Interest withholding tax exemptions
Australia imposes a blanket 10% withholding tax on interest payments. However, what is a good rule without exceptions? There are a number of exemptions from interest withholding tax, mainly aimed at lenders who are banks and similar financial institutions.
Treaty exemptions
Qualifying financial institutions resident in the following countries are generally exempt from interest withholding tax:
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Finland
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France
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Germany
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Iceland
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Japan
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New Zealand
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Norway
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South Africa
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Switzerland
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United Kingdom
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United States
Qualifying financial institutions resident in the following countries have a reduced rate of interest withholding tax:
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Chile - 5% ​
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Israel - 5%​
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It is important to note that not all financial institutions will qualify for this exemption or partial exemption. You should seek advice.
Domestic exemptions
Several domestic exemptions from interest withholding tax exist, including:
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Interest on debt that has been publicly offered (see below); and
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Interest derived by a foreign superannuation fund for foreign residents provided that interest is exempt from income tax in the country of residence of the fund.
Publicly offered debt - the section 128F and section 128FA exemptions
It is normal for lenders to pass on the withholding tax that would be deducted by a borrower on interest (although this very much depends on the relative bargaining power of the borrower and lender). This is referred to as "grossing up". The additional amount payable is referred to as a "gross up". Thus, Australian borrowers who borrow from foreign lenders suffer an additional 10% cost (equal to the gross up for the withholding tax).
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To allow Australian companies and certain Australian trusts to borrow affordably, Australia provides an exemption for debt that is publicly offered. This means the gross up is not payable, and borrowers can borrow from foreign lenders at the same cost as from Australian lenders, widening the pool of funds available. It also means that Australian lenders can sell their loans to foreign lenders without foreign lenders discounting the value of the loans for the withholding tax leakage.
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For the exemption to apply, several conditions must be satisfied. The most important of these is that the debt meets the "public offer" tests - that is, the debt must be offered publicly in the ways prescribed by the legislation. These are quite prescriptive and easy to follow.
In our experience, lenders and borrowers diverge from the prescribed formula for commercial reasons, and careful judgement is required to determine whether the exemption applies. For this reason, advice should be sought.