In 2013, the Labor Government announced that it would introduce a 10% non-final withholding tax on payments made to foreign residents disposing of certain taxable Australian property with a market value above a specified threshold. The Tax and Superannuation Laws Amendment (2015 Measures No. 6) Act 2016, introducing the new foreign resident capital gains tax withholding regime was passed by Parliament and received Royal Assent on 25 February 2016. The new regime will apply to contracts entered into on or after 1 July 2016.
At the moment, foreign residents are required to lodge an income tax return and pay tax in respect of any Australian assessable capital gain. The withholding obligations in the new regime aim to address the current low levels of compliance with this obligation and will assist the Commissioner in the collection of capital gains tax payable by foreign residents. However, a closer examination of the Act indicates that it will have implications for all vendors, regardless of their residency status.
WHEN DOES THE REGIME APPLY?
For the withholding tax regime to apply, the following conditions must be satisfied:
- A purchaser acquires a CGT asset from one or more other entitles
- The vendor of the property must be a relevant foreign resident
- The acquisition must not be an excluded transaction
What are the affected assets?
The regime applies to acquisitions of the following taxable Australian property:
- Taxable Australian real property (TARP) including land, residential and commercial property, lease premiums paid for the grant of a lease over real property in Australia and mining, quarrying or prospecting rights, if the minerals, petroleum or quarry materials are situated in Australia;
- Indirect Australian real property interest, that is, an interest (10% or more) in Australian entities whose majority assets consist of the above such property or interests;
- Options or rights to acquire the above property or interest.
When is a vendor a relevant foreign resident?
Generally, a foreign resident is a person or entity that is not an Australian resident for tax purposes. A vendor is a relevant foreign resident for the purposes of the withholding obligation if, at the time of the transaction:
- The purchaser knows that the vendor is a foreign resident; or
- The purchaser reasonably believes that the vendor is a foreign resident; or,
- The purchaser does not reasonably believe that the vendor is an Australian resident, and either:
a. The vendor has an address outside Australia according to any record in the purchaser’s possession or kept or maintained on the purchasers behalf about the transaction; or
b. The purchaser is authorised to make a payment to a place outside Australia, whether to the vendor or to anybody else.
- The vendor has a connection outside Australia of a kind specified in the regulations; or
- The CGT asset to which the transaction relates is taxable Australian real property or an indirect Australian real property interest, the holding of which causes a company title interest to arise.
What is important to remember, is that a vendor is also treated as a relevant foreign resident (even if they are an Australian resident for other tax purposes) if they sell the assets in paragraph 5 above with a market value of two million dollars or more. Effectively, the provisions apply to all sales involving Australian real property or a company title interest (not otherwise excluded) even where the seller is an Australian resident. An Australian resident vendor selling these assets will need to obtain a valid clearance certificate and provide this to the purchaser before settlement to ensure withholding does not apply.
Real property transactions with a market value under two million dollars will be unaffected by the measure. If a purchase price negotiated between a purchaser and vendor is on an arm’s length basis, then the purchase price may be used as a proxy for market value. In addition, a transaction that results in the acquisition of a CGT asset is excluded from the regime if any of the following criteria are met:
- The value of company title interests is less than $2 million.
- The transaction is an on-market transaction listed on an approved stock exchange.
- The transaction is subject to another withholding obligation.
- The transaction is a securities lending arrangement.
- The foreign resident vendor is under external administration or bankruptcy.
For real property transactions with a market value of two million dollars or above, the purchaser must withhold 10% of the purchase price unless the vendor provides the purchaser a clearance certificate from the ATO. If the vendor fails to provide the certificate by settlement, the purchaser would be required to withhold 10% of the purchase price and pay this to the ATO – even if the vendor is an Australian resident. This means that Australian resident vendors of real property with a market value of two million dollars or above must apply for a clearance certificate and provide this to the purchaser before settlement to ensure no funds are withheld from the sale proceeds.
It is important to note that all parties on the Certificate of Title will require a clearance certificate. For example, if there are four people on title, four separate applications will need to be completed. Where the certificate of title is in the name of the “Trustee for the trust / superannuation fund” the trustee must apply for the clearance certificate. The name of the vendor on the clearance certificate must match the name on the certificate of title, unless proof of name change is also provided.
The certificate will be valid for 12 months and the purchaser may rely upon the clearance certificate as being valid as long as the date it is made available to the purchaser is within the clearance certificate period stated on the certificate.
Vendor declarations for non real property transactions
For all other asset types subject to foreign resident capital gains withholding, the vendor may provide the purchaser with a vendor’s declaration to specify withholding is not required on the acquisition of the asset. A vendor cannot use a declaration to avoid having the purchaser withhold the 10% withholding in relation to the disposal of real property.
There are two types of vendor declarations:
- Residency declaration
Where the purchaser believes the vendor is a foreign resident they can request the vendor make a declaration confirming their Australian tax residency. A residency declaration supplied by the vendor may be relied on by the purchaser where the purchaser is acquiring assets that are not Australian real property. When a purchaser receives a vendor declaration they will not withhold any amounts unless they know the declaration is false.
- Not an indirect Australian real property interest declaration.
A vendor may provide the purchaser with a declaration confirming that the interest they are disposing of in an Australian entity is not an indirect Australian real property interest. A ‘Not an indirect Australian real property interest’ declaration supplied by the vendor may be relied on by the purchaser where the purchaser is acquiring the membership interests in an Australian entity.
A vendor’s declaration is valid for 6 months from the date it is signed by the vendor. It is only valid for the listed vendor and specified period on the declaration. There is no approved form that can be completed by the vendor for a declaration, however, templates that can be used for this purpose will be available to be downloaded from the ATO website from 1 July 2016.
