Issue
Is a United Kingdom (UK) resident company, which beneficially owns a dividend paid by an Australian resident company to another Australian resident company as the nominee shareholder for the UK resident company, a company which 'holds directly' at least 10 per cent of the voting power in the Australian resident company paying the dividend for the purposes of Article 10.2(a) of the UK Convention? [1]
Decision
No. A UK resident company, which beneficially owns a dividend paid by an Australian resident company to another Australian resident company as the nominee shareholder for the UK resident company, is not a company which 'holds directly' at least 10 per cent of the voting power in the Australian resident company paying the dividend for the purposes of Article 10.2(a) of the UK Convention.
Facts
The taxpayer (UK Co) is a UK resident company for UK tax purposes and a resident of the UK for the purposes of the UK Convention.
UK Co is a non-resident for Australian income tax purposes.
An Australian resident company (Nominee Co), as nominee for UK Co, is the registered shareholder of 40% of the shares in a company incorporated in Australia (Aus Co).
Aus Co is a resident for Australian income tax purposes and a resident of Australia for the purposes of the UK Convention.
The voting power in Aus Co is attached to the shares in Aus Co, in which case, Nominee Co's shares in Aus Co carry the right to exercise 40% of the voting power in Aus Co.
Nominee Co must exercise its voting power in Aus Co as directed by UK Co and must account to UK Co for all dividends from Aus Co.
Aus Co paid an unfranked dividend to Nominee Co as the legal owner of the shares in Aus Co according to Aus Co's share register.
For the purposes of Article 10 of the UK Convention, UK Co is 'the beneficial owner' of the dividend paid by Aus Co to Nominee Co.
Reasons for Decision
Subject to certain exceptions, withholding tax is payable under section 128B of the Income Tax Assessment Act 1936 (ITAA 1936) on dividends paid by an Australian resident company and derived by a non-resident. Section 7 of the Income Tax (Dividends, Interest and Royalties Withholding Tax) Act 1974 sets the rate of withholding tax on such dividends at 30 per cent. However subsection 17A(1) of the International Tax Agreements Act 1953 provides that where a provision of an agreement limits the Australian tax payable in respect of a dividend, the withholding tax shall be reduced to the amount specified in the agreement.
In the present case, liability to Australian withholding tax is subject to the provisions of the UK Convention.
Article 10.2(a) of the UK Convention provides for present purposes that dividends paid by an Australian resident company, being dividends beneficially owned by a UK resident, may be taxed in Australia. However, the tax so charged shall not exceed 5 per cent of the gross amount of the dividends if the beneficial owner of the dividends is a company which 'holds directly' at least 10 per cent of the voting power in the company paying the dividends.
As UK Co is a company that beneficially owns the dividend paid by Aus Co (an Australian resident company), it is necessary to determine whether UK Co 'holds directly' at least 10 per cent of the voting power in Aus Co.
The voting power in Aus Co is attached to the shares in Aus Co and therefore, in order to determine whether the taxpayer 'holds directly' the requisite voting power, it is necessary to determine whether the taxpayer holds directly the shares in Aus Co.
The phrase 'holds directly' is not defined in the UK Convention. Article 3.3 relevantly provides that any term not defined in the UK Convention shall take its meaning under the domestic laws for the purposes of the taxes to which the Convention applies of the country applying the treaty, unless the context otherwise requires. For Australia, the domestic law meaning may be the statute-defined meaning or, where there is no relevant statutory definition, the 'common law' meaning of the term (see Taxation Ruling TR 2001/13 , paragraphs 63 to 71).
There are no relevant statutory definitions of the phrase 'holds directly'. It is therefore necessary to consider the meaning of the phrase under the common law. Consistent with the decision in Dalgety Downs Pastoral Co Pty Ltd v. Federal Commissioner of Taxation (1952) 86 CLR 335; (1952) 10 ATD 55; (1952) 5 AITR 386 ( Dalgety Downs ), where the High Court considered the phrase 'beneficially held', the proper construction of the phrase 'holds directly' involves a consideration of the meaning of each of the component words in that phrase.
A number of judicial decisions support the view that the use of the word 'holds' in connection with shares refers to legal ownership according to the share register. In Dalgety Downs , the High Court considered the word 'holds' in the context of legislation requiring that shares in a company be 'beneficially held'. In the course of their judgment Webb, Fullagar and Kitto JJ stated (at CLR 341): Indeed it is not too much to say that the verb 'hold' and its variants, when used in relation to shares in companies, normally refers to the legal ownership of the shares according to the register of members. ...
Consistent with Dalgety Downs, the majority of the High Court in Federal Commissioner of Taxation v. Linter Textiles Australia Ltd (in liq) (2005) 220 CLR 592; [2005] HCA 20; 2005 ATC 4255; (2005) 59 ATR 177 held that '[w]hen used in relation to companies, 'hold' normally refers to legal ownership established by reference to the register of members' (at CLR 604).
Accordingly, for the purposes of Australian tax law, in order to hold shares in a company an entity must be the legal owner of those shares as established by reference to the register of members.
Article 10.2(a) of the UK Convention requires that the requisite percentage of voting power be held 'directly'. As there is no relevant statutory definition of the term 'directly', guidance may be drawn from the ordinary meaning.
Based on the Australian Oxford Dictionary (2nd Edition), the ordinary meaning of 'directly' relevantly includes 'in a direct manner'. The word 'direct' as an adverb in turn includes the meaning '... without an intermediary or intervening factor'.
Therefore, in the context of Article 10.2(a), the adverb 'directly' confirms that the word 'holds' should not be given a broader meaning than it has under the Australian law in relation to shares. The word 'directly' excludes cases where the requisite voting power is held indirectly through an interposed entity. Accordingly, the composite phrase 'holds directly' in Article 10.2(a) means legally owns without an intermediary or intervening factor.
For an entity to 'hold directly' the voting power that is attached to shares in a company paying dividends for the purposes of Article 10.2(a) of the UK Convention, it must be the legal owner of the shares with no interposed entity between the entity and the shares carrying the voting power. This will be the case even though the beneficial owner of the dividends directs the legal owner of the shares how to exercise its voting power. In other words, Article 10.2(a) does not permit voting power to be traced through an interposed entity.
In the present case, Nominee Co is a separate legal person that is registered as the legal owner of 40 per cent of the shares in Aus Co that carry the right to exercise 40 per cent of the voting power in Aus Co. Therefore, it is Nominee Co that 'holds directly' that voting power in Aus Co. UK Co does not legally own the shares carrying the voting power in Aus Co and, as a result, it does not 'hold directly' any voting power in Aus Co.
Accordingly, UK Co is not a company that 'holds directly at least 10 per cent of the voting power' in Aus Co for the purposes of Article 10.2(a) of the UK Convention. Note : Although Article 10.2(a) of the UK Convention does not apply in this case, Article 10.2(b) of the UK convention will apply so that the tax charged shall not exceed 15 % of the gross amount of the dividend .