Deceased estates – Foreign residents withholding tax
Look out Foreign Residents that own property in Australia!
Our clients that are foreign based who own property here, may not have yet know about the new rules that commence on the 1 July 2016. We thought it might therefore be prudent to share some insights, given we have a number of clients possibly affected.
Australia imposes various taxes on non-residents who hold specific classes of assets within Australia. A number of these taxes are imposed at source using either a non-resident withholding tax or via non-resident tax rates.
An area that has an extremely low compliance level is the payment by non-residents of the capital gains tax on the sale of taxable Australian real estate.
In following a similar journey of a number of other jurisdictions such as the US and Canada, our federal parliament passed the ‘Tax and Superannuation Law Amendment (2015 Measures No 6 Bill) 2015 on 23 February 2016, which received royal assent on 25 February 2016, nearly some three years after its initial announcement.
The Bill imposes from 1 July 2016 a 10% non-final withholding tax obligation on buyers when they purchase certain assets from a non-resident where the purchase consideration is greater than $2 million dollars. It is aimed at improving the integrity and collection of our non-resident CGT regime. It is widely recognised that not only is compliance low in this regime, but the ability to obtain unpaid taxes once proceeds have left the country is extremely difficult and a costly exercise for our regulators. Particularly if the non-resident does not hold other Australian assets which the ATO is able to obtain access.
Non-Resident Capital Gains Rules
A non-resident is exempt from capital gains tax in Australia under subdivision 855-A of the ITAA 1997, unless the gain relates to what is known as either Taxable Australian Real Property (TARP) or Indirect Australian Real Property (IARP).
Taxable Australian Real Property is defined in section 855-20 of the ITAA 1997 and broadly includes real estate, assets used in conducting a business and a mining, quarrying or prospecting rights if the minerals or petroleum are located in Australia. Indirect Australian Property on the other hand is defined under section 855-25 of the ITAA 1997 which essentially captures a non-portfolio interest in an entity, which is where the equity interest exceeds 10% and the underlying value of Australian real property.
Impacts on Deceased Estates
Executors of deceased estates will need to be aware of these provisions in the following circumstances:
- Disposal of a deceased’s property with a value greater than $2 million dollars
- The deceased, executors or beneficiaries are non-residents for tax purposes and the property is sold under their names.
- A non-resident executor acting for a deceased Australian tax resident
When selling a residence or other property holding of a deceased person, an executor should be aware that the purchaser has an obligation to withhold 10% of the purchase price and to remit this to the ATO, unless a Clearance Certificate is provided with the sale, the sale is an exempt sale (e.g. less than $2 million), or a variation of the withholding amount has been from the commissioner.
The ATO is establishing an online application process for vendors to apply to the Commissioner to provide a clearance certificate. The certificate is then provided to the purchaser to substantiate that the vendor is considered an Australian resident for tax purposes and accordingly the foreign resident capital gains withholding tax will not apply. The online process will be mostly an automated process. However, the certificate will only remain valid for a period of twelve months.
The Explanatory Memorandum to the Bill makes it clear that a purchaser is to adopt a default position of considering any vendor as a non-resident, and accordingly withhold 10% tax for sales over $2 million unless a clearance certificate is provided by the vendor prior to settlement.
If executors do not provide a certificate on a sale of property from an estate, taxes will be withheld and remitted to the ATO by the purchaser that could both delay and complicate the estate administration process.
The provisions provide for the following exemption from the 10% withholding:
- The property sale is for less than two million dollars in consideration.
- The transaction is already subject to an existing withholding tax process.
- Where the vendor is subject to formal insolvency or bankrupt proceedings.
- Vendor provides a clearance certificate from the Commissioner.
Variations to Withholding Amount
An application form for vendors to vary the withholding percentage down is also provided on the ATO website, and it will take up to 28 days to process. Circumstances where the application of the 10% withholding amount would be considered inappropriate are,
- Where the foreign resident will not make a capital gain
- The foreign resident will not otherwise have a taxable income, for example they have carried forward capital losses.
- There are multiple vendors and only one is a non-resident.
- Properties secured by a registered mortgage and the sale proceeds will be insufficient to discharge both the mortgage and remit funds to the ATO.
Penalties for failure to comply
Purchasers are required to register as a withholder and to remit 10% of the first element of their cost base (generally the consideration paid) either on or before the day that the purchaser becomes the owner of the property. The penalties for failing to do so include the value of the withholding liability per Division 268 in Schedule 1 ITAA (1953), general interest charges and the application of possible administrative penalties. It is for this very reason that purchasers and their advisors should be taking these obligations extremely seriously. As a result, these new withholding rules could easily impact on the administration of an estate.
It should be noted that these provisions are considered as a ‘non-final withholding tax’ and accordingly have not addressed the tax obligations of the estate on the disposal of the property. Rather the estate will be entitled to a credit to the value of the withholding amount and is still required to declare the CGT event within the estate’s income tax return.
The provisions relate equally to residential and commercial property and also apply to property sales that occur on revenue account which are taxed as ordinary income. For example, property sales relating to a property developer.
Executors need to be aware that these provisions will apply to contracts entered into on or after 1 July 2016, although care should be taken to monitor any contract for TARP that will settle post 1 July 2016.