Explanatory Memorandum
(Circulated by authority of the Treasurer, the Hon Peter Costello MP)Chapter 3 - Simplified imputation system - consequential and other amendments
Outline of chapter
3.1 Schedule 3 to this bill makes consequential amendments to the income tax laws which:
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- replace references to the former imputation provisions in Part IIIAA of the Income Tax Assessment Act 1936 (ITAA 1936) with those of the simplified imputation system (SIS) in Part 3-6 of the Income Tax Assessment Act 1997 (ITAA 1997); and
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- updates terminology of the former imputation system to equivalent terms of the SIS.
3.2 This Schedule also makes various technical amendments to the SIS and other imputation related provisions.
3.3 In addition, this Schedule inserts into Division 207 of Part 3-6 of the ITAA 1997 anti-avoidance rules that apply in relation to certain tax exempt entities that are entitled to a refund of imputation credits. These rules were previously in Division 7AA of Part IIIAA of the ITAA 1936.
3.4 All subsequent legislative references are to the ITAA 1997 unless otherwise stated.
Context of amendments
3.5 The implementation of the SIS arose out of a recommendation of the Review of Business Taxation. The Treasurer's Press Release No. 058 of 21 September 1999 announced the Government's proposal to implement the SIS which aims to reduce compliance costs incurred by business by providing simpler processes and increased flexibility. The former Minister for Revenue and Assistant Treasurer's Press Release No. C057/02 of 14 May 2002 announced that the SIS would commence on 1 July 2002. The SIS replaced the former imputation system in Part IIIAA of the ITAA 1936.
3.6 As a result of the introduction of the SIS, a number of consequential amendments are required to other areas of the income tax law. The income tax laws that need to be updated are:
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- the ITAA 1997;
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- the ITAA 1936 (including the Schedules); and
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- the Taxation Administration Act 1953 (TAA 1953).
3.7 The amendments will ensure the correct operation of the tax system following the commencement of the SIS from 1 July 2002.
3.8 The Schedule will also make various technical amendments to the SIS and other imputation related provisions.
3.9 Division 207 is part of the core SIS rules introduced in the New Business Tax System (Imputation) Act 2002 which deals with the tax effect of receiving a franked distribution.
Summary of new law
3.10 The new law will make consequential amendments to the income tax laws to:
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- replace references to the former imputation system with those of the SIS; and
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- update terminology of the former imputation provisions to equivalent terms of the SIS.
3.11 The technical amendments will ensure that the various provisions operate as intended.
Detailed explanation of new law
Technical amendments to the simplified imputation system
Amendment to section 46FB of the Income Tax Assessment Act 1936
3.12 Section 46FA of the ITAA 1936 provides for a deduction for on-payments of unfranked (or partly franked) dividends made by a resident company to its wholly-owned foreign parent. The deduction was inadvertently made inoperative with the removal of the intercorporate dividend rebate under sections 46 and 46A of the ITAA 1936 for unfranked dividends paid within wholly-owned groups generally after 30 June 2003. This defect is to be rectified by amendments in the Tax Laws Amendment (2004 Measures No. 1) Bill 2004.
3.13 Section 46FB provides that a resident company may establish an unfranked non-portfolio dividend account in order to track the amount of unfranked non-portfolio dividends available for on-going distribution. In order to receive the deduction under section 46FA, an amount must be paid out of this account.
3.14 The Tax Laws Amendment (2004 Measures No. 1) Bill 2004 did not include similar amendments to paragraph 46FB(4)(c). Paragraph 46FA(1)(c) is now amended to ensure that a resident company can credit its unfranked non-portfolio dividend account to the extent that it has received an unfranked non-portfolio dividend. This will then entitle the company to a deduction for any amounts paid out of this account to its wholly-owned foreign parent under section 46FA. [Schedule 3, Part 2, item 26, paragraph 46FB(4)(c)]
Amendments to exempting entity rules
3.15 Division 208 contains rules designed to prevent franking credit trading for entities with controlling shareholders for whom franking credits have limited or no value (i.e. non-residents and tax exempt entities). Under these rules, dividends paid by these entities (known as exempting entities) to resident shareholders are generally treated as unfranked dividends. When an exempting entity becomes a former exempting entity (e.g. when the entity ceases to be more than 95% owned by non-residents and tax exempt shareholders), the exempting account is quarantined so that distributions franked with exempting credits only confer a franking benefit for eligible continuing substantial shareholders or under an employee share scheme as referred to in those provisions.
