Income Tax Developments July 2025 

In this update, we take a look at income tax developments in July 2025, including ATO guidance impacting multinationals and tax policy developments.

ATO News

TR 2006/11DC

The Commissioner has released draft consolidated Taxation Ruling TR 2006/11 Private rulings (TR 2006/11DC) which sets out certain proposed changes to the Commissioner's interpretation of the private rulings system, following the enactment of the Australian BEPS Pillar 2 regime.

In particular, the proposed changes confirm that the Commissioner may decline to make a private ruling where he considers that it would not be reasonable to comply with the private ruling application, and the ruling application relates to the income inclusion rule, undertaxed profits rule, or the domestic minimum top-up tax. The draft sets out examples of where the Commissioner may decline to rule. These include:

• where the OECD/G20 Inclusive Framework on BEPS (Inclusive Framework) has published guidance relating to the matter, which the government is planning on incorporating into domestic law but has not yet done so;
• where the matter relates to an issue that the Inclusive Framework has identified as requiring guidance, or for which it is drafting guidance and has yet to publish an agreed version of that guidance;
• where issuing a ruling would require the Commissioner to consider how other jurisdictions apply their respective domestic tax laws.

While the proposed changes to the ruling are clearly consistent with the legislative regime, it highlights the difficult position that taxpayers also find themselves in; being required to comply with Pillar 2 tax regimes in the context of a lack of OECD guidance and/or the (potential ambiguous) interpretation or application (potentially also ambiguous) of foreign tax regimes.

PCG 2025/D3

The Commissioner has released draft Practical Compliance Guideline 2025/D3 setting out his proposed administrative approach to the imposition of penalties in respect of Australia's BEPS Pillar 2 regime during a transition period. The Australian regime contains separate lodgement obligations for the following returns:

• the GloBE Information Return – an OECD standardised form that provides each jurisdiction's tax authority with the information required to calculate an entity's tax liability;
• the Foreign Notification Form – which notifies the Commissioner that a foreign entity has lodged the GloBE Information Return on behalf of entities within the Australian group and the jurisdiction in which this lodgment was made;
• the Australian tax return in respect of the income inclusion rule and the under-taxed profits rule – an Australian-specific tax return that forms the basis of the ATO's assessment of the taxes arising under these rules; and
• the Australian tax return in respect of the domestic minimum tax – an Australian-specific tax return that forms the basis of the ATO's assessment of the tax arising under this rule.

While there are separate lodgement obligations in respect of these returns, the ATO has combined the latter three of them into a single "Combined Global and Domestic Minimum Tax Return" (CGDMTR). The GloBE Information Return is a standalone form and is not combined into the CGDMTR lodgment obligation. Failure to comply with these obligations can incur significant penalties under the administrative penalty regime.

The "transition period" to which draft PCG 2025/D3 is intended to apply covers Fiscal Years commencing on or before 31 December 2026 and ending on or before 30 June 2028. The Commissioner indicates that he intends to focus compliance resources on providing education and assistance to taxpayers during the transition period, and will generally not seek to impose penalties where taxpayers demonstrate that they have acted in good faith and taken reasonable measures to satisfy their compliance obligations. While the Commissioner indicates he intends to adopt a facilitative approach during the transition period, no blanket penalty relief applies. Taxpayers should be prepared to substantiate their efforts to comply in good faith.

The draft PCG contains a number of examples as to how these principles may be applied. However, the draft PCG highlights the importance of seeking to understand and satisfy Pillar 2-related compliance obligations in the first instance, while recognising that during the transition period lodging the returns on time may be impacted by internal systems and data limitations (which need to be overcome in sourcing the appropriate data).

PS LA 2025/D1

The Commissioner has released draft Practice Statement Law Administration 2025/D1 (PS LA 2025/D1), which sets out the Commissioner's proposed administrative approach in exercising his discretion to grant exemptions from the new Public country-by-country (CBC) reporting obligations. Broadly, these obligations require certain multinational entities that are CBC reporting parents to publicly disclose (via a government website) selected tax-related information for Australia, specified countries, and their global operations. The reporting obligations apply for reporting periods beginning on or after 1 July 2024, unless exempted.

Although the Commissioner has the capacity to exempt both certain entities and disclosure of certain information from the regime, the Commissioner indicates that he does not intend to exercise this discretion merely because certain information may be sensitive (e.g., commercially), given the purpose of the regime is to increase tax transparency. Rather, the Commissioner indicates that he may consider exercising his discretion where disclosure could have the following kinds of implications:

• impact on national security
• breach of Australian law
• breaching the laws of another jurisdiction, or
• revealing commercially sensitive information where disclosure of the information may result in severe consequences by an objective standard.

