U.S. Treasury Writes Australia on Computer Software Payments Under Treaty

August 23, 2022

Mr. Marty Robinson
First Assistant Secretary — CBR
Corporate and International Tax Division
The Treasury
Langton Crescent, Parks ACT 2600
Australia

Dear Mr. Robinson:

I am writing regarding Draft Taxation Ruling TR2021/D4, which was issued by the Australian Tax Office for public comment in 2021 (the “draft ATO ruling”). The draft ATO ruling would replace Taxation Ruling TR93/12, which was withdrawn on July 1, 2021, and would provide guidance as to how the ATO would characterize certain payments for computer software (including for computer software delivered digitally or through cloud computing arrangements) for Australian income tax purposes. Certain of the preliminary views expressed in the draft ATO ruling raise potential concerns to the United States to the extent that those views would apply to matters under the bilateral tax treaty between the United States and Australia (“the U.S.-Australia tax treaty”). I understand that the competent authorities of the United States and Australia are also engaging on these issues.

The issues of concern to the United States relate to the preliminary analysis in examples 4 and 5 of the draft ATO ruling. Example 4 involves an arrangement whereby an Australian company makes payments for the right to distribute (but not the right to reproduce or modify) software to Australian customers by entering into end-user license agreements. Example 5 involves an arrangement whereby an Australian company pays for the right to sell software subscriptions to Australian customer through cloud services arrangements that specify the terms on which the customer can use the software. The draft ATO ruling concludes that, in both examples, the payments made by the Australian company to the owner of the software (in each example a non-Australian parent corporation) are royalties, notwithstanding that neither the Australian company nor the customers have the right to reproduce or modify the software nor any other right of the software owner.

The United States would have strong concerns if Australia applied the preliminary analysis included in the draft ATO ruling to interpret and apply the U.S.-Australia tax treaty. Because these two examples involve solely the right to distribute copies of the software, without the right to reproduce or modify the software or any other right of the software owner, the interpretation that the payments are royalties would be contrary to long-standing internationally accepted treaty interpretation, including paragraph 14.4 of the Commentary to Article 12 (Royalties) of the OECD Model Tax Convention, which is also endorsed in the United Nations Model Tax Convention. Such an interpretation would also create a concerning imbalance in the benefits provided by the U.S.-Australia tax treaty, because the United States Treasury regulations provide that such payments should be treated as payments in exchange for services and not royalties.

I would greatly welcome the opportunity to discuss this important matter with you as soon as possible. We are concerned that the preliminary views expressed in the draft ATO ruling, if applied by Australia to interpret the U.S.-Australia tax treaty, could lead to treaty disputes. Please contact my colleague Henry Louie (Henry.Louie2@treasury.gov), who will be pleased to help with the scheduling of a video conference at a mutually convenient date and time.

Sincerely,

Jose E. Murillo
Deputy Assistant Secretary (International Tax Affairs)
Office of Tax Policy
U.S. Treasury Department