ATO ID 2009/139: Custodians' managed investment trust withholding rate under Subdivision 12-H of Schedule 1 to the Taxation Administration Act 1953
Date of decision: 11 November 2009
Year of income: First income year starting on or after 1 July 2008
Business line: Public Groups and International

Issue
Can a custodian that makes a payment (a part of which is reasonably attributable to a fund payment under Subdivision 12-H of Schedule 1 to the Taxation Administration Act 1953 (TAA)) to a resident of Japan, reduce the withholding rate from 22.5% (prescribed by that Subdivision) to 15% because of Article 10 of Schedule 6 to the International Tax Agreements Act 1953 (Japanese Convention)?

Decision
No, a custodian cannot reduce the withholding rate from 22.5% to 15% because of Article 10 of the Japanese Convention because withholding at 22.5% does not conflict with Australia's obligations under the Japanese Convention.

Facts
Custodial Services Co is a custodian within the meaning of subsection 12-390(9) of Schedule 1 to the TAA. Global Custodian, a resident of Japan, approaches Custodial Services Co to invest funds in Australia. Global Custodian acts on behalf of its client (the Japanese client), who is also a Japanese resident. Global Custodian provides an address in Japan to Custodial Services Co and Custodial Services Co keeps the address in its records. Custodial Services Co invests in a managed investment trust (MIT) as directed by Global Custodian. MIT is a managed investment trust as defined in section 12-400 of Schedule 1 to the TAA in relation to its first income year starting on or after 1 July 2008. MIT carries on a business consisting of investment in real property for the main purpose of deriving rent. The trustee of MIT makes a fund payment as defined in subsection 12-405(1) of Schedule 1 to the TAA to Custodial Services Co in relation to MIT's first income year starting on or after 1 July 2008. The distribution is made on or after 1 January 2009. MIT provides a notice to Custodial Services Co in respect of the fund payment. The notice is in accordance with section 12-395 of Schedule 1 to the TAA. Custodial Services Co distributes all of the income received from MIT, including a payment reasonably attributable to the fund payment from MIT, to Global Custodian (the recipient). The Japanese client beneficially owns the distribution.

