Virgin Holdings SA v Commissioner of Taxation; Undershaft (No. 1) Limited and Undershaft (No. 2) BV v Commissioner of Taxation
Document type: Decision Impact Statement
Venue: Federal Court of Australia (NSD 1149 of 2007, NSD 57 of 2008; NSD 1283 of 2006 and NSD 1282 of 2006)
Judgment date: 10 October 2008
Date published: 16 September 2016

Summary of decision:
Outlines the Tax Office's response to two cases which raised the issue of whether Double Tax Agreements entered into prior to the CGT regime in Australia, denied the Commissioner the right to tax capital gains derived in Australia by foreign residents

Overview of facts:
In each of the matters, the applicants were foreign resident companies. Virgin Holdings SA was incorporated in Switzerland, Undershaft (No. 1) Limited was incorporated in the United Kingdom and Undershaft (No 2) BV was incorporated in the Netherlands. It was accepted in each case that none of the applicants carried on business through a permanent establishment in Australia. | The Commissioner takes the view in TR 2001/12 that DTAs entered into by Australia prior to the introduction of the comprehensive CGT regime into the Australian income tax legislation in 1985 ("pre-CGT DTAs") do not limit Australia's right to tax capital gains derived by entities that are residents of pre-CGT DTA treaty partners under the comprehensive capital gains tax regime. | The comprehensive capital gains tax regime was introduced into the Australian income tax legislation in 1985, by way of Part IIIA of the Income Tax Assessment Act 1936 , and continues in Part 3-1 of the Income Tax Assessment Act 1997 . | The DTAs between Australia and Switzerland, Australia and the UK, and Australia and the Netherlands came into force in 1981, 1967 and 1976 respectively and each of those DTAs remained in force at the time of the relevant transactions in each of the matters in the 2004 and 2001 tax years. | Virgin Holdings SA | Virgin Holdings SA was a company resident in Switzerland which was a shareholder in Virgin Blue Holdings Ltd, an Australian resident company. Due to a company group restructure and through a series of transactions including a 1:120 share split, on 4 November, 8 and 12 December 2003 Virgin Holdings disposed of 21,721,626, 7,031,176 and 123,196,853 respectively of its shares in Virgin Blue Holdings Ltd. The Commissioner allowed roll-over relief in respect of the 4 November share disposal. The 8 December disposal was an off-market share buy-back and the Commissioner allowed share buy-back capital losses of $4,208,737 pursuant to Division 16K of the ITAA 97. Inclusive of the amount rolled over from another member of the company group, a capital gain of $196,954,809 for the accounting period in lieu of the year ended 30 June 2004 arose for Virgin Holdings SA as a result of the 12 December 2003 sale. | The Federal Court (Edmonds J) handed down a decision in the Applicant's favour on 10 October 2008. On 31 October 2008 the Commissioner appealed that decision to the Full Federal Court. The appeal has now been withdrawn by the Commissioner. | Undershaft | Undershaft (No 1) was a company resident in the UK and Undershaft (No 2) was a company resident in the Netherlands. As a result of an earlier merger, on 20 December 2000, Undershaft (No 1) disposed of its shares in CGU Insurance Australia Ltd, an Australian resident company, and Undershaft (No 2) disposed of its shares in Norwich Union Australia Ltd, also an Australian resident company. The parties agreed that the sales fell within CGT Event A1 under s104-10 of the ITAA 97 and that a capital gain arose to each of Undershaft (No 1) and (No 2) as a result of those sales. In the year ended 30 June 2001 Undershaft (No 1) made a gain of $273,000,000 and Undershaft (No 2) made a gain of $108,585,000. | The Federal Court (Lindgren J) handed down a decision in the Applicants' favour on 3 February 2009. | Issues decided by the court | Virgin Holdings | 1. CGT amounts are included in "taxes covered" for the purposes of Article 2 of the Swiss DTA where the Swiss DTA was a pre CGT treaty, both as part of "the Australian income tax" in Article 2(1)(a) and alternatively as a "substantially