Phased reduction in interest withholding tax to boost bank access to offshore funding in longer term

A phased reduction in interest withholding tax for Australian banks and foreign banks operating in Australia seeking to access funding from offshore markets was announced in May 2010 as part of the Australian Federal Budget 2010-11.

The Australian Government has committed to reducing interest withholding tax rates from 10% to 7.5% from 2013-14 and 5% from 2014-15. The Government has indicated that its aspirational goal, subject to budgetary considerations, is to eliminate interest withholding tax.  

The effective withholding tax rate on total offshore funding is presently only about 3.5% given the existing wholesale funding withholding tax exemption and the relief available under some of Australia’s double tax treaties.

Over the longer term, this measure will enable Australian based banks to supplement their offshore wholesale funding programs with potentially cheaper funding from offshore retail deposits.  

However, the funding must be used by the banks in their Australian business. This may introduce some compliance complexity as banks will have to trace the use of the funds in their Australian operations. Funding raised by Australian banks from surplus funds of their offshore subsidiaries will also be able to access the reduced withholding tax rates. 
       
Australian banks have historically sourced a large proportion of their wholesale funding from foreign wholesale markets even during the global financial crisis despite the higher funding costs. 

There are potentially cheaper sources of funding from offshore retail investors in Asia, Europe and the United States which do not currently qualify for the withholding tax exemption or double tax treaty relief. Under the existing withholding tax regime, Australian banks seeking to access funding from these investors would be expected to wear the withholding tax, which would make such funding relatively expensive. Therefore, historically, these funding sources have not generally been attractive to Australian banks.

The phased reductions in withholding tax will also apply to foreign banks operating in Australia. Currently, Australian subsidiaries and branches of foreign banks are subject to interest withholding tax on funds from their parent entities or head office.

Reduced withholding tax rates should increase the competitiveness of banks operating in Australia in the long term and will potentially result in cheaper funding opportunities for Australian borrowers.