House of Representatives

Explanatory Memorandum

(Circulated by the authority of the Treasurer, the Hon John Dawkins, M.P.)

Tax Exempt Infrastructure Borrowings

Summary of proposed amendments

5.1. The Bill will amend the Income Tax Assessment Act 1936 (the Act) to establish a category of loan to be known as "infrastructure borrowings" and to provide for the tax treatment to be accorded such borrowings. These amendments give effect to a measure announced by the Government in the "One Nation" Statement on 26 February 1992.

5.2. "Infrastructure borrowings" will be borrowings by:

•

companies, and unit trusts that are taxed as companies under the Act, which intend to spend the funds borrowed on financing the construction of specified infrastructure facilities they intend to own, use and control for a period of 25 years from the time the facility becomes income producing; or

•

companies whose sole purpose is to invest in infrastructure borrowings.

5.3. However, infrastructure borrowings will not include borrowings by companies which are:

•

borrowing in partnership with another person; and

•

government bodies, unless they have been excluded from the Loan Council borrowing restrictions.

5.4. Infrastructure borrowings will be for a maximum period of 10 years. There will be three kinds of infrastructure borrowing:

•

direct infrastructure borrowing - this will be a borrowing by a company or relevant unit trust to spend on constructing an infrastructure facility that it intends to own, use and control for the purpose of deriving assessable income for a period of at least 25 years;

•

indirect infrastructure borrowing - this will be a borrowing by a company to lend to another person for whom the borrowing will be a direct infrastructure borrowing;

•

refinancing infrastructure borrowing - this will be a borrowing to refinance a direct or indirect infrastructure borrowing or a previous refinancing infrastructure borrowing.

5.5. An infrastructure facility will be a:

•

land transport;

•

seaport; or

•

electricity generating

facility in Australia used by the public at a charge.

5.6. The tax effects of infrastructure borrowings on borrowers and investors will be:

•

interest derived under infrastructure borrowings will not be assessable to investors;

•

interest paid on infrastructure borrowings will not be an allowable deduction to borrowers;

•

any profit of a trading, revenue or capital nature derived on disposal or redemption of any debt instrument that constitutes an infrastructure borrowing will be tax exempt;

•

any loss of a trading, revenue or capital nature incurred on the disposal or redemption of any debt instrument that constitutes an infrastructure borrowing will not be tax deductible;

•

expenditure incurred in borrowing to invest in infrastructure borrowings will be tax deductible.

Background to the legislation

5.7. Taxpayers who borrow funds to finance construction projects which will not be revenue productive for some years may not be able to obtain a tax deduction for the interest costs incurred on those borrowings in the year of income in which those costs are incurred. This would occur when the taxpayer has tax losses in those years of income.

5.8. In order to encourage private investment in the construction of certain public infrastructure projects, the Government has decided to allow companies borrowing to finance the construction of such infrastructure projects that they own and, when completed, will operate and use, to effectively transfer the interest deduction incurred on those borrowings to the providers of the finance.

Explanation of proposed amendments

5.9. The proposed amendments to the Act relating to infrastructure borrowings will:

•

set out the conditions a borrowing must satisfy to qualify as a tax exempt infrastructure borrowing [Subdivision A] ; and

•

provide for the tax effects on investors and borrowers of an infrastructure borrowing. [Subdivision B] . [Clause 34 - Division 16L]

Infrastructure borrowings

5.10. An infrastructure borrowing will be a borrowing by a borrower (see later notes) to finance:

•

the construction of one or more specified public infrastructure facilities in Australia which the company intends to own, use and effectively control for at least 30 years; or

•

the construction of one or more related facilities (see later notes).

5.11. The term "borrowing" is defined broadly and includes bonds, debentures discounted securities and any other form of indebtedness. A borrowing may be secured or unsecured. [New subsection 159GZZZU]

5.12. There will be three kinds of infrastructure borrowing:

•

direct infrastructure borrowing - a borrowing raised by a company or unit trust to spend on constructing infrastructure facilities or on constructing or acquiring related facilities (paragraph (a));

•

indirect infrastructure borrowing - a borrowing raised by a company to lend under a direct infrastructure borrowing; (paragraph (b));

•

refinancing infrastructure borrowing - a borrowing to refinance a direct or indirect infrastructure borrowing or a previous refinancing infrastructure borrowing (paragraph (c)). [New section 159GZZZZV]

Borrowers

5.13. A company, or a corporate unit trust or a public unit trust that is taxed as a company (under Division 6B or 6C, respectively) will be able to be a borrower under a direct infrastructure borrowing or a refinancing infrastructure borrowing that is related to a direct infrastructure borrowing. [New subparagraph 159GZZZZ(2)(a)(i)]

5.14. However, only a company will be able to be a borrower of an indirect infrastructure borrowing or a refinancing infrastructure borrowing that is related to an indirect infrastructure borrowing. [New subparagraph 159 GZZZZ(2)(a)(ii)]

5.15. A borrower must intend to retain the same structure, ie. company or unit trust, as the case may be, for the period from the borrowing until 25 years after the infrastructure facility commences to produce assessable income. [New paragraphs 159GZZZZ(2)(b) and (c)]

5.16. A borrower must also intend that there be no change in the majority ownership of the company or unit trust from the time of the borrowing until 25 years after the infrastructure facility commences to produce assessable income.

