House of Representatives

Explanatory Memorandum

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

General outline and financial impact

Per stick tobacco excise

This Bill ratifies an Excise Tariff Proposal which altered the Excise Tariff Act 1921 (Tariff Act) to:

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define tobacco; and

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apply a per stick rate of excise on tobacco products in stick form where the actual tobacco content is less than 0.8 grams in weight.

Date of effect: Excise Tariff Proposal No. 2 (1999) was tabled in Parliament on 21 October 1999 and took effect on 1 November 1999.

Proposal announced: The Government foreshadowed the introduction of the per stick arrangements for tobacco in the policy document entitled Tax Reform: not a new tax, a new tax system in August 1998.

Financial impact: The partial year impact of the per stick excise is estimated to provide additional revenue of around $300 million in the 1999-2000 financial year. In subsequent years the full year impact is expected to be additional revenue of around $440 million.

Compliance cost impact: The initial cost of compliance in changing the tobacco tax base from volume to per stick is estimated to be less than $1million. The initial compliance costs would primarily result from the few licensed manufacturers familiarising themselves with the new legislation and adjusting computer programs for the rate changes.

The recurring compliance costs are estimated to be negligible.

Summary of Regulation impact statement

Regulation impact on business

Impact: The measures contained in this Bill are part of the Governments broad-ranging reforms contained in Tax Reform: not a new tax, a new tax system, released in August 1998.

The change will result in an increase in the excise duty for certain tobacco products, particularly light tobacco cigarettes. It is intended that this will decrease consumer demand for cigarettes and particularly for lighter cigarettes. Tobacco manufacturers are likely to realign their product lines following the removal of the taxation advantage previously available for light weight tobacco products.

Main point: The new excise rates for tobacco have been formulated based on health experts advice and best practice experiences from other countries. This new approach will address community health concerns and further streamline the current administration and collection mechanisms.

Petroleum products excise

This Bill ratifies an Excise Tariff Proposal which altered the TariffActto better deliver the Governments commitment to addressing fuel substitution activities.

Date of effect: Excise Tariff Proposal No. 3 (1999) was gazetted on 10November 1999 and took effect on 15 November 1999. The Proposal was tabled in Parliament on 24 November 1999.

Proposal announced: The changes to the petroleum tariffs were the subject of consultation with industry as part of a broader review to address fuel substitution minimisation. The changes were foreshadowed by the Assistant Treasurers Press Release No. 48 of 18 October 1999.

Financial impact: The revenue at risk, if the excise tariff changes were not introduced, is estimated to be up to $100 million per annum in excise duties.

Compliance cost impact: Negligible.

Summary of Regulation impact statement

Regulation impact on business

Impact: The measures relating to petroleum, while technically complex, will have only a minimal effect on legitimate business. The Office of Regulation Review has advised that a Regulation impact statement is not required in respect of these measures.

Chapter 1 - Per stick tobacco excise

Outline of Chapter

1.1 This Chapter explains amendments to the Excise Tariff Act 1921 (Tariff Act) that incorporate a definition of tobacco, a new tariff structure for tobacco products in stick form and a new rate of excise for other tobacco products.

Background to the legislation

1.2 Prior to 1 November 1999, tobacco duty was calculated for most tobacco products using a complex combination of weight of the product and value based on the manufacturers wholesale list price. A consequence of these arrangements was that by reducing the tobacco content of cigarettes, the duty liability could also be minimised. This relative advantage contributed to the dominance of large packets of lightweight cigarettes on the Australian market.

1.3 Health experts consider that smoking larger numbers of lightweight cigarettes is a health risk. The per stick arrangements are a health initiative intended to reduce consumption by removing the relative excise duty advantage afforded large packets of lightweight cigarettes. These arrangements are consistent with tobacco taxation in most OECD countries.

1.4 As part of the Tax Reform: not a new tax, a new tax system document, the Government foreshadowed a new tariff structure for tobacco products in stick form.

1.5 Including the definition of tobacco in the Schedule to the Tariff Act will clarify when tobacco leaf becomes excisable. This will assist in addressing illicit production.

