Senate

Revised Explanatory Memorandum

(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)

Chapter 3 Non-assessable non-exempt income

Outline of chapter

3.1 The amendments contained in Schedule 3 to this bill improve the income tax law by clarifying, standardising and rationalising the concept of non-assessable non-exempt income.

3.2 There are 3 broad categories of amendments in this measure:

•

amendments to establish an explicit framework in the income tax law dealing with non-assessable non-exempt income;

•

amendments to standardise the concept of non-assessable non-exempt income by converting amounts of excluded exempt income and exempt income subject to withholding tax into non-assessable non-exempt income amounts; and

•

technical amendments broadly relating to non-assessable non-exempt income, including the correction of anomalies in the law.

Context of amendments

3.3 Non-assessable non-exempt income is a third category of income recognised by the income tax law. The two better known categories are assessable income and exempt income.

3.4 As non-assessable non-exempt income is not assessable income, it is not taken into account in working out a taxpayer's taxable income for an income year. As the amount is also not exempt income, it is not taken into account in working out a taxpayer's tax loss for an income year or in working out how much of a prior year tax loss is deductible in an income year.

3.5 A non-assessable non-exempt income amount was first explicitly recognised in the income tax law in 1992. These amounts were still rare at the time the ITAA 1997 was first enacted. As a consequence, non-assessable non-exempt income was only referred to in non-operative material contained in that Act.

3.6 However, in recent years, the number of non-assessable non-exempt income amounts recognised by the law has grown to approximately 15. Perhaps the most significant of these is GST on taxable supplies.

3.7 In addition, the existing concepts of excluded exempt income and exempt income subject to withholding tax broadly duplicate the non-assessable non-exempt income treatment. This duplication is unnecessary and increases the risk that comparable amounts will be subject to inconsistent treatment under the law.

3.8 There are also amounts that should, as a matter of policy, be subject to non-assessable non-exempt income treatment but are currently treated by the law in a different way. Most commonly these amounts are simply treated as exempt income, so they are taken into account in working out and applying losses.

Summary of new law

3.9 The core component of this measure establishes an explicit framework for non-assessable non-exempt income in the income tax law. It has these elements:

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operative rules outlining how non-assessable non-exempt income is provided for in the law;

•

operative rules clarifying the major facets of non-assessable non-exempt income treatment - that the amounts are not included in assessable income and are not included in exempt income;

•

a checklist of amounts of non-assessable non-exempt income as a reference point for users of the law; and

•

an area of the law established as a repository for miscellaneous non-assessable non-exempt income amounts.

3.10 The concepts of excluded exempt income and exempt income subject to withholding tax will be removed from the law. Amounts falling under these concepts are intended to be treated in the same way as non-assessable non-exempt income. Amounts that are excluded exempt income or exempt income subject to withholding tax will be converted into non-assessable non-exempt income to ensure a single standardised treatment.

3.11 Apart from these amounts, some other new amounts are to become non-assessable non-exempt income. These amounts are predominantly treated as exempt income by the current law and include:

•

certain amounts received by life insurance companies; and

•

amounts that should be treated as non-assessable non-exempt income because they have previously been taxed or are never effectively received.

3.12 Finally, technical amendments are to be made to ensure the law reflects other intended outcomes. This includes recognising non-assessable non-exempt income in cases where the law was intended to cover any income that is not assessable income but only explicitly mentions exempt income.

Comparison of key features of new law and current law

Detailed explanation of new law

3.13 The non-assessable non-exempt income measure is intended to formally explain an increasingly common building block in the income tax law and to standardise the way it is used. The measure is explained here in 3 parts, one for each of the measure's different components:

•

establishing a framework for non-assessable non-exempt income;

•

standardising the non-assessable non-exempt income concept; and

•

technical amendments.

Establishing a non-assessable non-exempt income framework

The existing income framework in the income tax law

3.14 The ITAA 1997 deals with 2 types of income:

•

ordinary income; and

•

statutory income.

3.15 'Ordinary income' is defined in subsection 6-5(1) of the ITAA 1997 as 'income according to ordinary concepts'. Salary and wages, interest and rent are typical examples of ordinary income.

3.16 'Statutory income' is defined in subsection 6-10(2) as 'amounts that are included in assessable income by provisions about assessable income'. That is, statutory income is amounts that are not income according to ordinary concepts but are nevertheless intended to be taxed as income, so the law specifically includes them. The most obvious example is net capital gains.

