Taxation Law

ACC 304 Taxation Law

Workshop 2 Residency and Source

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Workshop 2 references Chapter

Reference

• Please read preparation guide for references for this weeks topic

Recommended Text

• Principles of Taxation Law 2020 by K Sadiq (General Editor), et.al.

• There is no prescribed text

Tutorial • Workshop 2 Preparation Guide

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4

Questions before workshop

Question 1 a. Does everyone and every business in

Australia pay tax? b. Do you think it matters if the taxpaying entity

is closely associated with Australia?

Exposure to taxation In order to assess to taxation the Commissioner of Taxation (COT) must show a number of elements. The COT must:

1. Identify the taxpayer and show the taxpayer is a taxpaying entity

2. Determine the residency status of the taxpayer and determine the source of the relevant income to establish jurisdiction to tax

3. Determine the amount is assessable income 4. Determine when the amount was derived

Learning Objective 1 • Discuss the key aspects of the 4 residency

tests for individuals applied by the ATO • Apply them to a set of facts to determine

residency for tax purposes.

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Residency • Residency for tax purposes refers to the status of the

taxpayer in terms of tax rules only and has nothing to do with other determinations such as for immigration.

• Residency has a number of tax implications.

• An Australian Resident is assessed on income derived from all sources s6-5(2) & s6-10(4).

• Non-residents are taxed only on Australian sourced income s6-5(3) & s6-10(5), but at higher rates.

Jurisdiction = Residency and Source

The source rules refer to determining the origin of the relevant income.

• Different types of income have different sources

• The interaction between residency of the taxpaying entity and source of the funds determines whether the COT has jurisdiction and therefore the individual’s exposure to tax in Australia

Determining residency for Individuals Resident is defined in s.6(1). There are four tests within

that definition: • the “resides” test • the “domicile” test • the 183-day rule, and • the superannuation test Only one of these tests needs to be satisfied to be a resident of Australia for tax. Consider each test in the order it appears.

Test 1 – Resides Test

Resides is not defined in the 1936 Act. Courts have relied on a dictionary definition of ‘reside’

• ‘To dwell permanently or for a considerable time, to have one’s settled or usual abode, to live in or at a particular place.’ (The Shorter Oxford English Dictionary).

• A question of fact and degree. • In other words, each case must be decided on

its own merits (FCT v Miller 7(1946) 8 ATD 146

Relevant factors • Physical presence in Australia during the year of income. • Intention as to length of stay in Australia • Actual stay in Australia • Purpose of stay in Australia • Frequency, regularity and duration of visits • Maintaining a place of abode in Australia during absences. • Family & business ties to Australia • Present habits and mode of life.

See also TR 98/17 (for guidance only – it is not the law).

The factor with most weight is physical presence

However

No one factor on its own is determinative.

It is possible you could be in Australia for a year and not be a resident for tax purposes

Equally you could not be in Australia for a year and continue to be a resident for tax purposes

You have got to be kidding! No, I am not!

Remember, you need to consider all of the facts in the case, identify the relevant legislation and consider the case law in the area to make your decision.

Residency can be a very complex area – taxpayers may try to argue they are not residents if looking to avoid exposure to Australian sourced income

Class activity 1

a. Can you think of a situation where a person might be physically in Australia and NOT considered to be a resident for tax purposes?

b. What factors did you consider in your situation?

Test 2 - Domicile test What is a domicile? • An old legal concept Udny v Udny (1869)

http://www.uniset.ca/other/css/LR1ScDiv441.html • A person’s domicile is the place the common law

considers to be their permanent home. • Requires physical presence and an intention to

stay permanently or indefinitely. • By law every person must have a domicile, but

can only have one domicile at any time

Domicile test There are 3 types of domicile

Domicile of origin: The domicile of the person’s father at the date of their birth, which he/she will retain until they acquire a domicile of choice. Domicile of choice: The place that a person intends to make their home indefinitely. Domicile of dependency: Minors and mentally incompetent persons will have their domicile determined by their parent or carer’s domicile.

FCT v Applegate

• A solicitor transferred to Port Vila in the New Hebrides on 8 November 1971 to set up a branch of a legal firm. (The archipelago gained independence on 30 July 1980 and from then on was known as Vanuatu)

• The solicitor was transferred for an indefinite period, but he was always going to return to Australia

• He left no assets in Australia, gave up the lease on a Sydney flat, retained Australian health fund membership and he and his wife returned to Australia to give birth to a child.

FCT v Applegate • He leased premises in Port Vila, obtained

resident status, and was admitted to practice law.

• He originally intended to be overseas for an indefinite period, but he returned to Australia after two years due to ill health.

• The court held that the taxpayer could not be considered to be residing in Australia, as he was not physically present.

Domicile test Does the taxpayer have a ‘place of abode’ outside Australia? In Applegate’s case the FCT tried to argue that

he did not have a permanent place of abode outside of Australia.

The issue was whether the place of abode outside Australia was ‘permanent’ as required by

the domicile test?

Domicile test

Is the place of abode ‘permanent’? Court held ‘permanent’ means “more than simply temporary or transitory, but less than everlasting”. Because his stay was indefinite, it was more than temporary and less than everlasting. The taxpayer met the interpretation of permanent and therefore

was not a resident of Australia for the period in question.

FCT v Applegate –Outcome

• As the taxpayer was a non-resident for tax purposes, he could only be assessed on income sources in Australia.

• The income earned from his activities in Port Vila were therefore not assessable to Australian tax.

FCT v Jenkins • Similar facts to Applegate, but the taxpayer agreed to a fixed

term of 3 years. • Returned due to ill health after 18 months similar to what

happened in Applegate • The Tax Commissioner tried to argue that the family’s abode

in the New Hebrides was not a permanent one and thus the revenue earned by Jenkins in the New Hebrides was subject to Australian tax.

