Australian Government Clarifies The Corporate Residency Test

In a significant development for overseas companies trading in Australia, and Australian companies trading overseas, the Australian Government announced in October 2020, when handing down its first budget post-Covid, it would make legislative changes to clarify the corporate residency test.

Confusion had arisen in 2018 when the Australian Tax Office (“ATO”) interpretated a High Court ruling (Bywater Investments) to say that corporate entities will be resident for Australian tax purposes if central management and control takes place in Australia, regardless of where the company physically carries on business. For fourteen years prior to that, it was clear and accepted that a foreign company will only be tax resident in Australia and will only satisfy the central management and control test if it also physically carries on business in Australia.

The Australian Government has indicated it will, in effect, revert to the 2004 position, whereby a foreign incorporated company would only be a tax resident of Australia if it has a “significant economic connection to Australia”.

Legislation is still to be enacted and won’t be effective until the start of the first tax year after Royal assent, but the Australian Government has flagged that taxpayers can elect to backdate the new law to 15 March 2017 – the date when the 2004 ATO ruling was withdrawn.

The Government’s clarification is timely, given that businesses operating practices are changing and Covid has imposed significant travel restrictions. Clarity around corporate tax residency is important when decisions are being made about whether to operate a foreign incorporated business in Australia or establish an Australian subsidiary, and when an Australian company is operating in a foreign market.