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ECONOMICS LEGISLATION COMMITTEE
23/05/2000
Taxation Laws Amendment Bill (No. 11) 1999

CHAIR —Our next witnesses are from the tax office. Welcome to the committee. As you know, we are looking at this particular bill. Do you wish to make an opening statement, Mr Allen?

Mr Allen —I would be addressing the CTA submission which we received a copy of late yesterday. There are several aspects of that submission—I think as we entered the room you were directing questions to the CTA as to whether they would be satisfied if the date of effect of the legislation were changed. Perhaps if I address that aspect first.

CHAIR —Fair enough.

Mr Allen —The other main aspect, as I see it, is the proposed certainty changes and the method by which the Lamesa decision was handled, by legislation rather than renegotiating the treaties.

Senator MURRAY —Before we start, Mr Allen, if you missed a lot of the evidence, I think by the end of it we established that their main concern was in fact retrospectivity and not the other issues they raised. If that was dealt with satisfactorily, it seemed as though their objections would largely diminish. If you could pay a lot of attention to that in your remarks it would be helpful.

Mr Allen —Certainly. At the outset, I suppose the retrospectivity issue initially relates to the application clause in the bill. In that respect, we from the tax office do not consider there is any question of retrospectivity in relation to that application clause. It provides for the member to apply only in relation to relevant alienations or dispositions that occur after the time of the Treasurer's press release and alienations or dispositions that were legally effective before that time remain unaffected. We note from the CTA submission that their main concern is with respect to arrangements that had commenced before the date of the press release and after the date of the Lamesa case decision—in total about eight months time. They claim that taxpayers should have been able to rely, in effect, on the Lamesa decision as establishing the law once that decision was handed down.

Of course, the commissioner had 30 days in which to appeal against the decision, and certainly the Lamesa decision could not be relied until it was determined whether the commissioner was going to appeal or not. The commissioner decided not to appeal. Following that decision, the reason for the lengthy delay between that time and the Treasurer's press release was that the matter did involve the application of a particular treaty provision and had flow-on effects to other treaty provisions. Because of a treaty being involved, the considerations to be taken into account by the government and the commissioner as to possible remedial action took longer than if only domestic law had been involved.

To return to that aspect of the CTA's claim, I would draw to the senators' attention that during that particular period the tax profession would have been aware of several factors following the court decision. These factors are that from a reading of the judgment of the court, its decision was contrary to the Commissioner of Taxation's understanding of how we incorporate that that real property provision in Australia's DTAs was always intended to operate, which was the subject of the Lamesa case. The decisions also created opportunities for relatively easy tax planning to avoid the taxing right accorded to Australia by those provisions in 30 or more treaties. They would have been aware that that would have serious revenue consequences, a situation which the government was unlikely to countenance.

They should also have been aware that it was not unprecedented for the government of the day to legislate as a consequence of a court decision adverse to the commissioner. In relation to tax treaties, the right precedent exists in that respect in section 3(11) of the International Tax Agreements Act which covers permanent establishment of business trusts. That enactment was in 1984. If senators wish, we can give a short summary of the circumstances of that particular precedent.

CHAIR —Senator Murray?

Senator MURRAY —I have no problem with it.

Mr Allen —So against those factors, I think it is fair to say that taxpayers who commenced transactions following the court decision should have been aware that the government might at some time take remedial action against the court's decision. I would respectfully submit that those circumstances distinguish this amendment action from that involved in the share buy-back legislation referred to in the association's submission. I would also submit, therefore, that it is not unreasonable that taxpayers who had commenced relevant transactions in reliance on the court's decision, but had not actually alienated the property—which is the point at which the tax liability arises under the treaties—by the time of the Treasurer's press release, should be governed by the double taxation rules clarified by the amendment.

I would add that to make exceptions where alienations had not occurred, but were in train at the time of the press release, would put such arrangements in a privileged position, as compared with later transactions, or transactions involving incorporated real property but without the interposed entities arrangements, which was the situation in Lamesa and the subject of the amendment. So in our view to make exceptions for those cases would not appear to be justified and they could involve a large potential risk to revenue. I might add that the tax office was aware of a particular case at the time of the Treasurer's press release and the tax involved in that case was $79 million tax—not taxable income. We did not have sufficient data at that time as to possible other cases that may have commenced before the time of the Treasurer's press release. Besides, if we go back beyond the time of the press release to make exceptions for those cases, it would allow an argument that alienations that actually occur a long time into the future, but were set in train prior to the press release, could be excepted from the impact of the legislation, even if the alienation did not occur for months, or perhaps even years, later. A provision fairly dealing with transitional cases might also have to deal with each case on a factual case-by-case basis and that could create uncertainties on its own.

