The recently enacted Australian hybrid mismatch rules should be carefully considered as soon as possible by fund managers that manage Australian trusts with cross border arrangements, or that are themselves part of a multinational group. This will help to ensure that unexpected adverse outcomes (for example the denial of deductions) do not arise to the Australian manager or fund vehicle from as early as 1 January 2019.
The rules target “hybrid mismatch arrangements”, which are differences in the tax treatment of an entity or instrument under the laws of two or more tax jurisdictions that cause a mismatch in tax outcomes. A simple example of a hybrid mismatch would be a payment made by an Australian entity for which a deduction is claimed in Australia but for which there is no assessable income overseas. Another type of mismatch may arise where a deduction is available in Australia and a foreign country for the same expense. Under the hybrid mismatch rules, a hybrid mismatch would usually be neutralised by disallowing a deduction or including an amount in Australian assessable income.
The rules have no de-minimus requirement and importantly, no grandfathering. This means that the rules will take effect from a taxpayer’s first income year commencing on or after 1 January 2019, and pre-existing structures or arrangements will not be afforded any transitional relief.
While the OECD hybrid mismatch rules are targeted at preventing multi national groups from shifting profits, the impact of the rules is not likely to be limited to multinational corporate groups. Australian trusts with significant foreign investors, or significant foreign investments should carefully consider the rules to determine whether they could be impacted.
Foreign owned (and especially US owned) Australian management companies should also consider these rules as a matter of urgency. Depending on the particular facts and circumstances, including the revenue profile of the Australian management company, the foreign holding structure, and the US entity classification elections made in relation to Australian management company and foreign holding companies, there is a risk that Australian management companies could be denied deductions for their entire third party costs from 1 January 2019 (assuming a 31 December tax year end).
The challenge with the Australian hybrid mismatch rules is that the law is extremely complex and they require an unprecedented level of understanding of foreign tax outcomes in order to determine whether they apply, and the outcomes are not always intuitive. Accordingly, we recommend that they are considered very carefully to identify any impacts and take necessary actions to comply with the rules as soon as possible.
Thankyou to Rohit Raghavan and Sach Pelpola from PwC for producing this guest article, featured in the November edition of our Corporate Trustee Services newsletter.