Legislation and regulations

Foreign bail-in bonds exposure draft consultation

The Government has released exposure draft regulations to permit debt interest treatment of certain regulatory capital instruments issued by Australian branches of foreign banks, often referred to as "bail-in bonds".

By way of background, changes to the regulatory capital requirements for banks following Basel III generally required regulatory capital instruments in the form of Additional Tier 1 capital and Tier 2 capital to have loss absorption ("bail-in") mechanisms (such as being converted to equity or being forgiven) in the case of a non-viability trigger event (such as material bank distress). While changes were made to income tax regulations to ensure that Tier 2 regulatory capital instruments issued by entities regulated by APRA were capable of being classified as debt interests, the existing regulations do not extend to foreign regulated entities operating in Australia through a permanent establishment.

The Government first announced its intention in this regard in the Mid-Year Economic and Fiscal Outlook 2024-25, where the Government stated:

"The Government will clarify the law to ensure continuity of established Australian Taxation Office administrative treatment on foreign bail‑in bonds. This will allow bail‑in bonds for Australian branches of foreign banks to continue to be treated as debt for tax purposes, enabling deductibility of interest payments. This will align with the treatment currently applying to bail‑in bonds issued domestically by Australian banks. This measure will apply retrospectively."

The proposed changes amend the existing regulations to permit Tier 2 capital instruments to be classified as debt interests in certain circumstances, even where issued by an entity (or a subsidiary of an entity) that is regulated for prudential purposes by a comparable foreign regulator. These proposed changes will apply retrospectively to 12 December 2012.

Tax policy developments

Productivity Commission's Interim Report: Creating a more dynamic and resilient economy

The Productivity Commission has released the first of five interim reports in the lead up to the Government's Economic Reform Roundtable, to be held on 19 to 21 August 2025. The Productivity Commission was tasked by the Government to produce these reports as part of an inquiry into Australia's productivity performance. Its first interim report, Creating a more dynamic and resilient economy, proposes a significant reorientation of Australia’s corporate tax system. The Commission recommends:

• lowering the corporate income tax rate to 20% for companies with annual turnover below $1 billion; and
• simultaneously introducing a 5% net cash flow tax (NCFT) on all companies.

Modelling of the impacts of this tax reform package indicates a potential increase in investment by $7.4 billion (1.6%), GDP growth of $14.6 billion (0.5%), and labour productivity gains of 0.4%, with the tax switch intended to be broadly revenue neutral for the Government. These steps are anticipated to be first steps, with the NCFT growing as a proportion of the revenue base (presumably, with corporate tax rates being further cut over time).

Cash flow taxes can operate in different ways – for example, the Henry Tax Review proposed a "destination based" cash flow tax that was intended to replace inefficient State taxes (such as payroll taxes and consumption-based taxes). The cash flow tax proposed by the Productivity Commission is what is referred to as an R-based (or "real based") cash flow tax, as distinct from an S-based (or "shareholder based") cash flow tax. The key principles underlying an R-based cash flow tax can be summarised as follows:

1. All real expenditure (e.g., costs of goods and services, wages, and capital expenditure, but not including interest expenses, discussed below) is immediately deductible. As capital expenditure is immediately deductible, no depreciation in respect of capital assets is claimable under a cash flow tax;
2. All cash receipts (other than interest, discussed below) are included in income in calculating taxpayers' net cash flow. This includes the gross cash receipts arising in respect of the sale of capital assets (or what would be regarded in an ordinary income tax system as a capital asset);
3. All financing-related amounts are excluded – that is, borrowing receipts and repayment of principal, along with interest expenses and interest income, are not included in the tax base of the net cash flow tax. This is intended to treat debt and equity equally, and remove tax-related biases towards debt financing. For banks and certain other financial institutions, the Productivity Commission indicates that it is considering an alternative financial net cash flow tax (sometimes referred to as an R+F based cash flow tax), or alternatively increasing the corporate income tax rate applying to entities carrying on a financial services business;
4. Distributions to equity holders are also (similarly) non-deductible (and contributions of equity are not assessable);
5. Losses arising under the cash flow tax system are generally allowed to be uplifted over time (e.g., by reference to a rate of interest – the Productivity Commission has proposed to use the 10-year government bond rate) and, in the Productivity Commission's proposal, may also be offset against liabilities arising under the corporate tax system (i.e., the income tax).

