The new foreign resident capital gains withholding (FRCGW) regime, as it is commonly known, has been operating since 1 July 2016. This new measure is contained in Subdiv 14-D of Sch 1 to the Taxation Administration Act 1953 (TAA 1953) and imposes withholding obligations on purchasers of certain Australian CGT assets.
Broadly, for transactions entered into from 1 July 2016, a purchaser is required to remit 10% of the purchase price to the ATO. The 10% withholding tax is not a final tax, but will be credited against the vendor’s tax liability arising from the CGT asset sale. It may be refundable, depending upon certain circumstances.
This article examines the application of the FRCGW rules and provides illustrative examples. It also considers some of the relevant ATO administrative processes.
Who is affected?
The obligation to withhold arises when a purchaser acquires CGT assets that are classified as taxable Australian property (TAP). This affects transactions that involve:
- taxable Australian real property (TARP), which generally includes any real property situated in Australia (including leases over land) and mining, quarrying or prospecting rights to minerals, petroleum or quarry materials situated in Australia;
- indirect Australian real property interests, which generally includes ownership interests (of 10% or more) in an entity whose majority assets are TARP; and
- options or rights to acquire these property or interest types.
Despite the potentially misleading name, the regime affects Australian tax residents, as it assumes all vendors to be foreign residents unless a clearance certificate is issued or a vendor declaration is in place.
Section 14-215 of TAA 1953 provides a list of the transactions that are excluded from the FRCGW regime. These include:
- acquisition of TARP where the market value of the asset is less than $2 million – this threshold is intended to exclude the majority of sale transactions involving residential real estate;
- acquisition of an indirect real property interest which constitutes a company title interest, where the market value of the interest is less than $2 million – a company title interest is, broadly, a right of occupancy of the land or building that arises from holding shares in a company that owns the land or building;
- on-market transactions conducted through approved stock exchanges;
- transactions already subject to an existing withholding provision; and
- transactions in which the vendor is subject to formal administration or bankruptcy proceedings.
A transaction that does not fall within the full list of exclusions may still be exempted from the withholding obligation if the vendor provides one of the following to the purchaser before settlement:
- for TARP or company title interests, a clearance certificate obtained from the ATO; or
- for other CGT assets, a vendor declaration.
ATO clearance certificates
A clearance certificate provides a purchaser with the certainty that a withholding obligation does not apply to their transaction. This certificate is only available for transactions involving TARP or company title interests. Australian resident vendors, their solicitors or their tax agents can apply for a clearance certificate using a form available on the ATO website. Conveyancers who are not legal practitioners or registered tax agents cannot complete the form on behalf of vendors.
Each clearance certificate is valid for 12 months from the issue date and the vendor can use it more than once during this period. For a purchaser to rely on the certificate, the name of the vendor on the title should match the name on the clearance certificate.
For all other CGT assets (eg an indirect Australian real property interest that is not a company title interest), the purchaser may not have withholding obligations if the vendor makes one of the following declarations:
- a residency declaration that they are an Australian resident; or
- a membership interest declaration that the interest is not an indirect real property interest.
There is no approved form for a declaration. Once made, the declaration is valid for six months. However, a purchaser cannot rely on a vendor declaration if they know the declaration is false.
If a purchaser knows or reasonably believes the vendor is an Australian resident, they may not require a vendor declaration. According to the Explanatory Memorandum accompanying the Bill that introduced the regime, whether there are reasonable grounds to believe that a vendor is an Australian resident is considered on an objective basis. Therefore, the question is whether a reasonable person in the purchaser’s position would have reasonable grounds to support the relevant belief. If a reasonable person has knowledge that the vendor has an overseas address or that the proceeds are to be paid outside Australia, it may not be reasonable to believe the vendor is an Australian resident.
As it is the purchaser’s obligation to withhold, in practice, purchasers should obtain a vendor declaration.
Market value of the property
In considering whether the withholding obligations apply, the market value of a property is important, as it determines whether the $2 million threshold exemption is breached.
Where a purchase price between a purchaser and vendor is negotiated on an arm’s length basis, the purchase price is generally a proxy for the market value. However, in circumstances where there is a non-arm’s length transaction (eg a gift from a foreign resident spouse to a resident spouse), ATO may require an independent market valuation of the property.
Calculating and remitting the withholding amount
Where a vendor is not entitled to a clearance certificate and vendor declarations are not appropriate, the purchaser is required to withhold and remit the relevant withholding tax amount to the ATO before settlement. The purchaser must also complete an online payment notification form before making the payment.
Section 14-200(3) of TAA 1953 provides that the purchaser applies the 10% withholding rate to the first element of the cost base of the asset. In most situations, the first element of the cost base is the purchase price. Where a purchaser is registered for GST and is entitled to an input tax credit, the GST exclusive purchase price should be used.
Varying the withholding amount
Where the default 10% withholding is too high compared to the actual tax liability on the CGT asset sale, the vendor can apply for a variation to reduce the withholding amount.
Generally, the purchaser, the vendor or the vendor’s creditor can apply for the variation using a form available on the ATO website. Reasons for a variation could include that:
- the tax liability arising from the transaction is less than 10% of the proceeds (eg because of carried-forward capital losses);
- the vendor will make a capital loss or has access to CGT rollovers; or
- a creditor has a security interest over the asset and the proceeds at settlement are insufficient to discharge the debt and the withholding amount.
If the application is successful, the ATO will issue a variation notice that confirms the reduced rate. The vendor must provide the variation notice to the purchaser before settlement, and settlement must occur before the expiry date on the variation notice.
For the purchaser to rely on the notice, the name of the vendor and the relevant asset details on the notice should match the certificate of title or other proof of asset ownership documents.
The FRCGW regime, which is fairly new, is aimed at improving the integrity and collection of tax liabilities from foreign residents when they have disposed of certain Australian CGT assets. It is important to note that these rules make the purchaser responsible for withholding and paying the tax. The rules also assume that all vendors are foreign residents unless they provide purchasers with valid certificates or declarations.