Consequential amendment to paragraph 128B(3)(ga) of the Income Tax Assessment Act 1936
3.16 Subsection 160AFQA(4) of the former imputation rules in Part IIIAA of the ITAA 1936 contained the requirement that a dividend is only taken to be franked with an exempting credit if it is paid to an eligible continuing substantial shareholder or an employee to whom a dividend has been paid on a share acquired under an eligible employee share scheme. This requirement was not replicated under the SIS. To ensure an equivalent outcome is achieved, paragraph 128B(3)(ga) of the ITAA 1936 is amended by providing that a dividend franked with an exempting credit is exempt from dividend withholding tax to the extent that it is paid to a non-resident that is either:
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- an eligible continuing substantial member (i.e. the SIS equivalent of an eligible continuing substantial shareholder); or
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- a shareholder to whom the dividend had been paid on a share acquired under an employee share scheme.
[Schedule 3, Part 2, item 43, paragraph 128B(3)(ga)]
Amendment to sections 208-165 and 208-170
3.17 Sections 208-165 and 208-170 are amended by including an additional formula to ensure that the correct amount of franking credits arises in the case where an exempting entity makes a distribution franked with franking credits to another exempting entity. Currently, these provisions only provide for the correct outcome in the case where the recipient receives a distribution franked with exempting credits paid by a former exempting entity. The existing formula in section 208-170 is also amended to include an appropriate reference to a recipient of the distribution. [Schedule 3, Part 2, items 93 to 97, sections 208-165 and 208-170]
3.18 As a result of these changes, the references to sections 208-165 and 208-170 in the table in sections 208-115 and 208-130 are updated to the relevant subsection in amended sections 208-165 and 208-170. [Schedule 3, Part 2, items 87 to 92; items 2 and 3 in the table in section 208-115; items 2, 3, 5 and 6 in the table in section 208-130]
3.19 Section 67-30 is amended to ensure that the priority rule for refundable tax offsets interacts properly with the franking deficit tax offset rules. [Schedule 3, Part 2, items 80 and 110, section 67-30]
3.20 Section 210-170 sets out the conditions that a recipient of a distribution franked with venture capital credits must satisfy before they are entitled to a tax offset. Under the current law, one of these conditions is that the recipient is not a qualified person in relation to the distribution for the purposes of Division 1A of Part IIIAA of the ITAA 1936. It was intended that the person be a qualified person (i.e. broadly, a person who is not a party to a franking credit trading arrangement). To ensure that this is the case an amendment is made to paragraph 210-170(1)(e) to remove the word 'not'. [Schedule 3, Part 2, item 98, paragraph 210-170(1)(e)]
Consequential amendments to the simplified imputation system
3.21 The consequential amendments made in this Schedule are summarised in Table 3.1.
| Item | Provision | Amendment |
|---|---|---|
| ITAA 1936 | ||
| items 14 to 25, 27 to 42 and 44 to 58 | subsection 6(1), sections 43A, 102AAM, 102AAU, 105A, 108, 109B, 109Y, 109ZC, 121AT, 121EG, 128TD, 128TE, 159GZZZQ, 160AN, 170BA, 276, 365, 389, 402 and 436 | Updates references and terminology to ensure consistency with the SIS.
Subsection 128TE(2) is repealed because section 160ARY of the ITAA 1997 was not replicated as part of the SIS. [Schedule 3, Part 2, items 1 to 25, 27 to 42 and 44 to 58] |
| Schedules to the ITAA 1936 | ||
| items 59 to 70 | Schedule 2D, section 57-120 | Updates references and terminology to ensure consistency with the SIS. [Schedule 3, Part 2, items 59 to 70] |
| items 71 to 74 | Schedule 2H, sections 326-120, 326-130 and 326-170 | Updates references and terminology to ensure consistency with the SIS. [Schedule 3, Part 2, items 71 to 74] |
| ITAA 1997 | ||
| items 75 to 79 | sections 10-5, 12-5, 13-1 | Updates lists of assessable income, deductions and tax offsets to SIS references [Schedule 3, Part 2, items 75 to 79] |
| item 81 | item 1 in the table in section 70-45 | Deletes outdated reference. [Schedule 3, Part 2, item 81] |
| items 82 to 85 | sections 110-55, 110-60 and 118-20 | Update 110-55(7) and (8) and 118-20(1B)(b) to ensure consistency with the SIS.