The CTA submission also proposes that the commencement date be altered to the date of introduction, 9 December 1999, in accordance with the Senate's six-month rule. We would be concerned if the Senate was inclined to move that way because that was some 20 months after the Treasurer's press release and it would allow those who chose not to fall in with the government's intention, as announced by the Treasurer on 27 April 1998, to escape the application of the amendment. So, in short, we could not support the CTA's proposal that cases that had commenced before the date of the Treasurer's press release but that were not finalised until after that press release should be excepted, given that the date of application applies in respect of alienations that occurred after the date of the press release. As I will enlarge on if the committee wishes, under the treaties we interpret that, in accordance with international practice, as meaning the date that the alienation was legally effective.

CHAIR —Thank you. Senator Watson.

Senator WATSON —You say that it took eight months from the handing down of the decision for the Treasurer to issue the press release. The Tax commissioner had to appeal within 30 days and he decided not to appeal within 30 days.

Mr Allen —Correct.

Senator WATSON —That gives you seven months. I find seven months an exceptionally long period in which to have almost a state of limbo. You say that people would expect legislation was going to come, but the hint of legislation did not come until after seven months. Can you explain why it took seven months to advise the Treasurer to issue a press release in relation to the potential loss of many hundreds of millions of dollars? The parliament—and certainly the coalition—would find it quite unacceptable that the government was not advised a lot earlier in relation to the discovery of a major problem. Also in relation to the Senate order, I think there is the need for some sort of discipline and I think the whole concept of that six-month rule was to ensure that legislation was brought in in a timely manner to try and rectify these matters. I believe the tax office has fallen down very badly in this whole issue in not addressing it as expeditiously as it should have.

Mr Allen —Could I say in response, Senator, that the considerations that took place following the commissioner's decision not to appeal involved both the Taxation Office and ministers. As I mentioned earlier, the difficulty was that the court decision did not merely affect domestic legislation, it affected the interpretation of tax treaties with a number of other countries—over 30 in all. It was a matter of discussion between the tax office and ministers as to what remedial action should be taken, given that it was recognised that there were potentially large revenue risks.

Senator WATSON —I put to you, though, that all those decisions would have to have been undertaken within 30 days, because they are the sorts of issues that the tax commissioner would have had to have been across before making a decision not to appeal. I cannot see as a reason that you needed all this extra time because all those decisions and questions would have been asked by the commissioner before he made his decision. Fair enough, you can always get more information, but the basic information should have been to hand, otherwise he did not make his decision on proper factual grounds or after adequate investigation.

Mr Allen —Could I mention, the only reason that the commissioner did not appeal against the decision was that advice was obtained from the Crown Solicitor that the decision was open to the court on the wording of the relevant provisions of the treaty, albeit that it was the commissioner's view that that decision did not fully reflect the intent of the provisions as negotiated. As brought out in the Lamesa case and the Treasurer's press release, it had always been the commissioner's view that the treaties operated to cover the interposed entities situation, such as in the Lamesa case, but the Crown Solicitor's advice on the wording of the treaty was that nevertheless it was open to the court to reach the decision that it did and the chances of success on appeal were not good.There was consideration given during that period on whether or not to appeal and on what options were available to the government to take remedial action. In consultation with the government, both during that period and subsequently, the options considered were two. The first option was changes to the large number of treaties, which would have involved renegotiation of a protocol. But there were over 30 treaties involved and our experience has been that even one change to a treaty can result in counter amendments being put by the other side and that if you attempt to change one treaty, that type of change can go on for a considerable period before an amendment is achieved. In this case we had 30 treaties, so it would have been extremely time consuming and costly and this option could not have adequately dealt with the short to medium term impact of the Lamesa decision.

