A quick lesson in statutory interpretation from the Commissioner…

I can’t believe I just wrote this heading given I just won an AAT case (they conceded) that trust beneficiaries are taxed on present entitlements and not payment… I am not kidding, they denied interest deductions for a year as there was no payment only a present entitlement.

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But in draft Taxation Ruling TR2013/D8 – http://law.ato.gov.au/pdf/pbr/tr2013-d008.pdf – the Commissioner reminds us of the basics of statutory interpretation.

Section 23AH is a great little section that treats certain foreign branch income derived directly or indirectly by Australian resident companies as non-assessable non-exempt. It provides similar rules for foreign branch capital gains.

To be eligible for this the relevant income of the branch must be derived by a company that is carrying on a business at or through a permanent establishment -a PE. So we need both a business and a PE.

As the meaning of permanent establishment in subsection 6(1) and in Australia’s tax treaties is a place of business at or through which a person carries on a business, you would think that every time you have a PE you must have a business. So perhaps all you really need for 23AH to apply is a PE???

But, in addition to this general meaning, both the domestic law and the tax treaties also list specific cases that come within the definition. In particular, most of Australia’s tax treaties include a provision corresponding to paragraph (b) of the definition of ‘permanent establishment’ in the domestic law, that is ‘a place where the person has, is using or installing substantial equipment or substantial machinery’. So even if you are not carrying on a business you can still be a PE if you have substantial equipment or substantial machinery.

And here is the lesson… The PE rules don’t deem “having substantial equipment” to be carrying on a business. The PE rules deem having substantial equipment” to being a PE. And this is the classic statutory interpretation problem – taking a deeming to far… Let me put it mathematically…

If business then PE
If substantial equipment then PE

But these two do not mean substantial equipment means business!!!

So the Draft Ruling concludes that if you have a PE solely as a result of substantial equipment and not due to carrying on a business, you can not apply section 23AH – unless there is a specific article in the double tax agreement that deems an entity with substantial equipment to be carrying on a business, which is in a few DTAs…Here endth the lesson.


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