On 19 March 2026, the Australian Taxation Office (ATO) released its Decision Impact Statement (DIS) following the High Court's decision in Commissioner of Taxation v PepsiCo Inc & Anor [2025] HCA 30. The crux of the DIS is that the Commissioner relies on the uniqueness of PepsiCo's particular facts and circumstances to support the Commissioner in continuing to challenge arrangements involving intangibles and intellectual property (IP), including characterization, embedded royalties and the application of the anti-avoidance provisions.

Key highlights

The DIS emphasizes that the outcome in PepsiCo was determined by the particular facts and circumstances of the appeal and should not be read as limiting the Commissioner's ability to challenge arrangements involving IP and intangibles.

The DIS maintains that royalty characterization remains a question to be determined by the proper construction of the relevant arrangements and what the parties have, in substance, agreed. Contractual labels are not determinative.

The DIS also states that the ATO will continue to examine characterization of payments (whether involving arm's-length parties or related parties) and will particularly examine related-party arrangements closely.

The DIS further states that in the determination of key concepts of "consideration" and the "agreement," it is appropriate to take a broad view. As such, a relevant agreement may comprise a composite of contracts and dealings, rather than a single written instrument. The ATO also highlights that the High Court did not endorse any "central bargain" or "central transaction" test for royalty characterization.

It is clear the ATO maintains that PepsiCo does not disturb its position that royalties may, on the facts of a particular case, be embedded in payments described as being for goods or services.

Regarding the Diverted Profits Tax (DPT), the ATO states that the Court's finding that DPT did not apply was based on critical facts which were unique to PepsiCo and would have limited application in other cases. However, the ATO states that the DPT decision does raise some broader technical issues for DPT and Part IVA (PIVA) that may require judicial clarification.

Background

The ATO released its DIS following the High Court's decision in Commissioner of Taxation v PepsiCo, Inc.,a majority 4:3 decision in which the Court dismissed the Commissioner's appeals in relation to royalty withholding tax and DPT. The majority found that:

• Payments were not made as consideration for the use of IP and therefore were not royalties.
• The DPT did not apply as there was no reasonable alternative to the scheme.

(For more on the Court's decision, see EY Global Tax Alert, Australia's High Court dismisses Tax Commissioner's appeal in PepsiCo: No royalties under arm's-length contract absent express provision for royalties, dated 15 August 2025.)

In general, a DIS outlines the ATO's view on the implications of a court decision. The ATO publishes DISs for key court decisions to provide guidance as to how it will administer the law following a key decision.

Key themes

The DIS indicates that, notwithstanding the outcome in PepsiCo, the ATO will continue to examine arrangements involving IP by reference to their specific legal and commercial circumstances. This includes examining arrangements:

• To determine the characterization of payments and whether any part of payments is for IP and is a royalty
• To determine whether the anti-avoidance provisions, including DPT, could apply to any arrangements involving mischaracterization of payments

Identification of royalties

While accepting the High Court's conclusion on whether the payments were royalties, the ATO emphasizes the uniqueness of the particular circumstances present in the PepsiCo arrangement.

The DIS reflects a view on the part of the ATO that the High Court has endorsed — specifically, that a broad approach can be taken in the determination of the meaning of "consideration for" IP and that "consideration" is not to be given a narrow, technical meaning of contract.

Similarly, addressing how to identify the correct "agreement" that needs to be analyzed, the ATO also highlights support for a broad analysis — i.e., one that may be a composite of multiple contracts or arrangements. That is, the ATO can focus on the "totality of the relevant bargain."

The DIS further states that the High Court did not endorse the Full Federal Court's "central bargain" test (i.e., in which one examines an agreement for whether IP rights are a central item of the agreement for purposes of characterization). However, the DIS is silent on the point that the High Court also did not reject central bargain test.

Embedded royalties

As set out in the DIS, the ATO does not view the decision as establishing a "broad proposition" that characterization of a payment under a contract "can never be challenged." The ATO emphasizes that arrangements between related parties will be examined closely.

The ATO maintains that the absence of an express royalty clause, or the contractual description of an arrangement as royalty-free, does not conclude the characterization inquiry. Specifically, the ATO states that the Court's decision does not disturb the ATO view that a royalty may be found even if rights are embedded into amounts that are labeled as consideration for something else.