3.17 Each of those types of income is divided by the law into 3 categories:

•

assessable income;

•

exempt income; and

•

non-assessable non-exempt income.

3.18 The relationship between the different types and categories of income is illustrated by Diagram 3.1 (taken from section 6-1 of the ITAA 1997).

Diagram 3.1

3.19 Assessable income is income (whether ordinary or statutory) that is counted in working out the amount of taxable income that is subject to tax.

3.20 Exempt income is not counted directly in working out taxable income. However, it is counted in reducing prior year tax losses that can be deducted in the current year and in reducing tax losses carried forward to later years.

3.21 Non-assessable non-exempt income is also not counted in working out taxable income. Unlike exempt income though, it has no effect on tax losses. Non-assessable non-exempt income truly has no effect on the income tax system.

3.22 Assessable income and exempt income are each dealt with in considerable detail by the operative provisions in Division 6 of the ITAA 1997. However, there are no operative provisions dealing with non-assessable non-exempt income, even though there are now quite a number of amounts in the law that are neither assessable income nor exempt income. Amendments contained in this bill will fill that gap.

The non-assessable non-exempt income framework

3.23 The preceding paragraphs consider the existing legislative framework for assessable income and exempt income. No such framework currently exists for non-assessable non-exempt income. With the number of non-assessable non-exempt amounts in the law growing in recent years to about 15, the need to establish such a framework has become more pressing.

3.24 Establishing that framework will put the rules for non-assessable non-exempt income on the same footing as those for other core income tax concepts such as taxable income, assessable income, exempt income, deductions and tax offsets. There are 4 significant parts of the framework.

Definition of 'non-assessable non-exempt income'

3.25 The most obvious part of the framework is a definition. Non-assessable non-exempt income is ordinary or statutory income that is expressly made neither assessable income nor exempt income. That express provision can be in the ITAA 1997, the ITAA 1936 or in any other Commonwealth law. [Schedule 3, items 1, 56 and 131, subsection 6(1) of the ITAA 1936, section 6-23 and subsection 995-1(1) of the ITAA 1997]

3.26 An important point to note is that there must be an express provision to make an amount non-assessable non-exempt income. Unlike exempt income, it is not enough that the amount is excluded from assessable income. If it were, it would not be clear whether the amount became exempt income or non-assessable non-exempt income. The express provision does not have to be in the income tax law, although that would commonly be the case.

3.27 The definition establishes a strict dichotomy between amounts of income. Each of them will be assessable, exempt or non-assessable non-exempt.

No overlaps between types of income

3.28 The second part of the framework prevents any overlap between the 3 types of income. An amount that is non-assessable non-exempt income cannot be assessable income [Schedule 3, item 51, subsection 6-15(3) of the ITAA 1997] . Similarly, it cannot be exempt income [Schedule 3, item 55, subsection 6-20(4) of the ITAA 1997] . These rules complement the existing rule in subsection 6-15(2) of the ITAA 1997 that prevents an overlap between assessable income and exempt income. With the new provisions, the demarcation between the 3 types of income is complete; if an amount is one type of income, it cannot be either of the other 2 types. The amendments add some guide material to the same effect [Schedule 3, item 49, subsection 6-1(5) of the ITAA 1997] .

How to categorise an amount

3.29 An amount that is not ordinary income or statutory income cannot be assessable income, exempt income or non-assessable non-exempt income.

3.30 An amount of ordinary or statutory income will be assessable income unless it is exempt income or non-assessable non-exempt income.

3.31 An amount of ordinary income will be exempt income if:

•

a provision (whether in the ITAA 1997, the ITAA 1936 or any other Commonwealth law) says that the amount is exempt income; or

•

the ITAA 1997 or the ITAA 1936 excludes it from being assessable income (whether expressly or by implication).

3.32 An amount of statutory income will only be exempt income if a provision (whether in the ITAA 1997, the ITAA 1936 or any other Commonwealth law) says that the amount is exempt income.

3.33 An amount of ordinary or statutory income will only be non-assessable non-exempt income if a provision (whether in the ITAA 1997, the ITAA 1936 or any other Commonwealth law) says that the amount is non-assessable non-exempt income.

A place for miscellaneous non-assessable non-exempt income amounts

3.34 Many provisions that make amounts assessable income, exempt income or non-assessable non-exempt income are dealt with as part of a larger legislative regime because it is appropriate to keep all the provisions about a particular subject matter in the one place.

