The Australian government released a draft law in January 2019 that will introduce a new corporate structure called “Collective Investment Vehicles.” It will also provide for tax treatment of Corporate Collective Investment Vehicles that broadly aligns with the existing treatment of attribution managed investment trusts.
It aims to provide investors with the benefits of flow-through taxation and establish Corporate Collective Investment Vehicles ("CCIV"s) as Australia’s modern globally competitive investment vehicle for domestic and foreign investors.
New Draft Law
The Australian government released for public consultation two bills (“draft law”), on January 17, 2019, that seek to introduce a new corporate structure called CCIV as well as provide for tax treatment of CCIVs that broadly aligns with the existing treatment of attribution managed investment trusts (“AMIT").
The draft law proposes a “character flow-through” basis so investors benefit from flow-through taxation. Amounts of assessable income, exempt income, non-assessable non-exempt income and tax offsets received by the CCIV, and having a particular character, are to be attributed to members and generally not taxed to the CCIV. Those amounts will retain that character and be taxed in the hands of each member.
Corporate Collective Investment Vehicles
The CCIV is a new form of passive investment vehicle, intended to broaden the suite of investment vehicles available to Australian fund managers and be an internationally recognizable investment vehicle that can be marketed to foreign investors.
A CCIV has a corporate structure, with the additional consumer protection of an independent depository for retail funds, that is responsible for the oversight of certain administrative functions undertaken by the fund which offers multiple products and investment strategies within the one corporate vehicle.
The CCIV tax regime is based on an attribution system of tax and complements the existing AMIT tax regime with CCIVs subject to similar eligibility criteria as AMITs, such as being widely-held and not closely-held, limited to passive income activities and being an Australian resident.
A CCIV can break up its assets between sub-funds with different investors having differing entitlements to one or more of the sub-funds. Each sub-fund will be treated as a separate entity for tax purposes. The sub-funds that satisfy the eligibility requirements for attribution will generally not be taxed on the income or gains of the sub-fund. However, a sub-fund that does not satisfy the eligibility requirements for attribution will be subject to tax at the top corporate tax rate.
Changes in Detail
Attribution Sub-fund Requirements
A sub-fund of a CCIV that satisfies the attribution requirements will be referred to as an attribution sub-fund (“ASF”) and will have access to an attribution or “character flow-through” model of taxation. A sub-fund will be an ASF if:
- the sub-fund satisfies the widely held requirements and closely held restrictions in relation to the income year (or the alternative test);
- the sub-fund satisfies the trading business restrictions;
- the CCIV is an Australian resident during the whole of the income year; and
- the sub-fund is not an excluded sub-fund (i.e. a sub-fund that did not become an ASF within its first year of existence or a sub-fund that has previously ceased to be an ASF).
However, if a sub-fund fails the ASF requirements due to temporary circumstances outside the control of the CCIV, the sub-fund can continue to be treated as an ASF in relation to the income year if it is fair and reasonable to do so.
Under the attribution model, an ASF of a CCIV has the following features:
- for income tax purposes, the CCIV is able to attribute amounts of assessable income, exempt income, non-assessable non-exempt income and tax offsets to members of the ASF on a fair and reasonable basis;
- if the CCIV discovers a variance between the amounts actually attributed to members of an ASF for an income year, and the amounts that should have been attributed, the CCIV can reconcile the variance in the year that it is discovered by using the “unders” and “overs” regime; and
- where an ASF has separate classes of membership interests and certain criteria are met, the CCIV may elect to treat those classes as separate ASFs for the purposes of applying the attribution rules.
Withholding Tax Treatment
The Australian withholding tax provisions will apply to CCIVs and their members in the same way that they apply to AMITs and their beneficiaries. Withholding tax will generally apply to Australian source income and capital gains on Taxable Australian Property that are attributed to non-Australian resident members of the CCIV. The withholding tax rate will depend on the types of income attributed to the sub-fund members and the relevant double tax treaty (if applicable).
Restructure Roll-over Relief
A key aspect of the CCIV regime is the ability for existing AMITs to “convert” into CCIVs, so that fund managers can simplify their existing structures through the conversion of existing funds into a CCIV. The tax rollover provisions to facilitate conversion apply not only for the purposes of capital gains tax ("CGT") consequences, but also revenue assets and tax losses.