Majority ownership

5.17. If the borrower is a company listed on a stock exchange and one person controls more than 50% of the voting power in the company, that person must intend not to dispose of his, her or its majority interest in the company until the 25 year assessable period has expired. [New subsection 159GZZZZ(6)]

5.18. If the borrower is an unlisted company, the person, or a group of persons, holding more than 50% of the voting power in the company must intend not to dispose of the majority ownership until the 25 year assessable period has expired. [New subsection 159GZZZZ(7)]

Partnerships

5.19. Companies borrowing in partnership with another person will not be able to use infrastructure borrowings. This provision does not preclude a joint venture that is not a partnership from raising funds under an infrastructure borrowing. (Partnership has its general law meaning) [New paragraph 159GZZZZ(2)(d)]

Government owned bodies

5.20. Bodies that are government owned will be excluded from raising funds under infrastructure borrowings unless the Loan Council has declared them to be exempt from the global borrowing limits. The Treasurer will publish the names of bodies excluded from the global borrowing limits in the Gazette. [New paragraph 159GZZZZ(2)(e) and new subsection 159GZZZZ(4) and (5)]

5.21. A company will be government owned if a government body defined as the Commonwealth, a State, a Territory or a public authority that is exempt from tax under paragraph 23(d) is beneficially entitled to more than 50% of the dividend, voting or return of capital rights. Similarly, a trust is government owned if a government has more than a 50% interest in the income or corpus of the trust. [New subsection 159GZZZZ(3)]

Direct infrastructure borrowing

5.22. To qualify as a direct infrastructure borrowing, the borrowed funds must, at the time of borrowing, be intended to be spent on the construction of facilities for land transport, seaports and electricity generation (principal facilities) or facilities without which the principal facility could not operate effectively (related facilities). [New section 159GZZZZA]

5.23. The borrower must also intend to own, use and effectively control the use of the facility financed by these borrowings for at least 25 years from the time the facility starts to produce assessable income. If section 51AD or Division 16D of the Act will apply to any property in either the main or related facility, infrastructure borrowings will not be able to be used. [New section 159GZZZZB]

Owning the facility

5.24. A company must own the principal facility (and any related facility) that is to be constructed using infrastructure borrowings. If the land on which a company is constructing a facility is the subject of a Crown lease, the company will be treated as the owning the facility provided that:

•

the lease does not expire for at least 25 years from the day the facility is expected to become income producing; or

•

if the lease is due to expire before that time, that the company expects, because of law, custom or otherwise, that the lease will be renewed or extended, and that the renewed or extended lease will not expire until a time at least 25 years from the day the facility is expected to become income producing. [New subsection 159GZZZZB(2)]

Crown lease

5.25. Crown lease is defined to mean a lease of land granted by the Crown under a statutory law of the Commonwealth, a State or a Territory. The effect of limiting Crown leases to those granted under statutory law is that only leases granted by the Crown under a specific law which relate to the leasing of Crown lands will constitute ownership. Thus, a lease granted by the Crown under an ordinary commercial contract would not fall within the definition of "Crown lease". [New section 159ZZZU]

Using and controlling the facility

5.26. In addition to owning the facility and intending to derive assessable income from public use of the facility for at least 25 years, the company must also intend, in the course of deriving the assessable income, to effectively control the use of the facility. A company that intends to derive assessable income by leasing the facility cannot use infrastructure borrowings to finance the facility.

Owner to have effective control

5.27. It is not enough that the company constructing the facility intends to own and use the facility. It must also effectively control use of the facility. A company will be considered to effectively control a facility if it either operates the facility on a day-to-day basis through its employees or agents, or has such an immediate supervisory role that enables it to direct others in that day-to-day operation.