3.35 However, there are miscellaneous amounts of each type of income that are not part of a broader subject area. Division 15 of the ITAA 1997 includes all of that Act's miscellaneous provisions about assessable income. Divisions 51 and 53 contain its miscellaneous provisions about amounts that are exempt income. The third part of the framework adds Division 59 as a repository for the miscellaneous amounts of non-assessable non-exempt income. [Schedule 3, items 89 and 90, sections 59-1, 59-5, 59-10, 59-15, 59-20, 59-25 and 59-30 of the ITAA 1997]

3.36 Apart from the guide to the new Division, each of its sections replaces one or more existing provisions of the income tax law. The existing provisions are repealed. [Schedule 3, items 6, 73 and 83 to 87, paragraph 23(jd) of the ITAA 1936 and sections 22-1, 22-5, 51-25, 51-45, 51-48, 51-49 and 52-130 of the ITAA 1997]

Checklist of non-assessable non-exempt income

3.37 The final part of the framework adds a checklist of amounts that are non-assessable non-exempt income. The checklist is guide material intended to make it easier for readers to locate provisions that make amounts non-assessable non-exempt income. [Schedule 3, item 70, section 11-55 of the ITAA 1997]

3.38 The new checklist is added to Division 11, which currently houses the checklists for items of exempt income and exempt entities. The existing exempt income checklists are grouped into Subdivision 11-A and the checklist for non-assessable non-exempt income is in Subdivision 11-B. [Schedule 3, items 60, 61 and 70, Subdivision 11-A, section 11-1A, Subdivision 11-B and sections 11-50 and 11-55 of the ITAA 1997]

3.39 Most of the items in the new checklist replace references in existing checklists. Those existing checklist references are removed. [Schedule 3, items 58 and 62 to 69, checklist references in sections 10-5, 11-10 and 11-15 of the ITAA 1997]

Standardising the non-assessable non-exempt income concept

3.40 The income tax law already recognises the concept of amounts that do not reduce tax losses but otherwise have the same effect as exempt income. However, there is no uniformity in the way the concept is applied to particular amounts. Some are made neither assessable income nor exempt income; some are treated as not being income at all, and some are categorised as excluded exempt income or exempt income subject to withholding tax (which are disregarded when exempt income reduces losses).

3.41 The amendments ensure that all amounts of non-assessable non-exempt income are specifically described as neither assessable income nor exempt income.

3.42 Division 36 of the ITAA 1997, which works out how losses are reduced by 'net exempt income', starts with exempt income and disregards excluded exempt income and exempt income subject to withholding tax . As amounts that are excluded exempt income or exempt income subject to withholding tax will no longer be exempt income, but will be non-assessable non-exempt income instead, they will no longer have to be disregarded. The amendments remove the now unnecessary references to those amounts [Schedule 3, items 76 and 77, subsection 36-20(1) and paragraphs 36-20(2)(a) and (b) of the ITAA 1997] . They also remove the definitions of excluded exempt income and exempt income subject to withholding tax , which will no longer appear in the income tax law [Schedule 3, items 78, 129 and 130, subsections 36-20(3 ), 36-20(3A ), 36-20(4) and 995-1(1) of the ITAA 1997] .

3.43 As a result of removing excluded exempt income and exempt income subject to withholding tax , a number of amendments are needed to preserve the treatment of amounts that are currently exempt income but don't reduce losses. These amendments reflect the non-assessable non-exempt income terminology. [Schedule 3, items 8, 9, 11 to 13, 15 to 18, 20 to 22, 27, 32 and 35, subsection 23AH(2 ), paragraphs 23AH(3)(d ), 23AH(9)(d ), 23AI(1)(c ), 23AI(1)(d) and 23AI(1)(g ), subsection 23AJ(1 ), paragraphs 23AK(1)(c ), 23AK(1)(d ), 23AK(1)(g ), 23AK(1)(h) and 23AK(1)(i ), subsections 59(2AAA) and 99B(2A) and section 128D of the ITAA 1936]

3.44 Some of those amendments involve more than just a simple wording change because the amended provisions cover several types of amounts, not all of which are affected by the measure. In those cases, the amendments split the provisions into 2, one covering the unaffected amounts and one covering the amounts affected by the non-assessable non-exempt concept. [Schedule 3, items 14, 19 and 25, paragraphs 23AI(1)(e ), 23AK(1)(e) and 23AK(1)(ea) and subsections 23L(1) and (1A) of the ITAA 1936]