The interim paper does not go into detail on a large number of transitional issues that would arise, as well as some fundamental elements as to how such a tax would operate. These issues include:

• Whether any NCFT would be limited in its application to corporate entities, or would also apply to trusts and partnerships. If the NCFT applies to all of these entities, it is not clear how it would be implemented in the light of these entities generally being flow through entities (e.g., if it would operate consistently with this treatment);
• How any NCFT would interact with existing Australian tax design principles. For example, the Productivity Commission prevaricates in respect of whether taxes paid under the NCFT would contribute to franking credit balances (and, if not, how double taxation of corporate profits would be prevented);
• How transitional issues would be managed – for example:

1. for existing capital assets acquired prior to the introduction of the NCFT, it would be grossly unfair if the full proceeds from sale were included in the NCFT (without recognition of the cost of the capital asset). For example, a company that acquired a capital asset in 2024 may face inclusion of the full proceeds on sale under the NCFT without any recognition of cost base, unless transitional relief is provided, potentially leading to material tax-induced distortions. However, recognising the undeducted part of the depreciation base as an immediate transitional loss would conflict with anticipated revenue raising to be achieved by the NCFT;
2. the non-deduction of interest expenses would adversely impact taxpayers who had adopted a capital structure based on tax principles at the time, and may face penalties for early repayment;

• How any NCFT would interact with Australia's tax treaty network (noting that, prima facie, it may not be a covered tax).

Thin capitalisation – International Developments

The New Zealand Inland Revenue released an officials' issues paper regarding proposed reforms to New Zealand's thin capitalisation rules. Interestingly, New Zealand's thin capitalisation rules currently operate in a materially similar way to Australia's former thin capitalisation rules, with a similar safe harbour debt amount and worldwide gearing debt amount. New Zealand's regime is more favourable than Australia's former regime with respect to outbound investment, and has a 10% uplift in calculating the equivalent of the worldwide gearing debt amount. However, to date, New Zealand has never had an equivalent rule to Australia's former arm's length debt test.

The proposal would involve a liberalisation of New Zealand’s thin capitalisation rules, in marked contrast to Australia’s recent reforms, which have significantly constrained debt deduction capacity for many taxpayers. In particular, the shift from the arm’s length debt test to the more restrictive third party debt test, coupled with the introduction of the debt deduction creation rules, has added complexity and reduced flexibility.

Interestingly, one option raised in the paper is to introduce a "third party debt test", although the officials correctly identify some of the material issues that make this approach difficult (especially, in Australia's case, in the light of the ATO's draft guidance). These concerns include:

• That a test that required recourse to be limited to New Zealand assets would not be straightforward – "For example, should products that are sold overseas qualify as New Zealand assets? What if they are kept in a storage facility in another country? Should receivables from foreign customers qualify?" These questions will be familiar to any Australian taxpayer grappling with Australia's third party debt test.
• That a test that required the funds to be used as part of a New Zealand business operation could be complex – "For a general business operation, complying with the rule may be more challenging because ensuring that the funding is not used to a commercial activity in another country can be less straightforward, given the fungibility of money."

Many Australian taxpayers will recognise these issues as largely unresolved, notwithstanding the release of the ATO's draft guidance.

Watching Brief

Taxpayers should be aware of the ATO's impending guidance on the following:

• Capital raised for the purpose of funding franked distributions

The Commissioner intends to finalise draft Practical Compliance Guideline PCG 2024/D4 which sets out the ATO’s compliance approach to section 207-159, which is a relatively recently enacted provision that treats certain distributions funded by capital raisings as being unfrankable, applying with effect from 28 November 2023. The ATO indicates that this will be finalised in mid 2025.

• Royalty withholding tax and software arrangements

The Commissioner intends to release a draft Practical Compliance Guideline in relation to royalty withholding tax risks potentially present in software arrangements. It is intended to accompany the technical position set out in draft Taxation Ruling TR 2024/D1 Income tax: royalties – character of payments in respect of software and intellectual property rights. The ATO indicates that this will be published in mid 2025.

• Back-to-back CGT rollovers

The Commissioner intends to release a draft Practical Compliance Guideline setting out the circumstances in which the ATO is more likely to apply compliance resources to consider potential tax risks, including the application of Part IVA, to so-called back-to-back CGT rollovers. This was expected to be published in early 2025, and so it is anticipated that this should be forthcoming shortly.

• Thin Capitalisation

As part of the ATO's PAG Consultation on the revised thin capitalisation rules, certain issues were identified as matters on which the ATO may want to provide public advice and guidance, although the ATO has indicated that this would be considered following completion of the public advice and guidance on certain priority items. We understand that the ATO is currently considering the following issues for potential guidance (among others):

1. Third party debt test – development asset concession, as well as the conduit financing conditions (including the "same terms" requirements);
2. Debt deduction creation rules – key concepts, and interactions with other regimes such as the other thin capitalisation rules and Division 7A; and
3. The definition of "debt deductions" – when amounts are "economically equivalent" to interest.