The ATO has finalised Practical Compliance Guideline 2024/1 Intangibles migration arrangements (PCG 2024/1 or PCG), which will apply from 17 January 2024 and sets out the ATO's compliance approach to arrangements involving Intangible Migration Arrangements.
Background and historic taxpayer feedback
In May 2021, the ATO released PCG 2021/D4 Intangible Arrangements (PCG 2021/D4). This initial draft was subject to extensive public consultation process and feedback, with viewpoints that it specifically required taxpayers to produce commercially onerous and impractical evidentiary requirements in order to obtain a 'low' risk rating.
In May 2023, a second draft was issued (PCG 2023/D2) to remove the documentary evidence criteria being directly linked with a taxpayer's risk rating. Onerous evidentiary requirements were maintained in both PCG 2023/D2 and the final PCG 2024/1 released on 17 January 2024, but these evidentiary requirements are more relevant for the purpose substantiating the commerciality of the intangible arrangements. These documentary requirements (which will be discussed further below) are consistent with the types of evidence MinterEllison have witnessed the ATO requesting from taxpayers in both reviews and audits.
The ATO has also published an accompanying compendium (Compendium PCG 2024/1EC) setting out certain issues raised during the consultation process for PCG 2023/D2, and the ATO’s responses.
Scope of PCG 2024/1
As important context, the scope of PCG 2024/1 is limited to setting out the ATO's compliance approach in relation to specific tax risks. This PCG does not reflect a statement of the Commissioner’s interpretation of the taxation laws, nor does it replace, alter or affect taxpayer's self-assessment obligations under Australian transfer pricing laws.
While the title of PCG 2024/1 has been amended to 'Intangibles Migration Arrangements', importantly, the scope of the guidance still applies to a taxpayer's intangible arrangements notwithstanding that there may have been no migration of the intangible arrangements.
The Guideline provides that the higher the taxpayer's risk rating the more likely the ATO will direct its resources to review a taxpayer with respect to:
- Migration of intangible assets; and
- Mischaracterisation and non-recognition of Australian activities connected with intangible assets (for instance, the Australian development, enhancement, maintenance, protection and exploitation (DEMPE) activities relating to intangible assets held offshore).
The PCG includes two risk assessment frameworks:
- Risk Assessment Framework 1 (RAF Table 1) – assesses the compliance risk in relation to a Migration of intangible assets.
- Risk Assessment Framework 2 (RAF Table 2) – assesses the compliance risk associated with Australian activities connected with intangible assets held overseas (e.g. DEMPE functions).
A taxpayer is required to self-assess its intangibles arrangements under RAF Table 1 or RAF Table 2, resulting in a risk rating of:
- Green (Lower risk);
- Blue (Lower to medium risk);
- Amber (Medium risk); or
- Red (Higher risk).
The risk rating is based on a points system, with points allocated subject to a taxpayer’s response to specific questions. Relevantly, RAF Table 1 broadly considers questions relating to:
- Restructure or Change;
- Circumstances of the Relevant Entity;
- Tax outcome of the Intangible Arrangement; and
- Undocumented or unrecognised dealings.
RAF Table 2 is more focused on DEMPE functions and includes questions in relation to past migration of intangible arrangements.
The PCG also contains 15 detailed Intangible Arrangement examples to illustrate the kinds of matters the ATO generally consider in assessing compliance risks. The PCG includes two new examples: Example 7: Bifurcation of intangible assets (red zone) and Example 8: Cost contribution arrangement (red zone). The 15 examples provide illustrations of how the PCG will apply to a broad range of facts and circumstances. Within the Compendium the ATO has also signalled that they may include additional examples into the PCG in the future as appropriate.
Evidentiary expectations and MinterEllison experience
Despite extensive public feedback detailing the cumbersome nature of the evidentiary requirements, the evidentiary expectations remain largely unchanged in the PCG 2024/1. These evidentiary expectations are significant and include contemporaneous documents demonstrating commercial decision making, evidencing contemporaneous documentation of the substance of DEMPE functions and identifying the tax and profit outcomes of Intangible Arrangements, among others. In our experience, some of this evidence requirement is not collated for any other commercial purpose.
The final PCG includes commentary in relation to ATO’s compliance approach for different risk ratings, including indicating that a taxpayer's risk rating may influence the evidence the ATO will seek in any potential review (i.e. the highest evidence expectation are for red zone outcomes).
