House of Representatives

Explanatory Memorandum

Ms O'Dwyer (Minister for Small Business and Assistant Treasurer)

Glossary

The following abbreviations and acronyms are used throughout this explanatory memorandum.

General outline and financial impact

Norfolk Island capital gains tax exemption

This Bill amends the Income Tax (Transitional Provisions) Act 1997 to exempt assets held by Norfolk Island residents before 24 October 2015 from capital gains tax (CGT).

However, this change will not apply to assets held by Norfolk Island residents that would not have been exempt from CGT before Norfolk Island was fully brought within Australian's income tax system.

Assets acquired by Norfolk Island residents on or after 24 October 2015 will be subject to the normal operation of the CGT rules from 1 July 2016.

Date of effect: This applies from 1 July 2016.

Proposal announced: This measure was announced in the Minister for Territories, Local Government and Major Projects' Media Release titled 'New Minister brings momentum to Norfolk Island reforms' of 23 October 2015.

Financial impact: Negligible cost to revenue over the forward estimates period.

Human rights implications: This Bill does not raise any human rights issues. See Statement of Compatibility with Human Rights - Chapter 2, paragraphs 2.1 to 2.6.

Compliance cost impact: Low. This measure will reduce compliance costs for Norfolk Island residents that held assets before 24 October 2015 that have been made exempt from CGT because they will not need to keep records or calculate gains or losses made on those assets. Further regulatory details on the reforms, see the Explanatory Memorandum to the Norfolk Island Legislation Amendment Bill 2015.

Chapter 1 - Norfolk Island capital gains tax exemption

Outline of chapter

1.1 This Bill amends the Income Tax (Transitional Provisions) Act 1997 to exempt assets held by Norfolk Island residents before 24 October 2015 from capital gains tax (CGT).

1.2 However, this change will not apply to assets held by Norfolk Island residents that would not have been exempt from CGT before Norfolk Island was fully brought within Australia's income tax system.

1.3 Assets acquired by Norfolk Island residents on or after 24 October 2015 will be subject to the normal operation of the CGT rules from 1 July 2016.

Context of amendments

1.4 Australia's income tax system, including CGT, will begin to fully apply to Norfolk Island from 1 July 2016. These changes were made by the Tax and Superannuation Laws Amendment (Norfolk Island Reforms) Act 2015 which removed the existing income tax exemptions applying to Norfolk Island residents.

1.5 As a result of that Act, the income tax system would have applied to capital gains or losses that accrued on CGT assets held by Norfolk Island residents from 1 July 2016. This was to be achieved by providing that all CGT assets held by Norfolk Island residents at the end of 30 June 2016 were to be taken on 1 July 2016 to have been acquired for their market value on that day. However, this rule would not have applied to a pre-CGT asset (an asset acquired before 20 September 1985) or another CGT asset if the Norfolk Island resident would not have been entitled to disregard any gain or loss from a CGT event that happened in relation to that asset under the law as it applied prior to the Norfolk Island reform amendments (for example, an asset held on mainland Australia).

1.6 In response to concerns in the Norfolk Island community, the Government announced that it would exempt assets held by Norfolk Island resident taxpayers from CGT if they were acquired before 24 October 2015. Similarly to the previous transitional rule, this change would not apply to CGT assets held by Norfolk Island residents which would not have been exempt from CGT before Norfolk Island was brought fully within Australia's income tax system (ie, if this existing exemption was retained).

Summary of new law

1.7 This Bill exempts assets acquired by Norfolk Island resident taxpayers from CGT if they were acquired before 24 October 2015. However, this change does not apply to CGT assets held by Norfolk Island residents which would not have been exempt from CGT before Norfolk Island was brought fully within Australia's income tax system.

Comparison of key features of new law and current law

Detailed explanation of new law

1.8 Capital gains or losses on CGT assets acquired by Norfolk Island residents before 24 October 2015 are disregarded in determining the income tax liability of the resident. This means, in general, that any such capital gain or loss will not be included in determining a taxpayer's net capital gain or loss for an income year.

1.9 These CGT assets will be treated for the purpose of the relevant provisions of the income tax law as if they had been acquired before 20 September 1985 [Schedule 1, items 3 to 5, subsection 102-25(2) of the Income Tax (Transitional Provisions) Act 1997]. Capital gains or losses made on assets acquired before 20 September 1985 (commonly referred to as 'pre-CGT assets') are generally disregarded in determining a taxpayer's net capital gain or loss for an income year.

