Administration of the Tax Obligations of Non-Residents
The audit objective was to assess the Tax Office's effectiveness in administering the tax obligations of non-residents.
1. Australia is part of a dynamic global economy that accommodates the free flow of capital and labour across national borders. In 2006–07, just over one million resident and non-resident taxpayers lodged returns that included some type of foreign-sourced income.
2. Australia's system of tax administration is based on self assessment by taxpayers, which requires them to declare all assessable income and only claim deductions and offsets to which they are entitled. The Australian tax system endeavours to treat non resident taxpayers in an effective manner that promotes the integrity of the system.
3. A non-resident is usually connected with the Australian taxation system because they receive business, investment or employment income, and/or make capital gains or losses from within Australia. This may result in income tax, withholding tax and/or Goods and Services Tax (GST) obligations.
4. In 2007–08, the Tax Office collected some $40.75 million in foreign resident withholding tax, $236.99 million in Capital Gains Tax (CGT) from non-residents and some $1.93 billion in non-resident withholding taxes.
5. Broadly, an Australian resident is subject to Australian tax on all income earned from Australian and foreign sources, while a non-resident is usually only subject to Australian tax on income derived from Australian sources.
6. There are three broad categories of non-residents that interact with the Australian tax system, namely:
i. offshore-based individuals and entities that have no physical presence in Australia but may, for example, invest in real property, shares, funds management or other income-producing activity;
ii. foreign workers and entities who are earning income in Australia, such as professionals on secondment from parent companies, and working holiday makers (e.g. backpackers); and
iii. expatriates/Australian citizens who move in and out of residency status, working overseas and who may return to Australia from time to time.
7. A taxpayer's residency status will determine the types and rate of tax they are liable to pay and the Australian Taxation Office (Tax Office) uses a number of tests to determine a taxpayer's residency status for tax purposes.
8. Generally, if a taxpayer resides in Australia, they are deemed to be a resident for tax purposes. In addition, if the taxpayer has been in Australia for at least 183 days of any financial year, or their permanent place of residence is in Australia, or they are a contributor to a Commonwealth Government superannuation scheme, they are deemed to be an Australian resident for tax purposes. Similarly, the Tax Office applies a set of tests to determine if an entity is a resident for tax purposes.
9. The ANAO reviewed the tax administration relating to non-residents in Audit Report No.57 2002–03, Administration of the Payment of Tax by Non-Residents (Audit Report No.57 2002–03). Since that review the Tax Office has expanded the compliance activities covering this sector in response to changing economic, immigration and administrative circumstances.
Audit objective and scope
10. The audit objective was to assess the Tax Office's effectiveness in administering the tax obligations of non-residents.
11. The audit assessed the tax administration arrangements pertaining to non residents by considering:
- the Tax Office's organisational and governance arrangements for the management of non-resident tax obligations;
- the effectiveness of the Tax Office's identification of risks and monitoring of compliance in relation to non-residents;
- the data the Tax Office collects on non-residents and its use of this data for risk identification and compliance activities;
- the effectiveness of non resident educational programs; and
- progress in implementing the recommendation relating to the use of third party data from Audit Report No. 57 2002–03.
12. The audit gave particular emphasis to the CGT administrative arrangements applying to non-residents because of recent legislative changes (2006) and because CGT is one of the small number of taxes paid by non residents that is not a withholding tax. In this context, the changes to the foreign investment rules as they relate to residential real estate announced by the Government on 24 April 2010, have the potential to impact significantly on the Tax Office's administration of CGT for temporary residents and foreign non residents.
13. International tax arrangements relating to the large business sector, issues relating to offshore tax havens, transfer pricing and other complex international tax issues administered by the Tax Office were outside the scope of this audit.
14. Overall, the Tax Office has implemented appropriate systems and processes to effectively manage the tax obligations of non-residents. The Tax Office has continued to improve the administration arrangements of the payment of tax by non-residents since Audit Report No.57 2002–03, particularly in respect of improved coordination of non-resident tax compliance activity, and increased and improved application of external data sources. Increased compliance has also resulted from the introduction of additional withholding arrangements applying to non-residents.
15. These initiatives have all contributed to improved risk mitigation and increased compliance by non-residents, although there remains the inherent difficulty and additional expense in identifying and contacting non-residents that may be unknown to the tax system.
16. The Tax Office could continue to build on the improvements it has made to non-resident tax administration since Audit Report No.57 2002–03, by investigating the expanded use of external data sources for risk identification and compliance activities as they relate to non residents, and by providing additional, and more easily accessible and targeted, education materials for non-residents.
17. The ANAO's more detailed examination of the administration of CGT as it applies to non-residents identified certain areas of risk and potential non-compliance. Whilst aspects of CGT administration for non-residents could be improved, these matters do not significantly impact on the overall effectiveness of the Tax Office's administration of non-residents tax obligations. Furthermore, changes announced by the Government on 24 April 2010 relating to foreign investment rules covering residential real estate have the potential to further mitigate potential risks of non compliance in this area.
18. The ANAO made two recommendations aimed at improving the usefulness of third party data and non-resident taxpayer education.
Key findings by chapter
Progress on the implementation of the previous audit recommendation (Chapter 2)
19. ANAO Audit Report No 57 2002–03, was the ANAO's first review of non resident tax. That report found that overall, the Tax Office's administration of the non-resident tax function was sound. The effectiveness and administration of the function was found to have been strengthened by administrative reforms implemented by the Tax Office during the period of that audit and was expected to be further strengthened by a proposed new withholding framework. The ANAO made one recommendation regarding the better use of data and improving the quality of Tax Office research into non-resident activity.
