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April 22, 2021
2021-0821

Australian Taxation Office issues draft guidance regarding the imported hybrid mismatch rule impacting large global groups

On 21 April 2021, the Australian Taxation Office (ATO) released Draft Practical Compliance Guideline PCG 2021/D3 Imported hybrid mismatch rule – ATO’s compliance approach (PCG 2021/D3).

The imported hybrid mismatch rule operates broadly to disallow a deduction for a payment if the income from such a payment is set-off, directly or indirectly, against a deduction that arises under a hybrid mismatch arrangement in an offshore jurisdiction, referred to as an “offshore hybrid mismatch” (i.e., a hybrid mismatch arrangement that is wholly between non-Australian entities).

PCG 2021/D3 provides a framework of eight color coded risk zones ranging from the white zone (where the ATO has provided clearance to the taxpayer), through green (low risk) to red (high risk). Taxpayers may be required to self-assess the risk of the imported hybrid mismatch rule within Australia’s hybrid mismatch rules applying to their related party arrangements where a Reportable Tax Position Schedule is required to be prepared. Where a taxpayer’s risk rating is outside of the white zone or blue (low risk) rating, there is no presumption that the arrangements do not comply with Australian tax law, but the ATO may be more likely to conduct some form of engagement and assurance activity to further test the taxation outcomes of the arrangements.

Other key observations from PCG 2021/D3 are:

  • There is an expectation that the Australian taxpayer should have information or be able to obtain information in relation to the hybrid mismatch arrangements forming part of the same structured arrangement as the importing payment. Practically, this requires the taxpayer to have undertaken an analysis as to whether payments are made to international related parties under a structured arrangement.
  • For direct or indirect payments made to the offshore hybrid mismatch, the recommended approaches to determine if an imported hybrid mismatch exists include either of the following:
    • Top-down approach: The Division 832 control group should identify any offshore hybrid mismatches in the group and subsequently determine if the offshore hybrid mismatches are imported into Australia.
    • Bottom-up approach: The Australian taxpayer should determine if a direct payment to an international related party is importing an offshore hybrid mismatch. Each international related party that receives a payment should then perform a similar analysis for payments made by that entity, and so forth.
  • Australian taxpayers may not merely rely on an analysis of the application of foreign hybrid mismatch rules undertaken in a foreign jurisdiction but must determine if there would be a different outcome under the Australian hybrid mismatch rules.
  • For non-structured arrangements, safe harbors apply resulting in a low-moderate risk rating (blue - third lowest level of risk) for taxpayers with less than AU$2 million of deductible payments to members of the Division 832 control group. A moderate risk rating (yellow: fourth lowest level of risk) will apply if there is evidence that at least 90% of payments to the Division 832 control group under non-structured arrangements do not give rise to imported hybrid mismatches that have not been neutralized and the remaining 10% or less of payments are less than 2% of assessable income.
  • There are three separate red zone ratings (high risk) which include structured arrangements in certain circumstances and where insufficient information is available to make an assessment. 

Procedures to determine if there are offshore hybrid mismatches in the Division 832 control group include making written enquiries of the Global Head of Tax or other qualified personnel with a detailed list of the information to be obtained (including details of foreign hybrid mismatch calculations). 

It is important to note that the compliance approach outlined by the ATO is very detailed and may require extensive analysis and information gathering which may be onerous for large global groups. 

Based on the Reportable Tax Position Schedule 2021 instructions, once PCG 2021/D3 is finalized, taxpayers that have self-assessed a high risk zone or have not applied PCG 2021/D3 will be required to make a disclosure in their Reportable Tax Position Schedule to the extent they are required to file this schedule with their tax return. For future updates of the Reportable Tax Position Schedule, it is anticipated that risk categories, other than high risk, may also require disclosure. 

Submissions in relation to PCG 2021/D3 are due by 21 May 2021. The final guidance will apply before and after its issue such that the guidance practically may apply from 1 January 2019.

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For additional information with respect to this Alert, please contact the following:

Ernst & Young Australia, Oceania Leader - International Tax and Transaction Services, Sydney

Ernst & Young Australia, International Tax And Transaction Services, Perth

Ernst & Young LLP (United States), Australian Tax Desk, New York

Ernst & Young LLP (United Kingdom), Australian Tax Desk, London

 

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