Summary of new law

1.6 The new tariff structure for tobacco removes the items for loose tobacco, cigars and cigarettes and replaces them with new items so that tobacco products in stick form with actual tobacco content not exceeding 0.8 grams in weight are taxed on a per stick rate. All other tobacco products are taxed on a rate per kilogram.

Comparison of key features of new law and previous law

Detailed explanation of new law

A definition of tobacco

1.7 Item 1 of Schedule 1 inserts a definition of tobacco. Tobacco is a proclaimed material for the purposes of the TariffAct. Under the TariffAct tobacco producers must be registered and tobacco manufacturers must be licensed. Unregistered production of proclaimed material and unlicensed manufacture of tobacco carries a penalty of $5,000. The purpose of including the definition of tobacco is to clarify when tobacco leaf ceases to be proclaimed material and becomes excisable to assist in addressing the avoidance of excise through the illicit manufacture of tobacco.

A new tariff structure for tobacco

1.8 The new tariff structure set out in items 2, 3 and 4 of Schedule 1 to this Bill introduces 6 tariff subitems:

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one each for tobacco, cigars and cigarettes in stick form weighing not more than 0.8 grams actual tobacco content with a duty of $0.18872* per stick; and

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one each for tobacco, cigars and cigarettes exceeding 0.8grams actual tobacco content with a duty of $235.90* perkilogram.

* All tariff items are subject to indexation twice yearly (February and August).

1.9 Products subject to the per kilogram rate will include heavy cigarettes, most cigars, roll your own and pipe tobacco.

1.10 The rates have been set to ensure that there is parity between cigarettes subject to the per stick rate and roll your own tobacco. This has been achieved by calculating excise on actual tobacco content and setting the rate so that the duty payable on a cigarette weighing 0.8 grams is the same as the duty payable on 0.8 grams of roll your own tobacco.

1.11 The changes have been implemented in such a way to remove the advantage in buying greater quantities of light or low tobacco content cigarettes.

Regulation impact statement

Policy Objective

1.12 Previous tobacco excise arrangements encouraged the manufacture of low value, low weight cigarettes in large packets. This taxation advantage has skewed consumption towards higher volumes of lightweight cigarettes, which experts consider more harmful on health grounds. As a result the government announced in Tax Reform: not a new tax, a new tax system in August 1998 to introduce a per stick rate of duty explained in paragraph 1.14. This measure was incorporated in Excise Tariff Proposal No. 2 (1999) and commenced on 1 November 1999.

1.13 The proposal also introduced a definition of tobacco to restrict access of tobacco leaf to registered growers, dealers and licensed manufacturers, and therefore reduce illicit production.

Implementation options

1.14 The per stick arrangement was announced as part of Tax Reform: not a new tax, a new tax system package. The per stick rate of duty of $0.18872 will apply to cigarettes, cigars, bidis and other tobacco marketed in stick form containing not more than 0.8 grams per stick tobacco content. All other tobacco products will pay duty at a rate of $235.90 per kilogram of tobacco content. Products subject to this weight based rate will include roll your own and pipe tobacco, heavy cigarettes, cigars and other stick form tobacco products containing more than 0.8grams per stick tobacco content. The duty rates are subject to indexation following release of the CPI, usually in February and August.

1.15 The new excise rates have been formulated based on health experts advice and best practice experiences from other countries. This new approach will address community health concerns and further streamline the current administration and collection mechanisms. The per stick excise rate has been set so that the excise per kilogram of tobacco on a stick of tobacco with around 0.8 grams of actual tobacco content will be the same as the excise on a kilogram of loose tobacco.

1.16 In relation to the definition of tobacco, this is one of the measures comprising the Illicit Tobacco Reduction Strategy adopted by the Australian Taxation Office (ATO) and Australian Customs Service (Customs). The definition will clarify within the legislation when tobacco leaf becomes excisable. This will restrict access to tobacco leaf to registered growers, dealers and licensed manufacturers, and therefore assist in addressing illicit production.

