Australian Board of Taxation reviews residency test for individuals

On 9 July 2018, the Board of Taxation (the "Board") released its self-initiated report ‘Review of the Income Tax Residency Rules for Individuals’ (the "Report"). To read more, please see below.

The Report considers whether the existing individual income tax residency rules address the policy criteria of ‘simplicity, efficiency, equity (fairness) and integrity’.

The current definition of resident individual has been in operation since 1 July 1930 (with minor amendments along the way). It therefore comes as no surprise that the Board concludes that the existing individual residency rules are no longer appropriate and must be modernised to reflect today’s increasingly globalised economy.

The existing individual residency test requires individuals to navigate through a complex matrix which can be difficult to apply due to the use of terms which are not defined but have developed as part of common law – such as ‘resides’, ‘domicile’, ‘permanent place of abode’ and ‘usual place of abode’.

In making its argument for modernisation, the Board considered the following:

• individuals are often required to interpret common law principles and out-dated ATO guidance (which may not be binding on taxpayers) to make a determination of their residency status;
• due to the lack of recent ATO guidance, individuals may also be required to infer the ATO’s current view based on recent non-binding private rulings in similar fact patterns;
• integrity risks arise as different tax outcomes can result for analogous fact patterns depending on the risk appetite of the individual; and
• due to the lack of clarity, considerable ATO resources have been expended in recent times in relation to residency, as illustrated by the increased number of private rulings issued and court decisions on this matter.

To provide certainty for individuals and the ATO alike, the Board recommends replacing the existing individual residency rules in their entirety with a two-step model:

• Step 1 – Primary objective test, such as a simple bright line ‘days count’ test that is adopted in New Zealand and the United Kingdom. This is intended to remove the more onerous and ambiguous facts and circumstances based tests for the majority of individuals.
• Step 2 – Where the primary test is not satisfied, a secondary objective test is then applied based on specific key factors.

These tests will incorporate other elements to ensure the integrity of the rules and to avoid manipulation for tax preferred outcomes. The Report outlines that such manipulation can occur where individuals can become a non-resident of Australia without establishing tax residency in another jurisdiction – thereby becoming a ‘resident of nowhere’. To address this, the Board has recommended that individuals should remain Australian residents unless and until tax residency is established in another jurisdiction.

The Board will undertake further consultation in the coming months, including on the potential options for the two-step model and the integrity concerns.

The Australian Government received the report in August 2017 and is supportive of the process, indicating that it will consider the entirety of the Board’s work on this topic following the further consultation process, and in light of broader priorities.

The Report, and subsequent consultation, will be welcomed by individual taxpayers and is evidently a stepping stone to change. The impact of that change will be dependent on the eventual model adopted by the Australian Government.