1.10 However, this does not apply to a CGT asset if the resident would not have been entitled to disregard any gain or loss from a CGT event that happened in relation to that asset under the law as it applied before 1 July 2016.

Example 1.1

Charlotte, a Norfolk Island resident, bought an investment property on Norfolk Island on 6 April 2010. Any gains or losses that Charlotte made on the disposal of the property would have been exempt from capital gains tax if Charlotte disposed of the property before 1 July 2016 because of Charlotte's status as a Norfolk Island resident.

Charlotte sells the property on 17 October 2018, triggering CGT event A1. She makes a capital gain of $50,000. This capital gain is disregarded under paragraph 104-10(5)(a) of the Income Tax Assessment Act 1997 (ITAA 1997) because that paragraph applies to the capital gain as if the reference in that paragraph to 20 September 1985 was a reference to 24 October 2015.

When gains or losses on pre-CGT assets are not disregarded

1.11 There are several exceptions to the principle that capital gains or losses made on CGT assets acquired before 20 September 1985 are disregarded, detailed below. For Norfolk Island residents, these exceptions will apply as if references to 20 September 1985 are references to 24 October 2015.

1.12 The first exception applies to CGT assets that a company or trust acquired before 20 September 1985. These assets will be treated as having been acquired on or after 20 September 1985 (and so liable to CGT) if there has been a change in the ultimate owners who have more than 50 per cent of the beneficial interests, directly or indirectly, in both the asset and any ordinary income that may be derived from the asset, since the time immediately before 20 September 1985 (Division 149 of the ITAA 1997).

1.13 The second exception applies to shares in a private company or interests in a private trust that were acquired before 20 September 1985. A capital gain may not be disregarded where the market value of either:

•

the property of the company or trust (other than trading stock) acquired on or after 20 September 1985; or

•

the interests the company or trust owned through interposed companies or trusts in property (other than trading stock) acquired on or after 20 September 1985,

is at least 75 per cent of the net value of the company or trust just before the relevant CGT event happens (section 104-230 of the ITAA 1997). This only applies when certain CGT events happen, and does not apply to capital losses.

1.14 Finally, buildings on land acquired before 20 September 1985 and capital improvements to assets acquired before 20 September 1985 may be deemed to be separate assets from the land or asset they improve (subsection 108-55(2) and section 108-70 of the ITAA 1997). For example, this will be the case where the construction of the building occurs, on or after 20 September 1985. These separate assets may therefore be subject to CGT even though the underlying land or asset was acquired before 20 September 1985.

Record keeping

1.15 Norfolk Island residents who have assets in relation to which this exemption applies do not have to keep records of the date of acquisition. [Schedule 1, item 6, subsection 103-25(3) of the Income Tax (Transitional Provisions) Act 1997]

1.16 Unlike the previous regime, Norfolk Island residents may not choose whether or not to apply this rule. This is intended to prevent any tax avoidance that may arise by claiming capital losses but disregarding capital gains. [Schedule 1, item 6, subsection 102-25(4) of the Income Tax (Transitional Provisions) Act 1997]

Consequential amendments

1.17 Consequential amendments have been made to correct signposting to the special rules for Norfolk Island residents made by this Bill. [Schedule 1, items 1 and 2, item 1A in the table in section 109-60 and item 2AA in the table in section 112-97 of the ITAA 1997]

Chapter 2 - Statement of Compatibility with Human Rights

Prepared in accordance with Part 3 of the Human Rights (Parliamentary Scrutiny) Act 2011

Norfolk Island capital gains tax exemption

2.1 This Bill is compatible with the human rights and freedoms recognised or declared in the international instruments listed in section 3 of the Human Rights (Parliamentary Scrutiny) Act 2011.

Overview

2.2 This Bill amends the Income Tax (Transitional Provisions) Act 1997 to exempt assets held by Norfolk Island residents before 24 October 2015 from capital gains tax (CGT).

2.3 However, this change will not apply to assets held by Norfolk Island residents that would not have been exempt from CGT before Norfolk Island was fully brought within Australian's income tax system.

2.4 Assets acquired by Norfolk Island residents on or after 24 October 2015 will be subject to the normal operation of the CGT rules from 1 July 2016.

Human rights implications

2.5 This Bill does not engage any of the applicable rights or freedoms.

Conclusion

2.6 This Bill is compatible with human rights as it does not raise any human rights issues.

Index

Schedule 1: Norfolk Island capital gains tax exemption