Repeal 110-60(5) and (6) as the circumstances these provisions are intended to cover are dealt with by 110-55(7) and (8). [Schedule 3, Part 2, items 82 to 85] |
| items 99 to 102 | subsection 995-1(1) | Division 976 contains definitions for franked and unfranked parts of a distribution and also parts that are franked with an exempting credit or venture capital credit. There are no definitions for these terms in the dictionary in subsection 995-(1). These terms are now included in the dictionary. [Schedule 3, Part 2, items 99 to 102] |
| TAA 1953 | ||
| item 103 | section 14ZAAA | Updates 'income tax law' to include franking deficit tax, venture capital deficit tax and over-franking tax. [Schedule 3, Part 2, item 103] |
| item 104 | section 14ZW | Updates provisions to ensure consistency with the SIS.
The reference to section 160AQQ is repealed because, under the SIS, franking deficit tax is a tax offset and the normal objection rights apply. [Schedule 3, Part 2, item 104] |
| item 105 | Schedule 1, section 12-165 | Updates references and terminology to ensure consistency with the SIS. [Schedule 3, Part 2, item 105] |
| items 106 and 107 | Schedule 1, section 360-85 | Updates item 15 in table in section 360-85 to ensure consistency with the SIS. [Schedule 3, Part 2, items 106 and 107] |
| items 108 and 109 | Schedule 1, section 360-115 | Updates item 5 in the table in section 360-115 to ensure consistency with the SIS. [Schedule 3, Part 2, item 108] |
3.22 Section 207-125 (to be renumbered as section 207-110 when the Tax Laws Amendment (2004 Measures No. 2) Bill 2004 receives Royal Assent) entitles certain income tax exempt charities and deductible gift recipients to a tax offset making them eligible for a refundable tax offset under Division 67.
3.23 The allowance of a tax offset to these exempt institutions is subject to anti-avoidance rules which may apply to deny the tax offset where this concession is abused. The details outlining when these rules apply are explained in the explanatory memorandum to the New Business Tax System (Miscellaneous) Act (No. 1) 2000 (Act No. 79 of 2000).
3.24 These anti-avoidance rules, included in new Subdivision 207-E, will replicate the outcomes provided for under the former rules with two minor changes that will:
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- correct a technical defect in the former provisions to ensure that the maximum amount the Commissioner of Taxation (Commissioner) may recover from the exempt entity and the controller(s) of the exempt entity does not exceed the amount that the exempt entity is liable to pay in respect of the incorrectly claimed refund of imputation credits; and
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- ensure that all decisions made by the Commissioner under the anti-avoidance rules are reviewable under Part IVC of the TAA 1953.
[Schedule 3, Part 1, item 4, sections 207-119, 207-120, 207-122, 207-124, 207-126, 207-128, 207-130, 207-132, 207-134 and 207-136]
3.25 As part of this replication, the definition of 'controller (for capital gains tax (CGT) purposes)' is re-inserted in the ITAA 1997 into Subdivision 975-A. This amendment is necessary because the definition of 'controller (for imputation purposes)' in proposed section 207-130 relies on the definition of a 'controller (for CGT purposes)' in section 140-20. However, Division 140 was repealed from 24 October 2002 as part of the introduction of the new general value shifting regime. [Schedule 3, Part 1, item 5, sections 976-155 and 976-160]
3.26 The concepts defined in Subdivision 207-E are cross-referenced in the dictionary in subsection 995-1(1). [Schedule 3, Part 1, items 6 to 13, subsection 995-1(1)]
