Senate

Revised Explanatory Memorandum

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

Chapter 6 Medicare levy surcharge lump sum payment in arrears offset

Outline of chapter

6.1 Schedule 6 to this Bill amends the Income Tax Assessment Act 1997 (ITAA 1997) to provide an offset to certain taxpayers in respect of their Medicare levy surcharge (in the legislation the Medicare levy surcharge is sometimes referred to as MLS) liability where that liability arose, or significantly increased, as a result of the taxpayer receiving an eligible lump sum payment in arrears.

Context of amendments

6.2 In the 2005-06 Budget the Government announced that it would provide concessional Medicare levy surcharge treatment for certain taxpayers who receive lump sum payments in arrears, with effect from the 2005-06 income year.

6.3 The Medicare levy surcharge is payable if a taxpayer and all their dependants do not have private patient hospital cover, (other than because they are 'prescribed persons' as defined in section 251U of the Income Tax Assessment Act 1936 (ITAA 1936)), and their income for Medicare levy surcharge purposes exceeds the threshold of $50,000 for singles and $100,000 for families (plus additional amounts for more than one child). The Medicare levy surcharge is 1 per cent of taxable income, and is payable in addition to the 1.5 per cent Medicare levy.

6.4 For married taxpayers, both spouses pay the Medicare levy surcharge on their separate taxable incomes if their family income exceeds the family threshold and they are liable for the Medicare levy surcharge. If only one member of a couple has private patient hospital cover but the family income exceeds the family threshold, then both spouses may be liable for the Medicare levy surcharge.

6.5 Taxpayers (and their spouses, where applicable) are currently liable for the Medicare levy surcharge in cases where their income exceeds the Medicare levy surcharge threshold due to the receipt of a lump sum payment in arrears by either one, or both, members of a couple.

6.6 Concessional treatment of the increased tax liability arising from the receipt of an eligible lump sum payment in arrears is currently available through the lump sum in arrears tax offset (Subdivision AB of Division 17 of the ITAA 1936), but no concessional treatment has been available until now to offset a Medicare levy surcharge liability created by a lump sum payment in arrears.

6.7 This measure will provide a similar concession to the lump sum in arrears tax offset for the Medicare levy surcharge liability in the event of an eligible lump sum payment in arrears.

Summary of new law

6.8 The ITAA 1997 will be amended to provide a tax offset to certain taxpayers who, in the year in which they have received a significant, eligible lump sum payment in arrears, have become liable for the Medicare levy surcharge, (or an increased Medicare levy surcharge liability), due to the receipt of the lump sum payment in arrears. The amount of the offset will be the amount of the increased Medicare levy surcharge liability created by the receipt of the eligible lump sum.

6.9 In cases where receipt of the lump sum payment in arrears alone results in the taxpayer's spouse having a Medicare levy surcharge liability, then the spouse will also be eligible for the offset.

Comparison of key features of new law and current law

Detailed explanation of new law

6.10 This amendment will insert Subdivision 61-L into the ITAA 1997 to provide a tax offset to taxpayers who have incurred a Medicare levy surcharge liability or an increased Medicare levy surcharge liability in the current year due to the receipt of an eligible lump sum payment in arrears. [Schedule 6, item 4]

Medicare levy surcharge liability

6.11 The Medicare levy surcharge is payable if a taxpayer and all their dependants do not have private patient hospital cover, (other than because they are 'prescribed persons' as defined in section 251U of the ITAA 1936), and their income for Medicare levy surcharge purposes exceeds the threshold of $50,000 for singles and $100,000 for families (plus additional amounts for more than one child). The Medicare Levy Act 1986 and the A New Tax System (Medicare Levy Surcharge-Fringe Benefits) Act 1999 set out the types of income included for the purpose of determining liability for the Medicare levy surcharge.

6.12 Broadly, income for the purpose of determining whether a Medicare levy surcharge liability exists includes a taxpayer's taxable income (including any exempt foreign employment income), a taxpayer's reportable fringe benefits amounts, and the net amount on which family trust distribution tax has been paid, less post-June 1983 elements of an eligible termination payment where the maximum tax rate is nil. If the taxpayer has a spouse, it will also include the spouse's taxable income, the spouse's reportable fringe benefits amounts, and the spouse's net amount on which family trust distribution tax has been paid, less post-June 1983 elements of an eligible termination payment where the maximum tax rate is nil.

Lump sum payments in arrears

6.13 Section 61-590 will define 'MLS lump sum' for the purpose of the Medicare levy surcharge. An 'MLS lump sum' is a lump sum payment of 'eligible income' which includes eligible income for the purpose of the lump sum in arrears tax offset contained in subsection 159ZR(1) of the ITAA 1936, and a lump sum payment in arrears of 'exempt foreign employment income', to be defined in subsection 995-1(1) of the ITAA 1997.