The other option was to legislate, in a similar fashion to the 1984 precedent for section 3(11). That did mean we would have to consider whether the legislation would be accepted by the other countries as consistent with the existing provision, which in our view it was. Because of those considerations, it did take longer for a decision to be made at the ministerial level to proceed with the legislation option.

Senator WATSON —But I am suggesting, though, that there should have been some earlier signal. I am not suggesting that two days after the expiration of the commissioner's right of appeal he was going to spell it out in detail, but there should have been some sort of signal sent out to the community that the government was looking at measures to overcome this, because as soon as that court decision was made you can bet your bottom dollar that there would have been a lot of people trying to replicate that situation to get an advantage. I am just concerned that the tax office appeared to have the luxury of time when there was a sense of urgency about doing something. Be that as it may, you have to be judged on your performance and I think your performance here in terms of expediting this matter has not been good.

There is a possibility of this whole thing being subject to appeal in that an international tax agreement overrides domestic law. What is our position? We might be passing something now that could be overthrown in the courts. We want some certainty.

Mr Allen —We are confident, Senator, that such an appeal would not be successful. In the first place, we are confident that the amendment is consistent with the intent of the relevant provision of the existing treaties. In any event, tax treaties are given the force of law by domestic legislation, as you rightly mention—that legislation prevails for the treaties to prevail over the domestic law. Nevertheless, there are a series of cases on the point -

Senator WATSON —Local or international?

Mr Allen —Australian High Court cases: Horter v. The Commonwealth in particular, Polites v The Commonwealth and Polikovic v. The Commonwealth, that if there is a clearly expressed provision in an Australian domestic act it will not be questioned in the court in Australia, even if it may appear to override a treaty undertaken by the Commonwealth.

Senator WATSON —But our legislation was based on legislation from the US and we were told that the US courts had thrown that particular provision out. Given that our international arrangements are pretty well modelled on a lot of the American legislation, why do you think that the courts will treat the situation in Australia any differently to how they are treating it overseas, given that the underlying rationale and background is similar to what is in the United States?

Mr Allen —I cannot comment on that. As I say, I am aware of these High Court authorities in Australia -

Senator WATSON —But you would be aware of the United States courts overriding similar attempts to change it.

Mr Allen —Yes, but certainly in Australia the High Court has held that clear legislation in the Australian domestic law has to be followed by the court.

Senator WATSON —How old are those cases?

Mr Allen —Horter was 1994, Polites was 1945—

Senator WATSON —That is a pretty old one.

Mr Allen —Polikovic was 1991.

Senator WATSON —The model on which we based our international agreements are all later than 1945. What was the date of that American decision?

Mr Allen —It was 1999.

Senator WATSON —It was 1999.

Mr Allen —It is a question of whether the High Court would take the American decision as authoritative. If I could quote Chief Justice Latham in the Polities case—

Senator WATSON —That was 1994?

Mr Allen —No, Polites was the early case, but it was cited in those other cases—Polites is 1945.

Senator WATSON —That is just such old law in relation to what we are looking at. I think you have to give us something a little bit more up-to-date.

Mr Allen —I have these other cases, Horter v. The Commonwealth and Polikovic v. The Commonwealth, which endorses the Polites approach. I suppose the main point is—

Senator MURPHY —Do those cases have application in terms of the matter we are considering here?

Mr Allen —Certainly, because they concern provisions of domestic law which related to treaty obligations and—

Senator MURPHY —In what respect? In respect of double taxation?

Mr Allen —Not in respect of double taxation, but we consider that they have the same principle.

Senator MURPHY —But might it not be the case though that under some treaties there is provision for the treaty not to impinge on domestic law? That is common in a lot of treaty agreements between countries. In the case of double taxation, I cannot quite remember but I thought that some treaties actually had a different application. In fact, I thought there was a case where an Australian company was caught in some dispute—I cannot recall where, but it was something that related to double taxation—and this matter arose where the national law could not override a treaty agreement in respect of the double taxation arrangements.

Mr Allen —We are not aware of that one, Senator.

Senator MURPHY —I am a member of the treaties committee and some of these issues came up from time to time. It was just something that I seem to recall in respect of this issue. I would have to go back and check all of that.

CHAIR —Senator Murray had some specific questions.

Senator MURRAY —Thank you, Chair. Mr Allen, is there any likelihood that the countries concerned with the 31 DTAs affected might refuse to renegotiate their treaties to take these law changes into account?

