Explanatory Memorandum
(Circulated by authority of the Treasurer, the Hon Peter Costello, MP)CHANGE OF TITLE - TAX LAW IMPROVEMENT BILL (No. 1) 1998 - SENATE - Explanatory Memorandum.
Chapter 2.13 - Exemptions
Overview
This segment covers the exemptions from capital gains tax dealt with in Division 118, but not the main residence exemption.
Part A summarises the exemptions.
Part B explains the changes to the 1936 Act.
Part C identifies provisions that have not been rewritten.
A. Summary of the new law
Subdivision 118-A: General exemptions
This Subdivision contains exemptions for gains and losses relating to specific types of assets and capital receipts. It also sets aside gains and losses dealt with by other provisions.
Capital gains and losses from the following assets are disregarded:
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- cars, motorcycles or similar vehicles [section 118-5] ;
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- valour and brave conduct decorations [section 118-5] ;
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- collectables acquired for $500 or less [section 118-10] ;
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- personal use assets acquired for $10,000 or less [section 118-10] ;
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- assets used to produce exempt income [section 118-12] ; and
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- shares in a PDF [section 118-13].
The following capital receipts are disregarded in working out net capital gains or losses:
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- compensation or damages for wrong or injury suffered in a person's occupation;
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- compensation or damages for wrong, injury or illness suffered by a person or their relative;
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- gambling wins or prizes; and
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- amounts paid under listed government schemes.
[section 118-15]
Anti-overlap provisions: reduction of capital gain if amount is otherwise assessable
A capital gain made from a CGT event is reduced to take account of any other provision that includes an amount in assessable or exempt income. [section 118-20]
If the amount included in assessable income is greater than, or equal to, the capital gain, the gain is reduced to zero. [subsection 118-20(4)]
The capital gain is reduced by the assessable amount if the gain exceeds it. [subsection 118-20(5)]
When capital gain is not reduced
A capital gain is not reduced if an amount:
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- is included in assessable income because of a share buy-back under section 159GZZZP of the 1936 Act [subsection 118-20(3)] ;
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- is included in assessable income in relation to franked dividends under section 160AQT of the 1936 Act [subsection 118-20(3)] ;
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- was taken into account in working out a superannuation funds net previous income for earlier income years under sections 228A and 228B of the 1936 Act [subsections 118-20(7) & (8)] ;
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- is included in assessable income because of a balancing adjustment [subsection 118-20(9)] ; or
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- is included in a shareholders exempt income under section 23AJ of the 1936 Act because a company pays certain types of dividend [subsection 118-20(10)] .
Anti-overlap provisions: full exemption for capital gains and losses
To prevent double taxation, capital gains and losses from CGT events are disregarded if, as a result of the event, an amount is included in assessable income under a provision relating to:
trading stock [section 118-25] ;
Australian films [section 118-30] ; or
research and development [section 118-35] .
If an entity commences to hold as trading stock an asset it already owns, the capital gain or loss accruing at the time the basis upon which it is held changes is disregarded if the entity elects to treat the sale as having been for cost.
Modification for partners and an absolutely entitled beneficiary
The anti-overlap provisions are modified to prevent double taxation of partners and absolutely entitled beneficiaries. [sections 118-20, 25, 30 and 35]
Exempt and loss denying transactions
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- Capital gains and losses can be disregarded in certain cases concerning:
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- transfers of stratum units [section 118-42] ;
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- mining rights [section 118-45] ;
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- foreign currency hedging [section 118-55] ; or
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- testamentary gifts under the Cultural Bequests Program [section 118-60] .
A capital loss made by a lessee on the expiry, transfer, forfeiture or assignment of a lease is disregarded if the lease was not used mainly to produce assessable income. [section 118-40]
Half of a capital gain attributable to the goodwill of a business is disregarded if the net value of the business (and related businesses) is less than the business exemption threshold. [section 118-250]
The net value of a business is the sum of the market values of the assets (including goodwill) less the liabilities. [section 995-1]
The business exemption threshold for the 1997-98 income year is $2,248,000. The threshold is indexed annually. [section 118-260]
The subdivision sets out the situations regarded as the carrying on of related businesses, eg. by groups of companies or chains of trusts. [subsections 118-250(3) and (4)]
Subdivision 118-D: Insurance and superannuation
Subdivision 118-D deals with the treatment of interests in an insurance policy, a superannuation fund or a retirement savings account.