3.27 Table 3.2 cross-references the former provisions in the ITAA 1936 to the new provisions incorporated into the SIS.
| Provisions | ITAA 1936 reference | ITAA 1997 reference |
|---|---|---|
| What is a related transaction? | subsection 160ARDAA(1) | A distribution event in subsection 207-120(5). |
| What is a notional trust amount? | subsection 160ARDAA(1) - related transaction | Trust share amount in subsection 207-120(4). |
| Controller of an exempt institution that is a company. | subsection 160ARDAA(2) | subsection 207-128(6) |
| Controller of an exempt institution other than a company. | subsection 160ARDAA(2) | subsection 207-128(7) |
| Groups in relation to an entity. | subsection 160ARDAA(4) | subsection 207-128(8) |
| Deemed absence of control. | subsections 160ARDAA(5) and (6) | subsections 208-128(9) and (10) |
| Tax offset denied where there is a related transaction which reduces the value of the distribution. | subsections 160ARDAC(2) and (3) | paragraphs 207-120(2)(b) and (c) and subsection 207-120(3) |
| Tax offset denied where there is a related transaction and the exempt institution suffers a detriment. | subsection 160ARDAC(4) | paragraph 207-120(2)(a) |
| Tax offset denied where the entity making the distribution obtains a benefit because of a related transaction. | subsection 160ARDAC(5) | paragraph 207-120(2)(d) |
| Tax offset denied where distribution comprises property other than money and the in specie distribution does not pass immediately and absolutely to the exempt institution. | subsection 160ARDAC(6) | subsection 207-122(1) |
| Tax offset denied if the exempt institution acquires property in association with a distribution from the entity making the distribution as part of an arrangement. | subsection 160ARDAC(9) | subsection 207-122(1) |
| Acquisition of property as part of an arrangement. | subsection 160ARDAC(10) | subsection 207-122(4) |
| Notional trust amount does not match distribution. | subsections 160ARDAC(7) and (8) | subsection 207-124(6) |
| Reinvestment exception. | subsection 160ARDAC(11) | subsection 207-126(8) |
| Vested and indefeasible interest. | subsections 160ARDAC(12) to (15) | subsections 207-126(2) to (5) |
| Controller's liability. | section 160ARDAD | section 207-130 |
| Treatment of benefits provided by an exempt institution to controller. | section 160AARDAE | section 207-132 |
| Present entitlement to be disregarded. | section 160ARDAF | section 207-134 |
Application and transitional provisions
3.28 The consequential amendments and the anti-avoidance provisions will generally apply to events on or after 1 July 2002, the commencement date of the SIS. [Schedule 3, Part 3, subitems 111(1) and (3)]
3.29 The amendments to re-insert the definition of 'controller (for CGT purposes)' will apply to assessments for the 2002-2003 income year and later income years. This will ensure that there is a definition for this concept for the purposes of the anti-avoidance rules from when the value shifting rules in Division 140 were repealed. [Schedule 3, Part 3, subitem 111(2)]
3.30 The amendment to paragraph 46FB(4)(c) will generally apply to dividends paid after 30 June 2003. For taxpayers that are subject to the provisions in section 46AC of the ITAA 1936, this amendment applies to dividends paid on or after the consolidation day referred to in that section. [Schedule 3, Part 3, subitems 111(4) and (5)]
3.31 For assessments for the 2002-2003 income year, section 109ZC of the ITAA 1936 has effect as if the references in subsection 109ZC(3) to amounts that are not assessable income and are not exempt income were instead a reference to income that is not exempt. This is needed because these new concepts of income were not introduced until the 2003-2004 income year and later income years. [Schedule 3, Part 3, item 112]
3.32 For the period starting 1 July 2002 and ending 30 June 2004, section 128TB of the ITAA 1936 has effect as if the reference to 'general company tax rate' in subsection 128TB(2) was amended to 'corporate tax rate'. This modified application provision is necessary because section 128TB is being repealed from 1 July 2004 by the New International Tax Arrangements (Participation Exemption and Other Measures) Bill 2004 if this bill passed. [Schedule 3, Part 3, item 113]
3.33 For the period starting 1 July 2002 and ending 30 June 2004, section 377 of the ITAA 1936 has effect as if the references in paragraph 377(1)(e) to the former imputation provisions were references to the SIS. Again, this modified application provision is necessary because section 377 is being repealed from 1 July 2004 by the same bill that repeals section 128TB. [Schedule 3, Part 3, item 114]