Mr Allen —I suppose to put the response in context, as indicated in the bill, it does provide for the amendment to cease to have effect once a treaty is renegotiated to the same effect as the amendment.

Senator MURRAY —What would happen if the treaty was renegotiated but not to the same effect?

Mr Allen —That would be most unlikely. Sorry, I suppose the legal answer is: if it was renegotiated, but not to the same effect, the amendment would continue to apply. I was leading up to the point that because the bill provides for cessation of this amendment, that was in pursuance of a government decision that the amendment should be made but we would write to each of the affected treaty partner countries—which I might add, we had kept informed of the whole matter following the Treasurer's press release, both directly and in international forums, such as the OECD and the United Nations—advising them of the government's action, or proposed action at the time of the press release, and inviting them, if they wished, to have it effected bilaterally through an amendment to the treaty. Some of the countries have not yet responded to that invitation, but we have received to date, I think, only four cases where the treaty partners have sought a renegotiation. A number who have responded have said that they are happy with the government's action and they do not wish to renegotiate the treaty.

Senator MURRAY —Have any of the respondents said that they are unhappy with the government's decision?

Mr Allen —Yes, some—

Senator MURRAY —Which countries?

Mr Allen —Those countries were Belgium, the Netherlands—which was the treaty concerned in the Lamesa case—New Zealand and Singapore. We have advised them that we are prepared to renegotiate if they wish and we are waiting on responses from those countries.

Senator MURRAY —What happens if you renegotiate and they refuse to include this provision?

Mr Allen —That is quite possible.

Senator MURRAY —Then what happens?

Mr Allen —This provision is designed and has its origin in the United Nations model. It is designed to provide source country taxing rights to resource-rich countries, such as Australia. A number of other treaty partners, including some of those who have objected, are not resource-rich countries. Even though they may agree with us that the amendment is consistent with the intent of that provision, they may, for their own national interests, not wish to renegotiate.

Senator MURPHY —So if this bill passes, some countries have agreed to renegotiate, consistent with what is proposed in the law, others have not responded and some have responded saying they are not happy but they might renegotiate. You might end up renegotiating something different again.

Mr Allen —It would be inconsistent with the government's policy for us to renegotiate something different to the amendment. I might add, there may be differences in wording—because each treaty is a bilateral negotiation—but we would only negotiate on the basis that the effect is the same.

Senator MURRAY —What would happen if a country said, `Look, you have no double taxation treaty with us unless you drop this'? What would your approach be?

Mr Allen —That would be a matter for the government to make the decision on whether to—

Senator MURPHY —What would be the potential effect of that?

Mr Allen —Each of the treaties provides for termination, upon a certain period of notice, by one of the countries. If the other country decided that they wished to terminate the treaty, and if the government proceeded along this course, it would be a matter for the government to decide which option they would wish to take, given that the termination of the treaty would have much wider effects on trade and investment than just these type of situations.

Senator MURRAY —But that is the point, is it not, that they have you over a barrel? If through this legislation you unilaterally—and I do not mean `you' to be you, Mr Allen, or the ATO, but `you' as in Australia—seek to override a treaty and the treaty partner refuses to oblige, you are off the buckle, frankly, and the result is that that provision will then be inconsistent. I can see the High Court having an absolute field day with it.

Mr Allen —Could I say, Senator, we believe we have very strong grounds for this amendment not being inconsistent with the treaties.

Senator MURRAY —Except that it is at present. If the treaty is not renegotiated, it will be, and if the other countries refuse—those four, for instance, who have already said they have worries—to renegotiate, it will be inconsistent. How are we as legislators to deal with that situation? We have no understanding of what the legal consequences are.

Mr Allen —As I say, it would be a matter for the government whether they wish to preserve that particular treaty or proceed with the amendment.

Senator MURRAY —But the point made by my coalition colleagues is that we have some indication of what the legal consequences are: namely, that on international precedent the courts will rule in favour of the existing treaty situation. That is what we have available to us at present in terms of precedent.

Mr Allen —When you talk of precedent, do you mean the American cases?

Senator MURRAY —Yes, because our own High Court has never had to consider this particular issue. Those cases you quoted us do not deal with this kind of issue.

