Still bubbling away...

As Cameron Blackwood noted (his was the first update I saw), the High Court has granted the Commissioner special leave to appeal the PepsiCo / Stokely-Van Camp, Inc matters.

As usual, please have regard to my disclaimer (as well as cumulatively any disclaimer that you know of which could conceivably be more effective in warding off any complaints) that these views are my own, are based only on publicly available information, are not representative of any other organisation which I could conceivably represent, do not contain tax advice, should in no circumstances be relied upon, any errors are my own and so on and so forth. Moreover, none of my comments are intended to be critical of any person, organisation or body, and are meant in the utmost good faith.

My understanding of the special leave matters

For completeness, I note that the grant appears to be of all three grounds, and for both PepsiCo Inc (regarding the Pepsi and Mountain Dew EBA) and Stokely Van-Camp, Inc (regarding the Gatorade EBA).

Based on the filings (i.e. publicly available information) the grounds of appeal are broadly:

(1) whether the Full Court ought to have found that the payments made by the bottler "included a "royalty" paid as "consideration for" the use of or right to use intellectual property licenced by PepsiCo to the bottler"?

(2) whether the Full Court ought to have found that the royalty component was income "derived" by and [which] was "paid to" PepsiCo?" and

(3) in the alternative, if no royalty withholding tax was payable, whether the Full Court ought to have found that PepsiCo was liable to DPT?

The special leave questions were formulated broadly as follows:

Question 1 (covering grounds 1 and 2) was a question framed with some rhetorical vim and vigour but essentially asking whether PepsiCo's success at the Full Federal Court was a triumph of contractual form over substance? and

Question 2 (covering ground 3) was a question asking whether the taxpayer can prove that a DPT assessment is excessive where there is no postulate that is a reasonable alternative to entering into or carrying out the scheme?

Potential broader relevance of the appeal

Software distribution payments

In the ATO's press release where they noted that they would be seeking leave to appeal the PepsiCo matter, the ATO noted that they would defer finalisation of the software royalty draft ruling 'pending the outcome of the High Court proceedings'.

The High Court's grant of special leave means that finalisation of this ruling will continue to be deferred for some uncertain period.

Ground 1 will likely have the most specific application to software distribution arrangements as that ground concerns how best to construe a distribution agreement which also includes a license regarding intellectual property. That is, the High Court's judgement here could (conceivably but not definitely) provide guidance on how payments under some, but not necessarily all, distribution agreements should be characterised.

However, I note that some of the distinctions between software distribution and the distribution of tangible products (i.e. the interpretation of copyright law, and OECD commentary) could limit the precedential value.

In any case, to the extent PepsiCo will determine the ATO's finalisation of this advice, we may be waiting for some time. And for those seeking guidance elsewhere, as I noted in my post regarding Oracle, that matter (which is more directly on point!) is unlikely be heard (at first instance!) until 2026 (and whether or not it proceeds in domestic court or via MAP may still be subject to appeal to the Full Federal Court).

Unfortunately, taxpayers seeking certainty on those arrangements will likely be kept waiting for some time.

However, the ATO's attempts to provide guidance do continue, and we can expect a practical compliance guideline on this topic this year. In the ATO's press release regarding PepsiCo, the expected timing of that document was "late 2024" though the advice under development page currently suggests that the expected completion is 'to be advised'.

I suggest that taxpayers and advisers keep hitting refresh on the advice under development page, and awaiting the ATO's emails setting out the advice recently issued to keep track of the draft PCG's progress.

Embedded royalties and other withholding tax matters

The application of royalty withholding tax to payments which are in form characterised as something else has also been a focus of the ATO (see for example, Taxpayer Alert 2020/1) and the Treasury (see for example, the announcement of the proposed penalty regime for 'mischaracterised or undervalued royalty payments').

These sorts of matters could, subject to their facts and circumstances, and the breadth of any High Court judgement, be squarely within the four corners of a High Court judgement in this matter in respect of Ground 1 or Ground 2.

Any finding regarding Ground 2 could also be relevant to any tripartite or multiparty arrangements regarding withholding tax (whether royalty withholding tax or otherwise) - that is, Ground 3's consideration of whether a payment to one party was actually paid to, or dealt with on behalf of another entity could have broad significance.

Diverted profits tax - and other general anti-avoidance rules?

Regarding Ground 3, this is broadly to do with how the reforms to 'tax benefit' from 2013 should be construed.

Essentially, this ground turns on whether, as per Hespe J's judgement in Guardian, that the taxpayer bore the onus of proving what might reasonably be expected to have occurred instead. The Commissioner suggests that the majority's view that the assessments were excessive because there was "no postulate which is a reasonable alternative to the scheme" differs from Guardian whereas the taxpayer suggests that the majority actually applied Guardian (that is, applied the same reasoning rather than applying it as binding precedent).

Because this aspect is not specific to the Diverted Profits Tax, but rather impacts the assessment of tax benefits in Part IVA more broadly, resolution of this matter could have broader import.

Indeed, the Commissioner suggested that this ground could impact a number of extant high value tax disputes including "DPT (not the subject of any judicial decision prior to this litigation); and/or the ascertainment of a tax benefit under Part IVA (s 177CB, a remedial measure introduced in 2013 that refers to a postulate that is a reasonable alternative to the scheme, which has not previously been considered by this Court)."

Accordingly, resolution of this matter could, again depending on how the Court drafts any judgement, have broad import for a variety of taxpayers.

The importance of a case's precedential value to other matters - how does this bear on the basis for granting special leave?

One interesting aside, and I should stipulate that I do not know whether this was relevant to the High Court's decision to take up this appeal, is that, in arguing the public interest aspect of the appeal, counsel for the Commissioner relied upon an affidavit from an ATO officer regarding the number of cases that could be impacted.

Regular readers of my posts (both of you) might recall that a similar affidavit was served in the Oracle matter (in the obviously different context of determining the public interest impact of granting a stay of proceedings).

This form of evidence is interesting in the context of both a special leave application and also whether a stay of proceedings is warranted as:

(i) the number of, and speed of passage of, cases of a particular type is entirely within the control of the ATO; and

(ii) arguably, evidence of this type could cut for or against the grant of leave / stay. One reading is that proffered by the Commissioner which is that this highlights the public importance. An alternative reading, as the taxpayer noted in PepsiCo, and as could be potentially be argued in Oracle, is that there may be alternative cases which offer a more suitable vehicle for a precedential finding (and therefore that special leave was not necessary or alternatively, that a stay of domestic proceedings was appropriate to grant).

One could suggest that by not seeking a precedent in a specific matter (if say, it was an unsuitable vehicle for a precedential ruling) this could implicitly bind the Commissioner to apply the law in a way which he felt was incorrect (and therefore that the former reading should be preferred), and that might be right - I haven't fully thought through my views on this - but I would note that:

• this would not seem to apply where the alternative is binding arbitration (which inherently does not have precedential value) - that is, a failure to grant the stay in Oracle would not bind the Commissioner to approach the royalty withholding tax matter in a specific way; and
• the Commissioner has previously sought and received advice from the Solicitor-General (around the time of the FBT controversies regarding Essenbourne and Indooroopilly) that the Commissioner is not necessarily bound by a single court decision of the Federal Court, or even the reasoning of the Full Court (in circumstances where the High Court has not yet considered a matter on its merits, nor has it indicated that the issue is of sufficient general importance to attract a grant of special leave in a suitable case).

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In any case, the royalty withholding tax saga continues. I think I need a carbonated, caffeinated beverage to keep going...