Contents
- Royalty withholding tax scenarios
- What are royalties?
- Types of australian payers
- Taxation of intellectual property, copyright, and lease agreements
- Withholding obligations beyond actual payments
- Withholding tax for resident businesses with overseas branches
- Tax exempt entities
- Withholding tax rates
- Exemptions from royalty withholding tax
- Industrial, commercial, or scientific equipment royalties
- Refunds for over withheld tax
In Australia, royalties earned by non-residents are subject to withholding tax, unless specific exemptions are applicable under the tax laws.
Royalty withholding tax scenarios
Payment by residents
When royalties are paid by a resident entity, meaning a business or individual that is considered a resident of Australia for tax purposes.
In this case, withholding tax typically applies to the royalty payments. The payer (resident entity) is required to withhold a portion of the payment and remit it to the authorities on behalf of the recipient, who is usually a non-resident.
Exception
If the royalties paid by the resident entity are considered as expenses incurred entirely outside Australia by the payer, as part of their business operations through a permanent establishment located outside Australia (like a branch or subsidiary), then withholding tax is not be applicable.
This exception recognizes that the royalties are not directly related to Australian operations but are incurred as part of the overseas business activities.
Payment by non-residents with australian business activities
In this case, a non-resident entity, which means a business or individual not considered an Australian resident for tax purposes, is making royalty payments.
When a non-resident entity pays royalties, and these royalties are expenses incurred either wholly or partially in conducting business activities within Australia through a permanent establishment situated in Australia (like a branch or office), withholding tax applies.
What are royalties?
Royalties can take various forms, including regular, irregular, or one-time payments. These royalties include payments or credits made in exchange for any of the following:
- Use or Licensing of Intellectual Property: This includes compensation for utilizing or obtaining rights to use intellectual property such as copyright, patents, designs, models, plans, secret formulas, processes, trademarks, or similar assets.
- Utilization of Equipment: It also covers payments for using or obtaining rights to use industrial, commercial, or scientific equipment.
- Provision of Know-How: Royalties extend to payments made for the supply of scientific, technical, industrial, or commercial knowledge or information.
- Ancillary Assistance: This category includes payments for services that support or enable the application or enjoyment of the aforementioned intellectual property, rights, equipment, or knowledge.
- Usage of Film and Broadcasting Materials: Royalties are applicable for the use or licensing of motion picture films, television films, video tapes, or radio broadcasting tapes.
- Reception of Public Transmissions: This includes compensation for receiving or obtaining rights to receive public transmissions via satellite, cable, optic fiber, or similar technological means.
- Utilization of Broadcasting Technology: Royalties cover the use or licensing of satellite, cable, optic fiber, or similar technology in television and radio broadcasting, irrespective of whether the material is edited or the broadcast is delayed.
- Exclusivity: Royalties also include payments for commitments that the intellectual property or rights mentioned above will not be granted or supplied to any other party.
- Film and Video Tape Royalties: This category explicitly includes royalties related to film and video tapes.
Types of australian payers
In Australia, an entity responsible for making payments, such as royalties, can fall into two categories:
- Australian Resident Payer that is an entity that is considered an Australian resident for tax purposes.
- Foreign Resident with Permanent Establishment in Australia; this relates to a foreign entity that conducts business activities in Australia through a fixed establishment.
Temporary resident
For individuals in Australia holding temporary resident status and making royalty payments to foreign lenders, there is no requirement to withhold tax from these payments. This exemption is applicable to temporary residents who are also considered Australian residents for tax purposes.
What is “permanent establishment”
A permanent establishment signifies a fixed location where a business entity carries out a portion or the entirety of its business operations.
Various types of places can be considered a permanent establishment, including:
- Place of Management: This involves a location where significant managerial decisions and control of the business are exercised.
- Branch or Office: A branch or office set up by the business entity to handle its operations.
- Factory: A facility used for manufacturing purposes.
- Workshop: A dedicated space for conducting specific work or tasks.
- Building and Construction Site: Sites used for construction projects.
- Mine or Quarry: Locations for extracting minerals or resources.
- Pastoral or Agricultural Property: Land used for agricultural or farming activities.
Exclusions from Permanent Establishment
An establishment does not qualify as a permanent establishment if its usage is limited to specific purposes, such as:
- Storage Facility: When the location serves as a storage area for goods or materials.
- Display of Goods or Services: If the place is primarily utilized for showcasing products or services.
- Fixed Place for Purchasing Goods: When the location is solely used for acquiring goods or merchandise for the business.
- Collection of Information: If the establishment’s primary function is to gather data or information on behalf of the enterprise.
Taxation of intellectual property, copyright, and lease agreements
Equipment leases and withholding tax
In the context of cross-border equipment leases, whether withholding tax applies depends on the nature of the lease:
- Sale-Oriented Leases: When the primary objective of a cross-border equipment lease is the sale of the equipment, where ownership and economic risk are transferred to the lessee, the payments made under the lease are not considered royalties.
- Hire-Oriented Leases: Conversely, if the main purpose of the lease is to rent the equipment, even if the lessee has an option to eventually purchase it, the lease payments are categorized as royalties. In such cases, royalty withholding tax must be withheld and paid.
