Australia tax ruling will hit PE asset sales

Australia’s tax authority has announced new rules for the tax treatment of profits from the sale of Australian assets held by private equity firms that could make life more difficult for foreign investors.

In one of several draft rulings announced today, the Australian Taxation Office (ATO) said that in some cases assets from the sale of private equity investments could be treated as ordinary income, which is taxed at a higher rate than a capital gain. In order to determine whether such profits qualify as ordinary income, tax authorities are to conduct a “weighing up of the relevant importance of each of the…factors driving returns, the investment strategy agreed to by the parties before acquiring the assets, and the legal form and substance of the arrangements and structures used to implement these strategies”.

The tax office also ruled that “treaty shopping” would be deemed as tax avoidance. This would apply in instances where firms buy an Australian company, with plans to later sell it for a profit through an IPO, and set up of several offshore divisions in jurisdictions like Luxembourg to get around international tax agreements.

That description bears a striking resemblance to the government’s recent complaints concerning the activities of private equity firm TPG. Last month the ATO attempted to freeze TPG’s Australian accounts over claims that the firm owes A$452.2 million ($422.7 million; €282.3 million) in unpaid capital gains taxes from the recent public listing of portfolio company Myer Group. The ATO has also attempted to slap TPG – which used tax havens like Luxembourg and the Cayman Islands – with an A$226.1 additional penalty, or 50 percent of the assessment, for allegedly avoiding tax.

The dispute has raised concerns that Australia’s attractiveness as a destination for investment from sovereign wealth and pension funds could take a hit. In an effort to better compete with regional financial hubs like Tokyo, Singapore and Hong Kong, the government in 2006 eliminated capital gains tax on foreign investors in Australia.

“It is likely that foreign investment into Australia will retreat significantly,” Katherine Woodthorpe, chief executive of the Australian Private Equity and Venture Capital Association (APEVCA), said in a statement. “There are already numerous examples of international investors standing back waiting for the government to clarify its policy intent. Without clarity on this front, foreign investors will be unable to secure the intended outcome of the 2006 amendments to Australia’s tax laws. Our domestic superannuation funds will also find it more advantageous to invest in assets free from these policy and investment questions.”

The APEVCA also called on the government to intervene and legislate tax policy to ensure that the ATO draft rulings do not stand.