TR 2018/5 & PCG 2018/D3 – Company residence: ‘central management and control’ test after the Bywater Investments decision

On Thursday 21 June 2018, the Commissioner issued a final ruling: TR 2018/5 and a draft Practical Compliance Guideline: PCG 2018/D3 about the ‘central management and control’ test, following the High Court decision in Bywater Investments Limited & Ors v FCT [2016] HCA 45.

In this case, companies set up to be non-resident, by having a foreign resident director and holding ‘meetings’ outside Australia, were nonetheless held to be resident, as the foreign director was a ‘mere puppet’ of an Australian resident controller.

The definition of resident (for a company) is set out in s6(1) of the ITAA36, and provides as follows:

(b)   a company which is incorporated in Australia, or which, not being incorporated in Australia, carries on business in Australia, and has either its central management and control in Australia, or its voting power controlled by shareholders who are residents of Australia.

‘Central Management and Control’ in Australia, must be accompanied by ‘carrying on business in Australia’ as a requirement for residency. TR 2018/5 addresses both issues.

Esquire Nominees Pty Ltd v FCT [1973] HCA 67 & (1973) 129 CLR 177 was the leading High Court authority on ‘central management and control’ until Bywater.

In Esquire Nominees, Australian sourced profits were passed up a chain of companies, so the dividend, ultimately received by a Norfolk Island company, did not have an Australian source (and was not taxable, here, on that basis). Of course, to avoid Australian income tax, the ultimate recipient had to, also, be non-resident. It had foreign directors and they met in Norfolk Island, to resolve to undertake the necessary steps, for the Company to receive the dividend. The Commissioner alleged that the Norfolk Island company was resident in Australia because, amongst other things, instructions had been sent, from Australia, about what the company needed to do. The High Court, however, held that the company was a resident of Norfolk Island (notwithstanding the Australian instructions) because the directors were not just ‘rubber stamping’ these instructions. They gave the matter real consideration and would not have done something that was not in the company’s or trust’s best interests.

There has been widespread concern that Bywater overruled Esquire Nominees but that is not really so, as the finding was, in Bywater, that the foreign director was just a ‘puppet’ of the Australian controller and was just ‘rubber stamping’ those Australian instructions.

Nonetheless, the effect of Bywater has been ‘seismic’ and, as a result, we have this ruling and PCG.

The Ruling: TR 2018/5 approaches the task of determining whether a company is an Australian resident under the central management and control test by asking 4 questions:

1. Does the company carry on business in Australia?
2. What does central management and control mean?
3. Who exercises central management and control?
4. Where is central management and control exercised?

The following examples ARE, in the Commissioner’s opinion, acts of central management and control:

• setting investment and operational policy;
• appointing company officers and agents, and giving them power to carry on the company’s business;
• revoking the appointments and powers of officers and agents;
• overseeing and controlling those appointed to carry out the company’s day-to-day business; and
• matters of finance, including determining how profits are used and the declaration of dividends.

The following examples are NOT, in the Commissioner’s view, acts of central management and control:

• matters of company administration (eg keeping a share register and accounts, paying dividends); and
• the management of day-to-day activities under the authority and supervision of higher-level managers or controllers.

Draft PCG 2018/D3 simplifies the approach taken in TR 2018/5 by stating that the location of a company’s central management and control is determined by reference to:

• where it is controlled and directed as a matter of substance; and
• how its control and direction is exercised over time.
• It contains practical guidance and examples, and also sets out the Commissioner’s intended compliance approach to the central management and control test.

The draft guideline notes that most companies should have little difficulty identifying where central management and control is located as this will normally be where the directors make their decisions. However, if there is some lapse in directorial standards or corporate governance, unusual facts such as the directors’ role being usurped by outsiders, or control and direction being exercised in multiple places, it may be more difficult to identify the location of a company’s central management and control. To assist in this task, the draft contains 14 general examples covering various scenarios.

DATE OF EFFECT: TR 2018/5 applies from 15 March 2017, being the date of release of the ruling in its draft form (Draft TR 2017/D2) and also the date of withdrawal of the ATO’s previous ruling on central management and control (TR 2004/15). The final ruling contains the same views as the draft, although various parts of the ruling have been clarified in response to feedback (see the Compendium to TR 2018/5, also released on Thursday, 21.6.2018).

When finalised, Draft PCG 2018/D3 is proposed to apply from 21 June 2018.

Ruling and Practice Statement updated; ATO ID withdrawn

Also, on 21 June 2018, the ATO updated the following ruling and practice statement to include references to TR 2018/5 and delete references to TR 2004/15:

• TR 2008/9 – Meaning of “Australian superannuation fund” in s 295-95(2) of the ITAA 1997; and
• PS LA 2007/8 – ATO treatment of non-resident captive insurance arrangements.

At the same time, the ATO also withdrew ATO ID 2002/46 (Residency status of a foreign company) as the ATO says its view regarding the application of the Central Management and Control test, expressed in it, is inconsistent with the Commissioner’s revised view on the application of that test of company residency set out in TR 2018/5.

FJM  25.6.18

[FJM; LTN 117, 21/6/18; Tax Month – June 2018]

 

Study questions (answers available)

1. Has the Bywater case spurred this new guidance: TR 2018/5 and PCG 2018/D3?
2. Was the previous High Court authority, on ‘central management and control’: Esquire Nominees?
3. In the Esquire Nominees case, did the foreign directors, meeting outside Australia, succeed in avoiding a central management and control’ in Australia?
4. Did a foreign director, making decisions outside Australia, result in Bywater being non-resident?
5. Will TR 2018/5 apply from the date it issued: 21 June 2018?
6. Will the finalised PCG apply from 21 June 2018?