Spending on related facilities

5.28. Borrowings will be able to be spent on a related facility if the borrower:

•

will be spending some of the money on an infrastructure facility;

•

owns, uses and effectively controls, or intends to own, use, effectively control and derive assessable income from the principal facility for 25 years; and

•

intends to begin constructing or acquiring the related facility no later than 10 years after:

-

construction commenced on the principal facility; or

-

the principal facility was acquired. [New subsection 159GZZZZA(2)]

Exclusions

5.29. An infrastructure borrowing will not be able to be spent on:

•

leasing;

•

acquiring a partly constructed facility; or

•

on refinancing a loan that is not an infrastructure borrowing. [New subsection 159GZZZZA(3)]

5.30. However, the funds will be able to be spent on acquiring the land on which the facility is to be constructed.

Indirect infrastructure borrowing

5.31. A company that is established for the special purpose of acquiring infrastructure borrowing securities will be able to undertake infrastructure borrowings to finance the acquisition of such securities. These special purpose companies will be able to pool funds for investing in infrastructure borrowings in eligible facilities being constructed by different bodies. [New section 159GZZZX]

5.32. The whole of the monies raised by a borrower in an indirect infrastructure borrowing must be invested in direct or refinancing infrastructure borrowings.

Refinancing infrastructure borrowing

5.33. Infrastructure borrowings will not be able to be used to repay existing debt other than as specifically permitted. The funds are to be used to finance new work on constructing the facility. However, a borrowing to repay the debt due under an existing infrastructure borrowing, ie. a direct, indirect or refinancing borrowing, within 10 years of the initial borrowings will qualify as an infrastructure borrowing. [New section 159GZZZY]

Infrastructure facilities

5.34. An infrastructure facility is a land transport, seaport or electricity generation facility in Australia that the public will be charged a fee to use. Facilities that are functionally related to these facilities will be treated as being part of the facility. [New subsection 159GZZZZC]

5.35. There are three basic kinds of infrastructure facilities. These are:

•

land transport;

•

seaport;

•

electricity generation.

5.36. A further kind of facility is a related facility. This is a facility in Australia which is reasonably necessary for the infrastructure facility to be able to operate in the intended manner. (See earlier notes on "related facilities".) [New section 159GZZZZD]

Land transport facilities

5.37. Land transport facilities will be roads, railways, tunnels and bridges in Australia that are used by the public for a fee for the transport of persons or goods. [New subsection 159GZZZZC(2)]

5.38. Facilities related to a land transport facility will include plant, buildings and other equipment needed to operate and maintain the road or railway, such as rolling stock, buildings from which staff carry out their duties and storage facilities and railway stations.

Seaport Facilities

5.39. A seaport facility will be a wharf or dock in Australia used by the public to carry or transfer sea cargo or passengers for a fee. Related facilities would include cranes and passenger terminals. [New subsection 159GZZZZC(3)]

5.40. A seaport that services a specific project, such as a mine, is not used for the public carriage of sea cargo and passengers and will not be able to be financed by infrastructure borrowings. This will be the case whether the taxpayer operates the specific project or provides the seaport facilities to another person for a fee.

5.41. Expenditure on the upgrading of a facility, including a facility that is not new, such as to increase its capacity, and on the upgrading of any of the above items will be eligible.

5.42. Ships, barges, tugs and similar vessels or facilities designed for their construction or repair and maintenance (dry docks) will not be related facilities.

Electricity generating facilities

5.43. An electricity generating facility will be one that generates electricity for supply to the public electricity grid. The electricity generated by the facility must be sold to the public through the public grid. [New subsection 159GZZZZC(4)]

5.44. The construction costs of the power station and those buildings directly related and essential to the operation of the generating facility are eligible.

5.45. The energy source of the power station, such a dam or coal mine, and the cost of transporting the fuel for generating the electricity will not be a related facility. Also, the transmission of electricity, including the cost of connecting the generating facility to the grid, will not be a related facility.

5.46. Those facilities which generate electricity for a specific project, such as a mine, will not be eligible. This will be the case whether the borrower operates the specific facility or supplies the electricity to another person for a fee. In these cases the electricity is not supplied to a public electricity grid. A facility is also not eligible where it generates electricity primarily for a specific purpose and merely sells excess production to the public grid.

5.47. Expenditure on the upgrading of a facility, including a facility that is not new, so as to increase its capacity, would be eligible. The costs of repairs and maintenance are not eligible.

Related facilities

5.48. If other facilities are necessary for an infrastructure facility to function properly, eg a railway station or a crane to unload cargo at a seaport, the borrowings will also be able to be used to finance the construction or acquisition of these related facilities. The test is whether the facility is related to the principal facility. Facilities that are related to the "related facility" will not be able to be financed by the infrastructure borrowing. [Subsections 159GZZZZD(1) and (2)]

5.49. An access road will not be a land transport or related facility. However, a road that is part of a facility will not be an access road. For example, if a road is part of a port facility it would not be an access road. [Subsection 159GZZZZD(3)]

Public to pay to use the facility

5.50. The owner is to derive income from the public being charged a fee to use the facility. If an arrangement is entered into between the owner of a facility and a person who is to be the sole or major user, or purchaser of the output, of a facility, under which the user (or purchaser) pays a fixed amount that is not based on actual usage or output of the facility, the facility would not be a public infrastructure facility. Similarly, if it is likely that the public will be a minor user of the facility, it will not be an infrastructure facility.