similar tax" for the purposes of Article 2(2); 2. The CGT amounts are included in "profits of an enterprise" for the purposes of Article 7 of the Swiss DTA; or 3. The CGT amounts are included in "income from the alienation of capital assets of an enterprise" for the purposes of Article 13(3) of the Swiss DTA; 4. Accordingly, the CGT amounts are precluded from liability to tax in Australia. | 1. CGT amounts are included in "taxes covered" for the purposes of Article 2 of the Swiss DTA where the Swiss DTA was a pre CGT treaty, both as part of "the Australian income tax" in Article 2(1)(a) and alternatively as a "substantially similar tax" for the purposes of Article 2(2); 2. The CGT amounts are included in "profits of an enterprise" for the purposes of Article 7 of the Swiss DTA; or 3. The CGT amounts are included in "income from the alienation of capital assets of an enterprise" for the purposes of Article 13(3) of the Swiss DTA; 4. Accordingly, the CGT amounts are precluded from liability to tax in Australia. | Undershaft (No 1) | 1. Article 5 (Industrial or Commercial Profits Article) of the UK DTA applies to capital gains which are included in assessable income under the ITAA 1997; 2. The term "Commonwealth income tax" in Article 1(1)(b) (Taxes Covered Article) of the UK DTA includes capital gains; 3. Although not necessary to decide, in relation to Article 1(2) of the UK DTA, the tax on capital gains, as introduced by Part IIIA of the ITAA 1936, constitutes a "substantially similar tax" to the taxes covered in Article 1(1). | 1. Article 5 (Industrial or Commercial Profits Article) of the UK DTA applies to capital gains which are included in assessable income under the ITAA 1997; 2. The term "Commonwealth income tax" in Article 1(1)(b) (Taxes Covered Article) of the UK DTA includes capital gains; 3. Although not necessary to decide, in relation to Article 1(2) of the UK DTA, the tax on capital gains, as introduced by Part IIIA of the ITAA 1936, constitutes a "substantially similar tax" to the taxes covered in Article 1(1). | Undershaft (No 2) | 1. Article 7 (Business Profits Article) of the Netherlands DTA applies to capital gains which are included in assessable income under Part 3-1 of the ITAA 1997; 2. The term "Australian income tax" in Article 2(1)(a) (Taxes Covered Article) of the Netherlands DTA includes capital gains; 3. Although not necessary to decide, in relation to Article 2(2) of the Netherlands DTA, the tax on capital gains, as introduced by Part IIIA of the ITAA 1936, constitutes a substantially similar tax to the taxes covered in Article 2(1). 4. Capital gains tax would be covered by the Netherlands Agreement regardless of whether Australia had informed the Netherlands of its introduction (as required by Article 2(2)). | 1. Article 7 (Business Profits Article) of the Netherlands DTA applies to capital gains which are included in assessable income under Part 3-1 of the ITAA 1997; 2. The term "Australian income tax" in Article 2(1)(a) (Taxes Covered Article) of the Netherlands DTA includes capital gains; 3. Although not necessary to decide, in relation to Article 2(2) of the Netherlands DTA, the tax on capital gains, as introduced by Part IIIA of the ITAA 1936, constitutes a substantially similar tax to the taxes covered in Article 2(1). 4. Capital gains tax would be covered by the Netherlands Agreement regardless of whether Australia had informed the Netherlands of its introduction (as required by Article 2(2)). | Judicial comity (Undershaft) | This was relevant due to the decision in Virgin Holdings having been handed down in the same court 17 days prior to the hearing in Undershaft . 1. The principle of judicial comity requires, assuming the case to be indistinguishable, (particularly in this matter concerning interpretation of Commonwealth legislation) that the court follow an earlier decision unless it considers it clearly wrong or plainly wrong. | 1. The principle of judicial comity requires, assuming the case to be indistinguishable, (particularly in this matter concerning interpretation of Commonwealth legislation) that the court follow an earlier decision unless it considers it clearly wrong or plainly wrong.

