Software royalties:

New Zealand Inland Revenue issued an updated draft of its two-decades’ old guidance on the income tax treatment of payments made to non-resident software suppliers. While the draft reflects modern software delivery models, including cloud-based services and intermediary arrangements, it does not change Inland Revenue’s established interpretative approach.

Across the Tasman, the Australian Taxation Office (the ATO) has also finalised its long-awaited ruling on software royalties, alongside draft guidance on how it will apply the ruling in practice. The ATO takes a broader view of what may constitute a royalty, particularly in relation to software reseller and intermediary arrangements.

In some cases, this may lead to a trans-Tasman mismatch, with the same payment treated as a royalty in Australia but not in New Zealand by the respective revenue authorities. For taxpayers operating across both countries, the net result is increased uncertainty and risk, as well as additional withholding tax exposure (and potentially dispute) in some cases.

For businesses operating in either or both jurisdictions, these developments should prompt a review of cross-border software arrangements, including historical payments where relevant.

This Taxmail sets out further considerations for tax managers and businesses operating in this space.

New Zealand: Inland Revenue updates its guidance while maintaining its approach

Inland Revenue has released draft interpretation guidelines for public consultation on the income tax treatment of payments made by New Zealand residents to non-resident software suppliers. Once finalised, it will replace Inland Revenue’s 2003 guidance.

Although the ways in which software is delivered and commercialised have evolved significantly since 2003, Inland Revenue expressly states that the draft is not intended to change its existing interpretative position. Instead, the draft updates the terminology, analysis and examples used in the earlier guidance to reflect modern software and cloud-based business models.

Inland Revenue continues to apply a transactional analysis. The tax treatment depends on the legal rights and obligations arising under the arrangement, including what the supplier provides, what the customer or intermediary is permitted to do, and whether any copyright rights, know-how or other intellectual property rights are transferred or made available. The description given to a payment in a contract or invoice is relevant but is not, by itself, determinative.

Consistent with Inland Revenue’s earlier guidance and the OECD Commentary, the acquisition of software copies for ordinary business or personal use will generally not involve the payment of a royalty. Similarly, an intermediary that merely facilitates or on-sells customer access will not ordinarily make a royalty payment solely because it participates in distributing the software.

The draft expands on how these principles apply to current delivery models:

Cloud-based services:

Payments for standard software-as-a-service (SaaS), platform-as-a-service (PaaS) and infrastructure-as-a-service (IaaS) offerings will generally be characterised as payments for services rather than royalties, provided the customer or intermediary does not acquire relevant copyright rights, know-how or other intellectual property rights.

Resellers and other intermediaries:

An intermediary that merely facilitates or on-sells access will generally not be paying a royalty. The position may differ where it receives rights to reproduce, adapt, distribute or otherwise exploit the software, or obtains know-how, confidential information or other intellectual property rights.

Mixed arrangements:

When a payment covers multiple elements, such as software access, implementation, support, maintenance, data or know-how, the arrangement must be analysed. An incidental component may follow the treatment of the principal supply, while separate material components may need to be reasonably apportioned.

Worked examples:

The draft includes further examples illustrating how the principles apply to common software, cloud and intermediary arrangements.

Cloud-based services: Resellers and other intermediaries: Mixed arrangements: Worked examples:

Cloud-based services:

Payments for standard software-as-a-service (SaaS), platform-as-a-service (PaaS) and infrastructure-as-a-service (IaaS) offerings will generally be characterised as payments for services rather than royalties, provided the customer or intermediary does not acquire relevant copyright rights, know-how or other intellectual property rights.

Resellers and other intermediaries:

An intermediary that merely facilitates or on-sells access will generally not be paying a royalty. The position may differ where it receives rights to reproduce, adapt, distribute or otherwise exploit the software, or obtains know-how, confidential information or other intellectual property rights.

Mixed arrangements:

When a payment covers multiple elements, such as software access, implementation, support, maintenance, data or know-how, the arrangement must be analysed. An incidental component may follow the treatment of the principal supply, while separate material components may need to be reasonably apportioned.

Worked examples:

The draft includes further examples illustrating how the principles apply to common software, cloud and intermediary arrangements.

The draft also discusses a potential anomaly under the finance lease rules for certain software arrangements. Separately, the recently introduced Taxation (Annual Rates for 2026–27, FBT Simplification, Foreign Investment Funds, and Remedial Measures) Bill proposes to exclude SaaS arrangements from the finance lease definition.

Australia: the ATO continues to adopt a broader royalty position

The continuity of Inland Revenue’s position in New Zealand contrasts with the long-standing position recently finalised by the Australian Taxation Office.

Following more than five years of extensive consultation, the ATO has finalised its ruling on software royalties. The ruling focuses on arrangements where an Australian business, such as a reseller or distributor, makes software owned by an overseas entity available to customers. It sets out the circumstances in which the ATO considers payments made to the overseas software owner to be royalties subject to Australian withholding tax.