MinterEllison is currently involved in a number of matters where the ATO is requesting vast amounts of supporting evidence and commercial decision-making documents that relate to taxpayers' intangible arrangements. This includes circumstances where the ATO is seeking to compel onshore and offshore information to ascertain the facts that apply with respect to particular intangible arrangements and business structures over an extended period of time. We are advising those clients on the implications of those facts in the context of FIRB tax conditions, merger and acquisition arrangements, ATO risk reviews and audits and in Advance Pricing Arrangements (APA).
PCG 2024/1 Interaction with Advance Pricing Arrangements
The PCG 2024/1 provides that when a taxpayer is seeking entry into the APA program, the ATO will have regard to a taxpayer's risk rating as well as the required documentary evidence both for entry into the program and throughout the APA period.
Consistent with other transfer pricing related PCGs, PCG 2024/1 will therefore become a relevant precursor for a taxpayer's entry into the APA program as well as its ongoing compliance throughout the APA period.
Key changes in PCG 2024/1
The ATO's Compendium PCG 2024/1EC, includes a summary of the issues raised during the consultation process, and the ATO Responses (Compendium).
The key changes made to the finalised PCG 2024/1 are set out below:
Excluded Intangibles Migration Arrangements
The PCG now excludes from its scope distribution and low value service arrangements. No further ‘de minimis’ or materiality threshold was included.
Grouping intangible assets where it is reasonable to do so
This includes circumstances where taxpayers may have more than one dealing connected with the same intangible asset, or where intangible assets are naturally grouped together in the context of a taxpayer's business. This was a welcome and in our view, necessary and practical inclusion to the PCG.
Update of risk zones/risk ratings to include White Zone and Blue Zone (low-medium risk) ratings
The white zone reflects arrangements previously reviewed by the ATO or subject to settlement. Arrangements covered by APAs will not result in a white zone rating. As such, this will have limited application for taxpayers.
Application of historic migration and date of application
PCG 2023/D2 did not specify how far back taxpayers would be required to go in determining whether there has been a past 'migration'. The ATO have stated that the PCG does not include a time limit on the basis Part IVA can apply to ongoing tax benefits for arrangements entered into several years before.
However, taxpayers will not be required to report their self-assessment of past migrations in the reportable tax position (RTP) schedule beyond a period specified in the RTP schedule instructions (2024 instructions expected to be released in coming months).
There was no further guidance in relation to whether this concession would be adopted for FIRB processes, ATO risk reviews and audits and APAs.
Recalibration of risk assessment framework and risk outcomes
This involves minor reallocation of risk scores and amendments to Risk Assessment Frameworks. This includes reduction in points if the Australian taxpayer receives residual profits in relation to the intangible assets.
While this was included to acknowledge the impact of different reward structures on the risk profile of an arrangement, the risk assessment frameworks are detailed and require a degree of subjectivity to complete.
Inclusion of 2 additional red zone (higher risk) examples in Appendix 1
Examples 7 and 8 were taken from TA 2020/1 Non-arm's length arrangements and schemes connected with the development, enhancement, maintenance, protection and exploitation of intangible assets.
Examples showing the application of subjective scoring criteria would have been more useful. An example of this would have been where an entity does not completely outsource DEMPE activities, but is nevertheless categorised as Category 1 as it “predominantly” outsources DEMPE activities. As 'predominantly' is not defined and is subjective in nature, the inclusion of an example which the ATO considers to demonstrate the predominant outsourcing of DEMPE would have been more beneficial to taxpayers.
ATO engagement process
PCG 2024/1 includes a designated ATO contact to proactively engage in relation to potential compliance risk.
PCG 2024/1 has broad application and will likely apply to most taxpayers with related-party offshore Intangible Arrangements. Impacted taxpayers are required to self-assess against PCG 2024/1 in their RTP as part of their annual disclosure requirement. The onerous contemporaneous documentation requirements require taxpayers to collate relevant evidence at the inception of an arrangement, as well as maintaining the appropriate level of documentation to support their positions.
MinterEllison has extensive experience in assisting our clients to gather, maintain and assess whether the available evidence will meet the ATO's expectations. Please reach out if you require guidance on whether your business falls within the ambit of PCG 2024/1 and whether your supporting evidence with satisfy the ATO.