Tax effects of infrastructure borrowings

5.51. A borrowing will only qualify as an infrastructure borrowing for a period of 10 years from the day the first tranche of the borrowing is drawn down or debt instruments, such as bonds, are issued. This 10 year period is referred to as the "exemption period". [New section 159GZZZU]

5.52. If the loan is for a period in excess of 10 years, it will only be an infrastructure borrowing (and qualify for the concessional treatment) until the tenth anniversary of the borrowing. After that it will be taxed on the same basis as an ordinary fund raising.

Interest

5.53. Investors in infrastructure borrowings will be exempt from income tax on interest and amounts in the nature of interest derived from that investment. [New subsection 159GZZZZE(1)]

Division 16E

5.54. If the infrastructure borrowing is a "security" within the definition of the term in section 159GP, and the security is issued for more than 10 years, the security will be an infrastructure borrowing for the first 10 years and the interest accrued during that period will be exempt from tax and not tax deductible. Once the tenth anniversary of the issue of the security has passed, Division 16E will apply to determine the assessable return on the security. [New subsection 159ZZZZE(2)]

Capital gains and losses

5.55. Where the infrastructure borrowing is in the form of a security, any gains or losses arising on the disposal of the security, whether the gain or loss is in the nature of a capital, trading or revenue nature will be exempt from tax (gains) and not tax deductible (losses). Similarly, any profit (or loss) on the redemption of an security (by the issuer) while it is an infrastructure borrowing will be exempt from tax (and not deductible).

5.56. If the infrastructure borrowing is a security that has not been redeemed within 10 years of being issued, it will be deemed to be disposed of for its market value immediately before the 10 year period expires, and to be acquired for the same price immediately the 10 year period expires. [New subsection 159GZZZZE(3)]

"Bearer debentures"

5.57. Companies paying interest on bearer debentures have a tax liability in respect of that interest (Division 11 of Part III). Companies paying interest on infrastructure borrowings that are in the form of bearer bonds will however, be exempt from tax on that interest (section 125). [Clause 32]

"Non-residents"

5.58. Non-residents deriving interest from Australian investments may be liable for withholding tax on that interest (section 128B). Interest paid to non-residents on infrastructure borrowings will, however, be exempt from withholding tax. [Clause 33]

Unit trusts

5.59. Where exempt income is generated by a unit trust and is distributed to investors, the cost base of the units is normally reduced for capital gains tax purposes. The exempt income in respect of infrastructure borrowings will, however, not reduce the cost of the units in the unit trust. [Clause 35: paragraph160ZM(3A)(d)]

Costs incurred by investors

5.60. Under the existing law expenditure incurred in deriving exempt income is not tax deductible (section 51(1)). However, expenditure incurred by investors in investing in infrastructure borrowings will be allowable as a deduction as if the investment was income producing. [New section 159GZZZZF]

5.61. This concession is limited to deductions allowable under subsection 51(1), eg. borrowing costs. Thus, deductions will not be allowable for the cost of infrastructure borrowings acquired as trading stock or on revenue account or for interest or borrowings written-off as bad debts. [New paragraph 159GZZZZF(1)(d)]

Commencement date

5.62. The amendments will apply to borrowings undertaken on or after 1 July 1992 to spend on the:

•

constructing infrastructure facilities; or

•

constructing or acquiring of related facilities;

on or after that day, provided that no contract for the expenditure was entered into before 27 February 1992. [Clause 36]

5.63. However, for technical drafting reasons, the amendments relating to infrastructure borrowings will commence one day after the Bill receives Royal Assent. [Subclause 2(2)]

Clauses involved in proposed amendments

Clause 32: amends section 125 to exempt interest on infrastructure borrowings from being taxable to companies as interest paid on bearer debentures.

Clause 33: amends subsection 128B(3) to exclude income on infrastructure borrowings from being subject to withholding tax.

Clause 34: inserts new Division 16L (containing section 169GZZZU to 159ZZZZF) to create infrastructure borrowings and to provide for their tax treatment.

Clause 35: amends section 160ZM to exclude the exempt income arising from infrastructure borrowings from reducing the cost base of units in a unit trust.

Clause 36: contains the application provisions for the amendments relating to infrastructure borrowings.