3.45 A few amendments change provisions that treat an amount as not being income into provisions that make the amount non-assessable non-exempt income. This is a change in terminology rather than a change in substance. The result is still that the amount has no tax effect. [Schedule 3, items 23 and 24, subsections 23E(1) and 23J(1) of the ITAA 1936]

3.46 Other amendments change references to 'exempt income' to also cover non-assessable non-exempt income. For example, subsection 8-1(2), which currently prevents deductions for amounts incurred in gaining or producing exempt income, will now also prevent deductions for amounts incurred in gaining non-assessable non-exempt income. The amendments reflect the originally intended outcomes in the law. [Schedule 3, items 57, 79, 80, 97, 102, 103, 105 to 108, 111 to 122 and 139, paragraph 8-1(2)(c ), subsections 40-100(4) and 40-105(1 ), paragraph 104-185(1)(e ), note 2 to subsection 207-15(3) and note 2 to section 207-30, paragraphs 207-110(1)(c ), 207-110(2)(c ), 207-110(3)(c) and 207-110(4)(c ), subsection 208-5(1 ), paragraphs 208-5(2)(b ), 208-40(1)(b ), 208-40(2)(b ), 208-40(3)(b) and 208-40(4)(b ), items 2 and 3 of the table in section 208-115 and items 2, 3, 5 and 6 of the table in section 208-130 of the ITAA 1997 and paragraph 360-140(2)(a) in Schedule 1 to the TAA 1953]

3.47 Particular examples of that type of amendment occur in the partnership and trust provisions. Sections 92 and 97 of the ITAA 1936 apportion, for partners and beneficiaries respectively, the partnership's or trust's net income and its exempt income. There is no provision to apportion income amounts that are neither assessable income nor exempt income. The amendments ensure that the non-assessable non-exempt income of the partnership or trust is apportioned between the partners and beneficiaries in the same way. [Schedule 3, items 28 to 31, section 90, subsections 92(4) and 95(1) and paragraph 97(1)(c) of the ITAA 1936]

There are also some substantive changes

3.48 There are 3 reasons why an amount is made non-assessable non-exempt income:

•

a specific policy decision was made to prevent the amount from having any tax effect for the taxpayer, whether they have a taxable income or a tax loss;

•

the amount is otherwise subject to income tax, or a substitute for income tax, so any further tax effect would effectively be double taxation; or

•

the amount has the form of income but does not really represent a gain to the taxpayer.

3.49 An example of a specific policy decision to prevent an amount having any tax effect is the treatment of compensation paid under firearms surrender arrangements. To promote maximum compliance with the gun buyback initiative, compensation payments were made excluded exempt income to protect tax losses.

3.50 An example of an amount otherwise being subject to income tax is the actual price earned for selling trading stock outside the ordinary course of business. In that case, the sale is treated as having occurred at market value and that market value is taxed. To allow the actual sale price to also have a tax effect would amount to double taxation. An example of an amount being subject to a substitute for income tax would be fringe benefits. In that case, the employer pays fringe benefits tax as a replacement for the employee paying income tax on certain employment benefits.

3.51 An example of an amount that is not really a gain to a taxpayer is the GST payable on goods and services the taxpayer supplies. The taxpayer on-pays the GST to the Commonwealth, so it is not a gain to the taxpayer. Therefore, it should not have any income tax effect.

3.52 There are some amounts in the existing law that are currently only exempt income when one of those reasons should have led to them being non-assessable non-exempt income. The amendments correct those cases:

•

private company dividends - section 109ZC of the ITAA 1936 makes a private company dividend exempt income if it is set off against a loan or other benefit previously treated as a notional dividend. The aim is to avoid double taxing the dividend but, if the shareholder has tax losses, the dividend will reduce them and, in effect, double tax the amount [Schedule 3, item 34, subsection 109ZC(3) of the ITAA 1936] ;

•

family trust distributions tax - section 271-105 of Schedule 2F to the ITAA 1936 exempts amounts subject to family trust distributions tax. If they were to reduce losses, there would also effectively be double tax [Schedule 3, item 48, subsection 271-105(3) of Schedule 2F to the ITAA 1936] ;

