International Implications of the Proposed Imputation System

16.64. The discussion of the proposed imputation system has so far assumed that imputation will be available only to Australian resident shareholders and that, in principle, it should be available only in respect of dividends from profits that have borne Australian tax. But an imputation system also has international implications that cannot be ignored: they concern both investment by non-residents in Australia and investment by Australian residents in other countries.

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Shareholder's marginal rate  
20 per cent   30 per cent   40 per cent   50 per cent   60 per cent   66 2/3 per cent  
1. Company profit before tax  200.00  200.00  200.00  200.00  200.00  200.00 
2. Company tax (50 per cent)  100.00  100.00  100.00  100.00  100.00  100.00 
3. Company profit after tax (1–2)  100.00  100.00  100.00  100.00  100.00  100.00 
4. Retained by company (50 per cent)  50.00  50.00  50.00  50.00  50.00  50.00 
5. Dividend to shareholder (3–4)  50.00  50.00  50.00  50.00  50.00  50.00 
6. Gross up on dividend (shown in 5) by 1/3  16.67  16.67  16.67  16.67  16.67  16.67 
7. Amount shown in shareholder's tax return (5 + 6)  66.67  66.67  66.67  66.67  66.67  66.67 
8. Tax (on 7) at marginal rate  13.33  20.00  26.67  33.33  40.00  44.44 
9. Tax credit (= 6)  16.67  16.67  16.67  16.67  16.67  16.67 
10. Tax payable by shareholder  (3.34)  3.33  10.00  16.66  23.33  27.77 
11. Total tax paid by company and shareholder (2 + 10)  96.66  103.33  110.00  116.66  123.33  127.77 
12. Under a separate system with 50 per cent tax rate and 50 per cent distribution, the total tax paid by the company and shareholder would be:  110.00  115.00  120.00  125.00  130.00  133.33 
13. The net gain to shareholder of one-third imputation on this basis would be:  13.34  11.67  10.00  8.34  6.67  5.56 
14. Under the 1972–73 public company rate of 47½ per cent with a 50 per cent distribution, the profit after tax would be $105 and the retention and dividend each $52.50. Were the assumption made that the absolute sum of retention would remain constant at $52.50 after the tax rate is increased to 50 per cent and one-third imputation operated, the dividend would decrease to $47.50. The net of tax gain to shareholder, using these assumptions and despite the reduction in dividend from $52.50 to $47.50, from the adoption of one-third imputation coupled with a company tax rate of 50 per cent, would be:  8.67  7.58  6.50  5.42  4.33  3.61 
15. If the original profit were earned directly by an individual, the tax payable would be:  40.00  60.00  80.00  100.00  120.00  133.33 

16.65. Investment by non-residents. Australia may expect pressure from other countries, especially those involved in double taxation agreements, to extend to non-residents at least some part of the imputation given to residents. The pressure will of course be greatest from countries already having a system that allows imputation to non-residents.

16.66. There does not appear to be any legal obligation, under existing agreements to which Australia is a party, to extend imputation to non-residents. There is, for example, no clause in these agreements corresponding to the non-discrimination clause in the 1963 OECD draft convention. In any case, the discrimination with which that clause deals is discrimination against another country's nationals, and this has

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never been contemplated: if imputation is denied to some shareholders, it would be on the basis of their residence whatever their nationality.

16.67. Agreements to which Australia is a party include provisions imposing, on a reciprocal basis, a ceiling on the tax Australia may levy on dividends paid by an Australian resident company to a resident of the other country. It might be argued that tax on a dividend should be interpreted to include that part of the tax paid by the company which is subject to imputation in the hands of an Australian resident shareholder. The argument would be difficult to sustain in relation to an imputation system of the Canadian type, which does not attempt to correlate the imputation credit available to the shareholder with an amount of tax paid by the company. On the other hand, the argument might be thought to have some force where there is such a correlation, as under the United Kingdom system. Yet in asserting that one should look beyond the tax expressly levied on a dividend to the tax paid by the company in order to find the amount of tax on the dividend, the argument opens up the whole question of the incidence of company tax. It is difficult to see why it should be any more appropriate to treat the imputed tax as a tax on the dividend than to treat the whole of the company tax on the profits from which the dividend is paid as a tax on the dividend.

16.68. Apart from any legal obligation resting on Australia, it might be said that there is an obligation of comity between nations requiring reciprocity in levels of tax that one country imposes on residents of another. This obligation might, for example, require that Australian tax on a resident of the United States should not exceed the tax which, in similar circumstances, the United States imposes on a resident of Australia. Even if company tax is assumed to be paid by the shareholders of the company, the consequence of the suggested obligation would only be that the burden of Australian company tax and tax on dividends paid to a United States resident should be in line with the taxes the United States imposes in relation to dividends paid to an Australian resident. Perhaps there is in the suggested obligation some requirement, if a country's rate of company tax is greater than that imposed in another, to make an adjustment to its rate of tax on dividends flowing to that other country.

16.69. All these requirements, whether in terms of legal obligation or comity between nations, proceed on a notion of fairness to the shareholder that may be thought unreal. Fairness to a non-resident shareholder in relation to a dividend received depends not only on how Australia taxes the dividend but also on how it is taxed, more particularly what credit is allowed, in the country of residence.

16.70. So far as the arguments are made in terms of fairness between the public revenues of countries, it must be borne in mind that Australia is a net capital-importing country. Relatively, a forbearance to tax a non-resident is more expensive for Australia in terms of revenue forgone than is the same forbearance by a net capital-exporting country.

16.71. The Committee is content to express the view that Australia is not under any present obligation to extend imputation to non-residents. Whether or not imputation is extended to residents of any foreign country will depend on the economic policies Australia may wish to pursue as well as on revenue considerations.

16.72. Investment by Australian residents in foreign countries. The adoption of an imputation system will have a bearing on the choice for Australian capital between investing in Australia and investing in other countries. The discouragement to investing abroad will be evident enough if Australia follows an imputation system of the

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United Kingdom type, which would confine imputation to dividends paid by Australian resident companies and would set a limit to the amount of tax subject to imputation so that it cannot exceed Australian tax actually paid by the company. If the Canadian model is followed, an Australian resident company will not be discouraged from investing abroad. The Canadian system allows imputation in respect of dividends paid by a resident company, whether or not the profits from which the dividend has been paid have borne Canadian tax.

16.73. Imputation would not be available to an Australian resident individual against Australian tax on the dividends he receives from a foreign resident company. Therefore whether Australia follows the United Kingdom or the Canadian model, there will be reason for an Australian resident individual to prefer investing in an Australian resident company to investing in a foreign resident company.

16.74. A compromise between the United Kingdom and Canadian systems, which would overcome the discouragement to foreign investment by an Australian company involved in the former system, would in effect allow imputation credit of tax paid abroad but confine the credit so that it was available only against Australian tax on the dividend in the hands of the shareholder. The Committee would not favour such a compromise in its application to dividends paid from profits that had borne Australian tax. In relation to such dividends, the credit should be available against other tax liability of the shareholder or, if necessary, give rise to a refund. The compromise would need to be confined to dividends paid from foreign-source profits that had not borne Australian tax. There would be considerable administrative complications; but one might visualise companies being required to distinguish in their accounts between profits that have borne Australian tax and those that have not, with the compromise credit treatment applying to dividends from the latter.