The Australian Taxation Office (ATO) has released Draft Practical Compliance Guideline (PCG) 2026/D4, providing its proposed compliance approach to cross-border software and intellectual property (IP) arrangements. It was released alongside Taxation Ruling (TR) 2026/2, which we covered in part one of this series, and the ATO’s Decision Impact Statement (DIS) on the Oracle litigation.
While the ruling sets out the Commissioner’s view on when software-related payments may constitute royalties, the PCG is intended to help taxpayers assess the level of ATO scrutiny that may apply to their arrangements.
Key takeaways
The ATO remains focused on whether cross-border software, Software as a service (SaaS) and IP payments may be characterised as royalties and subject to Australian royalty withholding tax. PCG 2026/D4 does not change the law, but it provides a practical risk framework for assessing the likelihood of ATO compliance activity.
Businesses should review offshore software payment flows, contractual rights, apportionment methodologies and supporting documentation against the new guidance.
The Oracle proceedings have not resolved the underlying software royalty issue, meaning taxpayers should not assume the ATO’s position has been judicially settled or withdrawn.
Why has the ATO released PCG 2026/D4?
The draft guideline follows the ATO’s finalisation of TR 2026/2, which was released on 4 September 2026.
The ATO has said the two should be read together, and that following the High Court’s decision in PepsiCo, the economic substance of an arrangement may point to an embedded royalty even where the contract does not describe one.
A new risk assessment framework
PCG 2026/D4 introduces a structured risk assessment framework for software intermediation arrangements, which sorts them into five risk zones:
- White Zone – arrangements outside the scope of the guideline
- Green Zone – low-risk arrangements where the ATO is unlikely to dedicate compliance resources
- Yellow Zone – arrangements requiring further analysis but not necessarily a priority for review
- Amber Zone – arrangements demonstrating characteristics the ATO associates with elevated royalty risk
- Red Zone – arrangements the ATO considers likely to warrant compliance attention
The draft guideline also introduces a new quantitative approach to testing whether amounts paid to offshore suppliers have been appropriately apportioned between royalty and non-royalty components.
This represents a notable shift from earlier guidance and reinforces the ATO’s expectation for documenting how cross-border payments are characterised and calculated.
The final risk rating will depend on the criteria in PCG 2026/D4 and the specific facts of the arrangement, but the following factors may help businesses identify where closer review is needed:
| Indicative rating | Factors that may point to this rating | Practical implication |
| Yellow | There is some uncertainty in the arrangement, but the royalty risk is not obvious. This may include:
arrangements where software access is provided but the taxpayer has a reasonable basis for treating the payments as ordinary service or distribution fees. |
The arrangement should be reviewed and documented, with particular focus on contract terms, actual conduct, payment flows and the basis for any non-royalty treatment. |
| Amber | The arrangement contains features the ATO may associate with elevated royalty risk. This may include:
inconsistencies between the legal agreements and the way the arrangement operates in practice. |
A more detailed technical and evidentiary review is likely to be required, including testing the royalty characterisation, apportionment methodology, withholding tax position and transfer pricing alignment. |
| Red | The arrangement has strong royalty indicators or weak supporting evidence. This may include:
|
The arrangement is likely to require urgent review. Businesses should consider whether remediation, voluntary disclosure, revised documentation, withholding tax adjustments or restructuring may be needed. |
Practical examples of arrangements that may need closer review
Arrangements that may warrant a closer look include:
- An Australian reseller or distributor pays an offshore related-party software owner for the right to market, distribute or provide access to software to Australian customers
- A local SaaS provider pays an offshore group company for platform access, hosting, software functionality, updates and support under a single bundled fee
- An Australian entity pays a foreign licensor for access to software and related IP, but the agreement does not clearly distinguish between ordinary service fees and amounts paid for the use of copyright or other IP rights
- A multinational group uses an offshore IP holding company, with the Australian entity earning local revenue while making regular payments offshore for software, know-how, trademarks or platform rights
- A digital marketplace or online platform facilitates access to software or applications in Australia, with cross-border payments made under distribution, agency, reseller or commission-style arrangements
- Existing arrangements rely on historical positions that treated software payments as business profits, without contemporaneous documentation explaining why no royalty withholding tax should apply
These examples do not mean a royalty necessarily arises, but they are worth reviewing before the ATO’s guidance is finalised.
Which businesses may be affected?
The guidance has potentially broad application across technology and software sectors, including businesses involved in:
- Software distribution and resale arrangements
- SaaS and cloud-based service models
- Subscription software platforms
- Technology licensing arrangements
- Digital marketplaces and online distribution channels
- Cross-border intellectual property commercialisation structures
Businesses that have historically viewed software payments as ordinary business profits rather than royalties may need to revisit those conclusions in light of the new guidance.
The Oracle Decision Impact Statement
The ATO also released its Decision Impact Statement in relation to Oracle Corporation Australia Pty Ltd v Commissioner of Taxation.
Importantly, the Full Federal Court’s decision did not determine whether the software payments in question were royalties. Instead, the case concerned whether Oracle’s Australian court proceedings should be stayed while the Australia-Ireland Mutual Agreement Procedure (MAP) process was completed.
The Full Court ultimately allowed the stay, meaning the substantive dispute regarding the royalty characterisation of software payments has not yet been judicially determined.
The ATO’s DIS confirms that it continues to maintain the position reflected in TR 2026/2 and notes that the Oracle litigation does not resolve the underlying software royalty issue.
What should taxpayers do now?
Businesses with cross-border software, SaaS or IP arrangements should consider:
- Confirming whether existing arrangements could give rise to a royalty under TR 2026/2
- Evaluating whether any component of payments could potentially be characterised as a royalty
- Reviewing royalty withholding tax compliance obligations
- Ensuring transfer pricing, contractual arrangements and commercial documentation are aligned and support the intended tax outcomes
- Considering whether existing arrangements may require remediation or restructuring
- For taxpayers that lodge a Reportable Tax Position schedule, considering whether they need to self-assess and disclose their PCG 2026/D4 risk rating
Consultation on the draft PCG closed on 2 October 2026, and businesses should use the time before the guidance is finalised to review their arrangements.
The release of TR 2026/2, PCG 2026/D4 and the Oracle DIS represents the most significant development in Australia’s software royalty landscape in many years.
For many businesses, the harder task will be working out how the ATO’s compliance approach applies to their existing operating models and payment flows.
If you would like to discuss how these developments may affect your business, please contact your William Buck advisor.