Issues decided:
Virgin Holdings 1. CGT amounts are included in "taxes covered" for the purposes of Article 2 of the Swiss DTA where the Swiss DTA was a pre CGT treaty, both as part of "the Australian income tax" in Article 2(1)(a) and alternatively as a "substantially similar tax" for the purposes of Article 2(2); 2. The CGT amounts are included in "profits of an enterprise" for the purposes of Article 7 of the Swiss DTA; or 3. The CGT amounts are included in "income from the alienation of capital assets of an enterprise" for the purposes of Article 13(3) of the Swiss DTA; 4. Accordingly, the CGT amounts are precluded from liability to tax in Australia. 1. CGT amounts are included in "taxes covered" for the purposes of Article 2 of the Swiss DTA where the Swiss DTA was a pre CGT treaty, both as part of "the Australian income tax" in Article 2(1)(a) and alternatively as a "substantially similar tax" for the purposes of Article 2(2); 2. The CGT amounts are included in "profits of an enterprise" for the purposes of Article 7 of the Swiss DTA; or 3. The CGT amounts are included in "income from the alienation of capital assets of an enterprise" for the purposes of Article 13(3) of the Swiss DTA; 4. Accordingly, the CGT amounts are precluded from liability to tax in Australia. Undershaft (No 1) 1. Article 5 (Industrial or Commercial Profits Article) of the UK DTA applies to capital gains which are included in assessable income under the ITAA 1997; 2. The term "Commonwealth income tax" in Article 1(1)(b) (Taxes Covered Article) of the UK DTA includes capital gains; 3. Although not necessary to decide, in relation to Article 1(2) of the UK DTA, the tax on capital gains, as introduced by Part IIIA of the ITAA 1936, constitutes a "substantially similar tax" to the taxes covered in Article 1(1). 1. Article 5 (Industrial or Commercial Profits Article) of the UK DTA applies to capital gains which are included in assessable income under the ITAA 1997; 2. The term "Commonwealth income tax" in Article 1(1)(b) (Taxes Covered Article) of the UK DTA includes capital gains; 3. Although not necessary to decide, in relation to Article 1(2) of the UK DTA, the tax on capital gains, as introduced by Part IIIA of the ITAA 1936, constitutes a "substantially similar tax" to the taxes covered in Article 1(1). Undershaft (No 2) 1. Article 7 (Business Profits Article) of the Netherlands DTA applies to capital gains which are included in assessable income under Part 3-1 of the ITAA 1997; 2. The term "Australian income tax" in Article 2(1)(a) (Taxes Covered Article) of the Netherlands DTA includes capital gains; 3. Although not necessary to decide, in relation to Article 2(2) of the Netherlands DTA, the tax on capital gains, as introduced by Part IIIA of the ITAA 1936, constitutes a substantially similar tax to the taxes covered in Article 2(1). 4. Capital gains tax would be covered by the Netherlands Agreement regardless of whether Australia had informed the Netherlands of its introduction (as required by Article 2(2)). 1. Article 7 (Business Profits Article) of the Netherlands DTA applies to capital gains which are included in assessable income under Part 3-1 of the ITAA 1997; 2. The term "Australian income tax" in Article 2(1)(a) (Taxes Covered Article) of the Netherlands DTA includes capital gains; 3. Although not necessary to decide, in relation to Article 2(2) of the Netherlands DTA, the tax on capital gains, as introduced by Part IIIA of the ITAA 1936, constitutes a substantially similar tax to the taxes covered in Article 2(1). 4. Capital gains tax would be covered by the Netherlands Agreement regardless of whether Australia had informed the Netherlands of its introduction (as required by Article 2(2)). Judicial comity (Undershaft) This was relevant due to the decision in Virgin Holdings having been handed down in the same court 17 days prior to the hearing in Undershaft . 1. The principle of judicial comity requires, assuming the case to be indistinguishable, (particularly in this matter concerning interpretation of Commonwealth legislation) that the court follow an earlier decision unless it considers it clearly wrong or plainly wrong. 1. The principle of judicial comity requires, assuming the case to be indistinguishable, (particularly in this matter concerning interpretation of Commonwealth legislation) that the court follow an earlier decision unless it considers it clearly wrong or plainly wrong.

ATO view of decision:
The Commissioner accepts that with two separate decisions at first instance reaching a common conclusion in relation to substantially common issues, there has now been sufficient clarification of the law. | Accordingly, the Commissioner withdrew his appeal to the Full Federal Court in the Virgin Holdings matter. The appeal period in the Undershaft matters expired on 3 March 2009 and the Commissioner did not appeal the decision of Lindgren J in those matters. | The Commissioner will, where appropriate, apply the decisions in respect of similar matters involving entities making taxable capital gains under Part 3-1 of the ITAA 1997 which are residents of countries where a similarly worded DTA signed prior to the introduction of a comprehensive capital gains tax regime in 1985 applies. It means that, under the DTA, the Commissioner is denied the right to include capital gains in the assessable income of residents of these countries that make capital gains in Australia from the sale of similar assets in circumstances covered by the two cases. | It is noted, however, that as Australia has renegotiated a number of the DTAs that were in force in 1985, including those with many of our significant trading partners (e.g. the United States of America, the UK, New Zealand, Canada) these decisions will have a somewhat limited application. As further DTAs are renegotiated, the potential impact of this decision will lessen. Further, the ongoing significance of this issue with respect to the disposal of shares is reduced due to the narrowing of the range of assets held by foreign residents that are subject to CGT following legislative changes enacted by the Tax Laws Amendment (2006 Measures No 4) Act 2006 with effect from 12 December 2006. The direct and indirect interests in real property (including certain options and rights) held by foreign residents, and business assets of a foreign resident's permanent establishment in Australia are subject to the CGT provisions. It is noted that both the remaining pre-CGT tax treaties and those subsequently negotiated generally allocate the right to tax capital profits from the alienation of these types of assets. | In the Undershaft decision, Lindgren J commented, in obiter , at paragraph 46, that "A DTA does not give a Contracting State power to tax ..." However, the Commissioner takes the view that, in certain circumstances - for example a transfer pricing matter in respect of the Associated Enterprises Article - a DTA may apply (refer to the discussion at paragraphs 29-33 of TR 2001/13).

