House of Representatives

Explanatory Memorandum

Circulated By the Authority of the Treasurer, the Hon Wayne Swan MP

General outline and financial impact

Repeal of the foreign investment fund and deemed present entitlement rules

Schedule 1 to this Bill repeals the foreign investment fund (FIF) and the deemed present entitlement rules contained in the Income Tax Assessment Act 1936 ( ITAA 1936).

This Schedule also makes consequential amendments to the ITAA 1936, the Income Tax Assessment Act 1997 ( ITAA 1997) and to the Superannuation Industry (Supervision) Act 1993 as a result of the repeal of the FIF and deemed present entitlement rules.

Date of effect: The amendments generally apply in respect of the 2010-11 and later income years.

However, some of the amendments have earlier commencement dates to correct anomalies that exist in the current tax laws. These amendments do not disadvantage taxpayers as they ensure double taxation does not occur in respect of previously taxed amounts.

Proposal announced: This measure was announced as part of a package of reforms to the foreign source income anti-tax-deferral (attribution) rules in the 2009-10 Budget (see the then Assistant Treasurer and Minister for Competition Policy and Consumer Affairs' Media Release No. 049 of 12 May 2009).

Financial impact: This measure forms part of a wider package of reforms that were announced in the 2009-10 Budget. The financial impact of the reforms to the foreign source income attribution rules is estimated as being unquantifiable but not significant.

Compliance cost impact: The reforms to the foreign source income attribution rules, of which the repeal of the FIF and deemed present entitlement rules form part, are expected to result in overall medium compliance cost savings. This is comprised of a medium transitional start-up cost impact estimated to be between $40 million to $80 million, offset by a medium decrease in ongoing compliance costs estimated to be between $40 million to $80 million per annum.

Summary of regulation impact statement

Regulation impact on business

Impact: Reforms to the foreign source income anti-tax-deferral (attribution) rules will affect taxpayers with non-controlling interests in foreign entities, managed funds, superannuation funds, taxpayers with controlling interests in foreign entities, tax practitioners and other intermediaries.

Overall, the Government's reforms will result in significant compliance cost savings for affected taxpayers when compared to the existing regimes.

Furthermore, the reforms also align the attribution rules to changes in the business environment that have occurred as a result of globalisation and provide flexibility when compared to the current regimes, recognising that many offshore investment decisions are not motivated by tax deferral reasons.

Main points:

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Taxpayers with non-controlling interests in foreign entities (unless they hold an interest in a roll-up fund) will benefit from significant compliance costs savings as they will no longer be subject to the requirements of the attribution rules. Similarly, managed funds and superannuation funds would also have significant compliance cost savings.

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Taxpayers with controlling interests in foreign entities should also benefit from a reduction in their compliance costs from the modernisation of the attribution rules to better cater for active foreign businesses that derive passive income as part of that active business.

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The Australian Taxation Office (ATO) may incur initial costs associated with system and tax form changes and the need to provide additional advice to taxpayers and tax practitioners, including by way of tax rulings. Costs may also be incurred in retraining staff. The ATO has estimated that the ongoing administrative cost would be in the order of $1.3 million per annum.

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The economic benefits of implementing the reforms:

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For Australian managed funds, the abolition of the FIF rules will significantly reduce their compliance costs which in turn will enhance their global competitiveness and attractiveness to foreign investors.

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For Australian corporates, modernising and better targeting the rules by abolishing the FIF and base company income rules, together with updating the definitions of what constitutes active and passive income, will improve their competitiveness and productivity. More accessible and flexible exemptions, including a more effective exemption for complying superannuation funds, will significantly reduce compliance costs for eligible taxpayers.

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For taxpayers generally, and administrators, the abolition of the FIF and deemed present entitlement rules, in conjunction with rewriting the controlled foreign company rules into the ITAA 1997 will simplify and scale back the volume of law, as well as bringing the prospect of consolidating the two income tax Acts a significant step closer.