•

mining payments - sections 51-25 and 51-45 of the ITAA 1997 exempt payments made by mining companies for the benefit of Aboriginals or Aboriginal representative bodies. As the payments are subject to a final withholding tax in the hands of the mining company, there is the potential for double taxation if the recipient has losses. The amendments will make the treatment of these withholding cases the same as the treatment of dividend, interest and royalty withholding cases [Schedule 3, item 89, section 59-15 of the ITAA 1997] ;

•

windfall taxes - sections 51-48 and 51-49 of the ITAA 1997 exempt amounts refunded to taxpayers by the States that are taxed at 100% under the franchise fees windfall tax or the Commonwealth places windfall tax. Since the taxpayer does not gain from the refund, the amounts are exempt income but any losses the taxpayer has would be inappropriately reduced by the amount [Schedule 3, item 89, sections 59-20 and 59-25 of the ITAA 1997] ;

•

capital gains on trust distributions - CGT event E4 provides for a capital gain if a trust distributes an amount that is not assessable income. Section 104-71 of the ITAA 1997 disregards distributions of excluded exempt income and exempt income subject to withholding tax. In replacing those terms with 'non-assessable non-exempt income', the range of things disregarded for CGT event E4 is slightly widened. Each of the amounts newly included within that range falls within one of the 3 cases where an amount should not have any tax effect (see paragraph 3.48) and so is properly excluded from being counted towards a capital gain [Schedule 3, item 96, paragraphs 104-71(1)(a) and (b) of the ITAA 1997] ;

•

capital gains and losses on assets producing non-assessable income - subsection 118-12(1) disregards capital gains and losses made on an asset used solely to produce exempt income. However, that rule does not apply if the amounts the asset is producing are excluded exempt income or exempt income subject to withholding tax . Those terms will be replaced by a slightly different list of amounts. The criterion used for inclusion on the list is whether the amount was made non-assessable non-exempt to prevent double taxation. If it was, the amount is obviously intended to be taxed at some point, so there is no policy justification for disregarding gains and losses on assets used to produce it [Schedule 3, item 98, section 118-12 of the ITAA 1997] .

Amendments relating to life insurance companies

3.53 Section 320-35 of the ITAA 1997 exempts from tax certain income received by life insurance companies (including friendly societies that carry on a life insurance business).

3.54 The amendments will change some of the income that is exempt from tax under section 320-35 into non-assessable non-exempt income.

3.55 The non-assessable non-exempt income of life insurance companies will include:

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amounts derived from 'segregated exempt assets' (broadly, these are assets supporting immediate annuity and current pension businesses);

•

amounts derived from the disposal of units in a pooled superannuation trust;

•

the non-resident portion of certain foreign source income assets that are attributable to policies issued by foreign permanent establishments; and

•

income derived by friendly societies that carry on life insurance businesses that are, broadly, attributable to income bonds, funeral policies and certain scholarship plans issued before 1 January 2003.

[Schedule 3, item 126, section 320-37 of the ITAA 1997]

3.56 The effect of treating those amounts as non-assessable non-exempt income is that life insurance companies will not have to apply them to reduce losses.

3.57 Amounts derived from segregated exempt assets and amounts derived by friendly societies that are attributable to income bonds, funeral policies and certain scholarship plans issued before 1 January 2003 will be treated as non-assessable non-exempt income because those amounts are derived by life insurance companies or friendly societies on behalf of particular groups of policyholders. It would be inequitable to use those amounts to reduce losses that relate to different groups of policyholders or to shareholders .

3.58 Amounts derived from disposing of units in a pooled superannuation trust will be treated as non-assessable non-exempt income because the trust has already been taxed at the appropriate rate on any gains in the value of the units. Therefore, to reduce the losses of the life insurance company by these amounts effectively results in double taxation.

3.59 The non-resident portion of certain foreign source income that is attributable to policies issued by foreign permanent establishments will be treated as non-assessable non-exempt income because it is equivalent to the foreign branch income of ordinary companies that section 23AH of the ITAA 1936 treats as non-assessable non-exempt income.

3.60 The amounts currently covered by section 320-35 that will stay exempt income of life insurance companies will include:

•

amounts accrued before 1 July 1988 that were derived from assets that have become 'virtual pooled superannuation trust assets' (broadly, those are assets that support complying superannuation businesses); and

•

amounts credited to retirement savings accounts that are paying out annuities.

