As published on afr.com, Monday October 28, 2019.
A simple solution based on where companies are incorporated should be used to reform Australia's long-running tax residency challenges, with big four firm EY proposing that location constitute the sole test.
In a submission to the Board of Taxation's review of corporate tax residency rules, the firm formerly known as Ernst and Young said business practices and improved integrity measures meant an incorporation-only test was the most certain option for reform.
EY's head of tax policy Alf Capito said the proposal matched a 2003 recommendation that the place of incorporation should be the sole test.
"The reason why it said that in the Costello era was it was trying to modernise Australia's tax system," he said.
"The current regime that we've got, where corporate residency can be through incorporation or central management and control, comes from a bygone era.
"It's from a time when we didn't have [controlled foreign company] measures, we didn't have anti-avoidance measures, we didn't have all the transfer pricing rules."
Mr Capito said the current system was very problematic, causing "big headaches" for business.
The review was established to minimise commercial uncertainty and ambiguity, update laws to modern practices and protect the tax system from profit shifting.
"For large corporates, the current rules mean they have to put people on planes and have board meetings outside Australia or appoint non-resident directors to be seen to be making decisions offshore," Mr Capito said.
"Some of those big boys can afford to do that, but even they're struggling with that notion because it goes against the corporate governance ambition of making sure that foreign subsidiaries are properly governed from Australia.
"It is worse still for the small enterprise, the entrepreneurial sector, because they don't have the budget to put a whole lot of people on planes every time a foreign operation has to make an important decision.
"They tend to make those decisions from Australia so the foreign companies get dragged in as Australian residents and it creates enormous problems."
On Monday, The Australian Financial Review revealed Netflix Australia paid only $341,793 in tax for the 2018 calendar year despite reaping an estimated $600 million to $1 billion from local subscribers.
While the US-based streaming giant nearly doubled the amount of income tax it pays in Australia from $175,516 in 2017, it continues to use a corporate structure that allows a Netherlands-based subsidiary to recognise the hundreds of millions of revenue earned here.
Mr Capito said if the Board of Taxation opted not to adopt the place of a firm's incorporation, EY favoured the less attractive option of retaining tests related to central management and control. A rule change would need to ensure foreign companies were not automatically considered resident here.
"We have part 4A, introduced in the early 1980s, and also the diverted profits tax and the multinational anti-avoidance laws," he said.
"We have a plethora of rules, along with the baseline source rule which says if you're making profits in Australia and they're sourced here, they're also taxed here.
"You don't need to worry about having an extra residency test overlayed on companies that are not incorporated here."
Transitional mechanisms for any legislative changes would also be needed. EY wants the changes to be operative from July 1, 2020.