records of foreign fund to fulfil compliance requirements and obtain benefits of CGT discount and flow through of FITO s

9 Taxation of foreign entities for Australian tax purposes Foreign Limited Partnerships Not transparent (unless a CFC) Still no clarity under 94M ATO consultation continues before issuing a ruling with examples Foreign Hybrids Transparent Many foreign limited partnerships may be foreign hybrids due to breadth of application of CFC rules we ll revisit this Lots of practical administrative issues to consider

10 Practical issues with offshore investments Multi-tiered structures Availability of information to comply with Australian tax requirements Timing of availability of financial information Is a substituted accounting period necessary to comply with Australian compliance obligations? Division 6 Australian unit trust additional complexities

11 Specific CFC issues Exposure Draft for new CFC rules provided an exemption for Australian super funds Treasury announced in December 2013 that it was not proceeding with changes to the CFC rules Super funds are stuck with the issues surrounding compliance with CFC rules With increased investment in non-portfolio foreign assets, the compliance burden is growing.

12 Specific CFC issues Upward attribution problem: ForCo1 is an associate of AusSub AusSub therefore has an associate-inclusive control interest of 80% in ForSub ForSub is therefore a CFC, as a group of 5 or fewer Australian entities holds an associate inclusive control interest of at least 50% in ForSub Aus Super 1 and 2 are both attributable taxpayers ForCo1 100% AusSub Aus Super1 ForSub Aus Super2 80% 10% 10%

13 Specific CFC issues CFC rules, FITO rules and Super funds A company is entitled to claim foreign income tax and withholding tax paid by a CFC as an offset against its Australian income tax liability calculated with respect to the attributable income of the CFC However, technically, this does not extend to super funds, leading to double taxation of income between Australia and the foreign jurisdiction.

14 Specific CFC issues CFC rules and Division 250 Broadly, Division 250 operates to deny capital allowance deductions where the assets are put to a tax preferred use and the taxpayer lacks a predominant economic interest in the asset. An asset is put to a tax preferred use if it is leased to a non-resident and used wholly or principally outside Australia Leads to adverse impact under CFC rules attribution of passive rental income with no deduction for capital allowances The limited recourse debt percentage (a gateway to Division 250) is also lower for non-residents.

15 Treatment of super funds under Double Tax Agreements Difficulties in applying DTAs Are super funds resident for DTA purposes? Are super funds the beneficial owner of amounts of income paid to them? Can lead to higher rates of withholding tax from foreign jurisdictions Proposed changes to the OECD model tax convention

16 US FIRPTA rules The Foreign Investment Real Property Tax Act (FIRPTA) treats disposals of US Real Property Interests as effectively connected income for the purposes of US Tax US Real Property Interests includes US Real Property Holding Corporations However, the US has recognised that FIRPTA is an impediment to foreign pension funds investing in US infrastructure, where there is a significant infrastructure funding deficit As such, an exemption from FIRPTA for qualified foreign pension funds was introduced by the Protecting Americans Against Tax Hikes Act (or PATH Act)

17 US FIRPTA rules Section 897(l)(2) of the I.R.C defines Qualified foreign pension fund For purposes of this subsection, the term qualified foreign pension fund means any trust, corporation, or other organization or arrangement-- (A) which is created or organized under the law of a country other than the United States, (B) which is established to provide retirement or pension benefits to participants or beneficiaries that are current or former employees (or persons designated by such employees) of one or more employers in consideration for services rendered, (C) which does not have a single participant or beneficiary with a right to more than five percent of its assets or income,

18 US FIRPTA rules (D) which is subject to government regulation and provides annual information reporting about its beneficiaries to the relevant tax authorities in the country in which it is established or operates, and (E) with respect to which, under the laws of the country in which it is established or operates (i) contributions to such trust, corporation, organization, or arrangement which would otherwise be subject to tax under such laws are deductible or excluded from the gross income of such entity or taxed at a reduced rate, or (ii) taxation of any investment income of such trust, corporation, organization or arrangement is deferred or such income is taxed at a reduced rate.

19 US FIRPTA rules Clarification is required to determine whether Australian super funds would fall within the definition of qualified foreign pension fund Two key issues for super funds: Super funds provide a wider range of benefits than contemplated by the QFPF rules; The broad member base of Australian super funds. Little guidance provided by the IRS at this stage, with little prospect of guidance in an election year.

20 BEPS Focussed on tax avoidance strategies that exploit gaps and mismatches in tax rules to artificially shift profits to low or no-tax locations Australia taking unilateral action Budget announcement of Australian anti-hybrid rules, proposed to apply from 1 January 2018 Lets discuss example 6.4 from OECD paper

21 BEPS anti-hybrid OECD example Operating income $210 A Co ForCo1 BCo B Co 2 Expenses $90 Operating income $120 Interest $60 Bank BCo 1 is a separate tax entity in Country B and disregarded in Country A BCo1 and BCo2 are members of same tax group Assuming BCo2 is not a CFC of ACo: A concern that $60 of interest deductions shelter ACo income as well as BCo2 income Proposed deductible payments rule will deny a deduction in one of the jurisdictions

22 BEPS anti-hybrid OECD example Operating income $210 A Co ForCo1 BCo B Co 2 Expenses $90 Operating income $120 Interest $60 Bank BCo 1 is a separate tax entity in Country B and disregarded in Country A BCo1 and BCo2 are members of same tax group Assuming BCo2 is a CFC of ACo: As certain income of BCo2 is attributable to ACo, proposed rule would treat attributable income as dual inclusion income Result is a deduction in both jurisdictions to the extent of dual inclusion income

23 BEPS anti-hybrid OECD example This is relevant to superfunds holding a specific infrastructure or property asset in a structure transparent for Australian tax purposes On the basis interest deductions offset income which is taxable in both jurisdictions (i.e., dual inclusion income), anti-hybrid rules should not impact deductibility The example suggests that associated foreign tax credits may be restricted to the tax liability of the net dual inclusion income However, not addressed is whether excess foreign tax credits may be applied to offset Australian tax payable on other foreign income? Australian domestic rules specifically allow for this

24 Final Comments Limited number of investment opportunities for Australian superfunds in the Australian market However, existing tax system favours investments in Australian equities and away from offshore investments Reforms desirable, but unlikely in short term Transparent structures may be tax efficient, however can be complex Superfunds should continue to monitor global tax reforms, including BEPS initiatives and US FIRPTA changes

25 Thank you Please complete your evaluation forms and return them to the registration desk

26 Mark Edmonds & Megan McBain, 2016 Disclaimer: The material and opinions in this paper are those of the author and not those of The Tax Institute. The Tax Institute did not review the contents of this presentation and does not have any view as to its accuracy. The material and opinions in the paper should not be used or treated as professional advice and readers should rely on their own enquiries in making any decisions concerning their own interests.