Reasons for decision
Summary: Subdivision 12-H of Schedule 1 to the TAA governs the withholding obligations of custodians making payments to outside of Australia where all or part of a payment is attributable to a fund payment made by a trustee of a managed investment trust. Subsection 12-390(1) of Schedule 1 to the TAA provides that a custodian that makes a payment to an entity covered by section 12-410 of Schedule 1 to the TAA, must withhold an amount from the payment if: An entity (the recipient) is covered by subsection 12-410(1) of Schedule 1 to the TAA if, according to any record that is in the payer's possession, or is kept or maintained on the payer's behalf, the recipient has an address outside Australia; or if the payer is authorised to make the payment to a place outside Australia. The recipient, Global Custodian, has provided an address in Japan. Custodial Services Co makes a payment to Global Custodian, part of which is attributable to the fund payment from MIT. Custodial Services Co is given a notice, in accordance with section 12-395 of Schedule 1 to the TAA, by MIT in respect of the payment. Global Custodian is an entity covered by section 12-410 of Schedule 1 to the TAA. Therefore Custodial Services Co must withhold an amount from the payment. Custodial Services Co must withhold 22.5% of the part which is attributable to the fund payment in relation to MIT's first income year starting on or after 1 July 2008 if the address provided or place for payment of the recipient is in an information exchange country, pursuant to subsections 12-390(2) and 12-390(3) of Schedule 1 to the TAA. An information exchange country is a country specified in the Taxation Administration Regulations 1976. Japan is listed in the Taxation Administration Regulations 1976 regulation 44E as an information exchange country. The payment made by Custodial Services Co to Global Custodian is made in relation to MIT's first income year starting on or after 1 July 2008. Therefore, the custodian is required to withhold at the rate of 22.5%. In determining liability to Australian tax for residents of another country, it is necessary to consider not only the income tax laws, but also any applicable tax treaty contained in the International Tax Agreements Act 1953 (Agreements Act). Subsection 4(1) of the Agreements Act incorporates the Income Tax Assessment Act 1936 (ITAA 1936) and the Income Tax Assessment Act 1997 (ITAA 1997) with the Agreements Act so that those Acts are read as one. Schedule 6 to the Agreements Act contains the Japanese Convention. It is necessary to determine whether the Japanese Convention affects the rate of withholding by Custodial Services Co. Article 10(7) of the Japanese Convention limits the right of Australia to tax the gross distributions of income, profits or gains made to Japanese residents that have a portfolio interest in an Australian Real Estate Investment Trust (REIT) to a rate of 15%. For the purposes of Article 10(7) of the Japanese Convention, 'REIT' means a managed investment trust created or organised under the laws of Australia which carries on a business consisting of investment, directly or indirectly, in real property for the main purpose of deriving rent. MIT is, therefore, a REIT for the purposes of the Japanese Convention. The Japanese client is a resident of Japan and beneficially owns the distribution that is reasonably attributable to the fund payment made by MIT in relation to MIT's first income year starting on or after 1 July 2008. The Japanese Convention applies to withholding tax on income derived on or after 1 January 2009. Therefore, Australia's right to tax the Japanese client's gross distribution of income, profits or gains on or after 1 January 2009 is limited to 15%. Subsection 4(2) of the Agreements Act provides that the Agreements Act has effect notwithstanding any inconsistency contained in the ITAA 1936 (except for Part IVA of the ITAA 1936), the ITAA 1997 or an Act imposing Australian tax. In the present case, the withholding obligations of the trustee of MIT are imposed by the TAA, and not by the ITAA 1936 or the ITAA 1997. Further, the TAA is not an Act 'imposing' Australian tax; rather it is an Act that provides for the administration of certain Acts relating to taxation. Therefore any inconsistency between the Agreements Act and the TAA is not subject to subsection 4(2) of the Agreements Act, because that subsection does not apply to the TAA. It is nevertheless necessary to consider, as a matter of ordinary statutory interpretation, how each provision is construed when read in the context of the other. The obligation on the custodian to withhold at 22.5% pursuant to Subdivision 12-H of Schedule 1 to the TAA does not determine the tax liability of the ultimate foreign beneficiary of a fund payment. Taxation is imposed on the ultimate foreign beneficiary of the fund payment by the Income Tax (Managed Investment Trust Transitional) Act 2008 and on the amount determined under Subdivision 840-M of the Income Tax (Transitional Provisions) Act 1997 . The ultimate foreign beneficiary of a fund payment is entitled to a refund of any amount withheld that is in excess of their liability calculated in accordance with Article 10(7) of the Japanese Convention. It is therefore possible for a custodian to withhold at a rate of 22.5% without Australia breaching its obligation under the Japanese Convention to impose tax at a rate not exceeding 15%. Therefore, the requirement under Subdivision 12-H of Schedule 1 to the TAA does not conflict with the 15% tax rate limit on gross distributions by REITs. Further, this interpretation aligns with the purposes of Subdivision 12-H of Schedule 1 to the TAA as it ensures withholding at a rate that covers the foreign residents' tax liability. Withholding at a lower rate may result in the foreign resident having a liability in excess of the amount withheld. This is because the 15% rate in the Japanese Convention applies to the gross distribution of income, profits or gains, some of which may be taxed at a lower rate (for example, interest income of foreign residents is taxed at 10%) or not taxed (for example, foreign source income), and therefore taxing the fund payment at 22.5% may still result in the effective rate of tax on the gross distribution being equal to or less than 15%. Accordingly, Custodial Services Co cannot reduce the withholding rate from 22.5% (prescribed by Subdivision 12-H of Schedule 1 to the TAA) to 15% because of Article 10 of the Japanese Convention.

Legislative references: Income Tax Assessment Act 1936 Part IVA
Subject references: Distributions to non residents Japan Investment trusts Trustees Withholding taxes