Australian Taxation Office Issues Draft Intangibles Guideline

The Australian Taxation Office issued draft Practical Compliance Guideline “PCG 2021/D4” on May 20. The draft covers dealings with “intangibles arrangements.”

Intangibles arrangements are defined as any international arrangement “connected with the development, enhancement, maintenance, protection and exploitation of intangible assets and/or involving a migration of intangible assets”.

The draft clearly has extremely wide application to any cross-border arrangements with Australia involving intangible assets. It is proposed to have retrospective application and may affect the treatment of arrangements that taxpayers had discussed with the ATO and thought were settled, or which were expressly excluded from prior written settlements with the ATO.

It applies to routine agreements for use or development of such assets, and also the movement of them. For example, it is common for foreign companies to acquire Australian technology by acquiring the Australian company that owns it, and then migrating the technology to the jurisdiction where the foreign acquirer holds and manages its own intellectual property.

The draft gives important detailed guidance on some of the work that must be done to prepare for any ATO review and even for the Annual Reportable Tax Position schedule in the Australian tax return.

A very significant aspect of the draft is its acknowledgment that these issues go beyond Australia’s transfer-pricing rules, and require a detailed consideration of several of our anti-avoidance rules. And the consideration must be evidence driven. We now have a good body of jurisprudence giving practical guidance on the burden and standard of proof in anti-avoidance, as well as transfer-pricing matters.

What is a PCG?

A Practical Compliance Guideline (PCG) is not law or even an official ATO view of the law. It does not bind the ATO or taxpayers. What it does is to explain to taxpayers how the ATO examines situations that are covered by it. It explains the ATO audit approach, the “risks” it looks for, and gives an indication of the evidence taxpayers will need to be able to produce to prevent an audit or an adjustment.

The status of a PCG is important. When the ATO makes an adjustment to a taxpayer’s return, a conclusion that a taxpayer did not have a “reasonably arguable” filing position leads to additional penalties. In Miscellaneous Tax Ruling (MT) 2008/2 (at paragraphs 46 to 48) the ATO sets out the materials that taxpayers must consider before they can be said to have a reasonably arguable position. The MT acknowledges that even formal ATO rulings are not “determinative” of a position.

As I noted above, a PCG is not a formal ruling. Taxpayers will often find, however, that ATO audit teams will argue that a taxpayer’s factual similarity to “examples” given in non-binding ATO pronouncements justify additional penalties as the guidance should have given taxpayers “warning” that an arrangement is considered objectionable. Careful work must then be done to prepare against such an eventuality.

Will taxpayers have to disclose whether they have intangibles arrangements?

If an APA is applied for, and the circumstances include a matter covered by the draft, taxpayers will need to be able to produce the level of evidence set out in the PCG to proceed with the APA.

Taxpayers may be required to advise the ATO of their own assessment of their risk under the draft, based on suitable evidence, when they file their annual Reportable Tax Position schedule with their tax return.

Since the draft is not legally binding, statutory auditors may not view complying with it as an essential requirement for determining the correctness of the tax provision. But if the issue is material, they may seek to understand the tax risk of an issue by asking for the same material as the ATO would.

How detailed is the guidance in the PCG?

The draft is generally a guide to broad factors that will be used to assess risk. The guidance is in two parts.

The first appendix is a guide to risk topics that should be considered, and the evidence that would be needed to determine them. For example, in relation to the topic of “understanding and evidencing the commercial considerations,” “high-risk” factors include:

• Your documentation and evidence do not substantiate the commercial considerations.
• Alternative transactions were not considered.
• Non-tax benefits were not quantified.
• Your documentation does not clearly specify the nature of the intangible assets.

In the second appendix there are 12 taxpayer example situations given. These deal with:

• centralization of intangible assets;
• bifurcation of intangible assets;
• non-recognition of Australian intangible assets and development, enhancement, maintenance, protection, and exploitation (DEMPE) activities;
• migration of pre-commercialized intangible assets;
• non-arms-length license arrangements;
• transfer of rights to intangible assets via a license agreement;
• contract research and development arrangements; and
• cost contribution arrangements.

They are grouped into “high,” “medium,” and “low” risk groups. The ATO offers examples of these scenarios and then compares fact patterns which would lead such a scenario to be categorized as high, medium, or low-risk.

In the case of centralization of intangibles, for example, the high-risk scenario is characterized by a prior fact pattern where an Australian Company “AusCo” owns, manages, and controls the relevant DEMPE activities for the assets. It licenses these assets for the term of their effective life to the centralized group-entity, which is able to exploit both the existing assets and any derivative intellectual IP. AusCo in fact continues to effectively manage and control the DEMPE activities. But is now said to do so for the centralized group entity.

In the medium-risk scenario, the decision to centralize is carefully documented, including consideration of other scenarios and quantification of the non-tax benefits. The Australian IP is assigned using an independent valuation to determine the price. AusCo ceases DEMPE functions in relation to the assets.

The low-risk scenario postulates a situation where AusCo makes an acquisition of an independent group and then transfers intangible assets for a market value established in the acquisition transaction. AusCo never had the resources to undertake DEMPE functions in relation to such assets, and the centralized group entity had such resources and had always undertaken such function in relation to other group assets.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

Author Information

Paul McNab is a partner at DLA Piper in Sydney.

Bloomberg Tax Insights articles are written by experienced practitioners, academics, and policy experts discussing developments and current issues in taxation. To contribute, please contact us at TaxInsights@bloombergindustry.com.