The ATO referred to the High Court's observation relating to the "criticality" of the ATO's not contending that the payments for concentrate were inflated. The ATO states this is consistent with the potential for pricing evidence to be relevant for a characterization analysis. The DIS expands on this and states that in future cases the ATO will seek to understand and test the economic fundamentals of arrangements that involve provision of IP with no royalty.

Diverted Profits Tax

The ATO considers the finding that DPT did not apply because the taxpayer was able to demonstrate there was no reasonable alternative that produced a tax benefit to be attributable to the particular facts of the case.

The DIS focuses on the majority's comments that their DPT judgement is based on "critical facts, unique to these appeals" and the "unusual scenario" in which the taxpayers were able to show that there were no reasonable alternatives to the scheme.

The DIS outlines three unique facts as follows, the inference being that other taxpayers will not likely be able to demonstrate the same "unique facts":

1. The commercial and economic substance of the transaction involved payments for beverage concentrate alone.
2. The dealings were between unrelated parties and the pricing for the concentrate was not "disproportionally high."
3. The arrangement was an established "market standard" business model with no royalty.

The ATO also states that various aspects of the DPT decision require further judicial clarification. These are quite technical issues that would have broad application, including to both PIVA and DPT, and may be settled in future anti-avoidance cases. The two issues raised are:

1. Whether there can be more than one reasonable alternative postulate
2. Whether a taxpayer discharges their onus if they can demonstrate one reasonable alternative postulate that has no tax benefit

Implications

The ATO's focus in the DIS on features of the specific fact pattern present in PepsiCo confirm that the ATO considers there is narrow scope for implications to be inferred from the decision. As such, the ATO does not see the case as in any way limiting the tax authority's ability to examine embedded royalty cases.

The DIS also suggests there will be no significant changes to the ATO's compliance approach in relation to embedded royalties and character of the payment questions. This seems to align with taxpayers' experiences to date and the manner in which the ATO is continuing to dedicate compliance resources and examine arrangements.

Unsurprisingly, but still disappointingly for taxpayers, the ATO will likely continue to examine arrangements involving IP across all industries with a focus on technology, consumer and life sciences and expand its focus (rather than contract), given the references in the DIS to understanding the entirety of arrangements and testing the economic fundamentals.

Based on the DIS, the ATO will also likely prioritize related-party arrangements and continue to examine both royalty characterization and the application of the anti-avoidance provisions. Further, it can be expected that the ATO will continue to seek judicial clarification on the anti-avoidance rules.

The ATO also specifically warns against changing current arrangements to align with the specific facts of the PepsiCo arrangement.

ATO activity

Royalty characterization has been, and will continue to be, an area of focus for the ATO notwithstanding the PepsiCo decision.

Given the particular facts in PepsiCo, including arm's-length dealing with an unrelated party, a "business as usual" approach is to be expected with the ATO's continuing to examine arrangements that are outside that unique factual setting.

The DIS states that the ATO is still reviewing the impact of the case before finalizing draft Taxation Ruling TR 2024/D1 Income tax: royalties — character of payments in respect of software and intellectual property rights. There is no further guidance on when that guidance will be updated and finalized, with the ATO's website continuing to state that the finalization date is "to be advised." This is unfortunate for taxpayers seeking certainty, given that the draft was issued more than two years ago.

The DIS also states that the ATO is reviewing the impact of the PepsiCo case on the Law Administration Practice Statement PS LA 2005/24 Application of General Anti-Avoidance Rules. This practice statement contains the ATO's administrative practice on the anti-avoidance rules.

Policy considerations

The DIS reflects a clear concern on the part of the ATO that the PepsiCo decision not be treated as a broader constraint on future challenges involving intellectual property. Although the ATO accepts the outcome, it repeatedly emphasizes the factual specificity of the decision and preserves scope for continued challenge in other cases.

The practical question is whether the ATO will seek to test the limits of PepsiCo through further strategic litigation, particularly in related-party cases, or whether it will instead seek to address any perceived gaps through guidance, administrative or legislative change. There is at least one known case that may be heard in the Federal Court in the next 12 months and there are likely more in the pipeline.

Regarding possible legislative change, the Government announced a new penalty in the 2024-25 Federal Budget, to apply from 1 July 2026, for significant global entities (SGEs) that mischaracterize or undervalue royalty payments to which royalty withholding tax would otherwise apply. This measure, details of which may be developed in the 12 May 2026 Budget, would constitute a legislative response, at least for SGEs, in relation to royalties and may, in practice, significantly constrain the scope of the PepsiCo decision in SGE cases, even if it does not formally disturb the Court's reasoning.