[Schedule 3, item 126, section 320-35 of the ITAA 1997]

3.61 Life insurance companies are also exempt from tax on one third of certain management fees they derive before 1 July 2005 on life insurance policies issued before 1 July 2000 (see section 320-40 of the ITAA 1997). To ensure that life insurance companies will not have to apply this income to reduce losses, that currently exempt income will also be changed to be non-assessable non-exempt income. [Schedule 3, items 127 and 128, subsections 320-40(1) and (8) of the ITAA 1997]

3.62 The exemption of one third of those management fees was a transitional measure associated with the implementation of the recommendations of A Tax System Redesigned that broadened the tax base of life insurance companies. The benefits of the transitional measure would be eroded if losses were reduced by the exempt amount. Therefore, the currently exempt income will be changed to non-assessable non-exempt income.

3.63 Under the imputation system, life insurance companies are entitled to a tax offset for franking credits on distributions that are exempt income relating to their segregated exempt assets. In addition, a tax offset is available for franking credits on distributions derived by friendly societies that carry on life insurance business where those distributions are exempt income relating to certain income bonds, funeral policies and scholarship plans.

3.64 Consequential amendments will ensure that those tax offsets continue to apply. In addition, tax offsets for franking credits on distributions derived by friendly societies that carry on life insurance business will be extended to all distributions that are non-assessable non-exempt income relating to income bonds, funeral policies and certain scholarship plans. [Schedule 3, items 41 to 45, 109 and 110, paragraphs 160AQT(4)(b ), 160AQU(2)(b) and 160AQWA(1)(b) and subparagraphs 160AQZB(1)(c)(ii) and 160AQZC(1)(c)(ii) of the ITAA 1936 and paragraphs 207-120(1)(b) and (2)(b) of the ITAA 1997]

Technical amendments

3.65 Subsection 23AH(4) of the ITAA 1936 is repealed. This subsection aims to ensure that capital gains are reduced by amounts of exempt foreign branch income earned by Australians. However, the same work is already done by section 118-20 of the ITAA 1997, which reduces capital gains by amounts included in assessable income, exempt income or non-assessable non-exempt income. Therefore, subsection 23AH(4) is redundant. [Schedule 3, item 10, subsection 23AH(4) of the ITAA 1936]

3.66 As an aid for readers, the note to subsection 6-15(2) of the ITAA 1997 explains the effects of an amount being exempt income. The note is expanded to also include the capital gains effect for assets used to produce exempt income. [Schedule 3, item 50, note to subsection 6-15(2) of the ITAA 1997]

3.67 'Commonwealth law' is a defined term in the ITAA 1997. Defined terms are usually marked with an asterisk to draw readers' attention to the fact that the term is given a particular meaning. The amendments add asterisks missing from some instances of that term. [Schedule 3, items 52 and 54, subsections 6-20(1) and (3) of the ITAA 1997]

3.68 Paragraph 17-5(c) of the ITAA 1997 makes GST increasing adjustments non-assessable non-exempt income if they arise in circumstances that also give rise to an assessable recoupment. 'Assessable recoupment' is a defined term that does not cover all appropriate cases. For example, there would be a GST increasing adjustment if a business were refunded part of the purchase price of its trading stock. The refund could be ordinary income and therefore not an 'assessable recoupment'. The amendment resolves the problem by replacing the defined term with words that capture the intended idea. [Schedule 3, item 71, subparagraph 17-5(c)(ii) of the ITAA 1997]

3.69 The amount of carry-forward tax offsets are currently reduced by 34% of any net exempt income. The amendments change the reduction to 30% to match the second lowest rate of personal tax to which it has always been pegged. [Schedule 3, items 91 and 94, section 65-30 and subsection 65-35(3) of the ITAA 1997]

3.70 The amendments correct a misalignment between the way carry-forward tax offsets are reduced in the initial year and the way they are reduced in later years. In the initial year, the amount of carry-forward tax offsets is reduced by a percentage of net exempt income (i.e. exempt income less any outgoings incurred in earning it). However, for later years, it is simply reduced by exempt income. The amendments correct this by also reducing the offsets in those later years by net exempt income. [Schedule 3, items 92, 93 and 95, subsection 65-35(3) of the ITAA 1997]

3.71 Subsection 152-110(2) of the ITAA 1997 makes amounts of 'income' derived from certain CGT events neither assessable income nor exempt income. The amendments remove any doubt about the scope of the provision by making it clear that 'income' means both ordinary income and statutory income. [Schedule 3, item 101, subsection 152-110(2) of the ITAA 1997]