While the final ruling includes some refinements and appears more measured than the earlier draft, the ATO’s overall position has not materially changed. Its key features include:

A broad rights-based interpretation:

The ATO focuses closely and technically on whether the Australian intermediary exercises, or is authorised to exercise, rights protected by Australian copyright law. Depending on the rights and activities involved, payments made by Australian resellers and distributors may be royalties even when the arrangement relates to cloud-based or subscription software. The ATO also gives weight to practical matters, such as whether an intermediary provides customers with licence keys, credentials or other means of accessing the software, even if it does not own or host the software.

A narrower reading of international guidance:

Despite concerns raised during consultation by businesses and advisors, the ATO has maintained an interpretation of the OECD Commentary that is narrower than that generally adopted by Inland Revenue and a number of other tax authorities.

Apportionment may be difficult in practice:

Although the ruling recognises that a mixed payment may be apportioned, the ATO may regard an entire payment as consideration for relevant rights when the other components are not separately identifiable or commercially distinct.

Historical arrangements may be affected:

The ruling applies to arrangements entered into before and after its issue, subject to the protection available for arrangements covered by valid reliance on the former ruling before its withdrawal on 1 July 2021. Historical royalty withholding tax exposures should therefore be considered, as unpaid withholding tax is not subject to a limitation period.

The ATO’s accompanying draft practical compliance guideline (PCG) groups arrangements into five colour-coded risk zones to indicate the likelihood of ATO compliance activity. The framework considers the nature of the arrangement, the amount treated as a royalty and the profit earned by the Australian business.

This creates a novel interaction between royalty withholding tax and transfer pricing. While these issues have historically been analysed separately, albeit with practical overlap, the PCG brings them much closer together in assessing compliance risk. In particular, it raises the question of whether businesses may effectively need to accept a higher level of Australian profit to achieve a lower royalty withholding tax risk rating.

The Australian Government’s proposed penalties for the mischaracterisation of royalty payments would raise the stakes further for significant global entities. The proposals are intended to apply from 1 July 2026 but have not yet been enacted, reinforcing the importance of carefully assessing software and other intangible-related arrangements.

Taxpayers caught in the middle

While Inland Revenue’s draft does not change New Zealand’s established approach, it provides a useful opportunity for businesses to assess whether the treatment of their existing software arrangements remains supportable under the updated and expanded analysis.

At the same time, New Zealand businesses operating across the Tasman are faced with two tax authorities applying different interpretations on what constitutes a royalty. This creates the possibility that the same payment may be characterised differently in New Zealand and Australia, with taxpayers having limited ability to influence the treatment adopted by the other party or tax authority.

The practical implications will differ depending on whether a New Zealand business is receiving payments from Australia or making payments to a non-resident software supplier.

Receiving payments from Australia

The impact is likely to be greatest for New Zealand software businesses receiving payments from Australian resellers or distributors. The ATO may treat these payments as royalties subject to Australian royalty withholding tax in circumstances where New Zealand would not.

Key questions include:

whether Australian royalty withholding tax applies, including to payments made in earlier periods;
whether the Australian tax has been imposed consistently with the New Zealand / Australia double tax agreement;
how withholding tax and gross-up provisions in distribution or reseller agreements operate;
whether the pricing continues to produce the intended commercial outcome after taking account of any withholding tax; and
whether New Zealand foreign tax credits are available for Australian withholding tax if New Zealand does not treat the payment as a royalty.

Making payments to non-resident software suppliers

For New Zealand businesses making payments to non-resident software suppliers, Inland Revenue’s draft does not introduce a new tax treatment. It does, however, provide a timely reminder to test whether existing arrangements have been correctly characterised in light of IR’s expanded analysis of modern software delivery models.

Key questions include:

whether any rights, know-how or related support received from the supplier could result in all or part of the payment being a royalty subject to non-resident withholding tax;
whether the payment needs to be apportioned; and
whether contracts clearly and consistently reflect the substance of the arrangement.

The different approaches will not always result in double taxation. Mutual agreement procedures under double tax agreements may help resolve double taxation, but the process can take time.

Our views

Inland Revenue’s update to its 2003 guidelines is both timely and welcome. While the guidance remains in draft and is subject to consultation, it confirms Inland Revenue’s intention to maintain its long-standing, OECD-aligned approach while applying it to modern software delivery models. This continuity should provide reassurance for New Zealand taxpayers, particularly those using standard cloud-based services or intermediary arrangements.

However, the position in Australia is markedly different. The same arrangement may be characterised differently on each side of the Tasman, creating practical challenges for withholding tax, foreign tax credits and transfer pricing. While the ATO’s administrative position is now clearer, questions remain regarding its consistency with established international tax principles. These issues are likely to remain the subject of debate and may ultimately be tested before the Australian courts. We will continue to monitor developments closely.

In the meantime, affected taxpayers should review their software arrangements considering the recent developments, including historical payments where relevant. More broadly, taxpayers may also wish to consider making a submission on Inland Revenue’s draft guidelines before the consultation period closes on 31 October 2026.

Contact Us

If you would like to discuss what these developments mean for your business, please reach out to us below or to your usual KPMG contact. We can also connect you with our KPMG Australia colleagues to discuss the Australian implications in more detail.