23 March 2015 EY Library Access both online and pdf versions of all EY Global Tax Alerts. Copy into your web browser: http://www.ey.com/gl/en/ Services/Tax/International- Tax/Tax-alert-library#date Australian Treasury releases revised Exposure Draft on Investment Manager exemption Revised draft law including element 3 to start soon Executive summary On 12 March 2015, the Australian Federal Treasury released revised Exposure Draft legislation (draft law) for consultation, to implement the final element of the Australian Investment Manager Regime (IMR3) tax exemption for certain foreign funds and their foreign resident investors where the funds invest in certain Australian assets, and to make technical corrections to existing law. The object of IMR3 is to encourage particular kinds of investment made into or through Australia by some foreign funds that have wide membership, or that use Australian fund managers. The IMR3 will complete the Australian IMR for foreign funds and is broader than the interim IMR elements 1 (IMR1 - foreign fund tax amnesty) and element 2 (IMR2 - permanent establishment foreign conduit income) concessions which were enacted in September 2012. The draft law follows three previous draft versions and has been substantially re-written, including better alignment with the approach of the United Kingdom s equivalent Investment Manager Exemption as noted in a Government media release of 18 December 2014. The previous proposals have also been streamlined in many instances in this draft including improving the IMR widely held test. These further refinements which have resulted from continuing industry consultation and feedback, including from EY, are a positive development. This Tax Alert provides an overview of the draft law and highlights some key differences between the draft law and previous versions, the last of which was released in January 2014. The IMR3 measures are proposed to apply to assessments for the 2015-16 and later income years. There is limited optional retrospective application in previous years where IMR2 operates (from 2011-12 to 2014-15 income years) and optional technical amendments to 2010-11 and earlier income years (IMR1).
It appears that the draft law requires some further fine tuning, particularly relating to the technical corrections applicable to earlier years. There is a short consultation period expiring on 9 April, presumably for the law to be introduced in the May 2015 Budget sittings to implement the prospective measures from 1 July 2015. EY has already made an initial submission in respect of the transitional rules. Detailed discussion The IMR3 concession The draft law will extend the IMR concession in Subdivision 842-I of the Income Tax Assessment Act 1997 (ITAA 1997) to apply to investments in Australian assets of a portfolio nature (less than 10%) and broadens the widely held eligibility test for the concession. It also removes the current portfolio restriction for investments in foreign assets made through Australia as applies under the current IMR2. Broadly, the IMR3 applies where there is: Direct investment by an IMR widely held entity Or Indirect investment through an independent Australian fund manager for an IMR entity To qualify for IMR3 benefits, the entity must also be a foreign resident entity and not be carrying on or controlling a trading business. The concession will provide a tax exemption for, or otherwise disregard, gains and losses on IMR financial arrangements (that are not Australian real property interests). The IMR concession may be reduced in an indirect investment scenario where the independent Australian fund manager is entitled to more than 20% of the profits of the IMR entity. Direct investment eligibility for exemption The direct investment concession will exempt returns or gains (and deductions or losses) made from investments held by an entity, where: That entity is an IMR widely held entity for the whole year (subject to start up, wind down and temporary circumstances concessions discussed below) The entity and its associates do not directly control 10% or more of any investment (i.e., the investment does not pass the nonportfolio interest test) The gains and losses are not attributable to a permanent establishment in Australia The investment is a financial arrangement that is not a taxable Australian real property interest or an indirect Australian real property interest Direct investment - IMR widely held entity test improvements The widely held requirements to qualify as an IMR widely held entity for the purpose of the direct investment exemption have been recast. The investor fund must be one of the following: A foreign life insurance company or a specified certain white list entity as used in the managed investment trust concession rule (for example, superannuation funds with at least 50 members and exempt foreign government pension funds) An entity of a kind specified in regulations (none are drafted yet) Not closely held The not closely held requirement is met where: No member has total participation interests in the entity of 