Administrative treatment:
Implications on current Public Rulings & Determinations | On 13 October 2010, the Commissioner withdrew Taxation Ruling TR 2001/12 without replacement. Taxation Ruling TR 2001/13 was amended on 14 September 2016 to make changes consequential to the withdrawal of TR 2001/12. | Date of amendment Part Comment 16 September 2016 Tax Office view of Decision Updated 2nd paragraph Administrative treatment Updated to reflect the withdrawal of TR 2001/12 and amendment of TR 2001/13 Comments section Deleted

Legislative references: Commonwealth Constitution 55 114 Income Tax Assessment Act 1915 (Cth) 53 Income Tax Assessment Act 1922 (Cth) 16B 17 93 Income Tax Assessment Act 1936 (Cth) Part IIIA 25A 26 26AAA 36 47 160ZO 167 260 International Tax Agreements Act 1953 (Cth) 3 4 5 11A 11E Schedule 1 Schedule 10 Schedule 15 Income Tax Assessment Act 1997 (Cth) Part 3-1 102-5
Case references: Virgin Holdings and Undershaft Applicant A v Minister for Immigration and Ethnic Affairs [1997] HCA 4 190 CLR 225 142 ALR 331 Chong v Commissioner of Taxation (2000) 101 FCR 134 2000 ATC 4315 44 ATR 295 Commissioner of Taxation v Lamesa Holdings BV (1997) 77 FCR 597 36 ATR 589 97 ATC 4752 McDermott Industries (Aust) Pty Ltd v Commissioner of Taxation (2005) 142 FCR 134 2005 ATC 4398 59 ATR 358 Resch v Federal Commissioner of Taxation (1942) 66 CLR 198 15 ALJ 359 6 ATD 203 South Australia v Commonwealth (1992) 174 CLR 235 23 ATR 10 92 ATC 4066 Thiel v Federal Commissioner of Taxation (1990) 171 CLR 338 21 ATR 531 90 ATC 4717 Virgin Holdings Federal Commissioner of Taxation v Sherritt Gordon Mines Limited (1977) 137 CLR 612 7 ATR 726 77 ATC 4365 Gadsden v Minister for National Revenue (Tax Review Board) 83 DTC 127 Hastie Group Limited v Commissioner of Taxation [2008] FCA 444 2008 ATC 20-019 70 ATR 353 Kinsella v Revenue Commissioners [2007] IEHC 250 10 ITLR 63 Undershaft Fernando v Commissioner of Police (1995) 36 NSWLR 567 78 A Crim R 64 La Macchia v Minister for Primary Industries and Energy (1992) 110 ALR 201 Lamesa Holdings BV v Federal Commissioner of Taxation (1997) 97 ATC 4229 35 ATR 239 Mutual Pools & Staff Pty Ltd v Commissioner of Taxation (Cth) (1992) 173 CLR 450 22 ATR 856 92 ATC 4016 R v Dyson (1997) 68 SASR 156 92 A Crim R 233 R v Franklin (1979) 22 SASR 101 1 A Crim R 1 Re McKean (unreported, Federal Court of Australia, 16 April 1996) BC 9602146 Tillman v Attorney-General for the State of New South Wales [2007] NSWCA 327 70 NSWLR 448 178 A Crim R 133 TSL v Secretary to the Department of Justice [2006] VSCA 199 14 VR 109 166 A Crim R 69 Unisys Corporation Inc v Commissioner of Taxation [2002] NSWSC 1115 2002 ATC 5146 51 ATR 386
Subject references: Income tax International tax agreements Double tax agreements (DTAs) Taxation of capital tax in respect of DTAs entered into before introduction of capital gains tax (CGT) in Australia Business profits and alienation of property articles Comity in judicial decision-making
Other references: Vienna Convention on the Law of Treaties 'Agreement between Australia and Switzerland for the Avoidance of Double Taxation with respect to Taxes of Income' entered into force on 13 February 1981 'Agreement between the Government of the Commonwealth of Australia and the Government of the United Kingdom of Great Britain and Northern Ireland for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income and Capital Gains' signed on 7 December 1967 'Agreement between Australia and the Kingdom of the Netherlands for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with respect to Taxes on Income' signed on 17 March 1976