6.14 In general terms, an MLS sum means a lump sum payment of eligible income that is included in the assessable income of the year of income and accrued, in whole or in part, in an earlier year or years of income. However, wage and salary income (which is part of eligible income) and exempt foreign employment income are eligible MLS lump sums, when they relate to a period of employment that ended more than 12 months before the date on which they were paid. [Schedule 6, item 4, section 61-590]

Eligibility for the Medicare levy surcharge lump sum payment in arrears offset

6.15 Broadly consistent with the treatment of eligible lump sums for the purpose of the lump sum in arrears tax offset, a lump sum payment in arrears will only be eligible for the Medicare levy surcharge lump sum payment in arrears offset if the amount of the lump sum is equal to or greater than ten per cent of taxable income for Medicare levy surcharge purposes (excluding the spouse's income when there is a spouse) in the current year, less the total lump sum payment in arrears. So, a taxpayer will be eligible for this offset in the current year if:

6.16 For simplicity, this test is described in paragraph 61-580(1)(d) in terms of the value of the lump sum being greater than or equal to 1/11th of the total income for Medicare levy surcharge purposes (excluding the spouse's income when there is a spouse) in the current year. The effect is the same as described in paragraph 6.15. [Schedule 6, item 4, paragraph 61-580(1)(d)]

6.17 The use of a threshold test ensures that only significant lump sums are eligible for the offset.

6.18 The offset will be available in situations where a Medicare levy surcharge liability has arisen entirely due to the receipt of an eligible lump sum payment in arrears, as well as cases when an existing Medicare levy surcharge liability has been increased by the payment of an eligible lump sum.

Example 6.1

In 2005-06, Ellis, a single woman, earned income in the form of salary of $42,000, and reportable fringe benefits of $5,000. She also received a lump sum payment of $10,000 that related to back pay from 2002-03. She does not have private patient hospital cover in 2005-06.

If Ellis had not received the lump sum payment her Medicare levy surcharge income would have been $47,000, that is, wages and salaries of $42,000 plus reportable fringe benefits of $5,000. As she would have been below the $50,000 single Medicare levy surcharge threshold, she would not have paid any Medicare levy surcharge.

But the receipt of the lump sum increases her Medicare levy surcharge income to $57,000, which is over the Medicare levy surcharge threshold for singles. Without the Medicare levy surcharge offset, Ellis would be liable to a Medicare levy surcharge of $570.

However, Ellis will be eligible for the new Medicare levy surcharge offset as her lump sum payment is eligible income (as it meets the definition of 'MLS lump sum' in section 61-590) and the size of her lump sum satisfies the 10 per cent test. That is:

Amount of the offset

6.19 If a lump sum payment in arrears meets the criteria set out in sections 61-590 and 61-580, then the value of the offset will equal the amount of Medicare levy surcharge liability attributable to that lump sum, regardless of the taxpayer's income in previous years.

6.20 The offset will be available in situations where the Medicare levy surcharge liability arose entirely due to the receipt of the lump sum payment in arrears, as well as in situations where an existing Medicare levy surcharge liability was increased by the payment of an eligible lump sum. The amount of the offset will equal the amount of the Medicare levy surcharge attributable to the lump sum payment in arrears. The amount of offset available to a taxpayer can be represented as:

6.21 The amount of the offset cannot exceed the Medicare levy surcharge liability. [Schedule 6, item 4, subsection 61-585(1)]

Example 6.2

In Example 6.1, Ellis was eligible for the Medicare levy surcharge lump sum payment in arrears offset because her eligible lump sum met the 10 per cent test.

Using the formula in paragraph 6.20, the amount of her offset entitlement is calculated as:

The amount of Ellis's offset entitlement is $570, which is her full Medicare levy surcharge liability, because in the absence of the lump sum payment in arrears she would not have been liable for the Medicare levy surcharge in the current tax year.

Offset for spouses

6.22 Under existing Medicare levy surcharge legislation, a family's Medicare levy surcharge liability is determined by adding together both spouses' incomes to ascertain whether the family Medicare levy surcharge threshold has been reached (section 8D of the Medicare Levy Act 1986 , Division 4 of Part 3 of the A New Tax System (Medicare Levy Surcharge - Fringe Benefits) Act 1999 . Therefore, the receipt of a lump sum payment in arrears by one spouse may affect the Medicare levy surcharge liability of both themselves and their spouse. However, once the Medicare levy surcharge family threshold has been reached, the amount of Medicare levy surcharge payable by each spouse is calculated on the basis of their own taxable income.