A vendor can apply for a variation in circumstances where they are not entitled to a clearance certificate and a vendor’s declaration is not appropriate. A variation may also be applied for if the 10% withholding is too high compared to the actual Australian tax liability on the sale of the asset. Reasons for a variation include:
- the vendor will not make a capital gain on the transaction
- the vendor will not have an income tax liability
- a creditor of the vendor has a mortgage or other security interest over the property and the proceeds of sale available at settlement are insufficient to cover both the amount to be withheld and to discharge the debt the property secures
- a creditor acquires legal title to the property as a result of an order for foreclosure and its security would be further diminished as a result of having to comply with the withholding obligation.
To apply for a variation, the vendor or its legal representative or the vendor’s creditor needs to complete the foreign resident capital gains withholding rate variation application. It is important to note that conveyancers who are not legal practitioners or registered tax agents cannot complete the form on behalf of the vendor. In the majority of cases, where the ATO has all the required information, the variation notice will be issued within 28 days.
The potential impact of the withholding rules on secured creditors has been considered. The explanatory memorandum states “It is not the intention of these amendments to undermine the security of creditors in the event of a vendor’s default. The Commissioner must consider this intention when deciding whether to vary a withholding amount.” The legislation provides that in exercising a power to vary an amount due under the new withholding regime, the Commissioner must have regard to the need to protect a creditor's rights to recover a debt and both secured and unsecured creditors may apply to the Commissioner for a variation.
CALCULATING THE WITHHOLDING
With respect to taxable Australian real property the market value determines whether this withholding measure needs to be considered. In most cases, the market value of a property should be equivalent to the purchase price. Where the purchase price has been negotiated between the vendor and the purchaser, acting at arm’s length, the ATO will accept the purchase price as a proxy for market value. In circumstances where the vendor and purchaser are related parties and did not deal with each other at arm’s length, the ATO will not accept the purchase prices as a proxy for market value and the purchaser will need to seek a separate expert valuation.
WHEN IS PAYMENT REQUIRED TO BE MADE?
The purchaser must complete a foreign resident capital gains withholding purchaser payment notification form. They will then receive a payment reference number and a PDF icon for a payment slip and barcode. Payments can be made via electronic funds transfer, BPAY, in person at Australia Post or by cheque. We recommend that this form is completed and submitted as early as possible as the purchaser must pay the withholding to the ATO on or before the day of settlement. General interest charges will be imposed if the purchaser fails to pay the withholding when they become the owner of the asset.
Upon payment, a receipt will be issued and this is proof that the purchaser has made the payment and fulfilled their obligation. A copy of the payment confirmation must be provided to the vendor who can then use the information to complete their income tax return.
- All purchasers of Australian real property and indirect interests in real property are affected by these changes.
- The purchaser is liable to withhold and pay the amount. If they do not do this, the ATO will hold the purchaser liable.
- Where a foreign resident disposes of Australian real property with a market value of $2 million or above, the purchaser will be required to withhold 10% of the purchase price and pay it to the Australian Taxation Office unless the seller provides a variation.
- Australian residents will need to provide a clearance certificate otherwise 10% of the purchase price must be withheld and payed to the ATO on or before settlement.
- If a purchaser receives a clearance certificate from a vendor, they must ensure that it is valid. The name of the vendor/s on the certificate must match the name of the vendor/s on the certificate of title and the date the certificate is given to the purchaser must fall within the clearance certificate period.
- As long as the clearance certificate is valid, the purchaser is able to rely on it and not withhold. The purchaser does not have to questions the residency of the vendor. In our opinion, however, a prudent purchaser should contact the ATO to check the validity of the clearance certificate.
- Australian resident vendors who dispose of Australian real property with a market value of two million dollars or above will need to apply for a clearance certificate from the ATO to ensure amounts are not withheld from their sale proceeds.
- The ATO has implemented a process for issuing a clearance certificate. The online form will be available from 27 June 2016 and can be completed by either the Australian resident or their solicitor. If the application is automatically approved, a clearance certificate will be issued within days of the application being submitted. If manual processing is required, the clearance certificate will take approximately 14-28 days to issue and higher risk cases may require extra time.
- Vendors should apply for clearance certificate as soon as possible to minimise potential delays in the sale, and to ensure that the purchaser does not withhold where an exemption applies. If you are not sure if the two million dollar threshold will be reached, we recommend that you apply for a clearance certificate anyway.
- The application of the CGT withholding regime should be considered for existing long term put and call options that were not exercised prior to 1 July 2016
- Vendors should require evidence, at settlement, from purchasers that the withholding obligation has been complied with and the payment has been made to the ATO.
For secured parties
- Secured parties, or those acting for secured parties in the release of an asset affected by the withholding regime, should consider whether the proceeds of the sale will provide a full release or if a variation application should be made to the ATO.
For real estate agents
- Where an agent is engaged by a vendor, and the purchase prices is below two million dollars, no action is required. However, if the purchase price is two million dollars or above (or if the purchase price is unknown because, for example, the property is to be sold at auction) and the vendor is an Australian resident vendor, the agent should let them know that they will need to obtain a clearance certificate from the ATO to avoid 10% of the purchase price being withheld at settlement.
- In circumstances where the purchase price is two million dollars or above and the vendor is a foreign resident, the agent should let them know that 10% of the purchase price will be withheld at settlement by the purchaser and provided to the ATO. The agent should also advise the vendor that they are able to vary the amount being withheld in certain circumstances.
This information is provided as a general guide only. It is not designed to be, nor should it be interpreted to be an exhaustive statement of the law. It is not and should not be relied upon as legal advice. If you have any questions about the new withholding regime, please contact us or the Australian Taxation Office.