Setting up a Foreign Company
We regularly receive inquiries from Australian individuals and companies about how best to establish a company presence overseas and the tax implications, both in Australia and in the country in which the presence is being established. Setting up a business overseas can be particularly complicated given the interplay of at least two tax systems, and appropriate professional tax and professional advice should be sought as early in the process as practicable. We have tried to summarise some of the major issues below but you are strongly advised to seek specific advice from an experienced professional advisor, which is available through our Inquiry Forms.
Note that for Australian companies, the Australian tax imputation system means that it is usually preferable to pay tax in Australia rather than overseas. Accordingly, most tax planning tends to be focussed on legitimately reducing the tax paid in the host country and on profit repatriation back to Australia.
Therefore it is preferable to maximise inter-company charges back to Australia like interest, management fees, royalties, etc., - subject to ensuring that any charges are made at arm’s length.
Main Forms of Business Entities
- Can vary from country to country
- Countries with English based laws generally have vehicles similar to Australian "Pty Ltd" companies
- Many countries have vehicles that provide limited liability to owners but are treated as ‘flow through’ vehicles for tax purposes, so only the owners are taxed e.g. LLC companies in the US
- Generally would not operate as branch of the Australian parent company or trust
Host Country Taxation
- Tax rates and rules vary markedly between countries
- Some countries also have state/local and even city tax regimes, so the total host country tax may depend upon where the business is based and actually does business
- Most countries base their taxable profits on book profit with various adjustments
- Strict transfer pricing rules require international dealings to be on an arm’s length basis which could impact interest, management fees, royalties paid back to Australia
- Most countries have thin capitalisation restrictions based on 1:1 or 1.5:1 debt:equity ratios
- An increasing number of countries do not tax gains on the sale of a foreign company, unless it is property rich
Host country Withholding taxes
Many countries do not impose a dividend withholding tax (such as the UK, NZ (for franked dividends), Malaysia, Singapore, Hong Kong). Most other major trading partners have tax treaties that reduce dividend withholding tax to between 0% and 15%. If there is a high dividend withholding tax, it may be possible to invest via a third country that has a more favourable treaty. However the additional cost of establishing and maintaining a more complicated structure needs to be compared to the potential benefit.
Interest withholding tax is generally 10% and not reduced by treaties.
Royalty withholding tax is normally 30%, generally reduced to 10% or less by treaties. Some countries treat most payments to non-residents such as management fees as royalties subject to withholding tax
- The Australian tax implications will depend upon whether the offshore company is held by an Australian company, trust or directly by the individual owners. Some concessions only apply where an Australian company owns more than 10% of the offshore company
- An offshore company can be deemed to be an Australian resident if it carries on any business in Australia and has its effective control in Australia or is owned by Australian shareholders. This should be monitored regularly.
- Australia does not generally tax the trading profits of an overseas company. However, there are the Controlled Foreign Company (CFC) rules which can tax in Australia certain passive or related party income of a foreign company.
- Interest, royalties, management fees received from foreign company are taxable in Australia but with a tax credit for any foreign withholding taxes paid on that income
- Dividends received by an Australian company from a foreign company will not generally be taxable in Australia
- Gains on the sale of foreign companies by an Australian company may not be taxable in Australia.
- Foreign taxes paid the foreign company or withholding taxes paid by the Australian parent company do not generate Australian franking credits
Use of Australian Management or Staff
- The Australian business could inadvertently establish a taxable presence in the foreign company if employees of the Australian company are based in the foreign country. Each country has different rules as to when a ‘permanent establishment’ may be created in their country and care needs to be exercised.