Application and transitional provisions

General application rule

3.72 With a few exceptions, the amendments will apply to assessments for the 2003-2004 income year and to later income years. [Schedule 3, subitem 140(1)]

Special application rules

3.73 The exceptions to the general application rule are:

•

the technical amendment to fix the incorrect use in section 17-5 of the ITAA 1997 of the defined term 'assessable recoupment' (see paragraph 3.68), will apply to things done on or after 1 July 2000. This is the date on which section 17-5 first applied [Schedule 3, subitem 140(2)] ;

•

the technical amendments to subsection 65-35(3) of the ITAA 1997 that replace 'exempt income' with 'net exempt income' (see paragraph 3.70) apply to assessments for the 1997-1998 income year and later income years. The 1997-1998 income year is the first income year subsection 65-35(3) applied to [Schedule 3, subitem 140(3)] ;

•

the technical amendments that change the rate at which net exempt income reduces carry-forward tax offsets from 34% to 30% (see paragraph 3.69) apply to assessments for the 2000-2001 income year and later income years. The 2000-2001 income year is the income year for which the second lowest rate of personal income tax changed from 34% to 30% [Schedule 3, subitem 140(4)] ;

•

the amendments that make certain amounts received by life insurance companies and friendly societies neither assessable income nor exempt income (see paragraphs 3.53 to 3.64) apply to amounts derived on or after 1 July 2000. That is the date on which the life insurance provisions in Division 320 of the ITAA 1997 began to apply. This application rule also covers amendments that make changes consequential on the life insurance changes [Schedule 3, subitem 140(5)] ;

•

the amendments to paragraphs 207-120(1)(b) and 207-120(2)(b) in the new imputation provisions of the ITAA 1997 reflect changes made to the life insurance provisions they refer to. Those amendments apply to events that occur on or after 1 July 2002, the time at which the new imputation provisions began to apply. This is necessary because the life insurance changes will already be applying at that time (see previous dot point) [Schedule 3, subitem 140(6)] ;

•

the amendment to correct a reference in paragraph 177EA(15)(b) of the ITAA 1936 applies to distributions that are made or flow indirectly after 30 June 2002. That paragraph will be added to the law if the New Business Tax System (Consolidation and Other Measures) Bill (No. 2) 2002 is enacted and will apply to such distributions from that time [Schedule 3, subitem 140(7)] ;

•

the amendments to correct references in paragraphs 15-60(3)(b) and 320-112(3)(b) of the ITAA 1997 apply to assessments for the income year that includes 1 January 2003 and later years. Those provisions will be added to the law if the Taxation Laws Amendment Bill (No. 6) 2002 is enacted and will apply to assessments for those income years [Schedule 3, subitem 140(8)] .

Transitional life insurance provision

3.74 Some of the amendments needed to make the life insurance amendments (paragraphs 3.53 to 3.64) apply correctly in relation to the imputation provisions will have to apply from the same time as the life insurance amendments. The amendments to the relevant old imputation provisions will apply for the period from 1 July 2000 until 30 June 2002 (see the fourth dot point in paragraph 3.73). The new imputation provisions in Division 207 of the ITAA 1997 began to apply from 1 July 2002, and the relevant amendments to those provisions apply from that date (see the fifth dot point in paragraph 3.73). However, those amendments to the new imputation provisions refer to 'non-assessable non-exempt income', a concept that will not appear in the law until the 2003-2004 income year. Therefore, a transitional provision applies for the period from 1 July 2002 until the start of that year to treat the references to an amount being 'non-assessable non-exempt income' as references to it being neither assessable income nor exempt income. [Schedule 3, subitem 141(1)]

3.75 The amendments to paragraphs 15-60(3)(b) and 320-112(3)(b) of the ITAA 1997 will also refer to 'non-assessable non-exempt income' for periods that may be before that concept appears in the law. Therefore, a transitional provision will treat those references as being to an amount being neither assessable income nor exempt income during those periods. [Schedule 3, subitem 141(2)]

Special commencement provision

3.76 A number of the amendments relate to an amount that is made non-assessable non-exempt income because it is repaid in a later year. [Schedule 3, items 46, 58, 72, 73, 90 and 133, subsection 170(10AB) of the ITAA 1936, sections 10-5 and 20-160, Division 22 and section 59-30 of the ITAA 1997 and Division 22 of the IT(TP) Act 1997]

3.77 The provisions that make such amounts non-assessable non-exempt income, and make certain consequential amendments to the law, are in Schedule 3 to the Taxation Laws Amendment Bill (No. 7) 2002 (which, if enacted, will be the Taxation Laws Amendment Act (No. 2) 2003 ).