20% or more (up from 10% in previous draft law version) Or There are no 5 or fewer members (down from 10 members in the previous draft law version) whose total participation interests in the entity are 50% or more. The participation tests look to individual persons interests in some cases, tracing through interposed entities. An 18 month start-up and a wind down concession deems the fund to be widely held where certain conditions are met (compared to 12 month start up concession in the previous version). A proposed rule would allow the IMR widely held entity status to continue where temporary circumstances outside the fund s control have caused a breach and actions are taken to rectify those circumstances (compared to 30 day limit for breaching the widely held test in previous version). 2
Investment through independent Australian fund manager The draft law also provides a concession for indirect investments made by certain foreign entities through an independent Australian fund manager. An independent Australian fund manager is an Australian resident that carries out investment management activities for the IMR entity in the ordinary course of business and whose remuneration for those activities is at arm s length. In addition, in order to be independent, the fund manager must satisfy one or more of the following conditions: The IMR entity is an IMR widely held entity 70% or less of the fund manager s income for the year is from the IMR entity or an entity connected with the IMR entity The fund manager is taking all reasonable steps to ensure that the proportion of its income will be reduced to 70% where it has been operating for 18 months or less. However, where the fund manager and other connected entities have direct or indirect rights to receive 20% or more of the profits of the IMR entity for the year, the IMR concession is reduced by that profit percentage. The taxpayer may however apply to the Commissioner to waive this reduction if the Australian fund manager can demonstrate that it will not receive greater than 20% of the profits from the entity within five years and investment in the entity is being actively marketed with that intention. Transitional measures As presently drafted, an entity only has the option to apply the IMR3 indirect investment option for the 2011-12 to 2014-15 income years. The direct investment option does not have retrospective operation under this draft law. This is problematic and EY is making submissions. The entity s take-up of the option is evidenced by the way the entity prepares its income tax return. The draft law does not provide any measures to extend the period for amending prior year assessments. The draft law also includes an option to apply the new definition of IMR widely held entity for the purposes of the IMR1 regime in the 2010-11 and earlier income years. Other improvements Other positive improvements to the draft law, compared to the January 2014 version include: Annual information statement requirement to report to the Commissioner each year has been removed Condition for the foreign fund to be resident of an information exchange country has been removed Mechanisms to exempt the relevant returns or gains (and deductions or losses) from Australian taxation have been simplified Exclusion for financial arrangements where the IMR foreign fund has rights to vote at a board meeting or participate in financial, operating or policy decisions or to deal with the assets of the issuer has also been removed. Implications The latest version of the IMR3 draft law is an improvement compared to previous versions of the draft law. Notably, the IMR widely held entity rules allow greater access to the direct concession. However, further fine tuning is required before the proposals can be implemented and further feedback should be provided during the consultation period. Submissions are due by 9 April 2015. Foreign funds investing into Australia and asset managers should consider whether to be involved consultation. Entities not covered by the new definition of IMR widely held entity (unless regulations are introduced), for example endowment funds, should plan their actions. Foreign funds should also consider how these rules apply, including whether to apply the transitional provisions to previous years. Australian funds managers and investment advisers should consider the opportunities which flow from the IMR3 laws, to market their investment services to foreign funds. 3
For additional information with respect to this Alert, please contact the following: Ernst & Young (Australia), Melbourne Peter Janetzki, International Tax Services +61 3 8650 7525 peter.janetzki@au.ey.com Dale Judd, Financial Services +61 3 9655 2769 dale.judd@au.ey.com Ernst & Young (Australia), Sydney Antoinette Elias, Financial Services +61 2 8295 6251 antoinette.elias@au.ey.com Michael Anderson, International Tax Services +61 2 8295 6991 michael.anderson@au.ey.com Ernst & Young LLP, Australian Tax Desk, New York Andrew Nelson +1 212 773 5280 andrew.nelson@ey.com 4
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