• The court however decided that Jenkins had a “permanent place of abode” outside Australia despite no evidence of a decision or declared wish on Jenkins’ part to try to stay indefinitely. The court argued that the agreed term did not make the stay temporary.

• That meant that the revenue earned in the New Hebrides was not subject to Australian tax.

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Case Q68 83 ATC 343

• Taxpayer transfers to the New Hebrides for fixed 2-year period with wife and children on the condition he and his family were returned after 2 years.

• The Court said the place of abode was not permanent as it was not enduring and lacked durability of association.

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Class activity 2 Billy Orange was born in Adelaide and usually resides in Adelaide with his family.

For 6 months in the 2015/16 year and all the 2016/17 income year he and his family have been living in Samoa. The children attend the local school and his wife works in the local shop while he works on a fishing boat.

They bought a house in Samoa and have stayed in the one place.

Is Billy a resident of Australia in the 2016/17 year?

Test 3 : “183-day test” A person will be a resident for tax purposes if physically present in Australia for more than half an income year and the COT must be satisfied that both: • the person’s usual place of abode is not outside

Australia and • the person does intend to take up residence in

Australia.

Note the standard here is “usual” as opposed to permanent under the second test.

Also note the “and” means both the usual place of abode and the no intention elements must be met.

“183-day test”

Consider the working holiday maker on a 12-month working holiday

More than 183 days

Usual place of abode not outside Australia

 Intention to stay

a resident for tax purposes

“183-day test” Consider the working holiday maker on a 12 month working holiday

More than 183 days

Usual place of abode not outside Australia

X Intention to stay

Not a resident for tax purposes

Class activity 3

Hans Kruger has been living in Queensland for 10 months in the 2016/17 financial year. He usually lives in Germany and is in Australia working at various mining sites throughout Queensland. He has a 12 month visa and at the end of the 12th month he intends to return to Germany and study mining engineering using the skills he has gained through working.

Is Hans a resident under the 183 day test?

Test 4 - Superannuation test

• A person is a resident if he or she is a member of the superannuation scheme for Commonwealth public servants. This also includes the person’s spouse and children.

• The effect is to ensure the employee and their families remain Australian residents for tax purposes if posted overseas.

Learning Objective 2

Discuss the key aspects of the 3 residency tests for companies

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Residency of companies

There are 3 tests in paragraph (b) of the definition of resident in s. 6(1).

Only one of these tests needs to be satisfied for a company to be a resident of Australia for tax.

Consider each test in the order it appears.

Residency of companies

• Incorporation Test.

• Central Management and Control Test.

• Controlling Shareholder Test.

Test 1 - Incorporation test

A company is an Australian resident for tax if it is incorporated in Australia.

Easy!

Test 2 - Central management and control test

A company is an Australian Resident for tax if it: • Carries on business; and • Has its central management and control

in Australia.

Note that both points need to be met for residency if this test is being applied

Central management and control Not defined in the legislation so relevant principles have

emerged from case law.

Relevant factors include:

• Where directors meet to do business (the “brains” of the business)

• Where the real business activities are undertaken (day-to- day decisions made)

• Location of registered offices

Test 3 - Controlling shareholder test

For trading activities a company will be a resident of Australia for tax if it:

• Carries on business in Australia; and • Has its voting power controlled by shareholders

who are residents of Australia.

Both elements need to be satisfied for residency if this test is being applied.

Residency outcome

The four tests for individual taxpayers are alternatives and only one has to be satisfied for a person to be considered a resident for Australian tax purposes.

The three tests for companies are also alternatives and only one needs to be satisfied for a company to be considered a resident for Australian tax purposes.

Learning Objective 3

• Determine the source of various types of income and the interaction with residency status to determine whether the COT has the jurisdiction to tax.

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Source of income Source is not a legal concept and there is no definition of it in the Income Tax Assessment Act.

Non-residents taxed only on Australian sourced income.

Residents are taxed on their worldwide income

Courts have looked at the substance of the arrangement rather than its legal form.

Source rules

There are a series of general rules determining the source of different types of income:

• Income from Personal Services - where the services were performed

• Business/trading income - where the trading activities take place

• Real Property – where the real property (rented or sold) is located.

• Dividends – where the company paying the dividends made the profits from which the dividends were paid

• Interest - where the loan contract is negotiated and made • Royalties – where the know-how is located

Class activity 4 Gregory Power is a highly regarded baseball prospect. During the American off season he first travelled to Mexico to play in the Fall League for 2 months and then decides to come to Australia and play in the Australian Baseball League in December, January and February to play for the Adelaide Chomp. He signs the contract in Switzerland, which stipulates he is to be paid $45,000 for the 3 months. He joins the team shortly after. The contract states he is to be paid monthly into a bank account in the Turks and Caicos Islands. Gregory is impressed with Australia and decides to purchase a home unit at Glenelg. His plan is to use it as a base during the home and away series and rent it out for the remainder of the income year. Discuss with reference to the residency tests and source rules whether: • Gregory is liable for taxation on the $45,000 for his baseball skills • Gregory is liable for tax on the rental income received during the

balance of the year

Learning Objective 4

Explain the wider implications of residency status

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Why residency matters • Residence is important in determining the liability to Australian

income tax for residents of Australia and residents of foreign countries.

A resident individual of Australia for tax purposes is entitled to: - the tax-free threshold in whole or part - tax offsets e.g. franking credit tax offsets on dividends received - an exoneration of 50% of the CGT on asset disposals provided the

asset was held for 12 months.

• Only resident companies can apply the imputation system meaning that they can get the benefits of franking credit tax offsets on dividends received.