Mr Allen —Not a tax treaty issue. I am not sure of the facts of the other cases but it may have had a similar effect as to whether the domestic legislation overrode the particular treaty obligations.

Senator MURRAY —If I take you where I am going with this, the previous witnesses—and they were not threatening at all, so let me not even couch it in the way of a threat—said essentially that if the retrospectivity issue was fixed they would themselves not take the issue to the High Court. So for an issue to get to the courts, for there to be the kind of consequence we would be concerned with, there would have to be an applicant who would be aggrieved. They have clearly said that if retrospectivity was resolved then as far as they are able to assure us—and I do not know what value that is, because obviously they cannot speak for each of their hundred members—we would not see it go to the court. This then means to me that the retrospectivity issue becomes paramount because we as legislators are, frankly, left in legal ignorance about this.

Mr Allen —Well, could I say, Senator, on the basis of the High Court cases which I have mentioned—

Senator WATSON —They are not relevant, this is the problem. They are not directly relevant to the double taxation -

CHAIR —Let Mr Allen go ahead.

Mr Allen —On the basis of the High Court decisions that I have mentioned, we believe that if the matter did get to a High Court, the court would be bound to follow the amendment made by this legislation. Chief Justice Latham said in Polites, which has been followed in these other more recent cases:

It must be held that legislation otherwise within the power of the Commonwealth parliament does not become invalid because it conflicts with a rule of international law, though every effort should be made to construe Commonwealth statutes so as to avoid breaches of international law of international commodity.

We believe that if the Australian parliament passes this legislation, and even if the measures contained within the amendment did conflict with our treaty obligations—which we do not concede is the case—such a conflict would not detract from its status of Australian domestic law and so make the subsection invalid in Australian law, as is implied, or the treaties invalid.

Senator MURPHY —Has the tax office sought any advice from the Attorney-General's Department with respect to some of these cases and the particular matter in this legislation?

Mr Allen —We have not, not in relation to the challenge.

Senator MURPHY —Why is that?

Mr Allen —Because we have our own people with international legal backgrounds and training and experience in treaty law—tax treaty law, not wider treaty law.

Senator MURRAY —Can I move on to retrospectivity, Mr Chairman?

CHAIR —Please.

Senator MURRAY —There are a few dates involved, but let us start with the first date which is 27 April 1998. Will any companies be affected retrospectively by this legislation for events which occurred before that date?

Mr Allen —The events you refer to—

Senator MURRAY —I am referring to tax events.

Mr Allen —Taxable events would be whether or not a transaction leading to an alienation had commenced during that period.

Senator MURRAY —And would they be affected retrospectively by this legislation?

Mr Allen —We do not believe they would because the time of application is in relation to an alienation that takes place after that date.

Senator MURRAY —So the tax office's understanding of the legislation is that any tax event which commenced prior to 27 April 1998 would not be caught by the legislation?

Mr Allen —If it was not finalised before the legislation but was finalised after the legislation. In other words, if the alienation did not have legal effect until after the legislation, they would not be affected retrospectively.

Senator MURRAY —Let me see if I understand you: you are saying that if it commenced before 27 April 1998, but the tax event was concluded after 27 April 1998, it would be caught by it?

Mr Allen —Exactly, yes, it would.

Senator MURRAY —That is the retrospectivity to which the CTA object, and it is common for that kind of retrospectivity to be rejected by the parliament. How can somebody who commenced lawfully a particular activity prior to a date be required to comply with a changed tax regime after a date? That breaches every tax principle I know of.

Mr Allen —What this amendment is doing is clarifying the interpretation of a provision in the existing treaty which gives Australia a taxing right over an alienation of property.

Senator MURRAY —But the court disagreed with that view.

Mr Allen —No, I am not talking about a court, I am talking about the ordinary provisions of the tax treaties on alienation of property. They go beyond alienation of real property, they cover alienations of a large category of properties.

Senator MURRAY —But my reading of the briefing that we have had before us is that there is dispute about that because of the conflict in the interpretation between direct and indirect property interests; that is not a clear issue at all.

Mr Allen —I think we are on a different issue, Senator. You asked me whether by the application clause applying in relation to alienations occurring after the date—

Senator CHAPMAN —Alienations of this nature we are talking about.