For the insurer, a capital gain or loss on any general insurance policy, life insurance policy or annuity instrument is disregarded. [section 118-300, item 1]
The insured - general insurance policies
For the insured, the treatment of a capital gain or loss on a general insurance policy is consistent with that applicable to the insured property itself. [section 118-300, item 2]
Life insurance policies or annuity instruments - entities other than the insurer
A capital gain or loss is disregarded in the case of:
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- the original beneficial owner;
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- a successor to the policy for no consideration;
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- the trustee of a complying superannuation fund, a complying approved deposit fund or a pooled superannuation trust. [section 118-300, items 3, 4 and 5]
There are particular exemptions for assets of a superannuation fund or approved deposit fund and for allowances, annuities or capital amounts paid out of a superannuation fund or approved deposit fund. [section 118-305]
Any capital gain or loss from a CGT event happening in relation to a retirement savings account is disregarded. [section 118-310]
Subdivision 118-E: Units in pooled superannuation trusts
B. Discussion of changes
Standardise the way exemptions are conferred.
The rewritten provisions standardise the way in which exemptions from CGT are conferred in order to avoid confusion that arises under the 1936 Act.
Clearly define new terms.
The new defined term and its equivalent from the 1936 Act is contained in the following table:
| New defined term | 1936 Act defined term | Commentary |
|---|---|---|
| annuity instrument | annuity | New term, replaces the term annuity when used to mean an instrument that secures the grant of an annuity (whether dependent on the life of an individual or not). The meaning is unchanged. |
| life insurance entity | life insurance company and life assurance company | New definition merging two related definitions. Also extends to a State Government Insurance Office (SGIO). |
| life insurance policy | life insurance policy, policy of life insurance, life assurance policy, policy of life assurance, assurance policy and policy of assurance | New definition, replaces six related 1936 Act definitions. |
Section 118-5 Cars, motorcycles and valour decorations
Make clear that a capital gain or loss on a car is to be disregarded.
Under the 1936 Act, cars are excluded from the definition of 'asset'. This has the effect of exempting capital gains or losses on cars. As cars are included in the concept of CGT asset in the rewritten law it is necessary to exclude them explicitly to achieve the same outcome in the 1997 Act.
Section 118-10 Collectables and personal use assets
Provide an exemption for a capital gain on a personal-use asset if it is acquired for $10,000 or less.
Under the 1936 Act, the capital gain on the disposal of a 'non-listed personal-use asset' is exempt if it is disposed of for $10,000 or less. This makes it necessary to keep records for all 'non-listed personal-use assets' as it is impossible to know in advance how much they will bring on disposal.
Basing the exemption on the amount paid for the asset will reduce the need to keep records.
Section 118-15 Exempt capital receipts
This section exempts certain capital receipts from capital gains tax.
Exempt amounts received as compensation for illness.
The 1936 Act specifies that compensation for personal injury is exempt from capital gains tax. Strictly, illness is not an injury. However, the circumstances in which compensation for personal injury and compensation for illness occur are broadly similar. The change ensures equitable treatment.
Exempt amounts received by the spouse or a relative of an injured person.
The 1936 Act exempts compensation for injury suffered by the recipient of the payment. The rewritten law adopts administrative practice by extending exemption to amounts received by a spouse or relative.
List payments under government schemes which are exempt from capital gains tax in the 1997 Act and not in the Income Tax Regulations as is the case under the 1936 Act.
The rewritten law is consistent with the practice of incorporating information required by readers within the main legislation, where possible.
Section 118-20 Reducing capital gains if amount otherwise assessable
Clarify that a capital gain is not reduced by an amount included in assessable income under section 160AQT of the 1936 Act.
Under the 1936 Act, a capital gain is reduced by an amount included in assessable income under a non-CGT provision that results from the disposal of an asset. Where shares are disposed of it is unclear whether a capital gain is reduced by the extra amount section 160 AQT includes in the assessable income of shareholders who are paid a franked dividend. The rewritten law adopts the Commissioner's interpretation that the capital gain is not reduced by this amount.
Section 118-250 Exempting part of a capital gain attributable to goodwill
Clarify that, in determining the net value of a business, assets are valued at market value.
Under the 1936 Act, the goodwill exemption is available where the net value of the business disposed of is below the exemption threshold. It is unclear how the net value of the business is calculated. The rewrite aligns the law with administrative, and commercially accepted, practice.
2. Change
Clarify that, in determining the net value of a business, the assets of the business include motor vehicles.
Under the 1936 Act it is unclear whether 'asset', in the context of the goodwill exemption threshold, includes motor vehicles. The rewritten provision clarifies this and adopts administrative and commercially sensible practice.
C. Provisions of the old law that have not been rewritten
Redundant provisions not rewritten are summarised in the following table:
| Provision | Subject | Reason for omission |
|---|---|---|
| 160ZZI(4) | Acts constituting disposal | Unnecessary |
| 160ZZJ(2) | Acts constituting disposal | Unnecessary |
| 160ZZRAA(2) | Exemption threshold before 1993-94 | The 1997 Act applies prospectively |
| 160ZZRAA(7) (in part) | Publication of indexation factor | Unnecessary |