6.23 As noted in paragraph 6.20, this legislation may provide the recipient of an eligible lump sum with an offset when their Medicare levy surcharge liability has been increased by the receipt of the lump sum. If receipt of the lump sum payment in arrears results in the creation of a Medicare levy surcharge liability for the taxpayer's spouse, then the spouse will receive an offset equal to the amount of that Medicare levy surcharge liability. The spouse of a recipient of a lump sum payment in arrears cannot be entitled to the offset unless the recipient of the lump sum is also entitled to the offset. [Schedule 6, item 4, subsections 61-585(2) and 61-580(2)]

Example 6.3

June and Bruce are a couple with three dependent children. They do not have private patient hospital cover. In 2005-06, June earns $40,000 and Bruce earns $50,000 in wages. However, in 2005-06 Bruce also receives a $20,000 lump sum worker's compensation payment owed from 2003-04.

If Bruce had not received the lump sum payment in arrears, neither June nor Bruce would have been liable to pay the Medicare levy surcharge in 2005-06 as their family income was below $103,000 (the Medicare levy surcharge threshold for a family with three children).

However, Bruce's lump sum brings their total family income to $110,000, meaning that both Bruce and June are liable for the Medicare levy surcharge.

Without the Medicare levy surcharge lump sum payment in arrears offset, Bruce would be liable for a Medicare levy surcharge of $700 (1 per cent of $70,000) while June's Medicare levy surcharge liability would have been $400 (1 per cent of $40,000).

Bruce's lump sum payment in arrears payment is eligible income (as it meets the definition of 'MLS lump sums' in section 61-590) and meets the 10 per cent test:

Hence Bruce will be eligible for the Medicare levy surcharge lump sum payment in arrears offset. June will also be eligible for the offset as her Medicare levy surcharge liability arose solely due to Bruce's lump sum payment in arrears. Bruce and June will each be eligible for an offset representing the full amount of their individual Medicare levy surcharge liability: Bruce's offset will be $700 and June's offset will be $400.

6.24 In cases where a lump sum payment in arrears is received by one member of a couple and both members of the couple are already liable for the Medicare levy surcharge (because their non-lump sum payment in arrears income exceeds the family threshold), the offset will only be available to the person who received the lump sum payment in arrears. The Medicare levy surcharge liability of the taxpayer's spouse will be unchanged by the lump sum payment in arrears and therefore they will not be eligible for the offset.

Example 6.4

Rob and Lyn are a couple with one child. They do not have private patient hospital cover.

In 2005-06, Rob earned $60,000 as a salesman and Lyn earned $80,000 as an accountant. On the basis of this income they would be liable for the Medicare levy surcharge because their family income exceeds the family threshold of $100,000. Rob's Medicare levy surcharge liability would be $600 and Lyn's liability would be $800.

However, in 2005-06 Lyn also received an eligible lump sum payment in arrears of $30,000 due to work done in 2001-02 and 2002-03. Hence Lyn's total taxable income is $110,000. In the absence of the Medicare levy surcharge offset, this lump sum would increase her Medicare levy surcharge liability from $800 to $1,100.

Lyn's lump sum payment in arrears is eligible income (as it meets the definition of 'MLS lump sums' in section 61-590) and meets the 10 per cent test:

The amount of Lyn's offset would be equal to the amount of the Medicare levy surcharge due to receipt of the lump sum, that is, $300. Her remaining Medicare levy surcharge liability would be $800.

Rob would not be eligible for the Medicare levy surcharge offset as his Medicare levy surcharge liability was not affected by Lyn receiving the lump sum payment in arrears. His Medicare levy surcharge liability would remain at $600.

Application and transitional provisions

6.25 These amendments made by Schedule 6 to this Bill apply to assessments for income years commencing on or after 1 July 2005 as announced in the 2005-06 Budget. This offset is claimable on assessment when the Medicare levy surcharge liability is calculated. [Schedule 6, item 8, section 61-575 of the Income Tax (Transitional Provisions) Act 1997]

Consequential amendments

6.26 Notes identifying the offset are added to:

•

the end of subsection 10(1) of the A New Tax System (Medicare Levy Surcharge - Fringe Benefits) Act 1999 ;

•

the end of subsection 251S(1) of the ITAA 1936; and

•

the end of section 5 of the Medicare Levy Act 1986 .

[Schedule 6, items 1, 2 and 9]

6.27 The Taxation Administration Act 1953 is amended to add reference to the offset in section 45-340 in Schedule 1 and section 45-375 in Schedule 1. [Schedule 6, items 10 and 11]

6.28 Three definitions are added to the Dictionary. [Schedule 6, items 5 to 7, subsection 995-1(1), definitions of 'exempt foreign employment income' , ' Medicare levy surcharge', and 'MLS lump sums']