The rollover relief requires a rollover from a single AMIT into a single CCIV sub-fund with each investor holding membership interests (shares) in the CCIV referable to the ASF in the same proportion as it owned membership interests in the AMIT. The rollover also does not allow for rollover from other entities such as listed investment companies.
Failure of ASF Requirements
Where a sub-fund fails to satisfy the ASF requirements that does not fit into the temporary circumstances mentioned above, it will be taxed under the default tax rules at the top corporate tax rate and not permitted to frank distributions to members as it is not a franking entity (franked dividends provide a tax credit for Australian resident shareholders and tax exemption for non-resident shareholders).
This could be a disastrous result as the investors could also be taxed on distributions received without credit for the tax paid by the sub-fund. However, there is CGT roll-over relief available to facilitate an excluded sub-fund to restructure into a new company that is not a CCIV and therefore become entitled to frank its distributions.
Character Flow-through Model
The “character flow-through” CCIV model ensures that amounts derived or received by the CCIV that are attributed to members, retain the character they had in the hands of the CCIV for income tax purposes. Therefore, amounts derived or received by the CCIV referable to an ASF that are attributed to members will retain their original character and will not be treated as a dividend unless the amount had the character of a dividend when it was derived by the CCIV.
The distributions will also not be treated as dividends for Australia’s double tax treaties with other countries (unless they have the underlying character of a dividend).
Some Issues Resolved Whilst Others Remain
One of the key concerns raised in consultation on previous draft law was the risk of “sub-fund contagion” due to the conduct in one sub-fund affecting the tax status of another sub-fund. This has been addressed in the latest draft law which deals with these concerns by treating each sub-fund as a separate taxpayer.
For example, a sub-fund undertaking a trading business and accordingly being taxed under the default tax rules will not alter the tax status of other sub-funds. However, this means that the preconditions which must be satisfied in order to be a qualifying sub-fund (such as widely held and closely held tests) must be satisfied independently for each sub-fund.
Unders and Overs
The draft law has retained the contentious administrative penalty imposed on trustees of an AMIT if there is an “under” or an “over” for the base year which resulted from intentional disregard or recklessness of the law by the trustee (which applies to attribution in both CCIVs and AMITs). We anticipate that this issue will continue to be raised during consultation, particularly in relation to its application to existing AMITs.
- Legislation on CCIVs was first foreshowed more than a decade ago in the 2009 Australian Financial Centre Forum’s report on Australia as a Financial Centre (the Johnson Report) and the Australian Board of Taxation’s report on tax arrangements applying to CCIVs. These reports both recognized that foreign investors are dissuaded from investing in Australian funds because they do not understand unit trusts. Australian fund managers should note that access to a broader range of CCIVs may now assist them in competing for capital with their offshore counterparts. CCIVs also underpin the Asia Region Funds Passport legislation, which passed both houses of Australian Federal Parliament in June 2018 and aim to enhance the competitiveness of Australia’s funds management industry, expanding the range of options for Australian investors and attracting foreign investors by enabling Australia to export its management products to countries participating in the Asia Region Funds Passport Regime, which include Japan, Korea, New Zealand and Thailand.
- Whilst attractive from a commercial aspect, taxpayers should remember that there are still concerns associated with the proposed CCIV regime including the stricter treatment of sub-funds as compared to MITs. If a sub-fund fails the ASF rules, which include certain “passive tests” similar to the public trading trust rules, it will permanently be treated as a company for income tax purposes as well as deprived of franking credits, resulting in double taxation to investors unless it can utilize the CGT rollover to be a normal company and then be able to frank dividends. While this CGT rollover is welcome there may be a number of practical, commercial and stamp duty issues associated with the rollover of property into the new company.
- With the Australian Parliament having only resumed on February 12, 2019 and with an Australian Federal Election due by mid-May 2019, there could be delays however with the introduction of the CCIV legislation into Australian Parliament.
Lance Cunningham is Tax Director and Meera Pillai is Tax Senior Manager at BDO Australia