Assessment of impacts (costs and benefits) of each implementation option

Impact group identification

Tobacco manufacturers

1.17 The change will result in an increase in the excise duty for certain tobacco products, particularly lightweight cigarettes usually packed in high volume packs (i.e. 40s and 50s). This should result in tobacco manufacturers adjusting wholesale prices of tobacco products and realigning their product lines following the removal of the taxation advantage. It is anticipated that this will decrease consumer demand for cigarettes, particularly with the likely removal of light weight, high volume cigarette packs from the market.

1.18 The changes will involve some minor compliance costs. This will involve initial costs in adjusting computer programs for the rate changes. On an ongoing basis, there will be some compliance costs in terms of additional weighing. It will also be necessary to provide sample details for ATO monitoring on a 6 monthly basis, however, this information would generally be used for internal quality control purposes in any case. Manufacturers will now be required to supply information regarding manufacturing weights of both tobacco and non-tobacco components on a regular basis.

1.19 There will be compliance costs savings as there will no longer be the requirement to produce 6 monthly weight reconciliation statements unless the tobacco content is more than 0.8 grams. It will no longer be necessary to adjust computer systems every time the wholesale list price of tobacco products change. In addition weighing and quality testing, such as moisture testing, will not be required by the ATO where the stick has less than 0.77 grams tobacco content.

1.20 The introduction of a definition of tobacco is favoured by tobacco manufacturers and producers as a means to reduce illicit tobacco production which disadvantages legitimate producers and manufacturers.

Tobacco retailers

1.21 Tobacco retailers may also experience a fall in demand for cigarettes, particularly light weight high volume brands, and may also need to change stock levels of certain brands in response to consumer demand. As the excise is paid by the manufacturer, there will not be a change in compliance costs.

Individuals

1.22 Individuals who smoke tobacco products will be affected by the change in excise duty depending on which brands they smoke. However, this is in line with the policy intent of the change which has been introduced for health reasons.

The ATO and Customs

1.23 The changes will impact on the ATO and Customs who will administer them. There are some costs in implementing the measure which includes imposing quotas as a revenue protection measure and subsequent monitoring of information provided by manufacturers prior to implementing the per stick arrangements. However, there will be some savings in the longer term as calculations of duty will be made simpler due to the abolition of wholesale list prices rates.

1.24 The definition of tobacco will assist the ATO and Customs in addressing illicit tobacco production and will clarify the legislation.

Identification of costs and benefits

Costs of Compliance

1.25 The tobacco industry is highly concentrated, with only 3 major domestic tobacco manufacturers and importers. This industry utilises a high degree of automation and computerisation. The initial cost of compliance in changing the tobacco tax base from volume to per stick, is estimated to be less than $1 million.

1.26 The initial compliance costs would primarily result from taxpayers familiarising themselves with the new legislation and adjusting computer programs for the rate changes. The tobacco industry has been consulted and has been aware of the proposed changes for over a year prior to the per stick arrangement being introduced on 1 November 1999. The per stick arrangements are also similar to those used for taxing tobacco in most other countries, where the parent tobacco companies operate.

1.27 The recurring compliance costs are estimated to be negligible. Whilst additional weighing and sampling is required, this information would generally be compiled by the taxpayer for internal quality control purposes.

Administration costs

1.28 There are some minor administrative costs for modification to computer systems for the ATO and Customs in implementing the changes. However, once the changes are in place, these costs will be offset by reduced administrative costs due to the removal of the use of wholesale list prices in determining the rate of excise and clarification of the law as a result of changing the definition of tobacco.

Government revenue

1.29 The partial year impact of these changes in 1999-2000 is expected to provide additional revenue of around $300 million. In subsequent years the full year impact is expected to be additional revenue of around $440 million.

Economic costs

1.30 The policy is likely to reduce demand for cigarettes overall, and in particular light weight cigarettes, in favour of other goods and services. Lower cigarette consumption can be expected to result in lower health care costs to the community.

