Backpacker tax win for ATO (for now)
In “Backpacker tax continues to plague government”, the author detailed the history and development of the so-called “backpacker tax” (the denial of a tax-free threshold with a minimum 15% tax on working holiday visa holders). The political controversy was outlined and the rationale for the tax questioned given the development of a line of precedent that favoured backpackers being viewed as non-residents and denied a tax-free threshold in any event. To add to the government’s woes, the Federal Court in Addy v FC of T 2019 ATC ¶20-719;  FCA 1768 held that the tax breached the non-discrimination clause in the Australia–United Kingdom (UK) Double Tax Agreement (DTA).
An appeal court has now overruled the first instance decision (FC of T v Addy 2020 ATC ¶20-756;  FCAFC 135) identifying deficiencies in how the matter was managed and decided. As only a majority decision was reached on the substantive issue, a special leave application to appeal to the High Court is likely.
Facts and issues in Addy
Ms Addy is a British citizen who lived in Australia from 20 August 2015 to 1 May 2017, apart from a two-month period in early 2016 when she toured South East Asia. She was the holder of two consecutive 12-month working holiday visas.
The first issue in the case was whether Ms Addy was a tax resident of Australia during the 2016/17 income year. In that year she worked as a waitress in Sydney and lived with a friend in share house accommodation, which was also her postal address while in Australia. She also had two Australian bank accounts and a pre-paid mobile phone account in Australia.
The second issue was whether she had to pay tax on income earned from 1 January 2017 at the backpacker tax rates which applied from that date. The operative elements of the backpacker tax are contained in s 3A and Pt III of Sch 7 to the Income Tax Rates Act 1986.
These issues raised for consideration whether Addy was a tax resident of Australia both according to the ordinary meaning of that term and/or under the 183-day test contained in s 6(1) of the ITAA 1936. Under the 183-day test, a person is a tax resident if they have actually been in Australia, continuously or intermittently, during more than one-half of the income year (clearly Addy had), unless the Commissioner “is satisfied that the person’s usual place of abode is outside Australia and that the person does not intend to take up residence in Australia”.
The second issue also raised the question as to whether the non-discrimination article (Art 25) contained in the Australia–UK DTA invalidated the tax. Article 25 can be paraphrased, in this context, as stating that nationals of the UK are not to be subject to tax in Australia that is “other or more burdensome” than that to which Australian nationals “in the same circumstances, in particular with respect to residence” may be subjected. The term “national” is defined in Art 3 in terms of citizenship or a right to abode (in the UK) or a right to permanent residency (in Australia). The issue was, therefore, whether Addy, as a UK national, was being subjected to a more burdensome tax than an Australian national in the same circumstances.
Such clauses also exist in Australia’s DTAs with the United States, Germany, Finland, Chile, Japan, Norway and Turkey.
Problems with the case
Addy was meant to be a test case on the succinct issue as to whether a non-discrimination clause could apply to the backpacker tax. However, the 120-page Full Court judgment deals with this issue briefly compared to other matters arising from the first instance decision and how the case was argued.
Difficulties with the matter began with the initial flip-flopping by the Commissioner as to whether Addy was a non-resident or resident. Having (apparently) settled on the latter, the matter would have solely dealt with the non-discrimination article had the lawyers for Addy not belatedly sought to argue that she was a resident under the 183-day test and, on that basis, she was a resident until 30 June 2017 (not the earlier date of departure in May) and so there was no mandate to pro-rata the tax-free threshold (assuming the backpacker tax was invalid). This necessitated the Court at first instance considering this test with inferences drawn that the Commissioner must have formed the opinion that the “usual place of abode outside Australia” exclusion had no operation. Whether it was appropriate for his Honour (Logan J) to take this approach became the main issue that vexed the Full Court.
In the result, the Full Court held that the exclusion was not activated as the Commissioner had not turned his mind to it and it was inappropriate for the Court to substitute its own opinion (which had been that Addy did not have a usual place of abode overseas). On this basis, the Full Court accepted that Addy was a resident on the basis of having been in Australia for 183 days and the Commissioner not having formed the opinion that the exclusion applied. The net result was a finding consistent with the trial judge notwithstanding disagreement as to the approach that had been taken.
Essentially, the Full Court held that the Commissioner could not be satisfied that Addy’s usual place of abode was outside Australia and that she did not intend to take up residence in Australia because it had failed to consider those questions.
