Tax reform of stapled structures: potential impact of Integrity Package on agricultural investments

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This article was written by Scott Heezen, Kai-Chen Lamb, Andrew Clements and Sarah Silk.

On 27 March 2018 the Australian Treasurer announced a package of proposed reforms that are intended to address tax integrity concerns with the use of stapled structures in Australia. The suite of proposed reforms set out in the Integrity Package will have significant implications for foreign investment in a range of asset classes, including real estate and infrastructure projects. In particular, the Integrity Package contains measures that seek to preclude managed investment trusts from holding agricultural land ("agricultural MITs").

The stated aim of the agricultural MIT reforms is to "level the playing field" by precluding foreign investors from being taxed at a lower rate than most Australian resident investors (namely, at the 15% MIT withholding tax rate) in respect of rent and capital gains derived from agricultural land. However, the effect of this measure may be far broader than simply taxing foreign investors at a higher rate than they are currently taxed. If enacted, the agricultural MIT reforms may, depending upon their final form, significantly affect not only foreign investors, but also Australian resident investors and the agricultural sector more broadly. 

A link to the Treasurer's Media Release can be found here and a link to the paper detailing the Integrity Package can be found here. Our previous alert on the Integrity Package, which outlines the key elements of the package and its potential impact, can be found here.

Summary of the proposed agricultural MIT reforms

Element E of the Integrity Package is headed "Preventing agricultural MITs".

Under the current law, where agricultural land is held by a trust that qualifies as a managed investment trust ("MIT") certain distributions from that trust to a foreign investor may qualify for a 15% MIT withholding tax rate. 

There are a number of requirements that a trust must satisfy in order to be a MIT. Importantly, a trust that carries on a trading business for the purposes of Division 6C or otherwise has relevant control in relation to the carrying on of a trading business cannot be a MIT. Broadly, a business that does not consist wholly of "eligible investment business" is a trading business for these purposes. Currently, investing in any land for the purpose, or primarily for the purpose, of deriving rent will be an eligible investment business.

The proposed agricultural MIT reform excludes agricultural land from being an eligible investment business. On its face, this proposal indicates that any investment in agricultural land would generally preclude an otherwise eligible trust from qualifying as a MIT. If the measure were to apply this broadly then it would potentially capture otherwise eligible entities that derive only nominal rent from agricultural land. For example, a trust that principally derives rent from the lease of land for accommodation, but also derives a small percentage of its income from the lease of excess land to farmers for agricultural purposes. The scope of MITs caught by the proposed changes will ultimately depend upon the meaning of "agricultural land", the availability of the existing Division 6C safe harbour for entities that derive no more than 2% of their gross revenue from things other than an eligible investment business, and whether the existing reforms will include any broader de minimis exemptions.

The agricultural MIT changes are intended to take effect from 1 July 2019, with a 7 year transition period for arrangements in existence as at 27 March 2018. 

Impact of the proposed agricultural MIT reforms

1.1  Scope of proposed changes to "eligible investment business"

The Integrity Package does not make clear whether the intended reform to the meaning of "eligible investment business" is proposed to apply:

  • only in respect of whether a trust qualifies as a withholding MIT for the purposes of the MIT withholding tax regime;
  • in respect of whether a trust qualifies as a "managed investment trust"; or
  • in respect of the application of Division 6C more broadly.

If the proposed reform is confined only to whether a MIT will qualify as a withholding MIT, then we would expect that the direct impact of the agricultural MIT reforms should be limited to a higher rate of tax applying in respect of distributions to foreign resident investors. Of course, this may still have indirect implications as a consequence of impacting the returns of foreign investors.

If the proposed reform impacts on whether a trust will qualify as a managed investment trust, then this change may have far wider implications than intended. For example it may potentially impact on the ability of a fund that holds agricultural investments to access the MIT capital account regime and/or the AMIT attribution regime. 

If this were the case, the agricultural MIT reforms would have additional broad reaching consequences for Australian resident investors and investment in the agricultural sector more broadly. For future projects, it will be necessary to re-evaluate the advantages and disadvantages of using a non-MIT trust over a company for passive investments.

The Integrity Package indicates that the proposed changes to the meaning of "eligible investment business" are intended to apply only in respect of managed investment trusts. This indicates that a change to Division 6C is not being proposed, but it will be important to confirm that this is the case. 

1.2  Impact on existing agricultural MITs

A limited transitional period of 7 years, commencing from 1 July 2019, is proposed in respect of structures in existence as at 27 March 2018 (being the date of announcement of the Integrity Package). 

It is not clear what "in existence" will mean practically in the context of the transitional arrangements. We would hope to see clarification during the course of the consultation process regarding the impact any changes in asset ownership or underlying investors may mean for accessing the transitional relief.

It will be necessary to evaluate the impact of the proposed reforms on existing managed investment trusts once the scope of the proposed changes becomes clearer. At a minimum, from 1 July 2026 (being the end of the transition period), foreign investors in agricultural MITs will face a higher tax cost in respect of their investment. 

1.3  Concluding thoughts

The proposed changes to exclude agricultural land from the meaning of "eligible investment business" may potentially have far broader implications than intended. 

We intend to engage with Treasury during the consultation period to discuss our views regarding the scope and commercial implications of the measures set out in the Integrity Package, including the agricultural MIT reforms. We would encourage any interested parties that are potentially impacted by the proposed measures to get in touch with us to discuss their concerns.

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