Consultation

1.31 The policy of changing the basis of excise on tobacco was announced in August 1998 in Tax Reform: not a new tax, a new tax system policy document. Therefore the tobacco industry has been aware of the proposed changes for over a year before the per stick arrangements were introduced on 1 November 1999. The industry was consulted when the new tariff structure was being formulated.

1.32 The tobacco industry have been consulted in relation to the definition of tobacco as part of the Illicit Tobacco Reduction Strategy.

1.33 Health groups have been advocating a change in the basis of excise on tobacco to a per stick basis for some time.

Conclusion and recommended option

1.34 This proposal will remove the taxation incentives which have encouraged consumption of large packets of light weight cigarettes. These are considered by health experts to cause more harm by encouraging higher consumption levels.

Chapter 2 - Petroleum products excise

Outline of Chapter

2.1 This Chapter explains amendments to the Excise Tariff Act 1921 (Tariff Act) that incorporates a new tariff structure for petroleum products.

Background to the legislation

2.2 In January 1998 the Government introduced legislation to deter and detect fuel substitution activities. This legislation initially had a pronounced effect on these practices. However, there were indications that fuel substitution had again been increasing as some parties exploited weaknesses in the current tariff.

2.3 In January 1998 the Government also decided to bring certain recycled petroleum products to excise. However, there was some doubt as to how clearly these products were included in the excise regime.

Summary of new law

2.4 The new tariff structure for petroleum products removes those categories of fuel which were being extensively used to evade excise, most notably, those concessional categories relating to gasoline and diesel for use other than as a fuel. The new structure also clarifies the way in which recycled petroleum products are brought to excise by explicitly including these products in the tariff.

Comparison of key features of new law and previous law

Detailed explanation of new law

A new tariff structure for petroleum products

2.5 Schedule 2 to this Bill provides for a range of new descriptions for petroleum products in item 11 to more explicitly describe the petroleum products subject to excise, particularly recycled petroleum products. The effects of the new descriptions are:

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heating oil is removed from the classifications that would allow it to be available duty free without the marker;

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tariff classifications relating to diesel are restructured so that recycled diesel, on which Customs or Excise duty has been paid, recovered by a process other than refining, retains its duty free status. However, all other diesel attracts excise at the rate for use in an internal combustion engine. Alternative arrangements are in place to protect those with a legitimate need to access diesel for use other than as a fuel (e.g. when diesel is used in road construction or as mould release oil);

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three tariff classifications against which no product had been entered, but which had the capacity to be abused have been removed:

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condensate for use other than petroleum refinery feedstock, for use other than as a fuel and containing the chemical marker;

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stabilised crude petroleum oil for use other than petroleum refinery feedstock, for use other than as a fuel and containing the chemical marker; and

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topped crude petroleum oil for use other than as a fuel and containing the chemical marker.

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tariff classifications relating to gasoline and other petroleum or shale spirit in subitem 11(H) are restructured:

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the flash point of products falling to subitem 11(H) is reduced from 23 degrees Celsius to less than zero degrees Celsius. This means that fewer products are included in the same tariff classification as petrol. Products affected by this change move to other tariff subitems but continue to attract the same rate of excise they attracted while in subitem 11(H); and

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all gasoline (other than gasoline for use in an aircraft) and a few remaining products also in this tariff classification then attract excise at the rate for use in an internal combustion engine. Alternative arrangements are in place to protect those with a legitimate need to access product for use other than as a fuel (e.g. products other than gasoline for use as a solvent).

2.6 The rates and treatment of gasoline for use in an aircraft are unaffected.

2.7 Some minor changes to tariff subitem 11(I) have been made, which essentially covers refined or partly refined petroleum products which do not fall to other subitems in item 11. These changes clarify the products now falling to subitem 11(I), given the other changes that have occurred in the tariff structure. No product affected by these minor changes has its rate of excise duty affected.

2.8 Four other tariff classifications that had the capacity to be abused have been removed. These related to coal tar and coke oven distillates suitable for use as gasoline substitutes and for use other than as a fuel.