On the issue as to when the period of residency concluded, the Full Court agreed with the trial judge that Addy’s residency ceased when she left Australia on 1 May 2017 and, therefore, she was not a tax resident for the whole income year. This additional argument that the lawyers for Addy wanted to run, causative of so much judicial consideration as to how the 183-day test should be dealt with, was readily rejected by all judges with Derrington J commenting at :
“There is no foundation to any argument advanced on behalf of Ms Addy in relation to the cross appeal. Indeed, the propositions advanced might correctly be described as spurious. Were that not serious enough, the raising of this issue led to the obfuscation of the real subject matter of the test case and an unfortunate convolution of the surrounding issues.”
Residency of backpackers
The Full Court decision continues the trend of recent cases in holding that backpackers are unlikely to be considered residents under ordinary principles. The Court identified relevant factors taken from the authorities (see Derrington J at ). From these the Court focused on five:
- Addy’s intention was to holiday in Australia rather than to establish a home.
- The nature of her presence was always temporary and for a finite duration and purpose. That was consistent with her intention to holiday in Australia and return to England rather than to take up residence.
- At no time did she establish any legally enforceable right to occupation of any dwelling.
- She did not have any significant assets in Australia.
- Her employment was of a casual nature.
The earlier article on the first instance decision refers to three 2015 decisions and a further 2019 decision echoing this approach. Furthermore, in the last couple of months, there have been further “backpacker” decisions of a similar vein in MacKinnon v FC of T 2020 ATC ¶10-534;  AATA 1647 and Coelho & Ors v FC of T 2020 ATC ¶10-543; AATA 2474.
These decisions also demonstrate the difficulties for a backpacker seeking to claim residency under the 183 days test and avoid the “usual place of abode outside Australia” exclusion. The decision in Harding v FC of T 2019 ATC ¶20-685;  FCAFC 29 would appear to have enlivened that exclusion given the finding in that case that the reference to “abode” is not to a particular dwelling but rather more broadly to a town or country.
What about the non-discrimination article?
At first instance, it was held that the non-discrimination article of the Australia-UK DTA applied so that Addy should pay tax at the same rates that apply to Australian nationals who are tax residents. Article 25 prohibits non-nationals being subject to more burdensome tax than nationals in the same circumstances. The trial judge held that as only foreign nationals could obtain a working holiday visa and it was this visa that triggered the more burdensome tax liability then the clause was activated.
The Full Court was split on this issue. Although Davies J agreed with the trial judge, Derrington and Steward JJ held that there was no discrimination on grounds of nationality as her nationality did not compel her to apply for a working holiday visa. There was a wide range of available visas which would permit a British national to enter Australia and earn income. Addy’s decision to apply for a working holiday visa was a matter of choice. The tax might have discriminated against this type of visa but it did not, ipso facto, discriminate against foreign nationals.
The test case program has been a laudable feature of Australian tax administration since the mid-1990s. It is a shame that the litigation in Addy has become such a huge burden on public administration and, presumably the test case budget. The ultimate issue is a narrow one but the manner in which Addy’s assessment was dealt with by the ATO and the decision by Addy’s lawyers to raise an additional issue at a later stage has obfuscated the proceedings.
On the central issue as to whether the non-discrimination article can void the backpacker tax, we now have an even split of Federal Court judges raising the likelihood of an application for special leave to appeal to the High Court. There is merit in the argument that as only a non-national can apply for a working holiday visa and it is by virtue of holding that visa that an additional tax burden may be imposed, the tax discriminates against non-nationals who would otherwise be tax residents. The suggestion that the non-national had a choice to apply for a different type of visa (and so not be subject to the backpacker tax) is at variance with the reality of their situation. It seems to this author rather disingenuous to say that the tax merely discriminates against the type of visa holder, not the fact that they are a non-national, when by virtue of holding that visa they must be a non-national.
There is some irony in the development of a line of precedent to the effect that a backpacker today is likely to be found to be a non-resident for tax purposes and so would be subject to an initial rate of tax of 32.5% but for the 15% backpacker tax rate. The backpacker tax was premised on backpackers being held to be residents and obtaining what the government considered to be an unfair benefit from access to the tax-free threshold (although the Explanatory Memorandum and Second Reading Speech would have us believe that the change was always intended to be advantageous to backpackers – a rewriting of history bought by the appeal judges). Certainly, as it would now appear that a finding that a backpacker was a resident would be rare, the tax can now be more properly viewed as concessional in nature. This deviation from its original intent raises doubt as to the very need for the tax with all its angst. On the other hand, given that in 2018, the government had to relax the working holiday visa conditions due to a large fall in working backpacker numbers and the negative impact on regional centres, this may justify the continuance (if permitted) of this erstwhile penalty and now concession.