20. In evaluating the implementation of the recommendation from Audit Report No.57 2002–03, the ANAO also evaluated the progress in implementing other suggested improvements made in that report.
21. The focus of Audit Report No.57 2002–03 and the recommendation was that there was third party data in Australia, other than the data the Tax Office was already using, that could potentially be used to improve compliance among non-resident taxpayers.
22. The Tax Office agreed with the recommendation but had some concern regarding the cost benefit of implementing the recommendation to both the Tax Office and third party data suppliers. The Tax Office commissioned a research consortium to investigate the acquisition and use of third party data sources to improve compliance among non residents. The research consortium provided a series of recommended actions, and the Tax Office subsequently implemented the majority of those recommended actions. Whilst it did not pursue others due to cost benefit considerations, overall those that were implemented helped the Tax Office achieve substantive implementation of the recommendation in Audit Report No.57 2002–03.
Administration and governance arrangements for non-resident compliance (Chapter 3)
23. The Tax Office uses a matrix management model to administer the tax system effectively through business planning, risk management and active compliance.
24. Operational responsibility for non resident risk and active compliance is spread across various Tax Office business lines. The Tax Office coordinates and monitors non-resident risk mitigation strategies through key cross business line steering committees, each focusing on a particular tax product. This cross-business line approach is consistent with the approach taken for resident taxpayers.
25. Much of the reporting reviewed by the ANAO is part of the Tax Office-wide reporting framework, and includes annual Health of the System Assessments (HOTSAs); at both the product level, such as the Non-Resident Withholding Tax HOTSA, and taxpayer type, such as the International Taxpayers HOTSA.
26. The ANAO observed that the Tax Office wide reporting structure for non resident governance effectively supported the ongoing management of non-resident risk.
Use of data sources for risk identification and compliance (Chapter 4)
27. The Tax Office requires relevant, accurate and timely data sources to undertake effective risk identification, analysis, and compliance activities. The better the understanding of the nature and extent of the risk, the better the Tax Office can direct resources to appropriate compliance strategies.
28. The Tax Office has made progress in using internal and external data sources for non resident compliance activities, but there is potential for further improvement. The Tax Office does not periodically collect or analyse data relating specifically to taxpayer groups such as non-residents. Rather, the Tax Office collects and analyses data based on tax type as a means to monitor and, where necessary, develop appropriate compliance risk mitigation strategies.
29. To better understand the level of risk pertaining to non resident taxpayers, and to assist in developing more targeted risk mitigation and compliance measures, the ANAO considers there would be benefit in the Tax Office undertaking a more focused approach to the collection and analysis of appropriate non-resident data. In particular recommendation 1 of this report suggests the Tax Office examine ways to improve the use of AUSTRAC data for non-resident compliance activities.
Voluntary Compliance in a Self-Assessment System (Chapter 5)
30. The Australian tax system is large and complex. For this reason, the Tax Office needs to effectively educate taxpayers about their responsibilities and obligations. This is also important for non-residents who may have had only limited exposure to Australia's self-assessment taxation system. Non-residents are more likely to be unaware of their legal obligations, due to greater familiarity with their ‘home' jurisdiction's tax system, and are more likely to be uninformed as to the complexities of the Australian taxation system.
31. The Tax Office aims to maximise voluntary compliance by providing taxpayers with the information they need to comply with the law. A key component for the Tax Office's voluntary compliance program designed for non-residents is taxpayer education programs. These could be better targeted to increase voluntary compliance among non residents.
32. In addition, the Tax Office should investigate further leveraging the existing information networks of other government agencies that interact with non-residents (for example DIAC and Customs), and the practicality of working with industry bodies that are closely connected with non resident taxpayers (for example real estate bodies for real property transactions) as strategies to enhance educational and awareness communication with non-resident taxpayers. Accordingly the ANAO has recommended that the Tax Office investigate ways it could further improve its education program for non residents.
Capital Gains Tax and non residents (Chapter 6)
33. The ANAO reviewed in greater detail one area of taxable income that, unlike most other taxes applying to non-residents, is not subject to specific withholding arrangements – CGT. The ANAO reviewed CGT applying to non-residents in terms of the administration and governance arrangements, the use of data sources to identify and monitor risk, and the level of education to encourage voluntary compliance.
34. The review of CGT as it applies to non-residents highlighted the challenges arising due to, in some cases, the non resident taxpayer not being known to the Tax Office. The risk of non-compliance related to CGT is increased where the payment on sale may have been transferred to an offshore financial institution at the time of settlement on a real property sale. However, as noted at paragraph 17, the changes relating to the foreign investment rules covering residential real estate announced on 24 April 2010, have the potential to further mitigate risks of non-compliance.
Tax Office response
35. The Australian Taxation Office (ATO) welcomes the recommendations and findings of the report. The report reflects positively on the hard work the ATO has instigated since Report 57 in 2003. In particular it is encouraging that the ANAO found that:
"Overall, the Tax Office has implemented appropriate systems and processes to effectively manage the tax obligations of non-residents. The Tax Office has continued to improve the administration arrangements of the payment of tax by non-residents since Audit Report No.57 2002–03, particularly in respect of improved coordination of non-resident tax compliance activity, and increased and improved application of external data sources."
36. In addition, the ATO's governance frameworks such as reporting, project management and risk management were all found to support good governance and management of non-resident risk. This should provide reassurance to the community that it can have confidence in the ATO's administration of non-residents.
37. The Tax Office accepted both recommendations in full. The Tax Office's full response can be found in Appendix 1.