Taxation treatment of combined distribution and intellectual property rights
In scenarios where a contractual agreement includes both distribution rights and intellectual property rights, a critical question emerges: should withholding tax be exclusively applied to the portion of the agreement related to intellectual property rights?
In these situations, withholding tax should be imposed on the total amount payable under the agreement, rather than selectively applied only to the intellectual property rights portion.
This ruling underscores the importance of carefully examining the terms and dominance of different rights within a contractual agreement to determine the appropriate taxation treatment, especially when distribution and intellectual property rights are intertwined.
Treatment of copyright exploitation
In general, any payments made as consideration for various forms of copyright exploitation, excluding an outright sale of the copyright, are typically categorized as royalties.
An exception to this occurs when these payments are calculated based on the actual or intended use of the copyright.
Broadcasting rights and withholding tax
Payments made for the right to broadcast digital TV signals related to events like the Olympic Games are not considered royalties and are not subject to withholding tax.
The basis for this decision was that the signals in question did not fall under the definition of a cinematograph film, copyright, or any other similar property or right, as outlined by tax laws.
Withholding obligations beyond actual payments
The obligation to withhold tax is not restricted solely to situations where actual payments in the form of royalties are made to non-resident entities.
Instead, it extends to cases where royalties are owed and are either managed on behalf of or directed by non-residents. This includes scenarios where royalties are reinvested or managed on behalf of the non-resident rather than being directly paid to them.
Hence, even if royalties are not physically transferred to non-resident entities but are associated with their rights or interests, withholding tax is still applicable.
Withholding tax for resident businesses with overseas branches
To address potential tax avoidance, royalties earned by resident entities in the course of conducting business through overseas branches are subject to withholding tax under specific circumstances.
This tax is levied if these royalties are paid by:
- Another resident entity, and they are not entirely incurred by the payer while conducting business in a foreign country through a branch in that country.
- A non-resident entity, and they are wholly or partially incurred by the non-resident while conducting business in Australia through a branch.
An important point to note here is that a resident entity won’t incur royalty tax through an overseas branch unless the royalties contribute to the income generated by that branch.
A similar provision applies to non-resident entities making royalty payments while conducting business in Australia through a branch.
Tax exempt entities
In cases where one or more tax-exempt organizations are positioned between an Australian resident payer and a non-resident royalties recipient, withholding tax obligations apply as if the royalties had been directly paid to the non-resident recipient.
Therefore, withholding tax is applicable unless the non-resident recipient itself qualifies for an exemption.
Withholding tax rates
Standard rate
The typical rate for royalty withholding tax in Australia stands at 30%. This rate is applied when no special tax treaties or agreements are in place.
Reduced rate under double taxation agreements (DTAs)
When royalties are paid to a resident of a country with which Australia has established a comprehensive DTA, the withholding tax rate is generally reduced to just 10% of the total royalties amount.
This reduced rate applies unless the royalties are directly connected to a business branch in Australia.
Additionally, if the recipient’s home country also taxes this income, that country usually offers a tax credit for the Australian tax.
GST-inclusive calculation
You must also note that the withholding tax is computed based on the total payment amount, including the GST, which is a value-added tax in Australia.
This means that the withholding tax is applied to the entire payment, inclusive of the GST component.
Exemptions from royalty withholding tax
You are not obligated to withhold amounts from royalty payments made to a foreign resident of a treaty country under specific conditions:
- The foreign resident recipient must be actively conducting a business in Australia through a permanent establishment.
- The royalty payment you make must be directly associated with the operations of the payee’s business in Australia.
In this context, the payee is required to include the royalty payments within the assessable income of their Australian business.
However, it’s important to note that if you are a foreign resident conducting business through a permanent establishment in Australia and you make royalty payments to another foreign resident who is not engaged in business activities in Australia, withholding tax will still apply.
In such cases, you would need to withhold the appropriate tax amount from the payments.
Non-share dividend exception
Royalty withholding tax does not apply to non-share dividends, provided that these dividends are essentially a return on an equity interest.
In other words, if a payment is considered a non-share dividend and can be linked to an ownership or equity interest in a company (such as shares or stocks), it is exempt from royalty withholding tax.
Industrial, commercial, or scientific equipment royalties
An “equipment royalty” refers to a payment made for the use of, or the right to use, industrial, commercial, or scientific (ICS) equipment.
Royalty withholding tax regulations do not apply to royalties related to equipment when these payments are made to residents of countries with which Australia has a tax treaty, and the treaty categorizes the payment differently, not as a royalty.
Examples of such countries include the United Kingdom and the United States.
Refunds for over withheld tax
If you withhold more tax than necessary and realize the error early, you are obligated to refund the excess amount to the payee, even if you’ve already remitted it to the tax officials.
Early detection of the error involves either of the following scenarios:
- You become aware of the error by no later than June 30 of the relevant tax year.
- Your payee requests a refund by no later than June 30 of the relevant tax year.
If you’ve already remitted the excess amount and discover the error, you can offset this excess against any future withholding amounts you are liable to pay during the same tax year.
It is important to accurately document this offset in your financial records.
However, if you’ve already remitted the excess amount, and you do not have any further withholding obligations for the relevant tax year, you must file a revised activity statement.
This article is general information only and does not provide advice to address your personal circumstances. To make an informed decision you should contact an appropriately qualified professional.