In brief
The Australian Taxation Office (ATO) has released draft Practical Compliance Guideline PCG 2025/D4 Low-risk payments relating to software arrangements – ATO compliance approach, outlining its compliance approach to cross-border payments for software arrangements and the associated risk of royalty withholding tax. This guidance aims to provide greater certainty for certain businesses making payments to non-resident software suppliers, clarifying when the ATO will consider such payments to be low risk and unlikely to attract further review.
In detail
Background: royalties and software
Cross-border payments for software can be complex from a tax perspective, particularly in determining whether such payments are considered ‘royalties’ under Australian tax law. If a payment is classified as a royalty, it may be subject to Australian royalty withholding tax. The ATO’s draft position on when a payment for software constitutes a royalty is set out in draft Taxation Ruling TR 2024/D1 Income tax: royalties – character of payments in respect of software and intellectual property rights, which is currently under review pending the outcome of the High Court’s appeal from PepsiCo, Inc. v Commissioner of Taxation [2024] FCAFC 86 (PepsiCo).
Given the uncertainty and compliance burden for businesses, the ATO has issued PCG 2025/D4 to provide practical guidance on when, in certain circumstances, it will not review software arrangements for royalty withholding tax risk.
ATO compliance approach: risk zones and self-assessment
PCG 2025/D4 introduces a risk assessment framework that allows taxpayers to self-assess the risk of their software-related payments being subject to ATO review for royalty withholding tax. The framework categorises arrangements into two main ‘risk zones’:
- White Zone: No further risk assessment required. This applies where there is an existing settlement agreement, advance pricing arrangement (APA), or court/tribunal decision covering the withholding tax outcome, or where a previous ATO review or audit has provided a low-risk or high-assurance rating—provided there has been no material change in facts.
- Green Zone: The ATO will not review the arrangement for royalty risk (other than to verify the self-assessment) if the payment meets specific low-risk criteria outlined in the guideline.
Taxpayers are not required to seek ATO sign-off on their self-assessment but should be prepared to disclose, explain and evidence their risk rating if requested. The ATO may still review arrangements and apply compliance resources where there has been a restructure that resulted in a reduction or avoidance of royalty withholding tax, or where the taxpayer cannot substantiate their self-assessment.
The PCG currently only considers low risk arrangements. The ATO has indicated that it may consider expanding this Guideline to publish its broader compliance approach (that is, beyond the low-risk zone) at a later stage. For arrangements that do not satisfy the low-risk criteria, the PCG states that the ATO will review arrangements in accordance with their views set out in TR 2024/D1 (notwithstanding that this document remains in draft form).
When the PCG is finalised, it is proposed to apply to arrangements entered into both before and after its date of issue.
Low-risk arrangements
The guideline sets out the features of arrangements, including some practical examples, that fall within the green zone, meaning they are considered low risk for royalty withholding tax purposes. It focuses on what is referred to as an ‘undissected payment’—that is, where no portion of a cross-border payment is expressly stated to be a royalty by the instrument under which it is paid, or where there is no instrument governing the payment.
An undissected payment is in the green zone if it falls into one of the following categories:
1. It is paid to acquire software solely for private or domestic use. Example 1 in Schedule 1 of the PCG illustrates this with an individual purchasing antivirus software for personal use.
2. It is paid to acquire software which is:
- installed and used in the course of your own business
- generally available to the public from other sources and is not substantially customised, and
- not further sold, licensed or otherwise exploited as a primary object of your business.
Example 2, which involves a business in Australia acquiring general administrative software that is ancillary to the business, illustrates this category. It is noteworthy that the business does not have the right to modify the source code in the software but is permitted to configure and customise certain features of the application to suit its business needs.
3. It is paid to acquire finished tangible goods of which software is an inherent or practically inseparable part, the software is to enable the tangible goods to perform their intended function, and the goods are acquired for resale to retail customers. Example 4 concerns an Australian distributor of washing machines with pre-installed, embedded software. The Australian distributor does not have any rights to modify or sublicence the software installed on the washing machines.
4. It is paid to acquire software copies stored on physical media in the course of a business of reselling the software copies and you and your associates do not require or have the rights to use offshore IP (for example, the right to sublicence any IP). This is illustrated in Example 3, a large Australian retailer that purchases and resells software on physical media. The retailer has no rights to copy, modify or sublicence, nor any other rights to use the software copyright of the offshore supplier.
These examples, while limited, are designed to provide clarity and reduce compliance costs for certain taxpayers whose purchased software arrangements fall within these low-risk categories.
It should also be noted that the draft PCG considers software arrangements only. Other arrangements featuring similar risks relating to royalty withholding tax may be treated differently by the ATO.
The draft PCG has been released for comments, with submissions due 17 September 2025.
The takeaway
The ATO’s draft guidance in PCG 2025/D4 offers welcome clarity for some businesses making cross-border payments for software, setting out when such payments are unlikely to attract ATO scrutiny for the application of royalty withholding tax. By self-assessing against their software arrangements against the white and green zone criteria, it is intended that taxpayers can gain confidence that their low-risk arrangements will not be subject to further review, provided they maintain appropriate documentation and there are no material changes to their arrangements.
However, practically, software arrangements are complex, and many are unlikely to fall within the low-risk examples the ATO has provided. As such, significant uncertainty remains for many taxpayers for now.
Businesses should review their current and planned software arrangements in light of this guidance and ensure that for those arrangements that fit within the low-risk zone, they can substantiate their risk assessment.
Contact us
Bianca Wood
Partner, Tax & Legal Markets Leader, PwC Australia
Ross Malone
Partner, Tax, PwC Australia
Jonathan Malone
Partner, Tax, PwC Australia
Michael Bona
Partner, International Tax & Trade Leader, PwC Australia
Stuart Landsberg
Partner, Tax, PwC Australia
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