Mr Allen —Yes, alienations of this nature occurring after the date but commenced before; that would make it retrospective.

Senator MURRAY —I am holding to a very cynical point, I guess, which is one that all parliamentarians are familiar with, and that is that the commencement of a tax event before a law change should not be caught by that law change, even if it concludes after that law change, unless there are particular transitional provisions and particular mechanisms for dealing with that—the GST legislation is an example. You may have 20-year contracts and they have transitional provisions, and we understand that, but if I understand the CTA's submission and their evidence correctly that is what they are concerned with. Any tax event which occurred after 27 April 1998, they have absolutely no grounds for complaint because they knew what was intended, even if the legislation has been delayed.

Mr Allen —The point I was trying to make, Senator, is that if we ignore this amendment and merely look at the article of the treaties it is directed at, which is alienation of property, it is the alienation of the property which gives rise to Australia's taxing right. That is interpreted at international law, through the OECD, as meaning the time when the alienation of the property is legally effective. What the amendment says is that it is only alienations of this type that happen after the date which will be caught by the taxing right given to Australia by the treaty. The provisions of the treaties are not concerned with whether transactions commenced before the alienation happened because it is the alienation which triggers the taxing right under the treaty.

Senator MURRAY —All right. My last question on this concerns the revenue effects. What is the revenue effect, year by year, of these measures?

Mr Allen —We cannot say because we do not know how many transactions are involved. We know of one at the time of the Treasurer's press release that was $79 million.

Senator MURRAY —That is not recorded in the EM though, is it?

Mr Allen —No, I do not think that was public knowledge really.

Senator MURRAY —So there is no official statement of revenue effect at this time?

Mr Allen —No, and the reason is because we do not know. There could be other transactions that commenced in that period and are yet to be finalised, or have been finalised and the tax returns have not been lodged.

Senator MURRAY —So, in summary, the tax office want us to take a legally difficult legislative decision with an extended date of retrospectivity which does not comply with the six-month rule for unknown tax considerations?

Mr Allen —All we know as a factual matter is that the tax in the Lamesa case was $74 million, and I think that is on the public record. We know that one other case at the time of the Treasurer's press release was $79 million. We suspect there would have been other cases—Senator Watson mentioned, people would have delved into tax planning to take advantage of the decision—but we cannot measure that without data.

Senator MURRAY —Thank you, Mr Chairman.

Senator WATSON —What was the date of the domestic legislation that in effect said that a double tax treaty overrides domestic legislation? That was in one of our international -

Mr Allen —It is in section 4 of the International Agreements Act.

Senator WATSON —Yes, and that was passed on what date?

Mr Allen —Oh, many years ago, I think, Senator, when this bill was first enacted. This copy does not mention the date but I could advise you of that.

Senator WATSON —Would it have been prior to or subsequent to that High Court decision in 1945?

Mr Trigg —The act dates from 1953.

Mr Allen —So it would have been subsequent.

Senator WATSON —That is what I am saying. We are talking about the relevance of that 1945 decision if we actually passed legislation after that, indicating that there would be a priority in terms of double tax arrangements overriding domestic legislation. If that was passed in the 1950s, the relevance of the 1945 precedent that you are quoting becomes less—while it is still there and can be argued, I think it is of diminished value compared with, say, the American decision touching on the same point.

Mr Allen —That would be a legal decision and that is beyond us. I might mention, as Mr Trigg reminded me, this act was enacted in 1953, I think following the treaty with the United States. Prior to that we had a treaty with the United Kingdom which was part of the domestic law. I am not sure whether there was a similar provision in domestic law but I could take that on notice and advise you.

CHAIR —Are there any further questions?

Senator WATSON —I would just like to make an observation. While the witnesses before us indicated that if we fix the retrospectivity side of it there is likelihood of it being challenged, that does not mean to say that there will not be other players out there who will challenge it. With due respect, I think we have to be careful just accepting the words of one witness because as a committee we cannot be assured that there will not be other people out there in this great wide world who may see fit, for their own best interests, to challenge it. I would just say that for the protection of the committee.

CHAIR —Thank you very much. I think that concludes today's hearing. Thank you very much for appearing before the committee and for making that comment. Thank you to the committee staff and to Hansard. The committee is now adjourned.

Committee adjourned at 3.37 p.m.