3.78 The amendments cannot operate until after the provisions in that bill become law. Therefore, the amendments commence on the later of:

•

the commencement of Schedule 3 to this bill (which contains these amendments); and

•

the commencement of Schedule 3 to the Taxation Laws Amendment Act (No. 2) 2003 .

[Subclause 2(1 ), items 5, 7, 9, 11 and 13 in the table]

3.79 Similarly, some amendments change provisions that will only appear in the law when the bills they are in are enacted [Schedule 3, items 46A, 70A and 128A, paragraph 177EA(15)(b) of the ITAA 1936 and paragraphs 15-60(3)(b) and 320-112(3)(b) of the ITAA 1997] . The amendments cannot operate until those provisions become law, so they commence when those provisions commence, which is:

•

for item 46A - immediately after Schedule 27 to the New Business Tax System (Consolidation and Other Measures) Act 2003 commences; and

•

for items 70A and 128A - immediately after Schedule 3 to the Taxation Laws Amendment Act (No. 1) 2003 commences.

[Subclause 2(1 ), items 5A, 8A and 12A in the table]

Consequential amendments

3.80 Many of the amendments are consequential amendments that are needed because the non-assessable non-exempt income concept has been created or because provision numbers have changed.

3.81 Some of these amend references to amounts of exempt income that now also cover amounts of non-assessable non-exempt income or have been changed to only cover amounts of non-assessable non-exempt income. [Schedule 3, items 2 to 5, 26, 36 to 40, 47, 70A, 75, 100, 123 to 125, 128A, 134 and 136 to 138, subparagraphs 6AB(2)(b)(iv) and 6AB(2)(b)(vi ), paragraphs 6AB(3A)(b) and 6AB(3A)(c ), subparagraph 47A(7)(b)(i ), paragraphs 128TA(1)(a ), 128TA(2)(a) and 128TA(2)(b ), sections 160AFCD and 160AFCJ and subparagraph 530(1)(d)(i) of the ITAA 1936, paragraphs 15-60(3)(b) and 25-90(b ), subsection 118-20(6 ), section 320-1, paragraph 320-5(2)(a ), section 320-10 and paragraph 320-112(3)(b) of the ITAA 1997, paragraph 360-65(1)(da ), item 45 of the table in section 360-75, section 360-77 and paragraph 360-100(1)(ea) in Schedule 1 to the TAA 1953]

3.82 One of these replaces references to income that is neither assessable income nor exempt income with references to income that is 'non-assessable non-exempt income'. [Schedule 3, item 99, paragraphs 118-20(4)(a) and (b) of the ITAA 1997]

3.83 Some of these amend references to provisions that have been moved. The references will instead refer to the new provision. [Schedule 3, items 7, 41 to 46A, 70A, 109, 110, 128A and 135, note to subsection 23AE(1A ), paragraphs 160AQT(4)(b ), 160AQU(2)(b) and 160AQWA(1)(b ), subparagraphs 160AQZB(1)(c)(ii) and 160AQZC(1)(c)(ii ), subsection 170(10AB) and paragraph 177EA(15)(b) of the ITAA 1936, paragraphs 15-60(3)(b ), 207-120(1)(b ), 207-120(2)(b) and 320-112(3)(b) of the ITAA 1997 and paragraph 360-75(a) in Schedule 1 to the TAA 1953]

3.84 There are also amendments tidying up assorted headings, notes and other things that need to be removed or changed because of the creation of the non-assessable non-exempt income framework. [Schedule 3, items 33, 53, 59, 74, 81, 104 and 133, paragraph 102AAZB(a) of the ITAA 1936, note to subsection 6-20(2) and headings to Division 11, section 25-90, Part 2-15 and section 207-110 of the ITAA 1997 and Division 22 of the IT(TP) Act 1997]

3.85 Some link notes are amended, added or removed as a result of the amendments. Link notes are signposts that point readers to the next Division (e.g. "The next Division is Division 25") so they aren't confused when the Divisions don't follow a standard numerical sequence. [Schedule 3, items 72, 82, 88 and 132, sections 20-160, 51-15 and 58-90 of the ITAA 1997 and section 20-115 of the IT(TP) Act 1997]